**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, DC  20549**

 

##### **FORM 10-K**

##### ** **

| **(Mark One)**                                     |
|----------------------------------------------------|
| **ý**                                         | ** ** | **ANNUAL REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|                                               |   |   |
| **For the fiscal year ended: JUNE 30,  2004** |
|                                               |   |   |
| **OR**                                             |
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| **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:  000-22071**

 

**OVERLAND STORAGE, INC.**

(Exact name of registrant as specified in itscharter)

 

| **CALIFORNIA**                                  | ** ** | **95-3535285**                    |
|-------------------------------------------------|------------|-----------------------------------|
| (State or other jurisdiction of  incorporation) |       | (IRS Employer Identification No.) |

 

**4820 Overland Avenue, San Diego,California  92123**

(Address of principal executive offices,including zip code)

 

**(858) 571-5555**

(Registrant’s telephone number, includingarea code)

 

Securities registered pursuant toSection 12(b) of the Act:

**None**

 

Securities registered pursuant toSection 12(g) of the Act:

**Common Stock, no par value**

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Actof 1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90days.    Yes   ý    No   o

 

Indicate by checkmark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-Kis not contained herein, and will not be contained, to the best of registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-K or any amendment to this Form10-K.  ý

 

Indicate by check mark whether the registrant is an accelerated filer(as defined in Rule 12B-2 of theAct).    Yes   ý    No   o

 

The aggregate market value of the voting stock held by non-affiliatesof the registrant as of September 1, 2004 was $73,830,000 based on theclosing price reported on such date by The NASDAQ Stock Market.  Shares of Common Stock held by officers anddirectors and by persons who hold 5% or more of the outstanding Common Stockhave been excluded from the calculation of this amount because such persons maybe deemed to be affiliates.  Thisdetermination of affiliate status is not necessarily conclusive.

 

As of September 1**,**2004,the number of outstanding shares of the registrant’s Common Stock was13,766,843.

 

**DOCUMENTS INCORPORATED BY REFERENCE**

 

Portions of the Proxy Statement to be filed in connection withregistrant’s Annual Meeting of Shareholders to be held on November 15, 2004(the “Proxy Statement”) are incorporated herein by reference into Part III ofthis Report.

 

 

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**PART I**

### ** **

*This Report contains certain statements of aforward-looking nature relating to future events or the future performance ofour company.  Words such as “expects,”“anticipates,” “intends,” “plans,” “believes,” “seeks,” “estimates” and similarexpressions or variations of such words are intended to identifyforward-looking statements, but are not the only means of identifyingforward-looking statements.  Prospectiveinvestors are cautioned that such statements are only predictions and thatactual events or results may differ materially. In evaluating such statements, prospective investors should specificallyconsider various factors identified in this Report, including the matters setforth below under the caption “Risk Factors,” which could cause actual resultsto differ materially from those indicated by such forward-looking statements.*

 

**ITEM 1.  *Business***

 

#### **General**

#### ** **

Overland was originally founded andincorporated as Overland Data, Inc. in California in 1980.  In June 2002 we changed our name toOverland Storage, Inc.  Our principalexecutive offices are located at 4820 Overland Avenue, San Diego,California 92123, telephone 858-571-5555.

 

For over 20 years, we have delivered datainterchange and protection solutions designed for backup and recovery to ensurebusiness continuity.  Historically, wehave focused on delivering a portfolio of automation solutions including tapeloader and library systems designed for small business and midrange computingenvironments.  Beginning with the June2003 acquisition of Okapi Software, Inc., a privately-owned company based inSan Diego, California, we expanded our product offerings to include a family ofintelligent disk-based appliances to complement our tape solutions.

 

One of the main market differentiators of ourproducts is that we design them around a modular, scalable architecture.  This enables customers to purchase storage asthey need it, rather than having to purchase a larger monolithic device withexcess capacity.  Customers can purchasean initial module to meet their near-term needs, and later increase speed andcapacity by adding modules that can be interconnected to function as a singlesystem.  This provides a lower priceentry point, investment protection, and an increased level of fault tolerance,as each module is self-sufficient and will continue to function even if anotherwere to fail.

 

We also differentiate ourselves with our“go-to-market” approach.  We are the onlysupplier in our market space that has a completely indirect sales model.  We do not have a direct sales force.  Approximately 65% of our sales are generatedthrough private label arrangements with original equipment manufacturers(OEMs).  The remainder of our sales aremade through commercial distributors, catalogers and value-added resellers(VARs).

 

End-users of our products include small andmidsize businesses, as well as divisions and operating units of largemulti-national corporations, governmental organizations, universities and othernon-profit institutions.  Our productsare used in a broad range of industry sectors including financial services,healthcare, retail, manufacturing, telecommunications, broadcasting, researchand development and many others.  Ourproducts are sold world-wide in the Americas, EMEA (Europe, Middle East,Africa) and Asia Pacific.  Approximately49% of our revenues are generated internationally, primarily in Europe.

 

Our Internet address is www.overlandstorage.com.  We make available free of charge on ourInternet website our annual report on Form 10-K, quarterly reports on Form10-Q, current reports on Form 8-K, and amendments to those reports filed pursuantto Section 13(a) or 15(d) of the Securities Exchange Act as soon asreasonably practicable after we electronically file such material with, orfurnish it to, the Securities and Exchange Commission.  The contents of our website are not a part ofthis Report.

 

#### **OurDirection and Strategy**

#### ** **

Our strategy is to be the market leader inmid-range data protection solutions for backup and recovery.  We intend to leverage our current position asthe leader in mid-range tape automation into a similar leadership position inintelligent disk-based backup and recovery appliances.  This is a relatively new market space that webelieve has great promise and can significantly expand our total addressablemarket.  Because tape is the onlyreliable, “removable”, high capacity storage

 

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media, it is our belief that specializeddisk-based appliances should generally be complementary to the tape automationmarket for some time.

 

The advent of low-cost serial ATA disk andiSCSI network technology, greatly increased regulatory compliance, and thecontinued growth of digital data are all factors that are driving businesses toconsider the use of secondary storage and disk-based appliances.  Tape backup is the mainstay of any company’sdata protection strategy, but it is time consuming and often unreliable andinefficient.  Furthermore, the process ofrecovering data from tape is equally time consuming and inefficient.

 

Companies are realizing that 75% of data thatneeds to be recovered is new, having been accessed or created within the last72 hours.  Studies show thatapproximately 90% of recovered data is two weeks old, or last accessed withinthat period.  As a result, many ITmanagers are electing to use disk-based appliances as an intermediate stagingarea, with the backup data eventually moving to tape.  The use of these devices can significantlyaccelerate both backups and restores.

 

Success in the disk-based appliance marketwill require us to introduce a steady stream of new products that arefeature-rich and competitively priced. In order to accomplish this, we must significantly enhance our softwaredevelopment team and commit additional sales and marketing resources to promoteand sell the products.

 

We must also maintain our leadership positionin tape automation.  This will require usto keep our product offerings fresh and competitively priced.  We believe there will be furtherconsolidation in the marketplace, and we are aggressively pursuing a number ofnew OEM opportunities to increase business with existing customers and gain newones.

 

**Products**

 

Our automation solution and other products include:

 

**•**                  *Libraries* - Automated tape libraries are devices capable ofmanaging multiple data cartridges and incorporate two or more tape drives toprovide unattended backup of large quantities of data.  Our Libraries incorporate tape drivessupplied by other manufacturers based on the leading mid-range tapetechnologies, including LTO (Linear Tape Open), DLTtape and AIT (AdvancedIntelligent Tape).  We currently offerthe following library products:

 

•                  *Scalable NEO SERIES**®*** –We offer 3 versions of our NEO product family:

 

•                  NEO 2000 can accommodate up to 2 tape drivesand 30 cartridges and can scale up to 8 modules high with 16 tape drives and240 cartridges.

 

•                  NEO 4000 can accommodate up to 4 tape drivesand 60 cartridges and can scale up to 4 modules high to comprise a system of 16tape drives and 240 cartridges. Customers can configure NEO systems with a combination of NEO 2000 and4000 modules.

 

•                  NEO 8000, introduced in December 2003,is our newest tape library.   It consistsof a base model with 100-cartridge capacity which can be scaled up to500 cartridges through a field-enabled software key.

 

•                  *PowerLoaders***®***and Loaders* – Made for smaller environments that do notrequire scalability, we offer both power loaders with one or two tape drives,and loaders with only a single tape drive.

 

**•**                  *Disk-based Products* – In August 2003 we began shippingour REO SERIESTM of disk-based products based on the technology wereceived in the Okapi Software acquisition. The REO product family currently consists of two products: (1) the REO4000TM with 8 disk drives and a native capacity of 2 terabytes; and(2) the REO 1000TM with 4 disk drives and a native capacity of 1terabyte.  A larger and higher capacityversion of REO is scheduled for introduction in September 2004.  The strength of these intelligent applianceslies in the embedded software.

 

**•**                  *Related Products and Services*– We have a variety of productsand services supporting our Libraries, PowerLoaders and Loaders.  We currently offer the following additionalproducts and services:

 

•                  Desktop andinternal upgrade tape drives.

 

•                  Spares and postwarranty return-to-factory and on-site service.

 

•                  Media, includingtape cartridges for DLT, SDLT, AIT and LTO formats.

 

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**•**                  *VR2***®****(Variable Rate Randomizer) – VR2**is our patented dataencoding technology.  This technology, which is embedded in anApplications Specific Integrated Circuit (ASIC) chip, is capable ofsignificantly increasing the native capacity and data transfer rate performanceof linear tape technologies without requiring any changes in tape path design,recording heads and/or media.  Thisperformance is accomplished by achieving encoding efficiency of greater than99%.  We have licensed VR2 toTandberg Data ASA for use in its Scalable Linear Recording (SLR) tape drives,to Imation Corporation as the owner of the Travan technology format, toCertance, formerly Seagate, for use in its Travan tape drive offerings, toStorage Technology Corporation (StorageTek) for use in its T9940 and T9840drives and future tape drive products, and to Quantum.

 

**Customers**

 

Our operating structure is optimized for ourmid-range strategy in that our products do not require us to have a “direct”(to end-users) sales or service force. We sell all our products on an indirect basis, primarily through threechannels or types of customers: (i) OEMs; (ii) distributors; and (iii)VARs.  Regardless of the channel throughwhich they are sold, all of our products are designed and manufactured to meetOEM-level requirements and reliability standards.

 

**•**                  ***OEM Channel*** - Our currentsignificant OEM supply agreements are with Hewlett Packard Company (HP) andInternational Business Machine Corporation (IBM), both of which incorporate ourNEO products into their system offerings. Fujitsu and NEC also purchase NEO products and sell them under theirrespective labels.  However, we arerequired to sell to them through their appointed reseller, and consequently weclassify them as VAR customers rather than OEM customers.

 

Although we continually strive to win new OEM business, the OEM salescycle is often lengthy and uncertain.  Ittypically consists of a general technology evaluation, qualification of productspecifications, verification of product performance against thesespecifications, integration testing of the product within the customers’systems, product announcement and volume shipment.  As is customary in the industry, our OEMcontracts have a three year term, provide for periodic price reviews and thecustomers are not required to purchase minimum quantities.  Our existing contracts with HP (datedAugust 2003) and IBM (dated November 2002) also provide that title toinventory shipped from our warehouse into various inventory hub locationsremains with us until the products are shipped to their customers.  HP, including the former Compaq that HPacquired in May 2002, has been our largest customer, accounting for approximately59%, 58%, and 62% of sales in fiscal years 2004, 2003, and 2002,respectively.  No other customeraccounted for more than 10% of sales in any year during the three-year period.

 

**•**                  ***Distribution Channel*** - Our primarydistribution customers include Ingram Micro, Inc., Tech Data Corporation andBell Microproducts, Inc. in the United States and approximately 8 technicaldistributors in Europe.  Typically, thesedistributors sell our products to smaller VARs and catalogers who in turn sellto end-users.  The distributionagreements include provisions for rights of return, stock rotation and priceprotection, common terms in the commercial distribution area.  Because of these terms, revenue fromshipments to these customers is not recognized until the related products arein turn sold by the distributor.  Wesupport these distributors through a dedicated field sales force and providefurther support through field sales personnel who work with the smaller VARsand catalogers to generate end-user sales and create the pull through itsdistribution customers.

 

**•**                  ***VAR Channel*** - Our VAR channelincludes systems integrators and larger VARs who qualify to purchase directfrom Overland.  Some of these customersspecialize in the insurance, banking, financial, geophysical or medicalindustries, and offer a variety of value-added services relating to ourproducts.  Our products frequently arepackaged by these customers as part of a complete data processing system orcombined with other storage devices, such as redundant array of independentdisks (RAID) systems, to deliver a complete storage subsystem.  These customers also recommend our productsas replacement solutions when backup systems are upgraded, and bundle ourproducts with storage management software specific to the end-user’ssystem.  We support this channel throughour field sales representatives.

 

Our products are sold both domestically andinternationally and we have sales personnel located in various citiesthroughout the world.  We divide oursales into three geographical regions: (1) the Americas, consisting ofNorth and South America; (2) Europe, Middle East and Africa (EMEA); and (3)Asia Pacific (APAC).  Primary support forcustomers in the Americas is provided from our San Diego headquarters office.  EMEA is supported by our wholly-ownedsubsidiaries located in Wokingham, England; Paris, France; and Munich,Germany.  The subsidiary in Englandprovides sales, technical support and repair services, while the subsidiariesin France and Germany provide sales and technical support.  Our APAC customers are supported by our salesoffice in Singapore.  We assign to ourinternational distributors the right to sell our products in a

 

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country or group of countries. In addition, many domestic customers ship a portion of our products totheir overseas customers.  Our foreignsales for fiscal years 2004, 2003 and 2002 were approximately $116.5 million,$85.1 million and $77.1 million, respectively, representing 49%, 43% and 47%,respectively, of our total net revenues.

 

Our marketing efforts includesupport for both our OEM and branded customers. Our branded channel partners are provided with a full range of marketingmaterials, including product specification literature, software connectivityinformation and application notes.  Oursales management and engineering personnel provide support to the channelpartners and, in certain instances, visit potential customer sites to explainand demonstrate the technical advantages of our products.  We maintain press relations both domesticallyand in Europe, and participate in national and regional trade shows in varyingdegrees both domestically and internationally.

 

Sales to customersoutside of the U.S. represent a significant portion of our sales.  International sales are subject to variousrisks and uncertainties.  See “Ourinternational operations are important to our business and involve uniquerisks” in Risk Factors below.  Salesgenerated by our European channel generally show seasonal slowing during ourfirst fiscal quarter (July through September), reflecting the summerholiday period in Europe.

 

**Customer Service and Support**

 

Our technical support personnel are trained on our products and assistcustomers with “plug-and-play” compatibility between multiple hardwareplatforms, operating systems and backup, data interchange and storagemanagement software.  Our applicationengineers are available to solve more complex customer problems and visitcustomer sites when necessary.  Customersthat need service and support can contact us through our toll-free telephonelines, facsimile and Internet e-mail. Application notes and user manuals can be obtained directly from ourwebsite.

 

We generally provide a three year advance replacement return-to-factorywarranty on our NEO SERIES, PowerLoader**®** andLoaderXpress**®** products.  We also provide on-site service for the firstwarranty year of the NEO SERIES products for which we contract with third-partyservice providers.  For most products, weoffer a program called XchangeNOW**®** as part ofour return-to-factory warranty that enables customers to receive an advancereplacement unit shipped within two business days after placing a servicerequest.  Separately priced on-sitewarranties are offered for sale to customers of other product lines.

 

**Research and Development**

 

We incurred research and development(R&D) costs of $7.3 million, $7.4 million and $6.6 million in fiscal years2004, 2003 and 2002, respectively, representing 3.0%, 3.8% and 4.0% of netrevenues, respectively.  We currentlyemploy 43 people in our R&D department, including electrical, mechanicaland firmware engineers who support our tape automation business and softwareengineers who support our REO disk-based appliance products.  In fiscal year 2005 we intend tosignificantly expand our REO software development team as we work to deliver asteady stream of new products.

 

Our level of R&D spending is somewhatdependent upon our product development cycles. During the later stages of the cycles, including the building of alphaand beta units and design verification testing, significant amounts ofdevelopment materials are consumed.  OEMcustomers also generally require evaluation units to qualify a new design.  We anticipate that our move into disk-basedappliances will require a higher level of R&D spending in order for us tobe competitive and successful in this new market.  Despite our R&D efforts, we may not beable to identify, develop, manufacture, market or support new or enhancedproducts successfully or on a timely basis and any new products may not gainmarket acceptance.

 

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#### **Manufacturingand Suppliers**

#### ** **

We maintain a fully integrated factory in San Diego,California that is ISO 9001 certified. Major OEM customers have also certified all of our production lines andmanufacturing processes.  We performproduct assembly, integration and testing, while leaving component andpiece-part manufacturing to our supplier partners.  Our products have a large number ofcomponents and subassemblies produced by outside suppliers.  We depend greatly on these suppliers for tapedrives, printed circuit boards and integrated circuits, which are essential tothe manufacture of our products.  We workclosely with a group of regional, national and international suppliers, whichare carefully selected based on their ability to provide quality parts andcomponents that meet our specifications, as well as meet present and futurevolume requirements.  For certain items,we qualify only a single source, which can magnify the risk of shortages anddecrease our ability to negotiate with our suppliers on the basis ofprice.  From time to time in the past, we have notobtained as many drives as we have needed from various vendors due to driveshortages or quality issues.

 

In general, Overland branded products are notmanufactured until an order is received. The typical lead-time for manufacturing products is three days andbacklog is not a significant factor to our business.  Our two largest OEM customers, HP and IBM,both require that we maintain inventory on hand, known as buffer stock, at anygiven time sufficient to supply their forecasted requirements for the nextthree weeks.  They provide weeklyforecast information that allows us to manage both raw material and finishedgoods inventories.  The buffer stock isshipped into various distribution hubs around the world and we retain ownershipof that inventory until it is pulled by HP and IBM to fulfill customer orders,at which time we record the sale.

 

We occupied our new headquarters and manufacturingbuildings in March 2002.  Thebuildings are subject to a 12-year lease with one five-year extension option.We believe that we have the capacity to support unit production levels severaltimes greater than our current rate of production.  We maintain approximately 30% of our directlabor in the form of temporary staffing to accommodate normal businessfluctuations and control our staffing levels carefully to meet customerrequirements at any specific time.

 

**Competition**

 

The worldwide storage market is intenselycompetitive and barriers to entry are relatively low.  Our competitors vary in size for smallstart-ups to large multi-national corporations who have substantially greaterfinancial, R&D and marketing resources. In the tape automation market, our primary competition includes AdvancedDigital Information Corporation, Quantum Corporation and Storage TechnologyCorporation.**** Key competitive factors include productfeatures, reliability, durability, scalability and price.

 

Our disk-based products currently competewith products made by Quantum Corporation, Advanced Digital InformationCorporation, Storage Technology Corporation, EMC Corporation, NetworkAppliance, Inc. and numerous small startups. We believe additional competitors are likely to enter the market.   Key competitive factors in these marketsinclude performance, functionality, scalability, availability,interoperability, connectivity, time to market enhancements and total value ofownership.

 

The markets for all of our products arecharacterized by significant price competition, and we anticipate that ourproducts will face increasing price pressure.

 

**Proprietary Rights**

 

#### **General  –**In the tape automation space, we believe thatpatent, copyright, trademark and trade secret protection are less significantthan factors such as the knowledge, ability and experience of our personnel,new product introductions and product enhancements.  In the disk-based appliance space, we believeintellectual property protection will be an important competitive advantage,and we intend to secure a significant number of patents, copyrights andtrademarks as quickly as possible to obtain and protect our leadershipposition.   We presently hold 16United States patents and have 2United States patents pending. In general, these patents have a 20-yearterm from the first effective filing date for each patent. We also hold anumber of foreign patents and patent applications for certain of our productsand technologies.  These rights, however, may not prevent competitors fromdeveloping substantially equivalent or superior products to ours.  In addition, our present and future patentsmay be challenged, invalidated or circumvented, reducing or eliminating ourproprietary protection.

 

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**VR2 Technology**– We have entered into various intellectual property licensing agreementsrelating to our VR2 technology. These agreements require the payment of royalty fees based on sales bylicensees of products containing VR2.  In certain instances, we sell to the licenseeASIC chips embodying VR2 priced to include the cost of the chip plusan embedded royalty fee.

 

**Employees**

 

As of June 30, 2004 we had 371 employees, including 112 in salesand marketing, 43 in research and development, 168 in manufacturing andoperations and 48 in finance, information systems, human resources and othermanagement.  There are no collectivebargaining contracts covering any of the employees and we believe that ourrelationship with our employees is good.

 

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**RISK FACTORS**

 

*An investment in ourcompany involves a high degree of risk. In addition to the other information included in this Report, you shouldcarefully consider the following risk factors in evaluating an investment inour company.  You should consider thesematters in conjunction with the other information included or incorporated byreference in this Report.*

 

**Ourbusiness is highly dependent on our level of sales to one major customer***.*

 

HewlettPackard, including the former Compaq which HP acquired in May 2002, has beenour largest customer accounting for approximately 59% of net revenues in fiscalyear 2004, 58% of net revenues in fiscal year 2003 and 62% of net revenues infiscal year 2002.  No other customeraccounted for more than 10% of net revenues during the year ended June 30,2004.

 

Our salesto HP may be affected adversely by various factors relating to HP’s business,liquidity, results of operation and financial position.  We expect that HP will continue to representa significant portion of our revenues in future periods.  Consequently, our business, liquidity,results of operation and financial position would be materially and adverselyaffected by the loss of the HP account, or the reduction, delay or cancellationof HP orders.  Neither HP nor any othercustomer is obligated to purchase a specific amount of our products or providebinding forecasts of purchases for any period.

 

**The market price of our commonstock may be volatile***.*

 

The market price of our common stock hasexperienced significant fluctuations since it commenced trading in February1997.  The market price of our common stockmay continue to fluctuate significantly in the future.  Many factors could cause the market price ofour common stock to fluctuate, including:

 

•                  announcements concerning us, our competitors, our customers or ourindustry;

 

•                  changes in earnings estimates by analysts;

 

•                  purchasing decisions of HP and other significant customers;

 

•                  quarterly variations in operating results;

 

•                  the introduction of new technologies or products;

 

•                  changes in product pricing policies by us or our competitors; and

 

•                  changes in general economic conditions.

 

In addition, stock markets have experiencedextreme price and volume volatility in recent years.  This volatility has had a substantial effecton the market prices of securities of many smaller public companies for reasonsfrequently unrelated or disproportionate to the operating performance of thespecific companies.  These marketfluctuations may adversely affect the market price of our common stock.

 

**Ourfinancial results may fluctuate substantially for many reasons, and pastresults should not be relied on as indications of future performance.**

 

All of the markets that we serve are volatileand subject to market shifts, which we may not be able to discern in advance. Aslowdown in the demand for workstations, mid-range computer systems, networksand servers could have a significant adverse effect on the demand for ourproducts in any given period.  We haveexperienced delays in receipt of purchase orders and, on occasion, anticipatedpurchase orders have been rescheduled or have not materialized due to changesin customer requirements.  Our customersmay cancel or delay purchase orders for a variety of reasons, including therescheduling of new product introductions, changes in their inventory practicesor forecasted demand, general economic conditions affecting our customers’markets, changes in our pricing or the pricing of our competitors, new productannouncements by us or others, quality or reliability problems related to ourproducts or selection of competitive products as alternate sources ofsupply.  In particular, our ability toforecast sales to distributors, integrators and value-added resellers isespecially limited as these customers typically provide to us relatively shortorder lead times or are permitted to change orders on short notice.  Given that a large portion of our sales aregenerated by our European channel, our first fiscal quarter (July throughSeptember) is commonly impacted by seasonally slow European orders, reflectingthe summer holiday period in Europe.

 

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Inaddition, our financial results have fluctuated and will continue to fluctuatequarterly and annually based on many other factors such as:

 

•                  changes in customer mix (e.g., OEM vs. branded);

 

•                  the level of utilization of our production capacity;

 

•                  changes in product mix;

 

•                  fluctuations in average selling prices;

 

•                  currency exchange fluctuations;

 

•                  manufacturing yields;

 

•                  increases in production and engineering costs associated with initialproduction of new products;

 

•                  increases in the cost of or limitations on availability of materials;and

 

•                  labor shortages.

 

Based on all of the foregoing, we believethat our revenues and operating results will continue to fluctuate, andperiod-to-period comparisons are not necessarily meaningful and should not berelied on as indications of future performance. Furthermore, in some future quarters, our revenues and operating resultscould be below the expectations of public market analysts or investors, whichcould result in a material adverse effect on the price of our commonstock.  In addition, portions of ourexpenses are fixed and difficult to reduce if revenues do not meet ourexpectations.  These fixed expensesmagnify the material adverse effect of any revenue shortfall.

 

**We faceintense competition and price pressure, and many of our competitors havesubstantially greater resources than we do.**

 

The worldwide storage market is intenselycompetitive as a number of manufacturers of tape automation solutions andstorage management software products compete for a limited number ofcustomers.  In addition, barriers toentry are relatively low in these markets. We currently participate in the mid-range of the tape backupmarket.  In this segment, some of ourcompetitors have substantially greater financial and other resources, largerresearch and development staffs, and more experience and capabilities inmanufacturing, marketing and distributing products.  Our hardware products currently compete with productsmade by Advanced Digital Information Corporation, Quantum Corporation andStorage Technology Corporation.  Ourdisk-based products currently compete with products made by InternationalBusiness Machines Corporation, HP, Computer Associates International, Inc., EMCCorporation, Veritas Software Corporation, Quantum Corporation, NetworkAppliance, Inc. and numerous small startups. The markets for our products are characterized by significant pricecompetition, and we anticipate that our products will face increasing pricepressure.  This pressure could result insignificant price erosion, reduced profit margins and loss of market share, anyof which could have a material adverse effect on our business, liquidity,results of operation and financial position.

 

**Ourbusiness is highly dependent on the continued availability and marketacceptance of the tape technologies incorporated in our products.**

 

We derive a majority of our revenue fromproducts that incorporate tape drives purchased from other manufacturers andbased on unique formats and tape technologies. Certain of these tape drives are only available from a singlemanufacturer, and we expect to continue to derive a substantial amount of ourrevenue from products incorporating these tape drives for the foreseeablefuture.  In particular, a portion of ourproducts incorporate DLTtape drives manufactured by Quantum Corporation.  Quantum also is one of our competitors becauseQuantum markets its own tape automation products.  We do not have a long-term contract withQuantum, which could cease supplying tape drives directly to us.  Although Quantum has licensed Tandberg Datato be a second source manufacturer of DLTtape drives, we have not qualifiedTandberg as an alternative supplier.

 

In addition, from time to time in the past,we have not obtained as many drives as we have needed from various vendors dueto drive shortages or quality issues. Any prolonged inability to obtain adequate deliveries could require usto pay more for components, parts and other supplies, seek alternative sourcesof supply, delay shipment of products and damage relationships with current andprospective customers.  This type ofdelay or damage could have a material adverse effect on

 

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our business, liquidity, results of operation and financialposition.  In fiscal year 1997, weexperienced problems with the supply of a newly-introduced tape drive and theseproblems materially adversely affected our sales and earnings for that year.  We cannot assure you that these or similarproblems will not reoccur, or that we will not experience similar or moreserious disruptions in supply in the future with current or new versions oftape drives.

 

Our future operating results depend on thecontinued availability and market acceptance of the current tape technologiesthat we use.  If tape drivesincorporating other technologies gain comparable or superior market acceptancethan those currently incorporated in our products, then we might have to modifythe design of our tape automation products to incorporate these tapedrives.  Our inability to do so or toobtain sufficient quantities of these tape drives could have a material adverseeffect on our business, liquidity, results of operation and financial position.

 

Our tape-based storage solutions compete withother storage technologies, such as hard disk drives, and may face competitionin the future from other emerging technologies. The prices of hard disk drivescontinue to decrease while capacity and performance have increased. If harddisk drives or products incorporating other technologies gain comparable orsuperior market acceptance to tape drive technology, or their costs decline farmore rapidly than tape drive and media costs, we would face increasedcompetition from these alternative technologies. If we are not able to respondto such competition through increased performance and lower prices for ourproducts, or the introduction of competitive new products incorporating newtechnologies, our business, financial condition and operating results could bematerially and adversely affected.

 

**Oursuccess depends on our ability to anticipate rapid technological changes anddevelop new and enhanced products.**

 

As an advanced technology company, we aresubject to numerous risks and uncertainties, generally characterized by rapidtechnological change and intense competition. In this environment, our future success will depend on our ability toanticipate changes in technology, to develop new and enhanced products on atimely and cost-effective basis and to introduce, manufacture and achievemarket acceptance of these new and enhanced products.  Development schedules for high technologyproducts are inherently subject to uncertainty. We may not meet our product development schedules, including those forproducts based on our disk-based technology, and development costs could exceedbudgeted amounts.  In addition, there canbe no assurance that the licensees of our VR2 technology will meet their productdevelopment schedules.  Our business,liquidity, results of operation and financial position may be materially andadversely affected if the products or product enhancements that we develop aredelayed or not delivered due to developmental problems, quality issues orcomponent shortage problems, or if our products or product enhancements do notachieve market acceptance or are unreliable. The introduction, whether by us or our competitors, of new productsembodying new technologies, such as new sequential or random access massstorage devices, and the emergence of new industry standards could renderexisting products obsolete or not marketable, which may have a material adverseeffect on our business, liquidity, results of operation and financial position.

 

**We rely on outside suppliers toprovide a large number of components and subassemblies incorporated in ourproducts.**

 

Our products have a large number ofcomponents and subassemblies produced by outside suppliers.  Accordingly, we depend greatly on thesesuppliers for tape drives, printed circuit boards and integrated circuits,which are essential to the manufacture of our products.  In addition, for certain of these items, wequalify only a single source, which can magnify the risk of shortages and decreaseour ability to negotiate with our suppliers on the basis of price.  If these shortages occur, or if we experiencequality problems with suppliers, then our product shipments could besignificantly delayed or costs significantly increased, which would have amaterial adverse effect on our business, liquidity, results of operation andfinancial position.

 

**Ourinternational operations are important to our business and involve uniquerisks.**

 

Historically, sales to customers outside ofthe U.S. have represented a significant portion of our sales and we expect themto continue representing a significant portion of sales.  Sales to customers outside the U.S. aresubject to various risks, including:

 

•                  the imposition of governmental controls mandating compliance withvarious foreign and U.S. export laws;

 

•                  currency exchange fluctuations;

 

•                  political and economic instability;

 

•                  trade restrictions;

 

10

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•                  changes in tariffs and taxes;

 

•                  longer payment cycles (typically associated with international sales);and

 

•                  difficulties in staffing and managing international operations.

 

Furthermore,we cannot assure that we will be able to comply with changes in foreignstandards in the future, even though we endeavor to meet standards establishedby foreign regulatory bodies.  Ourinability to design products that comply with foreign standards could have amaterial adverse effect on our business, liquidity, results of operation andfinancial position.

 

***Weare subject to exchange rate risk in connection with our internationaloperations.***

*** ***

We do not currentlyengage in foreign currency hedging activities and therefore we are exposed tosome level of currency risk. As foreign currency exchange rates vary, thefluctuations in revenues and expenses may materially impact the financialstatements upon consolidation. A weaker U.S. dollar would result in an increaseto revenues and expenses upon consolidation, and a stronger U.S. dollar wouldresult in a decrease to revenues and expenses upon consolidation.  Currently, nearly all of our internationalsales are denominated in U.S. dollars.

 

Furthermore, the resultsof operations of our foreign subsidiaries are exposed to foreign exchange ratefluctuations as the financial results of the subsidiaries are translated fromthe local currency to U.S. dollars upon consolidation.  Because of the significance of the operationsof our subsidiaries to our consolidated operations, as exchange rates vary, netsales and other operating results, when translated, may differ materially fromour prior performance and our expectations. In addition, because of thesignificance of our overseas operations, we could also be significantlyaffected by weak economic conditions in foreign markets that could reducedemand for our products and further negatively impact the results of ouroperations in a material and adverse manner.

 

**Our ability to compete effectivelydepends in part on our ability to protect effectively our intellectual propertyrights.**

 

We rely on a combination of patent,copyright, trademark, trade secret and other intellectual property laws toprotect our intellectual property rights. These rights, however, may not prevent competitors from developing productsthat are substantially equivalent or superior to our products. To the extent wehave or obtain patents, such patents may not afford meaningful protection forour technology and products. Others may challenge our patents and, as a result,our patents could be narrowed, invalidated or unenforceable. In addition,current or future patent applications may not result in the issuance of patentsin the United States or foreign countries. In addition, the laws of certain foreign countries may not protect ourintellectual property to the same extent as U.S. laws.  Furthermore, competitors may independentlydevelop similar products, duplicate our products or, if patents are issued tous, design around these patents.

 

In order to protect or enforce our patent rights, we may initiateinterference proceedings, oppositions, or patent litigation against thirdparties, such as infringement suits. These lawsuits could be expensive, takesignificant time and divert management’s attention from other businessconcerns. The patent position of information technology firms generally ishighly uncertain, involves complex legal and factual questions, and hasrecently been the subject of much litigation. No consistent policy has emergedfrom the U.S. Patent and Trademark Office or the courts regarding the breadth ofclaims allowed or the degree of protection afforded under informationtechnology patents.

 

**Oursuccess will depend partly on our ability to operate without infringing on ormisappropriating the proprietary rights of others.**

 

We recently settled a case alleging patent infringement (see “LegalProceedings” below).  Despite thissettlement, our business is such that we may in the future be sued forinfringing the patent rights or misappropriating the proprietary rights ofothers. Intellectual property litigation is costly and, even if we prevail, thecost of such litigation could adversely affect our business, financialcondition and results of operations. In addition, litigation is time consumingand could divert management attention and resources away from our business. Ifwe do not prevail in any litigation, we could be required to stop theinfringing activity and/or pay substantial damages. Under some circumstances inthe United States, these damages could be triple the actual damages the patentholder incurs. If we have supplied infringing products to third parties formarketing or licensed third parties to manufacture, use or market infringingproducts, we may be obligated to indemnify these third parties for any damagesthey may be required to pay to the patent holder and for any losses the thirdparties may sustain themselves as the result of lost sales or damages paid tothe patent holder.

 

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If a third party holding rights under a patent successfully asserts aninfringement claim with respect to any of our products, we may be preventedfrom manufacturing or marketing our infringing product in the country orcountries covered by the patent we infringe, unless we can obtain a licensefrom the patent holder. Any required license may not be available to us onacceptable terms, or at all. Some licenses may be non-exclusive, and therefore,our competitors may have access to the same technology licensed to us. If wefail to obtain a required license or are unable to design around a patent, wemay be unable to market some of our products, which could have a materialadverse effect on our business, financial condition and results of operations.

 

**Our new disk-based products involve many significant risks.**

 

In August 2003 we began shipping our REO SERIES of disk-basedproducts based on technology acquired from Okapi Software, Inc.   In April 2004, we announced theavailability of our next-generation REO 4000 product.

 

The success of these new products is uncertain and subject tosignificant risks, any of which could have a material adverse effect on ourbusiness, liquidity, results of operation and financial position.  We must commit significant resources to thesenew products before determining whether they will result in any success.  In addition, these products are highlydependent upon the general industry acceptance and adoption of the new iSCSIstandard.  If these new products are notadopted by customers or do not achieve anticipated sales levels, any relatedintangible assets we have recorded may be impaired.  Such impairment would result in a chargeagainst earnings in the period for which impairment is determined to exist, andreduce our assets and shareholders’ equity.

 

We have not been involved previously in the development, marketing andsale of disk-based products, and this area is new to many of ourpersonnel.  We will need to continuouslyupdate and periodically upgrade these products to stay competitive.  Any delay in the commercial release of new orenhanced disk-based products could result in a significant loss of potentialrevenues and may adversely impact the market price of our common stock.

 

If our disk-based products do not achieve market acceptance or success,then the association of our brand name with these products may adversely affectour reputation and our sales of other products, as well as dilute the value ofour brand name.

 

**Ourwarranty reserves may not adequately cover our warranty obligations.**

 

We have established reserves for the estimatedliability associated with our product warranties.  However, we could experience unforeseencircumstances where these or future reserves may not adequately cover ourwarranty obligations.  For example, thefailure or inadequate performance of product components that we purchase couldincrease our warranty obligations beyond these reserves.

 

**Our credit facility is collateralized by a general security interest inour assets.  If we were to default underour credit facility, then the lender would have the right to foreclose on ourassets.**

 

At June 30, 2004, our credit facilityconsisted of a $10 million revolving line of credit for working capitalpurposes which expires on November 30, 2004. At June 30, 2004, no amounts wereoutstanding under the line of credit. The line of credit is collateralized by a general security interest inour assets.  If we were to default underour credit facility, then the lender would have the right to accelerate theindebtedness outstanding under our credit facility and foreclose on our assetsin order to satisfy our indebtedness.  Aforeclosure could have a material adverse effect on our business, liquidity,results of operation and financial position.

 

12

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**Our credit facility requires that we comply with several financial andnon-financial covenants.  If we fail tocomply with these covenants, then we will be in default of the credit facility.**

 

The loan agreement that governs our credit facility requires us tocomply with several financial and non-financial covenants.  Our ability to comply with these covenantsmay be affected by events beyond our control, including prevailing economic,financial and industry conditions.  Aviolation of one or more of these covenants would constitute a default underthe credit facility, which would enable the lender, at its option withoutnotice, to accelerate all then-outstanding indebtedness under the creditfacility and/or terminate the lender’s obligation to extend credit under thecredit facility, either of which could materially and adversely impact ourbusiness, liquidity, results of operation and financial position.

 

**Our success depends on our abilityto attract, retain and motivate our executives and other key personnel.**

 

Our futuresuccess depends in large part on our ability to attract, retain and motivateour executives and other key personnel, many of whom have been instrumental indeveloping new technologies and setting strategic plans.  Our growth also depends in large part on ourcontinuing ability to hire, motivate and retain highly qualified management,technical, sales and marketing team members. Competition for qualifiedpersonnel is intense and there can be no assurance that we will retain existingpersonnel or attract additional qualified personnel in the future.

 

**Futuremergers and acquisitions may increase the risks associated with our business.**

 

In the future, we may pursue mergers andacquisitions of complementary businesses, products or technologies as we seekto expand and increase the value-added component of our product offerings.  Mergers and acquisitions involve numerousrisks, including liabilities that we may assume from the acquired company,difficulties in the assimilation of the operations and personnel of theacquired business, the diversion of management’s attention from other businessconcerns, risks of entering markets in which we have no direct priorexperience, and the potential loss of key employees of the acquired business.

 

Future mergers and acquisitions by us alsomay result in dilutive issuances of our equity securities and the incurrence ofadditional debt and amortization expenses related to intangible assets.  Any of these factors could adversely affectour business, liquidity, results of operation and financial position.

 

13

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**ITEM 2.  *Properties***

 

We own no real property and we currently lease allfacilities used in our business.  Ourheadquarters are located in San Diego, California in a two-building light industrialcomplex comprising approximately 160,000 square feet. The lease expires inFebruary 2014 and can be renewed for one additional five-year period. ThisSan Diego facility houses all of our research and development, manufacturingand administrative functions as well as a major portion of sales, salesadministration, marketing and customer support. In our current facilities, webelieve that we have and will have the capacity to support unit productionlevels several times greater than our current rate of production.

 

  We lease a17,000 square foot facility located in Wokingham, England, which houses sales,technical support and repair services. The lease expires in January 2018.We also maintain small sales offices located close to Paris, France, Munich,Germany and Singapore.

 

The lease on the facility located in Longmont,Colorado expires in November 2005. We currently are working with the lessor to mitigate the rental expenseas the Longmont operations have been wound-down.

 

**ITEM 3.  *LegalProceedings***

 

InJanuary 2003, Raytheon Company filed a lawsuit against us and variousother companies in the United States District Court for the Eastern District ofTexas.  The complaint alleged that ourproducts infringed a patent held by Raytheon. Raytheon demanded that the defendants stop selling infringing products,pay Raytheon for their past use of the invention under the patent and payRaytheon’s costs and expenses and its reasonable attorney fees.  We asserted counterclaims seeking to have thesubject patent declared invalid, unenforceable and not infringed by us.  Effective in April  2004, we settledthis lawsuit with Raytheon and both parties agreed to dismiss with prejudicetheir respective claims and counterclaims against each other.  Although the specific terms of the settlementwith Raytheon are confidential, we are now fully licensed under the subjectpatent and our business and products are unaffected by the settlement.

 

We are fromtime to time involved in various lawsuits and legal proceedings that arise inthe ordinary course of business.   We arecurrently not aware of any such legal proceedings or claims that we believewill have, individually or in the aggregate, a material adverse affect on ourbusiness, financial condition or operating results.   However, litigation is subject to inherentuncertainties, and an adverse result in these or other matters may arise fromtime to time that may harm our business.

 

**ITEM 4.  *Submissionof Matters to a Vote of Security Holders***

 

None

 

14

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**PART II**

 

**ITEM 5.  *Market forRegistrant’s Common Equity and Related Shareholder Matters***

 

Our common stock trades on The NASDAQ National Market under the symbol“OVRL”.  As of September 1, 2004,there were approximately 135****shareholdersof record.  We have not paid anydividends on our common stock and do not anticipate paying any dividends in theforeseeable future.  The high and lowclosing prices of our common stock from July 1, 2002 through June 30,2004 were as follows:

 

| ** **        | ** ** | **High** | ** ** | **Low** | ** ** |
|-------------------|------------|----------|------------|---------|------------|
|              |       |     |       |    |       |
| Fiscal Year 2004: |       |     |       |    |       |
|              |       |     |       |    |       |
| Fourth quarter    |       | $        | 17.55      |    | $          | 13.15 |   |
| Third quarter     |       | 22.46    |       | 16.21   |       |
| Second quarter    |       | 20.50    |       | 14.00   |       |
| First quarter     |       | 21.76    |       | 13.90   |       |
|              |       |     |       |    |       |
| Fiscal Year 2003: |       |     |       |    |       |
|              |       |     |       |    |       |
| Fourth quarter    |       | $        | 22.00      |    | $          | 14.06 |   |
| Third quarter     |       | 16.30    |       | 13.36   |       |
| Second quarter    |       | 15.20    |       | 7.26    |       |
| First quarter     |       | 16.59    |       | 7.81    |       |

 

**EquityCompensation Plan Information**

** **

The following table provides information about our equity compensationplans as of June 30, 2004:

 
| **Plan Category**                                                  | ** ** | **Number of securities to be  issued upon exercise of  outstanding options,  warrants and rights** | ** ** | **Weighted average exercise  price of outstanding  options, warrants and  rights** | ** ** | **Number of securities  remaining available for  future issuance under  equity compensation plans  (excluding securities to be  issued upon exercise of  outstanding options,  warrants and rights)** | ** ** |
|--------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| **Equity  compensation plans approved by security holders**        |       | 2,743,468                                                                                          |       | $                                                                                  | 11.02      |                                                                                                                                                                                                  | 219,815    |   |
| **Equity  compensation plans not approved by security holders**(1) |       | 89,118                                                                                             |       | $                                                                                  | 7.95       |                                                                                                                                                                                                  | 0          |   |
| **Total**                                                          |       | 2,832,586                                                                                          |       | $                                                                                  | 10.92      |                                                                                                                                                                                                  | 219,815    |   |

 

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(1)          Consists of our 1991 Non-Qualified StockOption Plan and 2001 Supplemental Stock Option Plan, each of which has not beenapproved by our shareholders.  Please seeNote 9 of our Notes to Consolidated Financial Statements for a description ofthese plans.

 

**ShareRepurchase Authorization**

 

On August 11, 2004, the Board of Directors authorized the purchaseof up to $10,000,000 of our common stock on the open market or through negotiatedtransactions. This repurchase authority allows us, at management’s discretion,to selectively repurchase our common stock from time to time in the open marketor in privately negotiated transactions depending on market price and otherfactors. The share repurchase authorization has no stated expiration date.

 

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**ITEM 6.  *SelectedFinancial Data***

 

The following selected financial data has been derived from our auditedconsolidated financial statements and the related notes.  This information should be read inconjunction with Item 7 of this Report - “Management’s Discussion and Analysisof Financial Condition and Results of Operations,” and with our consolidatedfinancial statements and the related notes set forth at the pages indicated inItem 14(a)(1) of this Report.

 
| ** **                                         | ** ** | **At or for Years Ended June 30,**       | ** ** |
|----------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                         | ** ** | **2004**                                      | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| ** **                                         | ** ** | **(in thousands, except for per share data)** | ** ** |
| **Income Statement  Data**                         |       |                                          |       |   |   |   |   |   |   |   |   |
| Net revenue                                        |       | $                                             | 238,139    |   | $ | 195,881 |   | $ | 163,380 |   | $ | 155,696 |   | $ | 122,979 |   |
| Gross profit                                       |       | 64,654                                        |       | 54,018 |   | 42,445 |   | 39,034 |   | 30,519 |   |
| Income from operations                             |       | 15,598                                        |       | 10,310 |   | 6,516 |   | 3,699 |   | 2,811 |   |
| Income before income taxes                         |       | 16,199                                        |       | 10,193 |   | 6,839 |   | 4,017 |   | 3,416 |   |
| Net income                                         |       | 10,625                                        |       | 6,682 |   | 4,493 |   | 2,494 |   | 2,067 |   |
| Net income per share (1):                          |       |                                          |       |   |   |   |   |   |   |   |   |
| Basic                                              |       | $                                             | 0.79       |   | $ | 0.59 |   | $ | 0.42 |   | $ | 0.24 |   | $ | 0.20 |   |
| Diluted                                            |       | $                                             | 0.74       |   | $ | 0.54 |   | $ | 0.40 |   | $ | 0.23 |   | $ | 0.19 |   |
|                                               |       |                                          |       |   |   |   |   |   |   |   |   |
| **Balance Sheet Data**                             |       |                                          |       |   |   |   |   |   |   |   |   |
| Cash, cash equivalents and short-term  investments |       | $                                             | 69,657     |   | $ | 55,020 |   | $ | 26,884 |   | $ | 10,844 |   | $ | 15,774 |   |
| Working capital                                    |       | 103,107                                       |       | 84,326 |   | 54,463 |   | 46,999 |   | 43,257 |   |
| Total assets                                       |       | 144,026                                       |       | 130,922 |   | 81,003 |   | 70,171 |   | 71,383 |   |
| Long-term debt, inclusive of current portion       |       | —                                        |       | 3,957 |   | 4,655 |   | — |   | — |   |
| Shareholders’ equity                          |       | 113,514                                       |       | 93,264 |   | 59,266 |   | 51,679 |   | 47,497 |   |

 

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(1)          See Note 1 of Notes to Consolidated FinancialStatements for an explanation of shares used in computing net income per share.

 

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**ITEM 7.  *Management’sDiscussion and Analysis of Financial Condition and Results of Operations.***

 

*The discussion in this section containscertain statements of a forward-looking nature relating to future events or ourfuture performance.  Words such as“expects,” “anticipates,” “intends,” “plans,” “believes,” “seeks,” “estimates”and similar expressions or variations of such words are intended to identifyforward-looking statements, but are not the only means of identifying forward-lookingstatements. Such statements are only predictions and actual events or resultsmay differ materially.  In evaluatingsuch statements, you should specifically consider various factors identified inthis Report, including the matters set forth under the caption “Risk Factors,”which could cause actual results to differ materially from those indicated bysuch forward-looking statements.*

 

**Overview**

 

In fiscal 2004, we increased revenue by 22%, net income by 59% andearnings per share by 37%.  We accomplishedthis in a year in which the worldwide tape automation market grew by less than10%.  Our performance reflects 22%revenue growth in our OEM business and 21% revenue growth in our brandedchannel business.  Our largest customeraccounted for approximately 59% of total net revenues in fiscal 2004, upslightly from 58% during fiscal 2003. Our gross profit margin dipped slightly from 27.6% in fiscal 2003 to27.1% in fiscal 2004.  This decrease wasdue primarily to the non-cash amortization of the Okapi technology assetpurchased in the fourth quarter of fiscal year 2003.  Despite the 22% growth in revenue, operatingexpenses grew by only 12%.  The majorityof the spending increase was in the sales and marketing area as we promotedREO, our new disk-based appliance product.

 

We significantly strengthened our balance sheet in the fourth quarterof fiscal year 2003 through the private placement of newly issued common stockthat added approximately $20 million in cash to our reserves; during fiscal2004 we produced significant positive cash flow that added another $14.6million to our cash and investment balances. We drove working capital efficiencies by reducing our inventory by 16%and accounts receivable by 1%, while still achieving the 22% growth in revenue.  Additionally, we retired $4 million of debtincurred in fiscal 2002 when we moved into our new facility.  We ended the year with almost $70 million ofcash and investments on hand and no outstanding debt.

 

We believe we are well positioned to execute on our strategy to leverage our current position as the leader inmid-range tape automation into a similar leadership position in intelligentdisk-based backup and recovery appliances. Although it is a relatively new market, we believe it has great promiseand can significantly expand our total addressable market.  Success in the disk-based appliance marketwill require us to introduce a steady stream of new products that arefeature-rich and competitively priced. In order to accomplish this, we must significantly enhance our softwaredevelopment team and commit additional sales and marketing resources to promoteand sell the products.  Our investment inthis new market involves risks that the market will fail to grow as expected,and even if it does grow, that our products will not compete successfully.  Either of which could negatively impact ourfuture profitability.

 

We achieved a number of major milestones during fiscal 2004 centeredaround our new REO disk-based appliance. In August 2003 we began shipping our REO2000 series of disk-basedproducts based on technology acquired from Okapi Software, Inc. inJune 2003.  In May 2004, we beganshipping our second-generation REO4000 disk-based products, which replaced ourREO2000 product, and in July 2004 we announced the availability of theREO1000, the industry’s first disk-based alternative to entry-level tapeautoloaders.

 

On the tape automation side of our business, in January 2004, webegan shipping our newest and largest tape library, the NEO8000.  Built on the NEO architecture and designedfor larger data centers, the NEO8000 offers performance, scalability, dataavailability and field-proven technology combining high-end functionality withmid-range affordability.

 

**Critical Accounting Policies and Estimates**

 

Our discussion and analysis of our financialcondition and results of operations are based upon our consolidated financialstatements, which have been prepared in accordance with accounting principlesgenerally accepted in the United States of America. The preparation ofconsolidated financial statements requires that we make estimates and judgmentsthat affect the reported amounts of assets, liabilities, revenue and expenses,and related disclosure of contingent liabilities. On an on-going basis, weevaluate our estimates, including those related to revenue recognition, baddebts, inventories, income taxes, warranty obligations and contingencies. Webase our estimates on historical experience and on various other assumptionsthat we believe to be reasonable under the circumstances, the results of whichform the basis for making judgments about the carrying values of assets andliabilities that are not readily apparent from other sources. Actual resultsmay differ from these estimates under different assumptions or conditions.

 

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We believe the following accounting policiesaffect our more significant judgments and estimates used in the preparation ofour consolidated financial statements.

 

***Revenue Recognition***

 

Revenue from direct product sales (excludingsales to commercial distributors and certain OEM customers) is recognized uponshipment of products to our customers. These customers are not entitled to anyspecific right of return or price protection, except for any defective productthat may be returned under our warranty policy. Title and risk of loss transfer to the customer when the product leavesour dock. Product sales to commercial distribution customers are subject tocertain rights of return, stock rotation privileges and price protection.  Because we are unable to estimate ourexposure for returned product or price adjustments, revenue from shipments tothese customers is not recognized until the related products are in turn soldby the commercial distributor. At June 30, 2004, $1,037,000 of product had beenshipped to our commercial distributors, but not yet shipped by them. As part ofour existing agreements with certain OEM customers, we ship products to variousdistribution hubs around the world and retain ownership of that inventory untilit is pulled by these OEM customers to fulfill their customer orders, at whichtime, generally the same business day, we record the sale.

 

We have entered into various licensingagreements relating to our VR2 technology. These agreements typically call for royalty fees based onsales by licensees of products containing VR2. Royalties on sales by licensees of productscontaining VR2 are recorded whenearned, generally in the period during which the licensee ships the productscontaining VR2 technology. In certaininstances, the customer has elected to purchase the ASIC chips from usembodying VR2, which are priced toinclude the cost of the chip plus an embedded royalty fee. In these instances,revenues on ASIC chip sales are recorded as product revenue when earned, whichis upon the shipment of the underlying ASIC chip incorporating the VR2 technology to the customer.

 

In some cases, these licensing agreementsinclude initial payments to us for the delivery of the VR2 technology platform, consulting services orboth. We recognize revenues related to the transfer of the technology platformupon delivery and acceptance by the customer, which entitles us to the initialfee and eliminates any further obligations under the agreement.  We recognize revenue related to consultingservices as earned, typically based on time committed to the project.

 

***Allowance for Doubtful Accounts***

 

We estimate our allowance for doubtfulaccounts based on an assessment of the collectibility of specific accounts andthe overall condition of the accounts receivable portfolio. When evaluating theadequacy of the allowance for doubtful accounts, we analyze specific trade andother receivables, historical bad debts, customer credits, customerconcentrations, customer credit-worthiness, current economic trends and changesin customers’ payment terms and/or patterns. If the financial condition of ourcustomers were to deteriorate, resulting in an impairment of their ability tomake additional payments, then we may need to make additional allowances.Likewise, if we determine that we could realize more of our receivables in thefuture than previously estimated, we would adjust the allowance to increaseincome in the period we made this determination. We review the allowance fordoubtful accounts on a quarterly basis and record adjustments as deemednecessary.

 

***Inventory Valuation***

 

We record inventories at the lower of cost ormarket value.  We assess the value of ourinventories periodically based upon numerous factors including expected productor material demand, current market conditions, technological obsolescence,current cost and net realizable value. If necessary, we adjust our inventoryfor estimated obsolescence or unmarketable inventory equal to the differencebetween the cost of the inventory and the estimated market value. Likewise, werecord an adverse purchase commitment liability when anticipated market salesprices are lower than committed costs. If actual market conditions are lessfavorable than what we projected, then we may need to record additionalinventory adjustments and adverse purchase commitments.

 

***Income Taxes***

 

We estimate our tax liabilitybased on current tax laws in the statutory jurisdictions in which we operate. Theseestimates include judgments about deferred tax assets and liabilities resultingfrom temporary differences between assets and liabilities recognized forfinancial reporting purposes and such amounts recognized for tax purposes, aswell as about the realization of deferred tax assets. If we cannot realizecertain deferred tax assets or if the tax laws change unfavorably, we couldexperience potential significant losses in excess of provisions established.Likewise, if we can realize additional

 

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deferred tax assets or if tax laws changefavorably, we could experience potential significant gains.

 

***Warranty Obligations***

 

We generally provide a three year advance replacementreturn-to-factory warranty on our NEO SERIES, PowerLoader and LoaderXpressproducts.  We also provide on-siteservice for the first warranty year of the NEO SERIES products for which wecontract with third-party service providers. For most products, we offer a program called XchangeNOW as part of ourreturn-to-factory warranty which enables customers to receive an advancereplacement unit shipped within two business days after placing a servicerequest.  Separately priced on-sitewarranties are offered for sale to customers of other product lines.

 

We provide for the estimatedcost of product warranties at the time revenue is recognized. While we engagein extensive product quality programs and processes, including activelymonitoring and evaluating the quality of our component suppliers, our warrantyobligation is affected by product failure rates and material usage or servicedelivery costs incurred in correcting a product failure. If actual productfailure rates, material usage or service delivery costs differ from ourestimates, then we would need to revise the estimated warranty liability.

 

***Impairment of Assets***

 

We also consider potential impairment of bothtangible and intangible assets when circumstances indicate that the carryingamount of an asset may not be recoverable. In such circumstances, we may incurmaterial charges relating to the impairment of such asset.  We would measure any required impairment lossas the amount by which the asset’s carrying value exceeds its fair value and wewould record it as a reduction in the carrying value of the related assets andcharge it to results of operations.

 

**Resultsof Operations**

** **

The following tables set forth certain financial data as a percentageof net revenues:

 

| ** **                  | ** ** | **Fiscal Years Ended June 30,** | ** ** |
|-----------------------------|------------|--------------------------------------|------------|
| ** **                  | ** ** | **2004**                             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net revenues                |       | 100.0                                | %          | 100.0 | % | 100.0 | % |
| Cost of revenues            |       | 72.9                                 | %          | 72.4 | % | 74.0 | % |
| Gross profit                |       | 27.1                                 | %          | 27.6 | % | 26.0 | % |
| Operating expenses:         |       |                                 |       |   |   |   |   |
| Sales and marketing         |       | 13.0                                 | %          | 13.6 | % | 12.9 | % |
| Research and development    |       | 3.0                                  | %          | 3.8 | % | 4.0 | % |
| General and administrative  |       | 4.6                                  | %          | 4.9 | % | 5.1 | % |
|                        |       | 20.6                                 | %          | 22.3 | % | 22.0 | % |
| Income from operations      |       | 6.5                                  | %          | 5.3 | % | 4.0 | % |
| Other (expense) income, net |       | 0.3                                  | %          | (0.1 | )% | 0.2 | % |
| Income before income taxes  |       | 6.8                                  | %          | 5.2 | % | 4.2 | % |
| Provision for income taxes  |       | 2.3                                  | %          | 1.8 | % | 1.4 | % |
| Net income                  |       | 4.5                                  | %          | 3.4 | % | 2.8 | % |

 

**Fiscal Year 2004 Compared to Fiscal Year 2003**

 

***Net Revenues*.**Net revenues of $238.1 million in fiscalyear 2004 were $42.2 million or 21.6% above net revenues of$195.9 million in fiscal year 2003. This revenue growth was driven byincreased unit sales and generally reflects the continued strong performance ofour NEO SERIES line of tape library products. Sales within our Library productlines (NEO,

 

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LibraryXpress®, LibraryPro®, Loaders andPowerLoaders) grew 18.9% to $189.8 million, compared to$159.6 million in fiscal year 2003. Fiscal year 2004 sales to OEMcustomers were up 22.5 % when compared to fiscal year 2003.  The increase in revenue from our OEM customerswas driven largely by depressed quarters in the first part of fiscal year 2003due to the uncertainty surrounding the HP/Compaq merger.  While post merger quarterly revenues steadilygrew to a peak in the second quarter of fiscal year 2004, revenues from HP havedeclined slightly from this peak in the second half of the year.  Sales to HP accounted for 58.8% of total netrevenues in fiscal year 2004, compared to 58.4% in fiscal year 2003.

 

Net revenues from Overlandbranded products during the fiscal year 2004 grew 20.5% over fiscal year 2003from $65.9 million to $79.4 million. This increase reflects our increased focuson the Overland branded channel over the past two years.  Sales of Overland branded library productsincreased 16.7% over fiscal year 2003, driven primarily by NEO SERIES libraryrevenues with the largest increase coming from our domestic customers.  Also contributing to the increase in brandedchannel results was revenue of $1.7 million generated from our disk-based REOproducts.  Partially offsetting theseincreases was a 3.0% decrease in revenues from loader products.

 

Net revenues from spare parts of$27.7 million in fiscal year 2004 were $7.1 million or 34.4% abovenet revenues of $20.6 million in fiscal year 2003.  This increase was driven primarily by our OEMcustomers.

 

VR2 revenues duringfiscal year 2003 amounted to $3.8 million and were comprised of chip sales of$2.0 million, engineering service fees of $50,000 and royalties of $1.7million. VR2 revenues during fiscal year 2003 amounted to $3.5million and were comprised of chip sales of $785,000, engineering service feesof $775,000 and royalties of $1.9 million.

 

In fiscal year 2005, we project total revenueto grow approximately 10%.  Thisprojection includes only existing OEM customers.  We are competing for new OEM business, and ifwe are successful, our revenue projections would be expected to increase.  This projection reflects an estimate of 3%growth in our tape automation business and significant growth in sales of ourREO disk-based appliance products, which we expect will comprise about 8% ofour total revenue in fiscal year 2005. This projection of growth is subject to risks and uncertainties morefully discussed under the heading “Risk Factors” above, including but notlimited to those under the heading “Our financial results may fluctuatesubstantially for many reasons, and past results should not be relied on asindications of future performance.

 

A summary of the sales mix byproduct for the periods presented in the statement of operations follows:

 
| ** **                 | ** ** | **Fiscal Years Ended June 30,** | ** ** |
|----------------------------|------------|--------------------------------------|------------|
| ** **                 | ** ** | **2004**                             | ** ** | **2003** | ** ** | **2002** | ** ** |
| LibraryXpress products:    |       |                                 |       |   |   |   |   |
| NEO SERIES                 |       | 68.8                                 | %          | 66.1 | % | 43.5 | % |
| Loaders                    |       | 4.5                                  | %          | 7.0 | % | 8.9 | % |
| PowerLoader                |       | 5.8                                  | %          | 8.3 | % | 11.2 | % |
| LibraryXpress              |       | 0.6                                  | %          | 0.0 | % | 15.7 | % |
|                       |       | 79.7                                 | %          | 81.4 | % | 79.3 | % |
|                       |       |                                 |       |   |   |   |   |
| Spare parts, drives, other |       | 18.0                                 | %          | 16.8 | % | 14.6 | % |
| Disk-based                 |       | 0.7                                  | %          | 0.0 | % | 0.0 | % |
| Discontinued products      |       | 0.0                                  | %          | 0.0 | % | 4.5 | % |
| VR2                        |       | 1.6                                  | %          | 1.8 | % | 1.6 | % |
|                       |       | 100.0                                | %          | 100.0 | % | 100.0 | % |

 

***Gross Profit***.  Gross profitamounted to $64.7 million in fiscal year 2004, an increase of $10.7 million or19.7% from $54.0 million in fiscal year 2003, resulting from a combination ofhigher sales volumes somewhat offset by slightly lower gross margins.  The gross margin percentage decreasedslightly to 27.1% in fiscal year 2004, down from 27.6% in fiscal year2003.  The decrease in gross marginpercentage was due primarily to $1.8 million of amortization related to theOkapi technology asset.  We alsoexperienced higher warranty costs during fiscal year 2004 as our domesticwarranty policy, which includes one year of on-site warranty with the purchaseof many of our products, was extended to our European customers.  Although product mix and channel mix hadlittle effect on the gross margin percentage when compared to the prior year,the

 

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increased costs discussed above were partially offset as material costreductions outpaced average selling price degradation during fiscal year 2004and our pool of relatively fixed overhead costs was spread across a largerrevenue base.  In fiscal year 2005, weexpect our gross margin percentage to improve over the course of the year andapproach 30% by the fourth quarter.  Thisprojection reflects anticipated rapid growth in sales of our REO products, allof which are expected to be sold on a higher-margin branded basis rather thanthrough a combination of OEM and branded customers.  This expectation of gross margin is subjectto risks and uncertainties more fully discussed under the heading “RiskFactors” above, including but not limited to those under the heading “Our newdisk-based products involve many significant risks.”

 

***Sales and Marketing Expenses***.  Sales and marketing expenses amounted to$30.9 million, representing 13.0% of net revenues in fiscal year 2004, comparedto $26.7 million or 13.6% of net revenues in fiscal year 2003. The increasedexpenditures resulted primarily fromsalary and related expenses associated with the expansion of our Overlandbranded sales force, increased spending associated with lead generationactivities and increased market development funding related to our OEMcustomers.  Also contributing to theincrease were incremental expenses associated with promoting awareness aroundour disk-based products launched in early fiscal year 2004.  We expect sales and marketing expenses infiscal year 2005 to grow approximately 17% over the prior year as we expendadditional funds to promote and sell our new REO products.

 

***Research and Development Expenses.* **R&D expenses amounted to $7.3 millionor 3.0% of net revenues in fiscal year 2004, compared to $7.4 million or 3.8%of net revenues in fiscal year 2003. Thisdecrease in absolute dollars was due to the elimination of expenses forour wound down Longmont operations combined with the restructure of ouradvanced research group during the fourth quarter of fiscal year 2003.  Also, the fiscal year 2003 period included anadjustment to the accrued restructuring charges for the Longmont facility thatdid not repeat in fiscal year 2004. Offsetting these decreases were increased salaries and related costsassociated with our disk-based development team and increased developmentexpenses associated with our NEO8000 and future tape based products.  In fiscal year 2005, we plan to significantlyincrease our REO development team to ensure a steady flow of new products.  We also expect to incur costs for thedevelopment of a new tape automation library. Consequently, we expect fiscal year 2005 R&D expense to grow 30%over the prior year.

 

***General and Administrative Expenses***.  General and administrative expenses amountedto $10.9 million or 4.6% of net revenues in fiscal year 2004, compared to $9.6million or 4.9% of net revenues in fiscal year 2003.  This increase was due primarily toincremental legal fees associated with the Raytheon lawsuit, which was settledin the fourth quarter of fiscal year 2004. Also contributing to the increase were consulting fees associated withSarbanes-Oxley compliance and corporate strategy development.  We expect relatively small growth in generaland administrative expenses in fiscal year 2005.

 

***Interest Income***.  In fiscal year 2004, we generated interestincome of $601,000, compared to interest income of $427,000 in fiscal year2003.  The increase was due to higheraverage cash balances.  We expectpositive cash flow in fiscal year 2005 which, absent rate declines, shouldresult in increased interest income.

 

***Interest Expense***.  In fiscal year 2004, we incurred interestexpense of $68,000, compared to interest expense of $212,000 in fiscal year2003.  This decrease of interest expensewas due to the repayment of all outstanding balances on our long-term debtarrangement in the second quarter of fiscal year 2004.  We do not expect to borrow in fiscal year2005 and consequently should not incur any material interest expense.

 

***Other Expense/Income***.  In fiscal year 2004, we generated net otherincome of $68,000, compared to net other expense of $332,000 in fiscal year2003.  These amounts primarily relate toforeign currency transaction fluctuations related to our United Kingdomoperations.

 

***Income Taxes***.  Our fiscal year 2004 provision for statefederal and foreign income taxes amounted to $5.6 million.  This equated to an effective tax rate of34.4% in fiscal year 2004, flat when compared to fiscal year 2003.  As pretax income increases and we move into ahigher marginal tax rate and with the expiration of the Federal R&D taxcredit, we expect our tax rate forwarding future periods to increase somewhat.

 

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**Fiscal Year 2003 Compared to Fiscal Year 2002**

 

***Net Revenues*.**Net revenues of $195.9 million in fiscalyear 2003 were $32.5 million or 19.9% above net revenues of$163.4 million in fiscal year 2002. This revenue growth reflects the continuedstrong performance of our NEO SERIES line of tape library products. Saleswithin our Library product lines (NEO, LibraryXpress, LibraryPro, Loaders andPowerLoaders) grew 23.2% to $159.6 million, compared to$129.6 million in fiscal year 2002. Fiscal year 2003 sales to OEMcustomers were up 16.6 % when compared to fiscal year 2002.  The increase in revenue from our OEMcustomers was driven by the increase in revenues from HP as a result of ourproduct replacing HP’s legacy product subsequent to the completion of theHP/Compaq merger. Sales to HP accounted for 58.4% of total net revenues infiscal year 2003, compared to 62.5% in fiscal year 2002.

 

Net revenues from Overlandbranded products during the fiscal year 2003 grew 16.6% over fiscal year 2002from $56.5 million to $65.9 million. Excluding the 36-track andDAT/Travan/Ditto products that we no longer sell, branded sales were up 23.5%over fiscal year 2002. This increase reflects our increased focus on theOverland branded channel over the past year. Sales of Overland branded library products increased 42.7% over fiscalyear 2002, driven by NEO SERIES library and loader revenues with the largestincrease coming from our domestic customers with additional increases coming inthe form of a new large customer in the Asia Pacific region.  Partially offsetting these increases were adecrease in sales of PowerLoader products, primarily as a result of a few largeone-time orders within our European channel in the prior year, and a decreasein revenues from our Asian region related to the discontinuation of our36-track products.

 

Net revenues from spare parts of$20.6 million in fiscal year 2003 were $2.9 million or 16.4% abovenet revenues of $17.7 million in fiscal year 2002. This increase wasdriven primarily by our OEM customers.

 

VR2 revenues duringfiscal year 2003 amounted to $3.5 million and were comprised of chip sales of$785,000, engineering service fees of $775,000 and royalties of $1.9 million.VR2 revenues during fiscal year 2002 amounted to $2.6 million andwere comprised of chip sales of $1.2 million, engineering service fees of $1.0million and royalties of $431,000.

 

During the third quarter offiscal year 2002 we made the final shipments of our legacy 36-track products aslow product demand prompted us to shift the products to end-of-life status.Sales of the discontinued 36-track and DAT/Travan based products were zero infiscal year 2003 compared to $7.2 million in fiscal year 2002.

 

***Gross Profit***.  Gross profit amounted to $54.0 million in fiscalyear 2003, an increase of $11.6 million or 27.3% from $42.4 million infiscal year 2002, resulting from a combination of higher sales volumes andhigher product margins.  The gross marginpercentage increased to 27.6% in fiscal year 2003, up from 26.0% in fiscal year2002.  The lower margin in fiscal year2002 was due primarily to the high cost of the initial production volumes ofthe NEO SERIES products.  The increase inthe gross margin percentage during fiscal year 2003 was primarily due tomaterial cost reductions across all products, increasing production volumes ofthe NEO SERIES products, a slightly higher concentration of Overland brandedproduct and an increase in VR2 license and chip revenues which carrya significantly higher margin than our revenue from product sales.  Partially offsetting these cost reductionsand the favorable channel mix were the unfavorable channel mix of lower marginNEO SERIES products versus the higher margin LibraryXpress products and anincrease in warranty expense as the installed base of Overland branded unitsincreases.

 

***Sales and Marketing Expenses***.  Sales and marketing expenses amounted to$26.7 million, representing 13.6% of net revenues in fiscal year 2003, comparedto $21.0 million or 12.9% of net revenues in fiscal year 2002. The increasedexpenditures resulted primarily from salary and related expenses associatedwith the expansion of our Overland branded sales force, increased spendingassociated with lead generation activities, increased market developmentfunding related to our OEM customers, the enhancement of our internal marketingteam, and incremental expenses associated with our software products.

 

                                                ***Research and Development Expenses.* **R&D expenses amounted to $7.4 millionor 3.8% of net revenues in fiscal year 2003, compared to $6.6 million or 4.0%of net revenues in fiscal year 2002. Thisincrease in absolute dollars was due primarily to the incremental costsassociated with our advanced engineering team that was launched late in thefourth quarter of fiscal year 2002.  Bothperiods include an adjustment in our estimated liability related to the closureof our Longmont, Colorado R&D facility. All remaining lease payments on our Longmont facility were accrued infull during the third quarter of fiscal year 2003.

 

***General and Administrative Expenses***.  General and administrative expenses amountedto $9.6 million or 4.9% of net revenues in fiscal year 2003, compared to $8.4million or 5.1% of net revenues in fiscal year 2002.  This increase was due

 

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primarily to an increase in salary, bonus and related benefitsexpenses, which included the addition of our Storage Resources Business UnitGeneral Manager and the absence of a Vice President of Human Resources during aportion of the prior year.  Alsocontributing to this increase were the incremental legal fees associated withthe Raytheon lawsuit defense and increased insurance premiums.

 

***Interest Income***.  In fiscal year 2003, we generated interestincome of $427,000, compared to interest income of $355,000 in fiscal year2002.  The increase was due to higheraverage cash balances.

 

***Interest Expense***.  In fiscal year 2003, we incurred interestexpense of $212,000, compared to interest expense of $86,000 in fiscal year2002.  The increase was the result ofhigher average balances outstanding on our long-term debt arrangement.

 

***Other Expense/Income***.  In fiscal year 2003, we generated net otherexpense of $332,000, compared to net other income of $54,000 in fiscal year2002.  These amounts primarily relate toforeign currency transaction fluctuations related to our United Kingdomoperations.

 

***Income Taxes***.  Our fiscal year 2003 provision for statefederal and foreign income taxes amounted to $3.5 million.  This equated to an effective tax rate of34.4% in fiscal year 2003, up slightly from 34.3% in fiscal year 2002.  The increase in the effective tax rate fromthe prior year was due primarily to smaller, as a percentage of taxable income,research and development tax credits.

 

**Liquidity and Capital Resources**

 

At June 30, 2004, we had $69.7 million of cash,cash equivalents and short-term investments and our unused bank line of creditof $10 million.  We believe thatthese resources will be sufficient to fund our operations and to provide forour growth for the next twelve months and into the foreseeable future.  We have no other unused sources of liquidityat this time.

 

Our primary source of liquidity hashistorically been cash generated from operations. In the fourth quarter offiscal year 2003, we raised an aggregate of $20.6 million in net proceedsthrough the sale of our common stock.  Inaddition, during fiscal year 2002, we supplemented cash generated fromoperations by borrowing on a term loan under our credit facility to fund tenantimprovements and equipment purchases for our new headquarter facilities.

 

Cash provided by operating activities was $14.6 million for fiscal year2004, $9.0 million for fiscal year 2003 and $15.1 million for fiscal year2002.  The growth in operating cash flowin fiscal year 2004 resulted from significantly improved profitability comparedto fiscal year 2003, a decrease in inventories resulting from better supplychain and buffer inventory management, as well as a larger tax benefit from anincreased volume of stock option exercises. Offsetting this was the use of operating cash to fund an increase inincome taxes receivable and prepaid third-party warranty contracts and adecrease in accounts payable.  Theincrease of income taxes receivable was primarily a result of the tax benefitreceived from the exercise of stock options. The increase in prepaid third-party warranty contracts is a result of anincreased focus on the sale of warranty upgrades and renewals.  In fiscal year 2003, operating cash flowswere provided by increases in accounts payable and income taxes payable, netincome, depreciation and amortization and tax benefits from the exercise ofstock options.  In fiscal year 2003,operating cash was used to fund an increase in accounts receivable andinventories.  These increases in accountsreceivable, inventory and accounts payable were related to increases in sales,primarily to HP.  In fiscal year 2002,operating cash was provided by a decrease in inventories, net income, adecrease in accounts receivable and depreciation and amortization.  Partially offsetting this cash provided byoperations was a decrease in accounts payable and accrued other liabilities.  During the fourth quarter of fiscal year2002, the uncertainty surrounding the acquisition of Compaq by HP resulted in aperiod of slowing sales and the related reduction in accounts receivable.

 

Cash used in investing activities was $13.4 million for fiscal year2004, $3.7 million for fiscal year 2003 and $6.5 million for fiscal year2002.  During fiscal year 2004 wepurchased $11.8 million of marketable debt securities and received proceeds of$543,000 from the maturity of marketable debt securities.  Capital expenditures during fiscal year 2004of $2.1 million were comprised primarily of computer and relatedequipment.  During fiscal year 2003, weinvested cash of $2.4 million, in addition to issuing 134,551 shares ofOverland common stock, to acquire the Okapi assets.  Capital expenditures in fiscal year 2003amounted to $1.4 million and were comprised primarily of computers and relatedequipment.  During fiscal year 2002,capital expenditures were comprised primarily of tenant improvements andmachinery and equipment related to the construction of our new headquarter facilities.  We expect capital expenditures in fiscal year2005 of between $2 million and $3 million, consisting primarily of productiontools related to new products and computers and related equipment.

 

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Cash provided by financing activities was $2.3 million for fiscal year2004, $22.7 million for fiscal year 2003 and $7.4 million for fiscal year2002.  During fiscal year 2003 wereceived proceeds of $20.6 million from the issuance of common stock sold in aprivate placement.  Proceeds from theissuance of common stock under our Employee Stock Purchase Plan and theexercise of stock options were $6.3 million, $2.8 million and $2.8 million infiscal year 2004, 2003 and 2002, respectively. During fiscal year 2002, we borrowed $4.7 million under a term noteagreement to fund capital expenditures associated with the construction of ournew headquarter facilities.  Duringfiscal year 2003, principal payments of $698,000 were made towards the termnote and in fiscal year 2004 the outstanding balance of $4.0 million was paidin full.

 

We have a credit facility consisting of a$10,000,000 revolving line of credit for working capital purposes that expireson November 30, 2004.  The line of creditis collateralized by a general security interest in our assets.  Interest on the line of credit is set at thebank’s prime rate (4.00% on June 30, 2004) in effect from time to time minus0.25% or, at our option, a rate equal to LIBOR plus 2.25%.  The credit facility requires us to complywith several financial and non-financial covenants.  At June 30, 2004, we were in compliance withall covenants under the facility and we expect to remain in compliance throughthe term of the agreement.  A violationof one or more of these covenants would constitute a default under the creditfacility, which would enable the lender, at its option without notice, toaccelerate all then outstanding indebtedness under the credit facility and/orterminate the lender’s obligation to extend credit under the creditfacility.  At June 30, 2004, no amountswere outstanding under the line of credit.

 

In August 2004, the Board of Directors authorized the purchase ofup to $10,000,000 of our common stock on the open market or through negotiatedtransactions. This repurchase authority allows us, at management’s discretion,to selectively repurchase our common stock from time to time in the open marketor in privately negotiated transactions depending on market price and otherfactors. The share repurchase authorization has no stated expiration date.

 

**Off-Balance Sheet Arrangements**

 

We have no off-balance sheet arrangements orsignificant guarantees to third parties not fully recorded in our BalanceSheets or fully disclosed in our Notes to Consolidated Financial Statements.

 

**Contractual Obligations**

 

The followingschedule summarizes our contractual obligations to make future payments asof June 30, 2004 (in thousands)**:**

 
| ** **                         | ** ** | **Payments Due by Period** | ** ** |
|------------------------------------|------------|----------------------------|------------|
| **Contractual  Obligations**       | ** ** | **Total**                  | ** ** | **Less than  1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **After 5  years** | ** ** |
|                               |       |                       |       |   |   |   |   |   |   |   |   |
| Operating Leases                   |       | $                          | 34,029     |   | $ | 3,284 |   | $ | 6,437 |   | $ | 6,592 |   | $ | 17,716 |   |
| Purchase Obligations               |       | 12,900                     |       | 12,900 |   | — |   | — |   | — |   |
| Total Contractual Cash Obligations |       | $                          | 46,929     |   | $ | 16,184 |   | $ | 6,437 |   | $ | 6,592 |   | $ | 17,716 |   |

 

**Inflation**

 

Inflation has not had a significant impact on our operations during theperiods presented.  Historically we havebeen able to pass on to our customers’ increases in raw material prices causedby inflation.  If at any time cannot passon such increases, our margins could suffer. Our exposure to the effects of inflation could be magnified by theconcentration of OEM business.

 

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**ITEM 7A.  *Quantitativeand Qualitative Disclosures about Market Risk***

 

Market risk represents the risk of loss that may impact our financialposition, results of operations or cash flows due to adverse changes infinancial and commodity market prices and rates.  We are exposed to market risk in the areas ofchanges in United States interest rates and changes in foreign currencyexchange rates as measured against the U.S. dollar.  These exposures are directly related to ournormal operating and funding activities. Historically, we have not usedderivative instruments or engaged in hedging activities.

 

***Interest Rate Risk.***** **All of our fixed income investments are classified asavailable-for sale and therefore reported on the balance sheet at marketvalue.  Changes in the overall level ofinterest rates affect our interest income that is generated from ourinvestments.  For fiscal 2004, totalinterest income was $601,000 with investments yielding an annual average of1.03% on a worldwide basis.  The interestrate level was down approximately 86 basis points from 1.89% in fiscal 2003.  If a similar decline in overall interestrates (86 basis points) were to occur in fiscal 2005, our interest income woulddecline approximately $600,000, assuming consistent investment levels.

 

The table below presents, the cash, cash equivalents and short-terminvestment balances, related weighted average interest rates and maturities forour investment portfolio at June 30, 2004. The cash, cash equivalent and investment balances approximate fair valueat June 30, 2004 (in thousands):

 
| ** **                                    | ** ** | **Approximate  Market value** | ** ** | **Weighted Average  Interest Rate** | ** ** |
|-----------------------------------------------|------------|-------------------------------|------------|-------------------------------------|------------|
|                                          |       |                          |       |                                |       |
| Cash and cash equivalents                     |       | $                             | 58,422     |                                | 1.00       | % |
| Short-term investments (91 days - 2 years)    |       | 11,235                        |       | 2.52                                | %          |
|                                          |       |                          |       |                                |       |
| Total cash, cash equivalents and  investments |       | $                             | 69,657     |                                | 1.24       | % |

 

The table above includes the United States dollar equivalent of cash,cash equivalents and short-term investments, including $851,000, and $190,000equivalents denominated in the British Pound Sterling and the Euro,respectively.

 

***Foreign Currency Risk.***** **We conduct business on a global basis and essentiallyall of our products sold in international markets are denominated in U.S.dollars.  Historically, export sales haverepresented a significant portion of our sales and are expected to continue torepresent a significant portion of sales.

 

Our wholly-owned subsidiaries in the United Kingdom,France and Germany incur costs and maintain inter-company balances which aredenominated in local currencies.  Asexchange rates vary, these results when translated into U.S. dollars may varyfrom expectations and adversely impact overall expected results.  The effect of exchange rate fluctuations onour results during fiscal year 2004 was not material.

 

**ITEM 8.   *FinancialStatements and Supplementary Data***

 

Our consolidated financial statements and supplementary data requiredby this item are set forth at the pages indicated in Item 15(a)(1) and15(a)(2), respectively.

 

**ITEM 9.   *Changes inand Disagreements with Accountants on Accounting and Financial Disclosure***

 

None.

 

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**ITEM 9A.   *Controls andProcedures***

 

Wemaintain disclosure controls and procedures designed to ensure that materialinformation related to Overland, including our consolidated subsidiaries, isrecorded, processed, summarized and reported within the time periods specifiedin the SEC rules and forms.

 

(a)          Asof the end of the period covered by this report, we carried out an evaluationunder the supervision and with the participation of management, including ourChief Executive Officer and Chief Financial Officer, of the effectiveness ofthe design and operation of our disclosure controls and procedures (as definedin Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934).Based upon that evaluation, our Chief Executive Officer and Chief FinancialOfficer concluded, as of the date of such evaluation, that the design andoperation of such disclosure controls and procedures were effective.

 

(b)         No significant changes were made in ourinternal controls over financial reporting (as defined in Rules 13a-15(f) and15d-15(f) of the Exchange Act) during our most recent fiscal quarter.

 

*Limitations of Disclosure Controls and Procedures.*

* *

Our management, includingour chief executive officer and chief financial officer, does not expect thatour disclosure controls or internal control over financial reporting willprevent all errors or all instances of fraud. A control system, no matter howwell designed and operated, can provide only reasonable, not absolute,assurance that the control system’s objectives will be met. Further, the designof a control system must reflect the fact that there are resource constraints,and the benefits of controls must be considered relative to their costs.Because of the inherent limitations in all control systems, no evaluation ofcontrols can provide absolute assurance that all control issues and instancesof fraud, if any, within our company have been detected. These inherentlimitations include the realities that judgments in decision-making can befaulty, and that breakdowns can occur because of simple error or mistake.Controls can also be circumvented by the individual acts of some persons, bycollusion of two or more people, or by management override of the controls. Thedesign of any system of controls is based in part upon certain assumptionsabout the likelihood of future events, and any design may not succeed inachieving its stated goals under all potential future conditions. Over time,controls may become inadequate because of changes in conditions ordeterioration in the degree of compliance with policies or procedures. Becauseof the inherent limitation of a cost-effective control system, misstatementsdue to error or fraud may occur and not be detected.

 

**ITEM 9B.   *OtherInformation***

 

None.

 

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**PART III**

 

**ITEM 10.  *Directorsand Executive Officers of the Registrant***

 

The information required by this item is included under the captionsentitled “Election of Directors”, “Executive Officers”, and “Section 16(a)Beneficial Ownership Reporting Compliance” in our Proxy Statement to be filedfor our 2004 Annual Meeting of Shareholders and is incorporated herein byreference.

 

We have adopted the Overland Storage, Inc. Code of Business Conduct andEthics, a code of ethics and conduct that applies to our directors, officersand employees.  A copy of the Code ofBusiness Conduct and Ethics is publicly available on our website atwww.overlandstorage.com, and is attached as an exhibit to this Report. If wemake any substantive amendments to the Code of Business Conduct and Ethics orgrant any waiver from a provision of the code applying to our principalexecutive officer or our principal financial or accounting officer, we willdisclose the nature of such amendment or waiver on our website or in a reporton Form 8-K.

 

**ITEM 11.****                      *Executive Compensation***

 

The information required by this item is included under the captionentitled “Compensation of Executive Officers”, “Non-Employee DirectorCompensation” and “Report of the Compensation Committee of the Board ofDirectors on Executive Compensation” in our Proxy Statement to be filed for our2004 Annual Meeting of Shareholders and is incorporated herein by reference.

 

**ITEM 12.****                      *Security Ownership of Certain Beneficial Owners and Management***

 

The information required by this item is includedunder the caption entitled “Security Ownership of Certain Beneficial Owners andManagement” in our Proxy Statement to be filed for our 2004 Annual Meeting ofShareholders and is incorporated herein by reference.

 

**ITEM 13.****                      *Certain Relationships and Related Transactions***

 

                                                Theinformation required by this item is included under the caption entitled“Certain Relationships and Related Transactions” in our Proxy Statement to befiled for our 2004 Annual Meeting of Shareholders and is incorporated herein byreference.

 

**ITEM 14.****                      *Principal Accountant Fees and Services***

 

The information required by this item is included under the captionentitled “Principal Accountant Fees and Services” in our Proxy Statement to befiled for our 2004 Annual Meeting of Shareholders and is incorporated herein byreference.

 

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**PARTIV**

** **

**ITEM 15.****                      *Exhibits and Financial Statement Schedules***

 

(a)(1) **Financial Statements**.  The following Consolidated FinancialStatements of Overland Storage, Inc. and Report of Independent RegisteredPublic Accounting Firm are included in a separate section of this Reportat the page numbers so indicated:

 

| Report of Independent Registered Public  Accounting Firm                                                                          |   |
|-----------------------------------------------------------------------------------------------------------------------------------|--------|
| Consolidated Balance Sheet as of June 30, 2004 and 2003                                                                      |   |
| Consolidated Statement of Operations for  the Years Ended June 30, 2004, 2003 and 2002                                       |   |
| Consolidated Statement of Shareholders’  Equity and Comprehensive Income for Years Ended June 30, 2004, 2003, and  2002 |   |
| Consolidated Statement of Cash Flows for  the Years Ended June 30, 2004, 2003 and 2002                                       |   |
| Notes to Consolidated Financial Statements                                                                                        |   |

 

(a)(2)  **FinancialStatement Schedule.**  Thefollowing financial statement schedule of Overland Storage, Inc. for theyears ended June 30, 2004, 2003 and 2002 is filed as part of this Report onthe page number so indicated and should be read in conjunction with theConsolidated Financial Statements of Overland Storage, Inc.:

 

| Schedule II - Valuation and Qualifying  Accounts |   |
|-------------------------------------------------------|--------|

 

 Schedules not listed above havebeen omitted because they are not applicable or are not required or theinformation required to be set forth therein is included in the ConsolidatedFinancial Statements or Notes thereto.

 

(a)(3)  **Exhibits**

 
| 2.1    |   | Agreement  and Plan of Merger dated June 20, 2003 by and among Overland, Okapi  Acquisition Co., Inc. and Okapi Software, Inc. (15) ++             |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                    |
| 3.1    |   | Overland’s  Amended and Restated Articles of Incorporation. (11)                                                                                   |
|   |   |                                                                                                                                                    |
| 3.2    |   | Overland’s  Amended and Restated Bylaws. (16)                                                                                                      |
|   |   |                                                                                                                                                    |
| 4.1    |   | Specimen  stock certificate. (11)                                                                                                                       |
|   |   |                                                                                                                                                    |
| 4.2    |   | Form of  Purchase Agreement dated May 12, 2003 by and between Overland and Purchaser  of Common Stock in Private Placement Transaction. (14)            |
|   |   |                                                                                                                                                    |
| 10.1   |   | Build-to-Suit  Single Tenant Lease dated October 12, 2000 by and between Overland and  LBA-VIF One, LLC. (5)                                       |
|   |   |                                                                                                                                                    |
| 10.2   |   | First  Amendment to Lease dated January 18, 2001 by and between Overland and  LBA Overland, LLC, as successor-in-interest to LBA-VIF One, LLC. (8) |
|   |   |                                                                                                                                                    |
| 10.3   |   | Second  Amendment to Lease dated March 8, 2001 by and between Overland and LBA  Overland, LLC. (8)                                                 |
|   |   |                                                                                                                                                    |
| 10.4   |   | Business  Loan Agreement dated November 28, 2001 by and between Overland and  Comerica Bank-California. (10)                                       |
|   |   |                                                                                                                                                    |
| 10.5   |   | Security  Agreement dated November 28, 2001 by and between Overland and Comerica  Bank-California. (10)                                            |
|   |   |                                                                                                                                                    |
| 10.6   |   | Master  Revolving Note dated November 28, 2001 by and between Overland and  Comerica Bank-California. (10)                                         |
|   |   |                                                                                                                                                    |
| 10.7   |   | Variable  Rate-Single Payment Note dated November 28, 2001 by and between Overland  and Comerica Bank-California. (10)                             |

 

28

----

 
| 10.8   |   | First  Modification to Business Loan Agreement dated August 13, 2002 by and  between Overland and Comerica Bank-California. (12)                    |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                     |
| 10.9   |   | Loan  Modification to Business Loan Agreement dated August 30, 2002 by and  between Overland and Comerica Bank-California.                          |
|   |   |                                                                                                                                                     |
| 10.10  |   | Second Modification to Business Loan Agreement and Addendum A dated  September 10, 2003 by and between Overland and Comerica Bank-California.  (18) |
|   |   |                                                                                                                                                     |
| 10.11  |   | Loan  Revision/Extension Agreement dated September 10, 2003 by and between  Overland and Comerica Bank-California. (18)                             |
|   |   |                                                                                                                                                     |
| 10.12  |   | Design  Purchase and Services Agreement dated June 15, 2001 by and between Overland  and Seagate Removable Storage Solutions LLC. (7) +             |
|   |   |                                                                                                                                                     |
| 10.13  |   | Supply  Agreement dated June 15, 2001 by and between Overland and Seagate  Removable Storage Solutions LLC. (7) +                                   |
|   |   |                                                                                                                                                     |
| 10.14  |   | VR2  Technology License Agreement dated April 27, 2000 by and between  Overland and Storage Technology Corp. (2) +                                  |
|   |   |                                                                                                                                                     |
| 10.15  |   | Amendment to  VR2 Technology License Agreement dated June 18, 2002 by and  between Overland and Storage Technology Corp. (11) +                     |
|   |   |                                                                                                                                                     |
| 10.16  |   | Second Amendment to VR2 Technology License Agreement dated  November 7, 2003 by and between Overland and Storage Technology Corp. +  (18)           |
|   |   |                                                                                                                                                     |
| 10.17  |   | Amendment  Three to VR2 Technology License Agreement dated March 29,  2004 by and between Overland and Storage Technology Corp. +                   |
|   |   |                                                                                                                                                     |
| 10.18  |   | Corporate  Purchase Agreement dated June 7, 2000 by and between Overland and Compaq  Computer Corporation and its Affiliates. (3) +                 |
|   |   |                                                                                                                                                     |
| 10.19  |   | Base  Agreement #4902RL1317 dated November 1, 2002 between Overland and  International Business Machines Corporation. (18) +                        |
|   |   |                                                                                                                                                     |
| 10.20  |   | Product  Purchase Agreement No. 1585-042103 dated July 31, 2003 between Overland  and Hewlett Packard Company. (18) +                               |
|   |   |                                                                                                                                                     |
| 10.21* |   | Form of  Indemnification Agreement entered into by and between Overland and each of  its directors and officers. (10)                                    |
|   |   |                                                                                                                                                     |
| 10.22* |   | Form of  Retention Agreement entered into by and between Overland and each of its  executive officers. (8)                                               |
|   |   |                                                                                                                                                     |
| 10.23* |   | Employment  Agreement dated March 12, 2001 by and between Overland and Christopher  Calisi. (5)                                                     |
|   |   |                                                                                                                                                     |
| 10.24* |   | Employment  Agreement dated December 4, 2000 by and between Overland and Vernon A.  LoForti. (5)                                                    |
|   |   |                                                                                                                                                     |
| 10.25* |   | Second  Amendment to 1995 Stock Option Plan. (1)                                                                                                         |
|   |   |                                                                                                                                                     |
| 10.26* |   | Form of  Stock Option Agreement for options granted under the 1995 Stock Option Plan.  (8)                                                               |
|   |   |                                                                                                                                                     |
| 10.27* |   | First  Amendment to 1997 Executive Stock Option Plan. (1)                                                                                                |
|   |   |                                                                                                                                                     |
| 10.28* |   | Form of  Stock Option Agreement for options granted under the 1997 Executive Stock  Option Plan. (8)                                                     |

 

29

----

 
| 10.29* |   | 2000 Stock  Option Plan, as amended and restated. (11)                                                                                                                                                                                                                          |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                            |
| 10.30* |   | Form of  Notice of Stock Option Award and Stock Option Award Agreement for options  granted under 2000 Stock Option Plan. (6)                                                                                                                                                   |
|   |   |                                                                                                                                                                                                                                                                            |
| 10.31* |   | 2001  Supplemental Stock Option Plan. (9)                                                                                                                                                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                            |
| 10.32* |   | Form of  Notice of Stock Option Award and Stock Option Award Agreement for options  granted under 2001 Supplemental Stock Option Plan. (11)                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                            |
| 10.33* |   | 2003 Equity  Incentive Plan. (17)                                                                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                            |
| 10.34* |   | Form of Stock Option Agreement for options granted to senior officers  under the 2003 Equity Incentive Plan. (18)                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                            |
| 10.35* |   | Form of Stock Option Agreement for options granted to outside  directors under the 2003 Equity Incentive Plan. (18)                                                                                                                                                             |
|   |   |                                                                                                                                                                                                                                                                            |
| 10.36* |   | Form of Standard Stock Option Agreement for options granted under the  2003 Equity Incentive Plan. (18)                                                                                                                                                                         |
|   |   |                                                                                                                                                                                                                                                                            |
| 10.37* |   | Amended and  Restated 1996 Employee Stock Purchase Plan. (16)                                                                                                                                                                                                                   |
|   |   |                                                                                                                                                                                                                                                                            |
| 14.1   |   | Code of  Business Conduct and Ethics.                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                            |
| 21.1   |   | Subsidiaries  of the Registrant.                                                                                                                                                                                                                                                |
|   |   |                                                                                                                                                                                                                                                                            |
| 23.1   |   | Consent of  PricewaterhouseCoopers LLP, Independent Registered Public Accounting Firm.                                                                                                                                                                                          |
|   |   |                                                                                                                                                                                                                                                                            |
| 24.1   |   | Power of  Attorney (included on signature page).                                                                                                                                                                                                                                |
|   |   |                                                                                                                                                                                                                                                                            |
| 31.1   |   | Certification  of Christopher Calisi, President and Chief Executive Officer, pursuant to  Rule 13a-14(a) or 15d-14(a) of the Securities and Exchange Act of 1934, as  adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                   |
|   |   |                                                                                                                                                                                                                                                                            |
| 31.2   |   | Certification  of Vernon A. LoForti, Vice President and Chief Financial Officer, pursuant to  Rule 13a-14(a) or 15d-14(a) of the Securities and Exchange Act of 1934, as  adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                               |
|   |   |                                                                                                                                                                                                                                                                            |
| 32.1   |   | Certification  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002, executed by Christopher  Calisi, President and Chief Executive Officer, and Vernon A. LoForti, Vice  President and Chief Financial Officer. |

 

----

(1)                                  Incorporatedby reference to the Company’s Form S-8 Registration Statement No. (333-41754)filed July 19, 2000.

(2)                                  Incorporatedby reference to the Company’s Form 8-K filed July 25, 2000.

(3)                                  Incorporatedby reference to the Company’s Form 10-K filed September 28, 2000.

(4)                                  Incorporatedby reference to the Company’s Form S-8 Registration Statement No. (333-53380)filed January 8, 2001.

(5)                                  Incorporatedby reference to the Company’s Form 10-Q filed February 14, 2001.

(6)                                  Incorporatedby reference to the Company’s Form 10-Q filed May 15, 2001.

(7)                                  Incorporatedby reference to the Company’s Form 8-K filed July 2, 2001.

(8)                                  Incorporatedby reference to the Company’s Form 10-K filed September 28, 2001.

(9)                                  Incorporatedby reference to the Company’s Form S-8 Registration Statement No. (333-75060)filed December 13, 2001.

(10)                            Incorporatedby reference to the Company’s Form 10-Q filed February 13, 2002.

(11)                            Incorporatedby reference to the Company’s Form 10-K filed September 27, 2002.

(12)                            Incorporatedby reference to the Company’s Form 10-Q filed November 13, 2002.

(13)                            Incorporatedby reference to the Company’s Form 10-Q filed May 12, 2003.

(14)                            Incorporatedby reference to the Company’s Form S-3 Registration Statement (333-105414)filed May 20, 2003.

 

30

----

 

(15)                            Incorporatedby reference to the Company’s Form 10-K filed September 26, 2003.

(16)                            Incorporatedby reference to the Company’s Form 10-Q filed November 12, 2003.

(17)                            Incorporatedby reference to the Company’s Form S-8 Registration Statement No. (333-111275)filed December 17, 2003.

(18)                            Incorporatedby reference to the Company’s Form 10-Q filed February 10, 2004.

 

+                                         TheCompany has requested confidential treatment for certain portions of thisExhibit.

 

++                            Certain schedules andsimilar attachments to the Agreement and Plan of Merger have been omittedpursuant to Item 601(b)(2) of Regulation S-K. A copy of the omitted schedules and similar attachments will be providedsupplementally to the SEC upon request.

 

*                                         Managementcontract or compensation plan or arrangement.

 

31

----

 

**SIGNATURES**

 

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

 
|                                 | OVERLAND STORAGE, INC.                  |
|--------------------------------------|-----------------------------------------|
|                                 |
| Dated:  September 10, 2004 | By: /s/ CHRISTOPHER CALISI              |   |
|                                 | Christopher Calisi                      |
|                                 | President & Chief Executive Officer |

 

### **POWER OF ATTORNEY**

### ** **

KNOW ALL MEN BY THESE PRESENTS, that each person whosesignature appears below constitutes and appoints Christopher Calisi and VernonA. LoForti, jointly and severally, as his attorney-in-fact, each with the powerof substitution, for him in any and all capacities, to sign any amendments tothis Annual Report on Form 10-K and to file the same, with exhibits thereto andother documents in connection therewith, with the Securities and ExchangeCommission, hereby ratifying and confirming all that each of saidattorneys-in-fact, or his substitute or substitutes, may do or cause to be doneby virtue hereof.  Pursuant to therequirements of the Securities Exchange Act of 1934, this report has beensigned below by the following persons on behalf of the Registrant and in thecapacities and on the dates indicated.

 
| **Signature**          | ** ** | **Title**                                              | ** ** | **Date**                |
|------------------------|------------|--------------------------------------------------------|------------|-------------------------|
|                   |       |                                                   |       |                    |
| /s/ CHRISTOPHER CALISI |       | President, Chief  Executive                            |       | September 10, 2004 |
| Christopher Calisi     |       | Officer and Director                                   |       |                    |
|                   |       | (Principal Executive Officer)                          |       |                    |
|                   |       |                                                   |       |                    |
| /s/ VERNON A. LoFORTI  |       | Vice President, Chief                                  |       | September 10, 2004 |
| Vernon A. LoForti      |       | Financial Officer and                                  |       |                    |
|                   |       | Secretary (Principal Financial and Accounting Officer) |       |                    |
|                   |       |                                                   |       |                    |
| /s/ ROBERT A. DEGAN    |       | Director                                               |       | September 10, 2004 |
| Robert A. Degan        |       |                                                   |       |                    |
|                   |       |                                                   |       |                    |
| /s/ SCOTT McCLENDON    |       | Chairman of the Board                                  |       | September 10, 2004 |
| Scott McClendon        |       |                                                   |       |                    |
|                   |       |                                                   |       |                    |
| /s/ JOHN MUTCH         |       | Director                                               |       | September 10, 2004 |
| John Mutch             |       |                                                   |       |                    |
|                   |       |                                                   |       |                    |
| /s/ MICHAEL NORKUS     |       | Director                                               |       | September 10, 2004 |
| Michael Norkus         |       |                                                   |       |                    |
|                   |       |                                                   |       |                    |
| /s/ PETER PREUSS       |       | Director                                               |       | September 10, 2004 |
| Peter Preuss           |       |                                                   |       |                    |
|                   |       |                                                   |       |                    |
| /s/ JOHN A. SHANE      |       | Director                                               |       | September 10, 2004 |
| John A. Shane          |       |                                                   |       |                    |

 

32

----

**REPORT OF INDEPENDENT**

**REGISTEREDPUBLIC ACCOUNTING FIRM**

 

To the Board of Directorsand Shareholders

of Overland Storage,Inc.:

 

In our opinion, the consolidated financial statements listed in theindex appearing under Item 15(a)(1) present fairly, in all material respects,the financial position of Overland Storage, Inc. and its subsidiaries at June30, 2004 and 2003, and the results of their operations and their cash flows foreach of the three years in the period ended June 30, 2004 in conformity with accountingprinciples generally accepted in the United States of America.  In addition, in our opinion, the financialstatement schedule listed in the index under Item 15(a)(2) presents fairly, inall material respects, the information set forth therein when read inconjunction with the related consolidated financial statements.  These financial statements and financialstatement schedule are the responsibility of the Company’s management.  Our responsibility is to express an opinionon these financial statements and financial statement schedule based on ouraudits.  We conducted our audits of thesestatements in accordance with the standards of the Public Company AccountingOversight Board (United States).  Thosestandards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement.  An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements, assessing the accounting principles used andsignificant estimates made by management, and evaluating the overall financialstatement presentation.  We believe thatour audits provide a reasonable basis for our opinion.

 
| /s/  PricewaterhouseCoopers LLP |   |
|---------------------------------|--------|
|                            |
| San Diego, California           |
| September 1, 2004          |

 

33

----

 

**OVERLANDSTORAGE, INC.**

##### **CONSOLIDATED BALANCE SHEET**

(in thousands)

 
| ** **                                                                                                                                           | ** ** | **June 30,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|
| ** **                                                                                                                                           | ** ** | **2004**          | ** ** | **2003** | ** ** |
|                                                                                                                                                 |       |              |       |   |   |
| **Assets**                                                                                                                                           |       |              |       |   |   |
|                                                                                                                                                 |       |              |       |   |   |
| Current  assets:                                                                                                                                     |       |              |       |   |   |
| Cash  and cash equivalents                                                                                                                           |       | $                 | 58,422     |   | $ | 55,020 |   |
| Short-term  investments                                                                                                                              |       | 11,235            |       | — |   |
| Accounts  receivable, less allowance for doubtful accounts of $296 and $413,  respectively                                                           |       | 31,424            |       | 31,850 |   |
| Inventories                                                                                                                                          |       | 16,163            |       | 19,262 |   |
| Deferred  tax assets                                                                                                                                 |       | 4,810             |       | 4,351 |   |
| Other  current assets                                                                                                                                |       | 6,513             |       | 2,461 |   |
|                                                                                                                                                 |       |              |       |   |   |
| Total  current assets                                                                                                                                |       | 128,567           |       | 112,944 |   |
|                                                                                                                                                 |       |              |       |   |   |
| Property  and equipment, net                                                                                                                         |       | 7,945             |       | 8,171 |   |
| Intangible  assets                                                                                                                                   |       | 6,924             |       | 8,983 |   |
| Other  assets                                                                                                                                        |       | 590               |       | 824 |   |
|                                                                                                                                                 |       |              |       |   |   |
|                                                                                                                                                 |       | $                 | 144,026    |   | $ | 130,922 |   |
|                                                                                                                                                 |       |              |       |   |   |
| **Liabilities and Shareholders’ Equity**                                                                                                        |       |              |       |   |   |
|                                                                                                                                                 |       |              |       |   |   |
| Current  liabilities:                                                                                                                                |       |              |       |   |   |
| Accounts  payable                                                                                                                                    |       | $                 | 11,166     |   | $ | 15,546 |   |
| Accrued  liabilities                                                                                                                                 |       | 6,209             |       | 4,526 |   |
| Accrued  payroll and employee compensation                                                                                                           |       | 3,107             |       | 3,194 |   |
| Income  taxes payable                                                                                                                                |       | 1,401             |       | 2,292 |   |
| Accrued  warranty                                                                                                                                    |       | 3,577             |       | 2,129 |   |
| Current  portion of long-term debt                                                                                                                   |       | —            |       | 931 |   |
|                                                                                                                                                 |       |              |       |   |   |
| Total  current liabilities                                                                                                                           |       | 25,460            |       | 28,618 |   |
|                                                                                                                                                 |       |              |       |   |   |
| Long-term  debt                                                                                                                                      |       | —            |       | 3,026 |   |
| Deferred  tax liabilities                                                                                                                            |       | 2,997             |       | 4,091 |   |
| Other  liabilities                                                                                                                                   |       | 2,055             |       | 1,923 |   |
|                                                                                                                                                 |       |              |       |   |   |
| Total  liabilities                                                                                                                                   |       | 30,512            |       | 37,658 |   |
|                                                                                                                                                 |       |              |       |   |   |
| Commitments  and contingencies (Note 12)                                                                                                             |       |              |       |   |   |
|                                                                                                                                                 |       |              |       |   |   |
| Shareholders’  equity:                                                                                                                          |       |              |       |   |   |
| Common  stock, no par value, 25,000 shares authorized; 13,694 and 12,959 shares  issued and outstanding at June 30, 2004 and 2003, respectively |       | 73,573            |       | 63,884 |   |
| Accumulated  other comprehensive loss                                                                                                                |       | (256              | )          | (192 | ) |
| Retained  earnings                                                                                                                                   |       | 40,197            |       | 29,572 |   |
|                                                                                                                                                 |       |              |       |   |   |
| Total  shareholders’ equity                                                                                                                     |       | 113,514           |       | 93,264 |   |
|                                                                                                                                                 |       |              |       |   |   |
|                                                                                                                                                 |       | $                 | 144,026    |   | $ | 130,922 |   |

 

See accompanyingnotes to consolidated financial statements.

 

34

----

 

**OVERLANDSTORAGE, INC.**

##### **CONSOLIDATED STATEMENT OF OPERATIONS**

(in thousands, except per share amounts)

 
| ** **                                      | ** ** | **Year Ended June 30,** | ** ** |
|-------------------------------------------------|------------|------------------------------|------------|
| ** **                                      | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                            |       |                         |       |   |   |   |   |
| Net  revenue:                                   |       |                         |       |   |   |   |   |
| Product  sales                                  |       | $                            | 236,341    |   | $ | 193,169 |   | $ | 161,948 |   |
| License  fees and royalties                     |       | 1,798                        |       | 2,712 |   | 1,432 |   |
|                                            |       |                         |       |   |   |   |   |
|                                            |       | 238,139                      |       | 195,881 |   | 163,380 |   |
|                                            |       |                         |       |   |   |   |   |
| Cost  of revenue                                |       | 173,485                      |       | 141,863 |   | 120,935 |   |
|                                            |       |                         |       |   |   |   |   |
| Gross  profit                                   |       | 64,654                       |       | 54,018 |   | 42,445 |   |
|                                            |       |                         |       |   |   |   |   |
| Operating  expenses:                            |       |                         |       |   |   |   |   |
| Sales  and marketing                            |       | 30,848                       |       | 26,700 |   | 20,963 |   |
| Research  and development                       |       | 7,259                        |       | 7,376 |   | 6,553 |   |
| General  and administrative                     |       | 10,949                       |       | 9,632 |   | 8,413 |   |
|                                            |       |                         |       |   |   |   |   |
|                                            |       | 49,056                       |       | 43,708 |   | 35,929 |   |
|                                            |       |                         |       |   |   |   |   |
| Income  from operations                         |       | 15,598                       |       | 10,310 |   | 6,516 |   |
|                                            |       |                         |       |   |   |   |   |
| Other  income (expense):                        |       |                         |       |   |   |   |   |
| Interest  income                                |       | 601                          |       | 427 |   | 355 |   |
| Interest  expense                               |       | (68                          | )          | (212 | ) | (86 | ) |
| Other  income (expense), net                    |       | 68                           |       | (332 | ) | 54 |   |
| Income  before income taxes                     |       | 16,199                       |       | 10,193 |   | 6,839 |   |
|                                            |       |                         |       |   |   |   |   |
| Provision  for income taxes                     |       | 5,574                        |       | 3,511 |   | 2,346 |   |
|                                            |       |                         |       |   |   |   |   |
| Net  income                                     |       | $                            | 10,625     |   | $ | 6,682 |   | $ | 4,493 |   |
|                                            |       |                         |       |   |   |   |   |
| Net  income per share:                          |       |                         |       |   |   |   |   |
| Basic                                           |       | $                            | 0.79       |   | $ | 0.59 |   | $ | 0.42 |   |
| Diluted                                         |       | $                            | 0.74       |   | $ | 0.54 |   | $ | 0.40 |   |
|                                            |       |                         |       |   |   |   |   |
| Shares  used in computing net income per share: |       |                         |       |   |   |   |   |
| Basic                                           |       | 13,384                       |       | 11,318 |   | 10,641 |   |
| Diluted                                         |       | 14,404                       |       | 12,314 |   | 11,271 |   |

 

See accompanyingnotes to consolidated financial statements.

 

35

----

 

**OVERLANDSTORAGE, INC.**

**CONSOLIDATEDSTATEMENT OF SHAREHOLDERS’ EQUITY ANDCOMPREHENSIVE INCOME**

(in thousands)

 
| ** **                                                           | ** ** | **Common Stock** | ** ** | **Accumulated  Other  Comprehensive** | ** ** | **Retained**      | ** ** | ** **   | ** ** | **Total  Comprehensive** | ** ** |
|----------------------------------------------------------------------|------------|------------------|------------|---------------------------------------|------------|-------------------|------------|--------------|------------|--------------------------|------------|
| ** **                                                           | ** ** | **Shares**       | ** ** | **Amount**                            | ** ** | **Income (Loss)** | ** ** | **Earnings** | ** ** | **Total**                | ** ** | **Income** | ** ** |
|                                                                 |       |             |       |                                  |       |              |       |         |       |                     |       |   |   |
| Balance  at June 30, 2001                                       |       | 10,513           |       | 33,614                                |       | (332              | )          | 18,397       |       | 51,679                   |       |   |   |
|                                                                 |       |             |       |                                  |       |              |       |         |       |                     |       |   |   |
| Stock  option and purchase plans                                     |       | 490              |       | 2,755                                 |       |              |       |         |       | 2,755                    |       |   |   |
| Stock-based  compensation                                            |       |             |       | 5                                     |       |              |       |         |       | 5                        |       |   |   |
| Tax  benefits from exercise of stock options                         |       |             |       | 280                                   |       |              |       |         |       | 280                      |       |   |   |
| Comprehensive  income:                                               |       |             |       |                                  |       |              |       |         |       |                     |       |   |   |
| Net  income                                                          |       |             |       |                                  |       |              |       | 4,493        |       | 4,493                    |       | 4,493 |   |
| Foreign  currency translation                                        |       |             |       |                                  |       | 54                |       |         |       | 54                       |       | 54 |   |
| Balance  at June 30, 2002                                       |       | 11,003           |       | 36,654                                |       | (278              | )          | 22,890       |       | 59,266                   |       | $ | 4,547 |   |
|                                                                 |       |             |       |                                  |       |              |       |         |       |                     |       |   |   |
| Stock  option and purchase plans                                     |       | 391              |       | 2,807                                 |       |              |       |         |       | 2,807                    |       |   |   |
| Sale  of common stock                                                |       | 1,430            |       | 20,623                                |       |              |       |         |       | 20,623                   |       |   |   |
| Stock  issued for acquisition of Okapi                               |       | 135              |       | 2,705                                 |       |              |       |         |       | 2,705                    |       |   |   |
| Tax  benefits from exercise of stock options                         |       |             |       | 1,095                                 |       |              |       |         |       | 1,095                    |       |   |   |
| Comprehensive  income:                                               |       |             |       |                                  |       |              |       |         |       |                     |       |   |   |
| Net  income                                                          |       |             |       |                                  |       |              |       | 6,682        |       | 6,682                    |       | 6,682 |   |
| Foreign  currency translation                                        |       |             |       |                                  |       | 86                |       |         |       | 86                       |       | 86 |   |
| Balance  at June 30, 2003                                       |       | 12,959           |       | 63,884                                |       | (192              | )          | 29,572       |       | 93,264                   |       | $ | 6,768 |   |
|                                                                 |       |             |       |                                  |       |              |       |         |       |                     |       |   |   |
| Stock  option and purchase plans                                     |       | 735              |       | 6,251                                 |       |              |       |         |       | 6,251                    |       |   |   |
| Tax  benefits from exercise of stock options                         |       |             |       | 3,438                                 |       |              |       |         |       | 3,438                    |       |   |   |
| Comprehensive  income:                                               |       |             |       |                                  |       |              |       |         |       |                     |       |   |   |
| Net  income                                                          |       |             |       |                                  |       |              |       | 10,625       |       | 10,625                   |       | 10,625 |   |
| Foreign  currency translation                                        |       |             |       |                                  |       | (31               | )          |         |       | (31                      | )          | (31 | ) |
| Unrealized  loss on available-for-sale securities, net of tax of $22 |       |             |       |                                  |       | (33               | )          |         |       | (33                      | )          | (33 | ) |
| Balance  at June 30, 2004                                       |       | 13,694           |       | $                                     | 73,573     |              | $          | (256         | )          | $                        | 40,197     |   | $ | 113,514 |   | $ | 10,561 |   |
|                                                                      |            |                  |            |                                       |            |                   |            |              |            |                          |            |  |  |  |  |  |  |  |

 

See accompanying notesto consolidated financial statements.

 

36

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**OVERLANDSTORAGE, INC.**

**CONSOLIDATEDSTATEMENT OF CASH FLOWS**

(in thousands)

 
| ** **                                                                                              | ** ** | **Year Ended June 30,** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                                                              | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                                    |       |                         |       |   |   |   |   |
| Operating  activities:                                                                                  |       |                         |       |   |   |   |   |
| Net  income                                                                                             |       | $                            | 10,625     |   | $ | 6,682 |   | $ | 4,493 |   |
| Adjustments  to reconcile net income to net cash provided by operating activities:                      |       |                         |       |   |   |   |   |
| Deferred  tax (benefit) provision                                                                       |       | (1,267                       | )          | (843 | ) | 450 |   |
| Depreciation  and amortization                                                                          |       | 4,164                        |       | 2,354 |   | 2,109 |   |
| Bad  debt expense                                                                                       |       | 8                            |       | 146 |   | 230 |   |
| Tax  benefits from exercise of stock options                                                            |       | 3,438                        |       | 1,095 |   | 280 |   |
| Loss  (gain) on disposition of assets                                                                   |       | —                       |       | — |   | 24 |   |
| Non-cash  compensation                                                                                  |       | —                       |       | — |   | 5 |   |
| Changes  in assets and liabilities:                                                                     |       |                         |       |   |   |   |   |
| Accounts  receivable                                                                                    |       | 418                          |       | (10,577 | ) | 2,469 |   |
| Inventories                                                                                             |       | 3,099                        |       | (1,756 | ) | 5,826 |   |
| Other  assets and liabilities                                                                           |       | (3,709                       | )          | 709 |   | 735 |   |
| Accounts  payable and accrued/other liabilities                                                         |       | (2,140                       | )          | 10,747 |   | (1,478 | ) |
| Accrued  payroll and employee compensation                                                              |       | (87                          | )          | 476 |   | (58 | ) |
|                                                                                                    |       |                         |       |   |   |   |   |
| Net  cash provided by operating activities                                                              |       | 14,549                       |       | 9,033 |   | 15,085 |   |
|                                                                                                    |       |                         |       |   |   |   |   |
| Investing  activities:                                                                                  |       |                         |       |   |   |   |   |
| Capital  expenditures                                                                                   |       | (2,142                       | )          | (1,354 | ) | (6,509 | ) |
| Purchase  of short-term investments                                                                     |       | (11,811                      | )          | — |   | — |   |
| Maturities  of short-term investments                                                                   |       | 543                          |       | — |   | — |   |
| Payments  made in association with acquisition of Okapi                                                 |       | —                       |       | (2,361 | ) | — |   |
|                                                                                                    |       |                         |       |   |   |   |   |
| Net  cash used in investing activities                                                                  |       | (13,410                      | )          | (3,715 | ) | (6,509 | ) |
|                                                                                                    |       |                         |       |   |   |   |   |
| Financing  activities:                                                                                  |       |                         |       |   |   |   |   |
| Proceeds  from long-term debt                                                                           |       | —                       |       | — |   | 4,655 |   |
| Payments  on long-term debt                                                                             |       | (3,957                       | )          | (698 | ) | — |   |
| Proceeds  from exercise of stock options and the sales of stock under the employee  stock purchase plan |       | 6,251                        |       | 2,807 |   | 2,755 |   |
| Proceeds  from the sale of common stock                                                                 |       | —                       |       | 20,623 |   | — |   |
|                                                                                                    |       |                         |       |   |   |   |   |
| Net  cash provided by financing activities                                                              |       | 2,294                        |       | 22,732 |   | 7,410 |   |
|                                                                                                    |       |                         |       |   |   |   |   |
| Effect  of exchange rate changes on cash                                                                |       | (31                          | )          | 86 |   | 54 |   |
|                                                                                                    |       |                         |       |   |   |   |   |
| Net  increase in cash and cash equivalents                                                              |       | 3,402                        |       | 28,136 |   | 16,040 |   |
| Cash  and cash equivalents, beginning of year                                                           |       | 55,020                       |       | 26,884 |   | 10,844 |   |
|                                                                                                    |       |                         |       |   |   |   |   |
| Cash  and cash equivalents, end of year                                                                 |       | $                            | 58,422     |   | $ | 55,020 |   | $ | 26,884 |   |
|                                                                                                    |       |                         |       |   |   |   |   |
| **Supplemental disclosure of cash flow  information:**                                                  |       |                         |       |   |   |   |   |
| Cash  paid for income taxes                                                                             |       | $                            | 4,590      |   | $ | 1,649 |   | $ | 1,574 |   |
| Cash  paid for interest                                                                                 |       | $                            | 75         |   | $ | 199 |   | $ | 86 |   |
|                                                                                                    |       |                         |       |   |   |   |   |
| **Non-cash investing activities are as follows**:                                                       |       |                         |       |   |   |   |   |
| Common  stock issued for acquisition of Okapi                                                           |       | $                            | —     |   | $ | 2,705 |   | $ | — |   |
| Change  in net unrealized loss on marketable securities                                                 |       | $                            | 33         |   | $ | — |   | $ | — |   |

 

See accompanyingnotes to consolidated financial statements

 

37

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**OVERLANDSTORAGE, INC.**

**NOTES TOCONSOLIDATED FINANCIAL STATEMENTS**

 

**NOTE 1 - OPERATIONS AND SUMMARYOF SIGNIFICANT ACCOUNTING POLICIES**

 

**General**

 

Overland Storage, Inc.(the “Company”) was incorporated on September 8, 1980 under the laws ofthe State of California.  The Companydesigns, develops, manufactures, markets and supports automated tape and disk-baseddata storage systems used by businesses for backup, archival and datainterchange functions in environments from small businesses to largeenterprises requiring high-availability networks. The Company’s fiscal yearends on the Sunday closest to June 30. For ease of presentation, the Company’s year-end is deemed to beJune 30.  Fiscal years 2004, 2003and 2002 each included 52 weeks.

 

**Principles of Consolidation**

 

The consolidatedfinancial statements include the accounts of the Company and its wholly ownedsubsidiaries, Overland Storage (Europe) Ltd., Overland Storage SARL, OverlandStorage GmbH, Tecmar, Inc., Okapi Acquisition Co., Inc. and Overland StorageExport Limited, a foreign sales corporation. All significant intercompany accounts and transactions have beeneliminated.

 

**Management Estimates andAssumptions**

 

The preparation of financial statements in conformitywith generally accepted accounting principles requires management to makeestimates and assumptions that affect the reported amounts of assets andliabilities and disclosures of contingent assets and liabilities at the date ofthe financial statements and reported amounts of revenues and expenses duringthe reporting period.  Actual resultscould differ from those estimates.

 

**Revenue Recognition**

 

Revenue on direct productsales (excluding sales to commercial distributors and certain OEM customers) isrecognized upon shipment of products to such customers. These customers are notsubject to any specific right of return or price protection, except for anydefective product which may be returned under the Company’s warrantypolicy.  Title and risk of loss transferto the customer when the product leaves the Company’s dock.  Product sales to commercial distributioncustomers are subject to certain rights of return, stock rotation privilegesand price protection.  Revenue fromshipments to these customers is not recognized until the related products arein turn sold by the commercial distributor. At June 30, 2004, $1,037,000 of product had been shipped to theCompany’s commercial distributors, but not yet shipped to the distributors’customers.  As part of its agreement withcertain OEM customers, the Company ships products to various distribution hubsaround the world and retains ownership of that inventory until it is pulled bythese OEM customers to fulfill their customer orders, at which time, generallythe same business day, the Overland sale is recorded.

 

The Company has enteredinto various licensing agreements relating to its Variable Rate Randomizer(VR2) technology.  These agreementstypically call for royalty fees based on sales by licensees of productscontaining VR2. Royalties on sales by licensees of products containing VR2 arerecorded when earned, generally in the period during which the licensee shipsthe products containing VR2 technology. In certain instances, the customer has elected to purchase from theCompany the Applications Specific Integrated Circuit (ASIC) chips embodyingVR2, which are priced to include the cost of the chip plus an embedded royaltyfee.  In these instances, revenues onASIC chip sales are recorded as product revenue when earned, which is upon theshipment of the underlying ASIC chip incorporating the VR2 technology to thecustomer.

 

38

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In some cases, theselicensing agreements include initial payments to the Company for the deliveryof the VR2 technology platform, consulting services or both.  The Company recognizes revenues related tothe transfer of the technology platform upon delivery and acceptance by thecustomer, which entitles the Company to the initial fee and eliminates anyfurther obligations under the agreement. The Company recognizes revenue related to consulting services as earned,typically based on time committed to the project.

 

#### **Shipping andHandling**

#### ** **

Amounts billed tocustomers for shipping and handling are included in product sales and costsincurred related to shipping and handling are included in cost of revenues.

 

**Research and Development Costs**

 

Research and developmentcosts are expensed as incurred.

 

#### **Advertising Costs**

#### ** **

Advertising costs are expensed as incurred.  Advertising expenses for 2004, 2003 and 2002were $1,730,000, $1,223,000 and $1,539,000, respectively.

 

39

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**Warranty Costs**

 

The Company generally provides a three-year advancereplacement return-to-factory warranty on its NEO SERIES, PowerLoader andLoaderXpress products and a one year advance replacement return-to-factorywarranty on its REO SERIES.  The Companyalso provides on-site service for the first warranty year of the NEO SERIESproducts for which it contracts with third-party service providers.  For most products, the Company offers aprogram called XchangeNOW as part of its return-to-factory warranty whichenables customers to receive an advance replacement unit shipped within twobusiness days after placing a service request. The customer ships the defective unit back to the Company using theshipping materials from the replacement unit. The Company records a provisionfor estimated future warranty costs at the time of shipment for both thereturn-to-factory and on-site warranties. Separately priced on-site warranties are offered for sale to customersof other product lines.  The Companycontracts with outside vendors to provide service relating to all on-sitewarranties.  Warranty revenues andamounts paid in advance to outside service organizations are recognized in thefinancial statements in revenues and cost of revenues, respectively, over the warrantyperiod.

 

#### **Fair Value ofFinancial Instruments**

#### ** **

The Company’s financial instruments consist of cashand cash equivalents, investments in debt securities (Note 3), tradereceivables and payables and its revolving line of credit (Note 6).  The carrying amounts of these instrumentsapproximate fair value because of their short-term maturities and variableinterest rates.  Fair values of theinvestments in debt securities are estimated based on quoted market prices forthese securities.

 

#### **Comprehensive Income**

#### ** **

Comprehensiveincome for the Company includes net income, foreign currency translationadjustments and unrealized losses on available-for-sale securities, which arecharged or credited to accumulated other comprehensive income withinshareholders’ equity.

 

**SegmentData**

** **

The Company reportssegment data based on the management approach. The management approachdesignates the internal reporting that is used by management for makingoperating and investment decisions and evaluating performance as the source ofthe Company’s reportable segments.  TheCompany uses one measurement of profitability and does not disaggregate itsbusiness for internal reporting.  Basedon the criteria of SFAS No. 131, “Disclosures about Segments of an Enterpriseand Related Information,” the Company has determined that it operates in onesegment providing data storage solutions for mid-range computer networks.  The Company discloses information aboutproducts and services, geographic areas and major customers.

 

#### **Concentrations ofRisks**

#### ** **

The Company’s customers include original equipment manufacturers,distributors, and value added resellers. Financial instruments which potentially subject the Company toconcentrations of credit risk are primarily accounts receivable.  The Company performs ongoing creditevaluations of its customers, generally requires no collateral and maintainsallowances for potential credit losses and sales returns.

 

The Company’s largest single customer accounted for approximately 59%,58% and 62% of sales in fiscal years 2004, 2003 and 2002, respectively, andapproximately 44%, 52% and 49% of accounts receivable at June 30, 2004,2003 and 2002, respectively. No other customer accounted for 10% or more ofsales in any of the three years presented.

 

40

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#### **Information aboutGeographic Areas**

#### ** **

The Company markets itsproducts domestically and internationally, with its principal internationalmarket being Europe.  The tables belowcontain information about the geographical areas in which the Company operates.Revenues are attributed to the location to which the product was shipped.  Long-lived assets are based on location ofdomicile.

 

Revenue attributed to theNetherlands and the United Kingdom was primarily the result of shipments toCompaq/HP European distribution centers.

 

| ** **               | ** ** | **Revenues**       | ** ** | **Long Lived  Assets** | ** ** |
|--------------------------|------------|--------------------|------------|------------------------|------------|
| ** **               | ** ** | **(in thousands)** | ** ** |
| **2004**                 |       |               |       |                   |       |
| United  States           |       | $                  | 121,640    |                   | $          | 14,048 |   |
| United  Kingdom          |       | 67,209             |       | 821                    |       |
| Rest  of Europe          |       | 24,355             |       | —                 |       |
| Other  foreign countries |       | 24,934             |       | —                 |       |
|                     |       |               |       |                   |       |
|                     |       | $                  | 238,138    |                   | $          | 14,869 |   |
| **2003**                 |       |               |       |                   |       |
| United  States           |       | 110,790            |       | 16,335                 |       |
| United  Kingdom          |       | 52,176             |       | 819                    |       |
| Rest  of Europe          |       | 20,611             |       | —                 |       |
| Other  foreign countries |       | 12,304             |       | —                 |       |
|                     |       |               |       |                   |       |
|                     |       | $                  | 195,881    |                   | $          | 17,154 |   |
| **2002**                 |       |               |       |                   |       |
| United  States           |       | 86,260             |       | 8,381                  |       |
| Netherlands              |       | 23,795             |       | —                 |       |
| United  Kingdom          |       | 21,872             |       | 790                    |       |
| Rest  of Europe          |       | 18,028             |       | —                 |       |
| Other  foreign countries |       | 13,425             |       | —                 |       |
|                     |       |               |       |                   |       |
|                     |       | $                  | 163,380    |                   | $          | 9,171 |   |

 

**Cash Equivalents**

 

Highly liquid investmentswith original maturities of three months or less are classified as cashequivalents.

 

**Inventories**

 

Inventoriesare stated at the lower of cost (first-in-first-out method) or market.

 

41

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#### **Property andEquipment**

#### ** **

Property and equipmentare recorded at cost.  Depreciation iscomputed using the straight-line method over the estimated useful lives of thedepreciable assets as follows:

 

| Leasehold improvements  |   | The shorter of  the estimated useful lives of the assets or the term of the lease using the  straight-line method |
|-------------------------|--------|-------------------------------------------------------------------------------------------------------------------|
| Machinery and equipment |   | 3-5 years                                                                                                         |
| Furniture and fixtures  |   | 5 years                                                                                                           |
| Computer equipment      |   | 3-5 years                                                                                                         |

 

 

Expenditures for normalmaintenance and repair are charged to expense as incurred, and improvements arecapitalized.  Upon the sale or retirementof property or equipment, the asset cost and related accumulated depreciationare removed from the respective accounts and any gain or loss is included inthe results of operations.

 

#### **Long-Lived Assets**

#### ** **

TheCompany evaluates the recoverability of long-lived assets, including propertyand equipment and certain identifiable intangible assets, in accordance withSFAS 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,”which it adopted on July 1, 2002. SFAS 144 requires the Company to reviewfor impairment of long-lived assets whenever events or changes in circumstancesindicate that the carrying amount of an asset may not be recoverable. Factorsconsidered important which could trigger an impairment review include: 

 

•                  significantunderperformance relative to historical or projected future operating results;

 

•                  significantchanges in the manner of use of the assets or the strategy for our overallbusiness;

 

•                  significantdecrease in the market value of the assets; and

 

•                  significantnegative industry or economic trends.

 

When the Company determines that the carrying amountof long-lived assets may not be recoverable based upon the existence of one ormore of the above indicators, it assesses the assets for impairment based onthe estimated future undiscounted cash flows expected to result from the use ofthe asset and its eventual disposition. If the carrying amount of an assetexceeds its estimated future undiscounted cash flows, an impairment loss isrecorded for the excess of the asset’s carrying amount over its fair value.Fair value is generally determined based on the estimated future discountedcash flows over the remaining useful life of the asset using a discount ratedetermined by management to be commensurate with the risk inherent in theCompany’s current business model. The assumptions supporting the cash flows,including the discount rates, are determined using management’s best estimatesas of the date of the impairment review. If these estimates or their relatedassumptions change in the future, the Company may be required to recordadditional impairment charges for these assets and future results of operationscould be adversely affected.  The Companyhas not recorded any material impairment losses.

 

**Foreign Currency Translation**

 

The financial statements of foreign subsidiaries, forwhich the functional currency is the local currency, are translated into U.S.dollars using the exchange rate at the balance sheet date for assets andliabilities and the weighted average exchange rate during the year forrevenues, expenses, gains and losses. Translation adjustments are recorded as accumulated other comprehensiveincome within shareholders’ equity.  Gainsor losses from foreign currency transactions are recognized currently inincome.  Such transactions resulted in again of $69,000, a loss of $338,000 and a gain of $29,000 for the years endedJune 30, 2004, 2003 and 2002, respectively.

 

42

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#### **Income Taxes**

#### ** **

The Company provides forincome taxes utilizing the liability method. Under the liability method, adeferred tax asset and/or liability is computed for both the expected futureimpact of differences between the financial statement and tax bases of assetsand liabilities, and for the expected future tax benefit to be derived from taxcredits and loss carryforwards.  Currentincome tax expense or benefit represents the amount of income taxes expected tobe payable or refundable for the current year. A valuation allowance is established when, in the opinion of management,it is more likely than not that some portion or all of the deferred tax assetswill not be realized.

 

**Net Income Per Share**

 

Basic earnings per shareis computed based on the weighted average number of shares of common stockoutstanding during the period.  Dilutedearnings per share is computed based on the weighted average number of sharesof common stock outstanding during the period increased by the weighted averagenumber of dilutive common stock equivalents outstanding during the period,using the treasury stock method. Anti-dilutive common stock equivalents excluded from the computation ofdiluted earnings per share amounted to 512,000, 6,000 and 194,000 in the fiscalyears ended June 30, 2004, 2003 and 2002, respectively.

 

A reconciliation of thecalculation of basic and diluted earnings per share is as follows:

 

| ** **                                                | ** ** | **Year Ended June 30,**              | ** ** |
|-----------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                | ** ** | **2004**                                  | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                                | ** ** | **(in thousands, except per share data)** | ** ** |
|                                                      |       |                                      |       |   |   |   |   |
| Net  income                                               |       | $                                         | 10,625     |   | $ | 6,682 |   | $ | 4,493 |   |
|                                                      |       |                                      |       |   |   |   |   |
| Basic:                                                    |       |                                      |       |   |   |   |   |
|                                                      |       |                                      |       |   |   |   |   |
| Weighted  average number of common shares outstanding     |       | 13,384                                    |       | 11,318 |   | 10,641 |   |
| Basic  net income per share                               |       | $                                         | 0.79       |   | $ | 0.59 |   | $ | 0.42 |   |
|                                                      |       |                                      |       |   |   |   |   |
| Diluted:                                                  |       |                                      |       |   |   |   |   |
|                                                      |       |                                      |       |   |   |   |   |
| Weighted  average number of common shares outstanding     |       | 13,384                                    |       | 11,318 |   | 10,641 |   |
| Common  stock equivalents using the treasury stock method |       | 1,020                                     |       | 996 |   | 630 |   |
| Shares  used in computing net income per share            |       | 14,404                                    |       | 12,314 |   | 11,271 |   |
| Diluted  net income per share                             |       | $                                         | 0.74       |   | $ | 0.54 |   | $ | 0.40 |   |

 

43

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#### **Stock-BasedCompensation**

#### ** **

The Company measurescompensation expense for its stock-based employee compensation plans using theintrinsic value method and provides pro forma disclosures of net income and earningsper share as if the fair value-based method had been applied in measuringcompensation expense.  Compensationcharges related to non-employee stock-based compensation are measured usingfair value methods and recognized as earned.

 

The Company accounts foremployee stock-based compensation using the intrinsic value method.  In most cases, no compensation expense hasbeen recognized for its employee stock option grants, as they have been grantedat the fair market value of the underlying Common Stock at the date ofgrant.  No compensation expense has beenrecognized for purchase rights under the ESPP as they have been granted inaccordance with the terms of the ESPP.** **Had compensation expense for theCompany’s employee stock-based compensation awards issued during 2004, 2003 and2002 been determined based on a fair value method, the Company’s net income andnet income per share would have been reduced to the pro forma amounts indicatedbelow:

 
| ** **                                                                                                                              | ** ** | **Year Ended June 30,**                 | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------|------------|
| ** **                                                                                                                              | ** ** | **2004**                                     | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                                                                                                              | ** ** | **(in thousands, except per share amounts)** | ** ** |
|                                                                                                                                    |       |                                         |       |   |   |   |   |
| Net  income, as reported                                                                                                                |       | $                                            | 10,625     |   | $ | 6,682 |   | $ | 4,493 |   |
|                                                                                                                                    |       |                                         |       |   |   |   |   |
| Deduct:  Stock-based employee compensation expense determined under fair value based  method for all awards, net of related tax effects |       | (4,941                                       | )          | (4,862 | ) | (2,777 | ) |
|                                                                                                                                    |       |                                         |       |   |   |   |   |
| Pro  forma net income                                                                                                                   |       | $                                            | 5,684      |   | $ | 1,820 |   | $ | 1,716 |   |
|                                                                                                                                    |       |                                         |       |   |   |   |   |
| Earnings  per share:                                                                                                                    |       |                                         |       |   |   |   |   |
|                                                                                                                                    |       |                                         |       |   |   |   |   |
| Basic  - as reported                                                                                                                    |       | $                                            | 0.79       |   | $ | 0.59 |   | $ | 0.42 |   |
|                                                                                                                                    |       |                                         |       |   |   |   |   |
| Basic  - pro forma                                                                                                                      |       | $                                            | 0.42       |   | $ | 0.16 |   | $ | 0.16 |   |
|                                                                                                                                    |       |                                         |       |   |   |   |   |
| Diluted  - as reported                                                                                                                  |       | $                                            | 0.74       |   | $ | 0.54 |   | $ | 0.40 |   |
|                                                                                                                                    |       |                                         |       |   |   |   |   |
| Diluted  - pro forma                                                                                                                    |       | $                                            | 0.39       |   | $ | 0.15 |   | $ | 0.15 |   |

 

The fair value of each option grant is estimated onthe date of grant using a Black-Scholes option-pricing model.  The weighted-average estimated fair value ofemployee stock options granted during fiscal years 2004, 2003 and 2002 were$13.76, $13.41 and $6.42 per share, respectively.  The weighted average assumptions used forgrants during the fiscal years 2004, 2003 and 2002 were: no dividend yield forall years, risk-free interest rates of 4.2%, 3.7% and 4.8%, respectively,expected volatility of 79%, 82% and 82%, respectively, and expected lives of7.0 years for all fiscal years.

 

The fair value of each share purchase right under the ESPP is estimatedat the inception of each offering period also using a Black-Scholesoption-pricing model.  Theweighted-average estimated fair value of each share purchase right grantedduring fiscal years 2004, 2003 and 2002 was $4.71, $4.65 and $4.36 per share,respectively.  The weighted averageassumptions used during fiscal years 2004, 2003 and 2002 were: no dividendyield for all years, risk-free interest rates of 3.7%, 3.7% and 4.8%,respectively, expected volatility of 57%, 79% and 106%, respectively, and anexpected life of 6 months for all fiscal years.

 

44

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** **

**NOTE 2 – ACQUISITION OF CERTAINASSETS**

 

InJune 2003, the Company acquired all of the assets and assumed all of theliabilities of Okapi Software, Inc., a privately held company based in SanDiego, California. This acquisition was accounted for as an asset acquisitionin accordance with SFAS 142, “Goodwill and Other Intangible Assets.” TheCompany’s consolidated statements of operations include the results of Okapifrom the date of acquisition.

 

Okapiprovided intelligent disk-based storage appliances used by InformationTechnology managers to reduce their back up window, speed restores andcompliment tape back up strategies all while fitting within existinginfrastructure. Okapi’s solution combines proprietary management software withiSCSI and ATA disk technologies to create high-speed, scalable and reliabledisk-to-disk-to-tape solutions.  Theirsolution accelerates backup by 50 to 90%; restores data in milliseconds;completes back up consistently and provides a quick, reliable replication ofcritical data to secure, remote locations to eliminate the need to transportmagnetic tapes.  Okapi’s solution is anadjacent appliance that fills a customer need and complements the Company’sexisting family of tape automation products.

 

**Theaggregate purchase price for the assets of Okapi of $5,364,000 was comprised ofthe issuance of 134,551 shares of Overland stock valued at $2,705,000, cash of$2,500,000, and $159,000 of acquisition related costs. Of the $5,364,000purchase price, $41,000 was allocated to the net tangible liabilities acquiredand $8,983,000, which includes a deferred tax liability, was allocated toacquired technology.  As this transactionwas accounted for as a tax-free exchange, the Company recorded a deferred taxliability of $3,578,000.  The acquiredtechnology represented by the intangible asset is amortized over a five yearlife.**

** **

During fiscal 2004, theCompany was able to claim certain tax benefits related to the Okapi acquisitionon its fiscal year 2003 tax return that were not allocated at the time of thepurchase.  As a result, in fiscal year2004, the purchase price of the intangible asset was reduced by $263,000 toreflect these tax benefits including a reduction of the related deferred taxliability.  The adjusted purchase priceof the intangible asset will be amortized over four years, the remaining usefullife of the asset.

 

45

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**NOTE 3 – CASH, CASH EQUIVALENTSAND INVESTMENTS IN DEBT SECURITIES**

 

The following tablesummarizes the fair value of the Company’s cash and available-for-salesecurities held in its short-term investment portfolio, recorded as cash andcash equivalents or short-term investments (in thousands):

 
| ** **                                                  | ** ** | **June 30,  2004** | ** ** | **June 30,  2003** | ** ** |
|-------------------------------------------------------------|------------|-------------------------|------------|-------------------------|------------|
|                                                        |       |                    |       |                    |       |
| Cash                                                        |       | $                       | 12,397     |                    | $          | 10,195 |   |
| United  States government and agency securities             |       | —                  |       | 44,825                  |       |
| State  and municipal securities                             |       | 46,025                  |       | —                  |       |
| Total  cash and cash equivalents                            |       | 58,422                  |       | 55,020                  |       |
|                                                        |       |                    |       |                    |       |
| Asset-backed  securities                                    |       | 3,234                   |       | —                  |       |
| United  States government and agency securities             |       | 1,977                   |       | —                  |       |
| State  and municipal securities                             |       | 5,777                   |       | —                  |       |
| Certificates  of deposit                                    |       | 247                     |       | —                  |       |
| Total  short-term investments                               |       | 11,235                  |       | —                  |       |
|                                                        |       |                    |       |                    |       |
| Total  cash and cash equivalents and short-term investments |       | $                       | 69,657     |                    | $          | 55,020 |   |

 

At June 30, 2004,all of the Company’s investments in marketable securities were classified asavailable-for-sale, and as a result, are reported at fair value.  Net unrealized losses on the Company’smarketable securities at June 30, 2004 amounted to $33,000, net oftax.  Fair values of marketablesecurities are estimated based on quoted market prices for these securities.

 

During the twelve monthsended June 30, 2004 and 2003, the Company had no proceeds from the sale ofshort-term investments and, therefore, has realized no gains or losses.

 

As of June 30, 2004,$6,285,000 of the Company’s short-term investments had underlying maturities ofbetween one and two years.  The remainingshort-term investments as of June 30, 2004 all had maturities of betweenthree and twelve months.  As ofJune 30, 2003, the Company had no amounts held as short-term investments.

 

46

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**NOTE4 - COMPOSITION OF CERTAIN FINANCIAL STATEMENT CAPTIONS**

** **
| ** **                                      | ** ** | **June 30,**  | ** ** |
|-------------------------------------------------|------------|--------------------|------------|
| ** **                                      | ** ** | **2004**           | ** ** | **2003** | ** ** |
| ** **                                      | ** ** | **(in thousands)** | ** ** |
| Inventories:                                    |       |               |       |   |   |
| Raw  materials                                  |       | $                  | 6,266      |   | $ | 8,029 |   |
| Work  in process                                |       | 2,444              |       | 2,244 |   |
| Finished  goods                                 |       | 7,453              |       | 8,989 |   |
|                                            |       |               |       |   |   |
|                                            |       | $                  | 16,163     |   | $ | 19,262 |   |
|                                            |       |               |       |   |   |
| Property  and equipment:                        |       |               |       |   |   |
| Machinery  and equipment                        |       | $                  | 5,542      |   | $ | 5,574 |   |
| Computer  equipment                             |       | 8,764              |       | 7,421 |   |
| Furniture  and fixtures                         |       | 1,194              |       | 1,103 |   |
| Leasehold  improvements                         |       | 3,815              |       | 3,726 |   |
|                                            |       |               |       |   |   |
|                                            |       | 19,315             |       | 17,824 |   |
| Less  accumulated depreciation and amortization |       | (11,370            | )          | (9,653 | ) |
|                                            |       |               |       |   |   |
|                                            |       | $                  | 7,945      |   | $ | 8,171 |   |

 

Depreciation and amortization expense was $2,367,000,$2,354,000 and $2,109,000 in fiscal years 2004, 2003 and 2002, respectively.

 

**NOTE 5 – INTANGIBLE ASSETS**

 

The Company hadintangible assets of $6,924,000 and $8,983,000 at June 30, 2004 and 2003,respectively, consisting solely of the technology purchased in the Okapiacquisition during fiscal year 2003 as discussed in Note 2.  During fiscal year 2004, $1,796,000 wasamortized.  During fiscal year 2003, noamounts were amortized due to the timing of the acquisition near the end of thefiscal year.  The Okapi technology isbeing amortized over five years.

 

Estimated amortizationexpense for this intangible asset will be approximately $1.7 million forthe twelve months ending June 30, 2005 and each of the three fiscal yearsthereafter.

 

**NOTE 6 - LONG-TERM DEBT**

 

At June 30, 2004,the Company had a credit facility consisting of a $10,000,000 revolving line ofcredit for working capital purposes that expires on November 30, 2004.  The line of credit is collateralized bysubstantially all of the Company’s assets. Interest on the line of credit is set at the bank’s prime rate (4.0% onJune 30, 2004) in effect from time to time minus 0.25% or, at the Company’soption, a rate equal to LIBOR plus 2.25%. The loan agreement that governs the credit facility contains certainfinancial and non-financial covenants. At June 30, 2004, no amounts were outstanding under the line ofcredit.  In December 2003, the Companyextinguished the outstanding term note balance of $3,724,000.

 

47

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**NOTE 7 - INCOME TAXES**

 

The components of income before income taxes were as follows:

 
| ** ** | ** ** | **Year ended June 30,** | ** ** |
|------------|------------|------------------------------|------------|
| ** ** | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** ** | ** ** | **(in thousands)**           | ** ** |
|       |       |                         |       |   |   |   |   |
| Domestic   |       | $                            | 15,003     |   | $ | 8,371 |   | $ | 5,616 |   |
| Foreign    |       | 1,196                        |       | 1,822 |   | 1,223 |   |
|       |       | $                            | 16,199     |   | $ | 10,193 |   | $ | 6,839 |   |

 

The provision for income taxes includes the following:

 
| ** ** | ** ** | **Year ended June 30,** | ** ** |
|------------|------------|------------------------------|------------|
| ** ** | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** ** | ** ** | **(in thousands)**           | ** ** |
| Current:   |       |                         |       |   |   |   |   |
| Federal    |       | $                            | 5,293      |   | $ | 3,176 |   | $ | 1,382 |   |
| State      |       | 1,171                        |       | 653 |   | 205 |   |
| Foreign    |       | 377                          |       | 525 |   | 309 |   |
|       |       | 6,841                        |       | 4,354 |   | 1,896 |   |
|       |       |                         |       |   |   |   |   |
| Deferred:  |       |                         |       |   |   |   |   |
| Federal    |       | (1,054                       | )          | (679 | ) | 300 |   |
| State      |       | (213                         | )          | (164 | ) | 150 |   |
| Foreign    |       | —                       |       | — |   | — |   |
|       |       | (1,267                       | )          | (843 | ) | 450 |   |
|       |       | $                            | 5,574      |   | $ | 3,511 |   | $ | 2,346 |   |

 

A reconciliation of income taxes computed by applyingthe federal statutory income tax rate of 34%****toincome before income taxes to the total income tax provision reported in theConsolidated Statement of Operations is as follows:

 
| ** **                                  | ** ** | **Year ended June 30,** | ** ** |
|---------------------------------------------|------------|------------------------------|------------|
| ** **                                  | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                  | ** ** | **(in thousands)**           | ** ** |
|                                        |       |                         |       |   |   |   |   |
| U.S.  Federal income tax at statutory rate  |       | $                            | 5,493      |   | $ | 3,466 |   | $ | 2,325 |   |
| State  income taxes, net of federal benefit |       | 633                          |       | 383 |   | 234 |   |
| Extraterritorial  income exclusion benefit  |       | (374                         | )          | (246 | ) | (272 | ) |
| Tax  exempt interest                        |       | (68                          | )          | — |   | — |   |
| Permanent  differences                      |       | 53                           |       | 45 |   | 58 |   |
| Other                                       |       | (163                         | )          | (137 | ) | 1 |   |
| Provision  for income taxes                 |       | $                            | 5,574      |   | $ | 3,511 |   | $ | 2,346 |   |

 

48

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Deferred income taxes at June 30, 2004 and 2003 comprised:

 
| ** **                           | ** ** | **June 30,**  | ** ** |
|--------------------------------------|------------|--------------------|------------|
| ** **                           | ** ** | **2004**           | ** ** | **2003** | ** ** |
| ** **                           | ** ** | **(in thousands)** | ** ** |
| Deferred  tax assets:                |       |               |       |   |   |
| Inventory                            |       | $                  | 1,728      |   | $ | 1,983 |   |
| Warranty  reserves                   |       | 2,140              |       | 1,134 |   |
| Vacation  and deferred compensation  |       | 495                |       | 379 |   |
| State  income taxes                  |       | 495                |       | 255 |   |
| Allowance  for doubtful accounts     |       | 118                |       | 164 |   |
| Intangible  assets                   |       | 61                 |       | 77 |   |
| Other                                |       | 84                 |       | 144 |   |
| Gross  deferred tax asset            |       | 5,121              |       | 4,136 |   |
|                                 |       |               |       |   |   |
| Deferred  tax liabilities            |       |               |       |   |   |
| Purchased  intangible assets         |       | (2,758             | )          | (3,578 | ) |
| Property  and equipment depreciation |       | (506               | )          | (254 | ) |
| Other                                |       | (44                | )          | (44 | ) |
| Gross  deferred tax liability        |       | (3,308             | )          | (3,876 | ) |
| Net  deferred income taxes           |       | $                  | 1,813      |   | $ | 260 |   |

 

No valuationallowance was recorded as of June 30, 2004 or 2003, as the Companybelieves it is more likely than not the deferred tax assets will be realized.

 

**NOTE8 - COMMON STOCK**

** **

On August 11, 2004,the Board of Directors authorized the purchase of up to $10,000,000 of theCompany’s common stock on the open market or through negotiated transactions.This repurchase authority allows the Company, at management’s discretion, toselectively repurchase its common stock from time to time in the open market orin privately negotiated transactions depending on market price and otherfactors. The share repurchase authorization has no stated expiration date.

 

**On May15, 2003, the Company sold 1,430,000 shares of common stock in a privateplacement transaction.  The stock wassold at $15.39, a 10 percent discount to the closing market price on May 12,2003. Gross proceeds to Overland were $22,008,000 with net proceeds aftercommission and offering expenses of $20,623,000. Proceeds will be used by theCompany to fund working capital needs in support of the growth of its businessand for general corporate purposes.**

** **

**NOTE9 - STOCK OPTIONS**

** **

The Company has seven active stock option plans, administered by theCompensation Committee of the Board of Directors, which provide for theissuance of options to employees, officers, directors and consultants.  As of June 30, 2004, the Company hadreserved 5,174,990 shares of common stock for issuance under the 1991Non-Qualified Stock Option Plan (1991 Plan), 1993 Stock Option Plan, 1993-AStock Option Plan, 1995 Stock Option Plan, 1997 Executive Stock Option Plan,2000 Stock Option Plan, 2001 Supplemental Stock Option Plan (2001 Plan), andthe 2003 Equity Incentive Plan (2003 Plan) (collectively, the OptionPlans).  The Option Plans provide for thegranting of stock options equal to the fair market value of the Company’sCommon Stock on the date the option is granted. The Option Plans have been approved by shareholders with the exceptionof the 1991 Plan and the 2001 Plan. Currently, the Company may grant options only from the 2003 Plan.  Certain options issued under selected planscall for 100% vesting of outstanding options upon a change of control of theCompany or upon death or disability of the optionee.  Options granted during the last three fiscalyears generally vest over a three year period, with monthly vesting from thedate of grant.  Options granted in prioryears generally vested at a rate of 25% per year over a four-year period fromthe date of grant.  Options expire aftera period not to exceed ten years, except in the event of termination, whereuponvested shares must be exercised generally within

 

49

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three months underthe 2003 Plan and within 30 days under the other Option Plans, or upon death ordisability, where an extended six or twelve-month exercise period isspecified.  As of June 30, 2004,approximately 2.8 million shares were reserved for issuance upon exercise ofoutstanding options and approximately 220,000 were available for grant underthe Option Plans.

 

Option activity for the three years ended June 30, 2004 issummarized as follows:

 
| ** **                                 | ** ** | **Shares** | ** ** | **Weighted-Average  Exercise Price** | ** ** |
|--------------------------------------------|------------|------------|------------|--------------------------------------|------------|
| Options  outstanding at June 30, 2001 |       | 2,773,721  |       | $                                    | 7.40       |   |
|                                       |       |       |       |                                 |       |
| Options  granted                           |       | 634,103    |       | 8.38                                 |       |
| Options  exercised                         |       | (439,445   | )          | 5.59                                 |       |
| Options  forfeited                         |       | (177,017   | )          | 8.67                                 |       |
|                                       |       |       |       |                                 |       |
| Options  outstanding at June 30, 2002 |       | 2,791,362  |       | $                                    | 7.83       |   |
|                                       |       |       |       |                                 |       |
| Options  granted                           |       | 922,500    |       | 13.41                                |       |
| Options  exercised                         |       | (350,624   | )          | 6.85                                 |       |
| Options  forfeited                         |       | (107,997   | )          | 8.96                                 |       |
|                                       |       |       |       |                                 |       |
| Options  outstanding at June 30, 2003 |       | 3,255,241  |       | $                                    | 9.48       |   |
|                                       |       |       |       |                                 |       |
| Options  granted                           |       | 402,950    |       | 18.83                                |       |
| Options  exercised                         |       | (682,884   | )          | 8.19                                 |       |
| Options  forfeited                         |       | (142,721   | )          | 13.42                                |       |
|                                       |       |       |       |                                 |       |
| Options  outstanding at June 30, 2004 |       | 2,832,586  |       | $                                    | 10.92      |   |

 

The following table summarizes information about stock optionsoutstanding as of June 30, 2004:

 
| ** **                      | ** ** | **Options Outstanding** | ** ** | ** **                       | ** ** |
|---------------------------------|------------|-------------------------|------------|----------------------------------|------------|
| ** **                      | ** ** | ** **              | ** ** | **Weighted-Average**             | ** ** | ** ** | ** ** | **Options Exercisable** | ** ** |
| **Range  of  Exercise  Prices** | ** ** | **Shares  Outstanding** | ** ** | **Remaining  Contractual  Life** | ** ** | **Weighted-Average  Exercise  Price** | ** ** | **Shares  Exercisable** | ** ** | **Weighted-Average  Exercise  Price** | ** ** |
| $ 0.80 - 4.99              |       | 112,500                 |       | 3.4                              |       | $ | 4.04 |   | 112,500 |   | $ | 4.04 |   |
| 5.00 - 8.55                     |       | 781,817                 |       | 5.8                              |       | 7.02 |   | 762,949 |   | 7.03 |   |
| 8.56 - 13.49                    |       | 975,525                 |       | 7.0                              |       | 9.53 |   | 854,008 |   | 9.34 |   |
| 13.50 - 17.99                   |       | 608,894                 |       | 8.3                              |       | 14.48 |   | 356,514 |   | 14.34 |   |
| 18.00 - 20.19                   |       | 301,600                 |       | 9.4                              |       | 19.30 |   | 102,280 |   | 19.58 |   |
| 20.20 - 21.76                   |       | 52,250                  |       | 9.3                              |       | 20.31 |   | 10,223 |   | 20.28 |   |
|                            |       |                    |       |                             |       |   |   |   |   |   |   |
| $ 0.80 - 21.76             |       | 2,832,586               |       | 7.1                              |       | $ | 10.92 |   | 2,198,474 |   | $ | 9.61 |   |

 

50

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**1996 Employee Stock Purchase Plan**

 

In February 1997, the Company adopted the 1996Employee Stock Purchase Plan (the “ESPP”) whereby 250,000 shares of CommonStock were reserved for issuance and purchase by employees of the Company toassist them in acquiring a stock ownership interest in the Company and toencourage them to remain employees of the Company.  In November 1998, the shareholdersapproved an amendment to increase the total number of shares of Common Stockfrom 250,000 to 500,000 shares.  InNovember 2003, the shareholders approved an amendment to increase thetotal number of shares of Common Stock from 500,000 to 600,000 shares.  The ESPP is qualified under Section 423of the Internal Revenue Code and permits eligible employees to purchase CommonStock at a discount through payroll deductions during specified six-monthoffering periods.  No employee maypurchase more than $25,000 worth of stock in any calendar year or 1,500 sharesin any one offering period. The ESPP is administered by the CompensationCommittee appointed by the Board of Directors and provides generally that thepurchase price must not be less than 85% of the fair market value of the CommonStock on the first or last day of the offering period, whichever is lower.

 

During fiscal years 2004, 2003 and 2002, a total of51,850, 40,720 and 51,076 shares, respectively, were issued for combinedproceeds of $658,000, $405,000 and $301,000, respectively.  As of June 30, 2004 approximately156,000 shares were available for grant.

 

#### **NOTE 10 - 401(k)PLAN**

#### ** **

In January 1994, the Company adopted an employee savings andretirement plan (the “401(k) Plan”) covering all of the Company’semployees.  The 401(k) Plan permits butdoes not require matching contributions by the Company on behalf of allparticipants.  The Company matchesemployee contributions at 75%, for up to 6% of an employee’s pretaxincome.  The totals of these employercontributions were $660,000, $520,000 and $538,000 in fiscal years 2004, 2003and 2002, respectively.

 

**NOTE11 – ACCRUED RESTRUCTURING CHARGES**

** **

**Duringthe fourth quarter of fiscal year 2001, the Company recorded a pretax charge of$2,535,000, including $2,172,000 in inventory and fixed asset impairments and$363,000 of restructuring charges, related to the sale of its Travan-based WS30and EDT40 tape drive designs and related assets and the exit of the entry-leveltape drive business including the planned closure of its Longmont, Coloradofacility.**

** **

**Duringfiscal year 2002, the Company increased the restructuring accrual for facilityrent by $228,000 to reflect an adjustment in the estimated liability related tothe closure of the Longmont facility, based upon the increased amount of timethe Company believed would be required to sublease the facility, given theweakening real estate market in Longmont, Colorado.**

** **

Subsequent to the termination of the Travan baseddevelopment project in May 2002, the Company temporarily used the Longmontfacility for certain engineering operations primarily related to its softwareproducts.  During the third quarter offiscal year 2003, the Company completed the relocation of all operations fromthe Longmont facility to its San Diego headquarters.  After the relocation the Company re-evaluatedits accrual related to the Longmont facility lease.  While the Company continues to pursuesub-lease opportunities, based upon the current commercial real estate marketin Longmont, it determined that it was unlikely that it will be able to sub-leasethe property and recorded an additional charge of $156,000 as an operatingexpense within research and development to accrue all of the remaining paymentsdue under the lease.  The accruedfacility costs are expected to be paid over the remaining life of the lease,which expires in November 2005.

 

51

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**Thefollowing table summarizes the activity and balances of the accruedrestructuring charges through June 30, 2003: (in thousands)**

 
| ** **                                           | ** ** | **Employee  Related** | ** ** | **Lease and  Facility** | ** ** | **Total** | ** ** |
|------------------------------------------------------|------------|-----------------------|------------|-------------------------|------------|-----------|------------|
|                                                 |       |                  |       |                    |       |      |       |
| Restructuring  charge                                |       | $                     | 159        |                    | $          | 204       |       | $ | 363 |   |
| Cash  payments                                       |       | (31                   | )          | —                  |       | (31       | )          |
|                                                 |       |                  |       |                    |       |      |       |
| Accrued  restructuring charges at June 30, 2001 |       | 128                   |       | 204                     |       | 332       |       |
|                                                 |       |                  |       |                    |       |      |       |
| Cash  payments                                       |       | (128                  | )          | —                  |       | $         | (128       | ) |
| Adjustments                                          |       | —                |       | 228                     |       | 228       |       |
|                                                 |       |                  |       |                    |       |      |       |
| Accrued  restructuring charges at June 30, 2002 |       | —                |       | 432                     |       | 432       |       |
|                                                 |       |                  |       |                    |       |      |       |
| Cash  payments                                       |       | —                |       | (72                     | )          | (72       | )          |
| Adjustments                                          |       | —                |       | 156                     |       | 156       |       |
|                                                 |       |                  |       |                    |       |      |       |
| Accrued  restructuring charges at June 30, 2003 |       | —                |       | 516                     |       | 516       |       |
|                                                 |       |                  |       |                    |       |      |       |
| Cash  payments                                       |       | —                |       | (193                    | )          | (193      | )          |
|                                                 |       |                  |       |                    |       |      |       |
| Accrued  restructuring charges at June 30, 2004 |       | $                     | —     |                    | $          | 323       |       | $ | 323 |   |

 

**NOTE 12 - COMMITMENTS ANDCONTINGENCIES**

 

**Leases**

 

The Company leases itsoffice, production and sales facilities under non-cancelable operating leases,which expire in various years through fiscal year 2018.  The leases provide for biennial or annualrent escalations intended to approximate increases in cost of living indices,and certain of the leases provide for rent abatement.  At June 30, 2004, future minimum leasepayments under these arrangements are as follows:

 
| **Year  Ending  June 30,** | ** ** | **Minimum Lease  Payments** | ** ** |
|---------------------------------|------------|-----------------------------|------------|
| ** **                      | ** ** | **(in thousands)**          | ** ** |
| 2005                            |       | $                           | 3,284      |   |
| 2006                            |       | 3,216                       |       |
| 2007                            |       | 3,221                       |       |
| 2008                            |       | 3,248                       |       |
| 2009                            |       | 3,344                       |       |
| Thereafter                      |       | 17,716                      |       |
|                            |       |                        |       |
|                            |       | $                           | 34,029     |   |

 

During fiscal year 2001,the Company entered into an operating lease agreement for a new 158,000 squarefoot headquarter facility to be constructed in San Diego, California.  The lease commenced upon the Company’soccupancy of the building in February 2002.  The lease is for a period of twelve years andcan be renewed for one additional five-year period.

 

Rental expense isrecognized ratably over the respective lease terms and aggregated $3,754,000,$3,843,000 and $2,520,000 for fiscal years 2004, 2003 and 2002, respectively.

 

52

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#### **Guarantees**

#### ** **

The Company’s standardwarranty is a three year advance replacement return-to-factory warranty thatcovers both parts and labor.  Forproducts that it distributes and for drives and tapes used in its products thatare manufactured by a third party, the Company passes on to the customer thewarranty provided by the manufacturer. The Company also provides on-site service for the first warranty year ofits higher-end products, for which it contracts with third-party serviceproviders.

 

The Company provides forthe estimated cost of product warranties at the time revenue isrecognized.  The Company’s productwarranty liability reflects its best estimate of probable liability under itsproduct warranties.  The Companyestimates the warranty based on expected product failure rates, historicalexperience, and other currently available information.

 

The Company also sellsextended on-site warranties for certain products for which revenue is deferredand recognized over the warranty period.

 

Changes in the liability for product warranty anddeferred revenue associated with extended warranties for the fiscal year endedJune 30, 2004 were as follows (in thousands):

 
| ** **                                                   | ** ** | **Product  Warranty** | ** ** | **Deferred  Revenue** | ** ** |
|--------------------------------------------------------------|------------|-----------------------|------------|-----------------------|------------|
| Liability  at June 30, 2002                             |       | $                     | 1,720      |                  | $          | 703 |   |
| Settlements  made during the period                          |       | (2,244                | )          | (1,662                | )          |
| Change  in liability for warranties issued during the period |       | 2,730                 |       | 2,539                 |       |
| Change  in liability for preexisting warranties              |       | (77                   | )          | (122                  | )          |
|                                                         |       |                  |       |                  |       |
| Liability  at June 30, 2003                             |       | 2,129                 |       | 1,458                 |       |
| Settlements  made during the period                          |       | (2,961                | )          | (2,211                | )          |
| Change  in liability for warranties issued during the period |       | 4,635                 |       | 3,936                 |       |
| Change  in liability for preexisting warranties              |       | (226                  | )          | (1,899                | )          |
|                                                         |       |                  |       |                  |       |
| Liability  at June 30, 2004                             |       | $                     | 3,577      |                  | $          | 1,284 |   |

 

**Litigation**

 

In January 2003,Raytheon Company filed a lawsuit against the Company and various othercompanies in the United States District Court for the Eastern District ofTexas.  The complaint alleged that theCompany’s products infringed a patent held by Raytheon.  Raytheon demanded that the defendants stopselling infringing products, pay Raytheon for their past use of the inventionunder the patent and pay Raytheon’s costs and expenses and its reasonableattorney fees.  The Company assertedcounterclaims seeking to have the subject patent declared invalid,unenforceable and not infringed by the Company. Effective in April 2004, the Company settled this lawsuit withRaytheon and both parties agreed to dismiss with prejudice their respectiveclaims and counterclaims against each other. Although the specific terms of the settlement with Raytheon areconfidential, the Company is now fully licensed under the subject patent andits business and products are unaffected by the settlement.

 

The Company is from time to time involved in variouslawsuits and legal proceedings that arise in the ordinary course ofbusiness.  In the opinion of management,the amount of any ultimate liability with respect to these actions will notmaterially affect the Company’s consolidated financial statements or results ofoperations.

 

**Purchase Obligations**

** **

The company has agreements with suppliers to purchaseinventory and other goods and services and estimates its noncancelableobligations under these agreements to be approximately $12,900,000 in fiscal2005.

 

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**NOTE 13 – SELECTED QUARTERLYFINANCIAL DATA (UNAUDITED)**

 

The following tablepresents selected quarterly financial information for the periodsindicated.  This information has beenderived from the Company’s unaudited quarterly consolidated financialstatements, which in the opinion of management includes all adjustments(consisting only of normal recurring adjustments) necessary for a fair presentationof such information.  The quarterly pershare data presented below was calculated separately and may not sum to theannual figures presented in the Consolidated Financial Statements. Theseoperating results are also not necessarily indicative of results for any futureperiod.

 
| ** **                         | ** ** | **Quarters Ended**                           | ** ** |
|------------------------------------|------------|----------------------------------------------|------------|
| ** **                         | ** ** | **Fiscal Year 2003**                         | ** ** | **Fiscal Year 2004** | ** ** |
| ** **                         | ** ** | **Sept. 30  2002**                           | ** ** | **Dec. 31  2002** | ** ** | **Mar. 31  2003** | ** ** | **Jun. 30  2003** | ** ** | **Sept. 30  2003** | ** ** | **Dec. 31  2003** | ** ** | **Mar. 31  2004** | ** ** | **Jun. 30  2004** | ** ** |
| ** **                         | ** ** | **(in thousands, except per share amounts)** | ** ** |
| Net  sales                         |       | $                                            | 34,540     |   | $ | 48,611 |   | $ | 56,200 |   | $ | 56,530 |   | $ | 56,569 |   | $ | 67,750 |   | $ | 58,789 |   | $ | 55,031 |   |
| Gross  profit                      |       | 9,012                                        |       | 13,163 |   | 15,691 |   | 16,153 |   | 15,577 |   | 17,672 |   | 16,167 |   | 15,238 |   |
| (Loss)  income from operations     |       | (884                                         | )          | 2,352 |   | 3,836 |   | 5,006 |   | 3,334 |   | 5,188 |   | 4,103 |   | 2,973 |   |
| (Loss)  income before income taxes |       | (850                                         | )          | 2,327 |   | 3,726 |   | 4,990 |   | 3,420 |   | 5,312 |   | 4,325 |   | 3,142 |   |
| Net  (loss) income                 |       | (557                                         | )          | 1,524 |   | 2,440 |   | 3,275 |   | 2,223 |   | 3,453 |   | 2,876 |   | 2,073 |   |
|                               |       |                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net  (loss) income per share:      |       |                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Basic                              |       | $                                            | (0.05      | ) | $ | 0.14 |   | $ | 0.22 |   | $ | 0.27 |   | $ | 0.17 |   | $ | 0.26 |   | $ | 0.21 |   | $ | 0.15 |   |
| Diluted                            |       | (0.05                                        | )          | 0.13 |   | 0.20 |   | 0.25 |   | 0.16 |   | 0.24 |   | 0.20 |   | 0.14 |   |

 

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**OVERLANDDATA, INC.**

**SCHEDULE II— VALUATION AND QUALIFYING ACCOUNTS**

**FISCALYEARS ENDED JUNE 30, 2004, 2003 and 2002**

 
| **Balance  at  Year**                       | ** ** | **Balance at  Beginning  of Year** | ** ** | **Additions  Charged to  Income** | ** ** | **Deductions*** | ** ** | **Deductions  Credited to  Income** | ** ** | **End of** | ** ** |
|---------------------------------------------|------------|------------------------------------|------------|-----------------------------------|------------|-----------------|------------|-------------------------------------|------------|------------|------------|
|                                        |       |                               |       |                              |       |            |       |                                |       |       |       |
| Allowance  for Doubtful Accounts Receivable |       |                               |       |                              |       |            |       |                                |       |       |       |
|                                        |       |                               |       |                              |       |            |       |                                |       |       |       |
| 2004                                        |       | $                                  | 413        |                              | $          | 114             |       | $                                   | 126        |       | $          | 105 |   | $ | 296 |   |
| 2003                                        |       | 652                                |       | 267                               |       | 506             |       | —                              |       | 413        |       |
| 2002                                        |       | 603                                |       | 277                               |       | 159             |       | 69                                  |       | 652        |       |
|                                        |       |                               |       |                              |       |            |       |                                |       |       |       |
| Reserve  for Inventory Obsolescence         |       |                               |       |                              |       |            |       |                                |       |       |       |
|                                        |       |                               |       |                              |       |            |       |                                |       |       |       |
| 2004                                        |       | $                                  | 3,583      |                              | $          | 1,462           |       | $                                   | 2,258      |       | $          | — |   | $ | 2,787 |   |
| 2003                                        |       | 3,133                              |       | 3,080                             |       | 2,630           |       | —                              |       | 3,583      |       |
| 2002                                        |       | 4,195                              |       | 1,029                             |       | 2,036           |       | 55                                  |       | 3,133      |       |

 

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*  Amounts written off against the allowance,net of recoveries.

 

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