**SECURITIESAND EXCHANGE COMMISSION**

**Washington,D.C.  20549**

 

**FORM 10-Q**

 

**ý**                                 **QUARTERLY REPORTPURSUANT TO SECTION 13 OR 15 (d) OF THESECURITIES EXCHANGE ACT OF 1934.**

 

**For the quarterly period ended March 31,2004**

 

**OR**

 

**o****                                ****TRANSITION REPORTPURSUANT TO SECTION 13 OR 15 (d)OF THE SECURITIES EXCHANGE ACT OF 1934.**

 

**Commission File Number 0-24707**

 

**INET TECHNOLOGIES, INC.**

(Exact name of registrant as specified in itscharter)

 

| **Delaware**                                                    |   | **75-2269056**                        |
|-----------------------------------------------------------------|--------|---------------------------------------|
| (State or other jurisdiction  of incorporation or organization) |   | (I.R.S. employer  identification no.) |
|                                                            |
| **1500 North Greenville Avenue  Richardson, Texas 75081**       |
| (Address of principal executive offices,  including zip code)   |
|                                                            |
| **(469) 330-4000**                                              |
| (Registrant’s telephone number, including  area code)      |

 

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

 

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

 

Number of shares of common stock outstanding at April 20,2004:  39,220,388

 

 

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**InetTechnologies, Inc.**

**Index**

 
| Part I – Financial Information |    |
|-------------------------------------|---------|
|                                |    |   |   |
|                                | Item 1. | Financial Statements |   |
|                                |    |   |   |
|                                |    | Condensed Consolidated Balance Sheets |   |
|                                |    |   |   |
|                                |    | Condensed Consolidated Statements of Income |   |
|                                |    |   |   |
|                                |    | Condensed Consolidated Statement of  Stockholders’ Equity |   |
|                                |    |   |   |
|                                |    | Condensed Consolidated Statements of Cash  Flows |   |
|                                |    |   |   |
|                                |    | Notes to Condensed Consolidated Financial  Statements |   |
|                                |    |   |   |
|                                | Item 2. | Management’s Discussion and Analysis of  Financial Condition and |   |
|                                |    |   |   |
|                                |    | Results of Operations |   |
|                                |    |   |   |
|                                | Item 3. | Quantitative and Qualitative Disclosures  about Market Risk |   |
|                                |    |   |   |
|                                | Item 4. | Controls and Procedures |   |
|                                |    |   |   |
| Part II – Other  Information   |    |
|                                |    |   |   |
|                                | Item 2. | Changes  in Securities, Use of Proceeds and Issuer Purchases of Equity Securities |   |
|                                |    |   |   |
|                                | Item 6. | Exhibits and Reports on Form 8-K |   |
|                                |    |   |   |
| Signatures                          |    |

 

2

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**PART I.****    FINANCIALINFORMATION**

 

**Item 1.****                                                           FinancialStatements**

 

**INET TECHNOLOGIES, INC.**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

(Unaudited)

(In thousands, except share data)

 
|                                                                                                                            |   | **March 31,  2004** |       | **December 31,  2003** |       |
|---------------------------------------------------------------------------------------------------------------------------------|--------|--------------------------|------------|-----------------------------|------------|
| **ASSETS**                                                                                                                      |   |                     | ** ** |                        | ** ** |
|                                                                                                                            |   |                     |       |                        |       |
| Current  assets:                                                                                                                |   |                     |       |                        |       |
| Cash and cash  equivalents                                                                                                      |   | $                        | 72,898     |                        | $          | 118,527 |   |
| Short-term  investments                                                                                                         |   | 99,267                   |       | 55,034                      |       |
| Trade accounts  receivable, net of allowance for doubtful accounts of $514 at March 31,  2004 and December 31, 2003   |   | 15,066                   |       | 10,870                      |       |
| Unbilled  receivables                                                                                                           |   | 236                      |       | 146                         |       |
| Inventories                                                                                                                     |   | 8,957                    |       | 7,924                       |       |
| Deferred  income taxes                                                                                                          |   | 1,829                    |       | 1,628                       |       |
| Other current  assets                                                                                                           |   | 6,007                    |       | 5,055                       |       |
| Total current  assets                                                                                                           |   | 204,260                  |       | 199,184                     |       |
| Property and  equipment, net                                                                                                    |   | 10,741                   |       | 11,330                      |       |
| Deferred  income taxes                                                                                                          |   | 201                      |       | 217                         |       |
| Other assets                                                                                                                    |   | 614                      |       | 613                         |       |
| Total assets                                                                                                                    |   | $                        | 215,816    |                        | $          | 211,344 |   |
|                                                                                                                            |   |                     |       |                        |       |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                   |   |                     |       |                        |       |
|                                                                                                                            |   |                     |       |                        |       |
| Current  liabilities:                                                                                                           |   |                     |       |                        |       |
| Accounts  payable                                                                                                               |   | $                        | 2,037      |                        | $          | 1,919 |   |
| Income taxes  payable                                                                                                           |   | 3,181                    |       | 2,408                       |       |
| Accrued  compensation and benefits                                                                                              |   | 2,593                    |       | 4,115                       |       |
| Deferred  revenues                                                                                                              |   | 20,977                   |       | 21,554                      |       |
| Other accrued  liabilities                                                                                                      |   | 4,365                    |       | 3,724                       |       |
| Total current  liabilities                                                                                                      |   | 33,153                   |       | 33,720                      |       |
| Commitments  and contingencies                                                                                                  |   |                     |       |                        |       |
| Stockholders’  equity:                                                                                                     |   |                     |       |                        |       |
| Preferred  stock, $.001 par value:                                                                                              |   |                     |       |                        |       |
| Authorized shares — 25,000,000  Issued shares — None                                                                  |   | —                   |       | —                      |       |
| Common stock,  $.001 par value:                                                                                                 |   |                     |       |                        |       |
| Authorized shares — 175,000,000  Issued shares — 47,159,643 at March 31, 2004 and December 31, 2003         |   | 47                       |       | 47                          |       |
| Additional  paid-in capital                                                                                                     |   | 78,191                   |       | 77,866                      |       |
| Unearned  compensation                                                                                                          |   | (2,423                   | )          | (2,610                      | )          |
| Retained  earnings                                                                                                              |   | 138,208                  |       | 134,932                     |       |
| Treasury  stock, 7,939,255 common shares at March 31, 2004 and 8,240,060 common  shares at December 31, 2003, at cost |   | (31,360                  | )          | (32,611                     | )          |
| Total  stockholders’ equity                                                                                                |   | 182,663                  |       | 177,624                     |       |
| Total  liabilities and stockholders’ equity                                                                                |   | $                        | 215,816    |                        | $          | 211,344 |   |

 

See accompanying notes to ourcondensed consolidated financial statements.

 

3

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**INET TECHNOLOGIES, INC.**

**CONDENSED CONSOLIDATED STATEMENTS OF INCOME**

(Unaudited)

(In thousands, except per sharedata)

 

 
|                                      |   | **Three months ended****March 31,** |   |
|-------------------------------------------|--------|------------------------------------------|--------|
|                                      |   | **2004**                                 |   | **2003** |   |
|                                      |   |                                     |   |   | ** ** |
| Revenues:                                 |   |                                     |   |   |   |
| Product and  license fees                 |   | $                                        | 19,647 |   | $ | 17,518 |   |
| Services                                  |   | 7,565                                    |   | 7,524 |   |
| Total revenues                            |   | 27,212                                   |   | 25,042 |   |
|                                      |   |                                     |   |   |   |
| Cost of  revenues:                        |   |                                     |   |   |   |
| Product and  license fees                 |   | 5,227                                    |   | 2,902 |   |
| Services                                  |   | 3,188                                    |   | 4,167 |   |
| Total cost of  revenues                   |   | 8,415                                    |   | 7,069 |   |
|                                      |   |                                     |   |   |   |
| Gross profit                              |   | 18,797                                   |   | 17,973 |   |
| Operating  expenses:                      |   |                                     |   |   |   |
| Research and  development                 |   | 8,126                                    |   | 7,685 |   |
| Sales and  marketing                      |   | 4,307                                    |   | 3,515 |   |
| General and  administrative               |   | 2,261                                    |   | 2,419 |   |
|                                      |   | 14,694                                   |   | 13,619 |   |
| Income from  operations                   |   | 4,103                                    |   | 4,354 |   |
| Other income  (expense):                  |   |                                     |   |   |   |
| Interest  income                          |   | 369                                      |   | 426 |   |
| Other income  (expense)                   |   | (155                                     | )      | 16 |   |
|                                      |   | 214                                      |   | 442 |   |
| Income before  provision for income taxes |   | 4,317                                    |   | 4,796 |   |
| Provision for  income taxes               |   | 1,041                                    |   | 1,541 |   |
| Net income                                |   | $                                        | 3,276  |   | $ | 3,255 |   |
|                                      |   |                                     |   |   |   |
| Earnings per  common share:               |   |                                     |   |   |   |
| Basic                                     |   | $                                        | 0.08   |   | $ | 0.08 |   |
| Diluted                                   |   | $                                        | 0.08   |   | $ | 0.08 |   |
|                                      |   |                                     |   |   |   |
| Weighted-average  shares outstanding:     |   |                                     |   |   |   |
| Basic                                     |   | 39,119                                   |   | 40,395 |   |
| Diluted                                   |   | 39,788                                   |   | 40,563 |   |

 

See accompanying notes to ourcondensed consolidated financial statements.

 

4

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**INET TECHNOLOGIES, INC.**

**CONDENSED CONSOLIDATED STATEMENT OFSTOCKHOLDERS’ EQUITY**

(Unaudited)

(In thousands, except share data)

 
|                                                                                                           |               |       |       |   |       | **Additional  Paid-in  Capital** |       | **Unearned  Compensation** |       | **Retained  Earnings** |       |     |       |    |       | **Total  Stockholders’  Equity** |       |
|----------------------------------------------------------------------------------------------------------------|--------------------|------------|------------|--------|------------|----------------------------------|------------|----------------------------|------------|------------------------|------------|----------|------------|---------|------------|---------------------------------------|------------|
| **Common Stock**                                                                                               | **Treasury Stock** |
| **Shares**                                                                                                     |               | **Amount** | **Shares** |   | **Amount** |
|                                                                                                           |               |       | ** ** |   | ** ** |                             | ** ** |                       | ** ** |                   | ** ** |     | ** ** |    | ** ** |                                  | ** ** |
| Balance at December 31,  2003                                                                             |               | 47,159,643 |       | $      | 47         |                             | $          | 77,866                     |       | $                      | (2,610     | )        | $          | 134,932 |       | 8,240,060                             |       | $ | (32,611 | ) | $ | 177,624 |   |
| Issuance of common stock  under employee stock option and stock purchase plans, including tax benefit  of $240 |               | —     |       | — |       | 325                              |       | —                     |       | —                 |       | (300,805 | )          | 1,251   |       | 1,576                                 |       |
| Net income                                                                                                     |               | —     |       | — |       | —                           |       | —                     |       | 3,276                  |       | —   |       | —  |       | 3,276                                 |       |
| Amortization of restricted  stock  awards                                                                      |               | —     |       | — |       | —                           |       | 187                        |       | —                 |       | —   |       | —  |       | 187                                   |       |
| Balance at March 31,  2004                                                                                |               | 47,159,643 |       | $      | 47         |                             | $          | 78,191                     |       | $                      | (2,423     | )        | $          | 138,208 |       | 7,939,255                             |       | $ | (31,360 | ) | $ | 182,663 |   |

 

See accompanying notes to ourcondensed consolidated financial statements.

 

5

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**INET TECHNOLOGIES, INC.**

**CONDENSED CONSOLIDATED STATEMENTS OF CASHFLOWS**

(Unaudited)

(In thousands)

 
|                                                                                                                     |   | **Three months ended****March 31,** |       |
|--------------------------------------------------------------------------------------------------------------------------|--------|------------------------------------------|------------|
|                                                                                                                     |   | **2004**                                 |       | **2003** |   |
|                                                                                                                     |   |                                     | ** ** |   | ** ** |
| **Cash flows from  operating activities:**                                                                               |   |                                     |       |   |   |
| Net income                                                                                                               |   | $                                        | 3,276      |   | $ | 3,255 |   |
| Adjustments to  reconcile net income to net cash provided by operating activities:                                       |   |                                     |       |   |   |
| Depreciation                                                                                                             |   | 1,449                                    |       | 1,803 |   |
| Amortization  of purchase discounts on investments                                                                       |   | (205                                     | )          | — |   |
| Stock  compensation                                                                                                      |   | 187                                      |       | 141 |   |
| Deferred  income taxes                                                                                                   |   | (185                                     | )          | — |   |
| Changes in  operating assets and liabilities:                                                                            |   |                                     |       |   |   |
| Increase in  trade accounts receivable                                                                                   |   | (4,196                                   | )          | (1,527 | ) |
| Increase in  unbilled receivables                                                                                        |   | (90                                      | )          | (25 | ) |
| Increase in  inventories                                                                                                 |   | (1,033                                   | )          | (967 | ) |
| Increase in  other assets                                                                                                |   | (953                                     | )          | (217 | ) |
| Increase in  accounts payable                                                                                            |   | 118                                      |       | 395 |   |
| Increase in  taxes payable                                                                                               |   | 1,013                                    |       | 1,316 |   |
| Decrease in  accrued compensation and benefits                                                                           |   | (1,522                                   | )          | (1,302 | ) |
| Increase  (decrease) in deferred revenues                                                                                |   | (577                                     | )          | 5,688 |   |
| Increase in  other accrued liabilities                                                                                   |   | 641                                      |       | 1,250 |   |
| Net cash provided by (used in)  operating activities                                                                     |   | (2,077                                   | )          | 9,810 |   |
|                                                                                                                     |   |                                     |       |   |   |
| **Cash flows from  investing activities:**                                                                               |   |                                     |       |   |   |
| Purchases of  short-term investments                                                                                     |   | (44,028                                  | )          | — |   |
| Purchases of  property and equipment                                                                                     |   | (860                                     | )          | (932 | ) |
| Net cash used  in investing activities                                                                                   |   | (44,888                                  | )          | (932 | ) |
|                                                                                                                     |   |                                     |       |   |   |
| **Cash flows from  financing activities:**                                                                               |   |                                     |       |   |   |
| Repurchase of common stock                                                                                               |   | —                                   |       | (35,431 | ) |
| Proceeds from issuance of  common stock upon exercise of stock options and purchases under employee  stock purchase plan |   | 1,336                                    |       | 616 |   |
| Net cash  provided by (used in) financing activities                                                                     |   | 1,336                                    |       | (34,815 | ) |
|                                                                                                                     |   |                                     |       |   |   |
| Net decrease  in cash and cash equivalents                                                                               |   | (45,629                                  | )          | (25,937 | ) |
| Cash and cash  equivalents at beginning of period                                                                        |   | 118,527                                  |       | 189,076 |   |
| Cash and cash  equivalents at end of period                                                                              |   | $                                        | 72,898     |   | $ | 163,139 |   |
|                                                                                                                     |   |                                     |       |   |   |
| **Supplemental  disclosure:**                                                                                            |   |                                     |       |   |   |
| Income taxes  paid                                                                                                       |   | $                                        | 48         |   | $ | 155 |   |

 

See accompanying notes to ourcondensed consolidated financial statements.

 

6

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**INET TECHNOLOGIES, INC.**

**NOTES TO CONDENSED CONSOLIDATEDFINANCIAL STATEMENTS**

(Unaudited)

 

**Note 1 -****        ****Summary ofSignificant Accounting Policies**

 

***The Company***

 

InetTechnologies, Inc. is a global provider of communications software productsthat enable communications carriers to more strategically and profitablyoperate their businesses. Our Unified Assurance SolutionTM and ourDiagnostics products help our customers reduce capital and operatingexpenditures, improve customer acquisition and retention rates, protect andgrow revenues, and more quickly and effectively develop products or services.Our products address next-generation networks, including mobile data andvoice-over-packet technologies, and traditional networks.

 

***Consolidation***

 

Thecondensed consolidated financial statements include the accounts of ourwholly-owned subsidiaries.  Intercompanybalances and transactions have been eliminated.

 

***Unaudited Interim Financial Statements***

 

Wehave prepared the accompanying unaudited condensed consolidated financialstatements in accordance with U.S. generally accepted accounting principles, orGAAP, for interim financial information and the instructions to Form 10-Q andArticle 10 of Regulation S-X. Accordingly, these statements do not include all of the information andfootnotes required by accounting principles generally accepted in the UnitedStates for complete financial statements. In our opinion, all adjustments (consisting solely of normal recurringadjustments) necessary for a fair statement of the results for the interimperiods presented have been included. These financial statements should be read in conjunction with theaudited financial statements and related notes for the three years endedDecember 31, 2003 included in our Form 10-K filed with the Securities andExchange Commission, or SEC, on January 30, 2004.  Operating results for the three-month periodended March 31, 2004 are not necessarily indicative of the results thatmay be expected for any other interim period or for the year endingDecember 31, 2004.

 

***Accounting Estimates***

 

Thepreparation of financial statements in conformity with GAAP requires us to makeestimates and assumptions that affect the amounts reported in the financialstatements and accompanying notes. As discussed below, we make significantestimates and assumptions in the areas of revenue recognition, accountsreceivable, inventories and taxes. Althoughwe believe that our estimates and assumptions are reasonable, actual results maydiffer, and such differences could be significant to our financial results.

 

***Basis of Presentation***

 

Certain prior period amounts have been reclassified toconform to the current period presentation.

 

***Cash and Cash Equivalents***

 

Cash and cashequivalents consist of bank deposits, money-market funds and commercialpaper.  All highly-liquid securitieswith original maturities of three months or less are classified as cashequivalents.

 

7

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The carrying value of our bank deposits and money-market fundsapproximates fair market value.  Ourcommercial paper is classified as held to maturity and carried at amortizedcost.

 

***Short-termInvestments***

 

Our short-terminvestments are classified as held to maturity and carried at amortized cost.Interest income includes amortization of the purchase discounts.

 

At March 31, 2004, our short-terminvestments were as follows (in thousands):

 
|                                   |   | **Amortized****Cost** |   | **Unrealized****Gains** |   | **Unrealized****Losses** |   | **Estimated****Fair Value** |   |
|----------------------------------------|--------|-----------------------|--------|-------------------------|--------|--------------------------|--------|-----------------------------|--------|
| U.S. Treasury  bills                   |   | $                     | 75,242 |                    | $      | 3                        |   | $                           | — |   | $ | 75,245 |   |
| U.S.  government agency discount notes |   | 24,025                |   | —                  |   | 2                        |   | 24,023                      |   |
| Total  short-term investments          |   | $                     | 99,267 |                    | $      | 3                        |   | $                           | 2      |   | $ | 99,268 |   |

 

At December 31, 2003, our short-terminvestments were as follows (in thousands):

 
|                 |   | **Amortized****Cost** |   | **Unrealized****Gains** |   | **Unrealized****Losses** |   | **Estimated****Fair Value** |   |
|----------------------|--------|-----------------------|--------|-------------------------|--------|--------------------------|--------|-----------------------------|--------|
| U.S. Treasury  bills |   | $                     | 55,034 |                    | — |                     | — |                        | $      | 55,034 |   |
|                      |        |                       |        |                         |        |                          |        |                             |        |  |  |

 

***Allowancefor Doubtful Account***s

 

A large portion of our revenues and accountsreceivable are attributable to our carrier customers in the communicationsindustry and, to a lesser extent, to our equipment manufacturer customers whosupply equipment into the communications industry. Our trade accountsreceivable balance is recorded net of allowances for amounts not expected to becollected from our customers. Because our accounts receivable are usuallyunsecured, we periodically evaluate the collectibility of our accounts based ona combination of factors, including a particular customer’s ability to pay andthe age of the receivables. To evaluate a specific customer’s ability to pay,we analyze the customer’s payment history, if any, financial statements orother information provided by the customer, or third-party credit analysisreports or other publicly-available information. In cases where the evidencesuggests a customer may not be able to satisfy its obligations to us, we set upa specific reserve in an amount we determine appropriate for the perceivedrisk. Most of our contracts include multiple payment milestones, some of whichoccur in advance of revenue recognition, which mitigates our risk both in termsof collectibility and adjustments to recorded revenue. We have not historicallyexperienced significant losses on uncollectible accounts and our allowance hasbeen less than 5% of recorded receivables.

 

8

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***Inventories***

 

Inventories are valued at the lower ofstandard cost, which approximates actual cost determined on a first-in,first-out basis, or market.  AtMarch 31, 2004 and December 31, 2003, inventories consisted of thefollowing (in thousands):

 
|            |   | **March 31,  2004** |       | **December 31,  2003** |       |
|-----------------|--------|--------------------------|------------|-----------------------------|------------|
|            |   |                     | ** ** |                        | ** ** |
| Raw materials   |   | $                        | 3,430      |                        | $          | 3,498 |   |
| Work-in-process |   | 128                      |       | 219                         |       |
| Finished goods  |   | 5,399                    |       | 4,207                       |       |
|            |   | $                        | 8,957      |                        | $          | 7,924 |   |

 

Inventories arerecorded net of allowances for unsalable or obsolete raw materials,work-in-process and finished goods.  Weevaluate on a quarterly basis the status of our inventory to ensure the amountrecorded in our financial statements reflects the lower of our cost or thevalue we expect to receive when we sell the inventory.  This estimate is based on several factors,including the condition and salability of our inventory and the forecasteddemand for the particular products incorporating inventory components.  Based on current backlog, expected ordersand other expected demand, we forecast the usage of current stock.  We record reserves for obsolete andslow-moving parts of up to 100% for excess parts with insufficient demand orobsolete parts.  Amounts inwork-in-process and finished goods inventory typically relate to firm ordersand, therefore, are not subject to obsolescence risk.

 

***Revenue Recognition***

 

We derive revenues primarily from product andlicense fees as well as services, which include training, warranty and productsupport services. The majority of the contracts for our Unified Assuranceproducts contain multiple billing milestones, such as contract award, shipment,installation, ready for acceptance and acceptance, not all of which are associatedwith revenue recognition. Except as otherwise discussed below, revenues fromproduct and license fees are recognized in the period that we have completedall hardware manufacturing and/or software development to contractualspecifications, factory testing has been completed, the product has beenshipped to the customer, the fee is fixed and determinable and collection ofthe fee is considered probable.  When wehave significant obligations subsequent to shipment, such as installation andsystem integration, revenues are recognized when there are no significantunfulfilled obligations.  Revenues fromarrangements that include significant acceptance terms and/or provisions andrevenues from arrangements that include significant developmental items arerecognized when acceptance has occurred. Revenues from our Diagnostics products are typically recognized whentitle and risk of loss pass to the customer, which typically occurs atshipment.  For these products, wetypically have no significant obligations subsequent to shipment.  If a significant obligation were to exist,we would defer revenue recognition until such obligation was satisfied.  All shipping costs are included in cost ofrevenues in our condensed consolidated statements of income.

 

Contracts for our Unified Assurance productstypically involve multiple deliverables. We determine the fair value of each of the contract deliverables usingvendor-specific objective evidence, or VSOE. VSOE for each element is based on the price for which we would sell theelement on a stand-alone basis. We offer our customers product supportservices, which include the correction of software problems, hardwarereplacements, telephone access to our technical personnel and the right toreceive unspecified product updates, upgrades and enhancements, when and ifthey become available.  Revenues fromthese services, including post-contract support included in initial licensingfees, are recognized ratably over the service period.  Post-contract support included in the initial licensing fee isallocated from the total

 

9

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contract amount based on the fair value of these services determinedusing VSOE.  Revenues from otherservices, such as training, are recognized when the services have beencompleted.  If we determine that we donot have VSOE on an undelivered element of an arrangement, we will notrecognize revenue until all elements of the arrangement are delivered.

 

Deferred revenues represent amounts billed tocustomers, but not yet recognized asrevenue.  Unbilled receivables representamounts recognized as revenue, but not yet billed to customers.

 

***IncomeTaxes***

 

Our income taxes are computed using the assetand liability method of accounting. Under the asset and liability method, a deferred tax asset or liabilityis recognized for estimated future tax effects attributable to temporarydifferences and carryforwards.  

 

In the preparation of our provision forincome taxes, there may be many transactions and calculations where theultimate tax outcome is uncertain.  Thecalculation of tax liabilities and the determination of whether deferred taxassets will be realized in full or in part involves dealing with uncertaintiesin the application of complex and potentially changing tax laws.  Therefore, we must estimate severalfactors.  For example, when it is morelikely than not that all or some portion of a deferred tax asset will not berealized, a valuation allowance must be established for the amount of thedeferred tax assets that are determined not to be realizable. As of March 31,2004 and December 31, 2003, a valuation for deferred tax assets was not deemednecessary.  If the facts underlying ourdetermination or our financial results were to change in a manner impacting thelikelihood of realizing the deferred tax assets, judgment would have to beapplied to determine the amount of valuation allowance required in any givenperiod.  Additionally, because ourincome tax returns are subject to review and examination in the variousjurisdictions in which we operate, the Company recognizes potential liabilitiesfor anticipated tax issues and adjusts those potential liabilities based on anestimate of the ultimate resolution of whether, and the extent to which,additional taxes will be due.  We arecurrently not aware of any material issues that have been raised by taxingjurisdictions, and management believes that all income tax issues that may beraised as a result of such reviews and examinations in the future will beresolved with no material impact on our financial condition or results ofoperations.  However, in the event therewas an assessment by any of these jurisdictions, it could impact our taxprovision.  

 

Our annual effective tax rate is currentlyexpected to be 29.5% for the year ending December 31, 2004.  This tax rate differs from the 35% statutorycorporate tax rate primarily due to the effect of the extraterritorial incomeexclusion and research and development tax credits.  This tax rate currently reflects the impact of research anddevelopment tax credits through June 2004 at which time the statuteexpires.  As such, our effective taxrate could be impacted if the research and development tax credit was extendedor reinstated.  Our tax rate could alsobe impacted by our adjustment of certain tax accounts if the statute oflimitations were to expire on open tax years.

 

During the three months ended March 31, 2004,our effective tax rate of approximately 24.1% was also impacted by the effectof adjustments to the balance of our state tax liability and the balance of ourdeferred tax assets based on information developed in the quarter.

 

***StockOptions***

 

We have electedto follow Accounting Principles Board, or APB, Opinion No. 25*, Accountingfor Stock Issued to Employees*, in accounting for our employee stockoptions. Under APB 25, if the exercise price of an employee’s stock optionsequals or exceeds the market price of the underlying stock on the date ofgrant, no compensation expense is recognized. At March 31, 2004, we had three stock-based compensation planscovering employees and directors.  Weaccount for stock-based compensation for non-employees under the fair valuemethod prescribed by Statement of Financial Accounting Standards, or SFAS, No.123, *Accountingfor Stock-Based Compensation*. Through March 31, 2004, there have been no grants to non-employeesother than grants to our non-employee directors under our automatic optiongrant program.  As of March 31,2004, unearned stock compensation related to restricted stock grants wasapproximately $2.4 million.  As ofDecember 31, 2003, unearned stock compensation related to restricted stockgrants was approximately $2.6 million.

 

10

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Although SFAS123 allows us to continue to follow the present APB 25 guidelines in accountingfor employee stock options and employee stock purchase rights, we are requiredto disclose pro forma net income and net income per share as if we had adoptedSFAS 123 in accounting for employee stock options and restricted stockissuances and employee stock purchase rights. The pro forma impact of applying SFAS 123 in the three months endedMarch 31, 2004 and the three months ended March 31, 2003 will notnecessarily be representative of the pro forma impact in future periods.  Our pro forma information is as follows (inthousands, except per share data):

 
|                                                                                             |   | **Three months ended  March 31,** |   |
|--------------------------------------------------------------------------------------------------|--------|----------------------------------------|--------|
|                                                                                             |   | **2004**                               |   | **2003** |   |
|                                                                                             |   |                                   |   |   |   |
| Net income, as  reported                                                                         |   | $                                      | 3,276  |   | $ | 3,255 |   |
| Stock  compensation expense recorded under the intrinsic value method, net of income  taxes      |   | 135                                    |   | 96 |   |
| Pro forma  stock compensation expense computed under the fair value method, net of  income taxes |   | (1,988                                 | )      | (2,499 | ) |
| Pro forma net  income                                                                            |   | $                                      | 1,423  |   | $ | 852 |   |
|                                                                                             |   |                                   |   |   |   |
| Basic earnings  per common share, as reported                                                    |   | $                                      | 0.08   |   | $ | 0.08 |   |
| Diluted  earnings per common share, as reported                                                  |   | $                                      | 0.08   |   | $ | 0.08 |   |
|                                                                                             |   |                                   |   |   |   |
| Pro forma  basic earnings per common share                                                       |   | $                                      | 0.04   |   | $ | 0.02 |   |
| Pro forma  diluted earnings per common share                                                     |   | $                                      | 0.04   |   | $ | 0.02 |   |

 

Inputs used forthe fair value method for our employee stock options are as follows:

 
|                                            |   | **Three months ended  March 31,** |   |
|-------------------------------------------------|--------|----------------------------------------|--------|
|                                            |   | **2004**                               |   | **2003** |   |
|                                            |   |                                   |   |   |   |
| Volatility                                      |   | 0.89                                   |   | 0.97 |   |
| Weighted-average  expected lives                |   | 3.00                                   |   | 3.68 |   |
| Expected  dividend yields                       |   | —                                 |   | — |   |
| Weighted-average  risk-free interest rates      |   | 1.94                                   | %      | 2.10 | % |
| Weighted-average  fair value of options granted |   | $                                      | 7.23   |   | $ | 4.15 |   |
|                                                 |        |                                        |        |  |  |  |  |

 

11

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Inputs used forthe fair value method for our employee stock purchase rights are as follows:

 
|                                                           |   | **Three months ended  March 31,** |   |
|----------------------------------------------------------------|--------|----------------------------------------|--------|
|                                                           |   | **2004**                               |   | **2003** |   |
|                                                           |   |                                   |   |   |   |
| Volatility                                                     |   | 0.91                                   |   | 0.98 |   |
| Weighted-average  expected lives                               |   | 0.50                                   |   | 0.50 |   |
| Expected  dividend yields                                      |   | —                                 |   | — |   |
| Weighted-average  risk-free interest rates                     |   | 1.15                                   | %      | 1.32 | % |
| Weighted-average  fair value of employee stock purchase rights |   | $                                      | 5.17   |   | $ | 2.52 |   |
|                                                                |        |                                        |        |  |  |  |  |

 

**Note 2 -****                       ****Related Party Transactions**

 

Epygi Technologies, Ltd., an entitycontrolled by Samuel S. Simonian, one of our founders and chairman of ourboard, currently performs development services for us pursuant to a consultingagreement for which it is paid a monthly fee per full-time programmer plusreimbursement of reasonable business expenses. We expensed approximately $0.1 million for these services in both the threemonths ended March 31, 2004 and the three months ended March 31,2003.

 

OnJanuary 21, 2003, we repurchased in a privately-negotiated transaction8,969,984 restricted shares of our common stock from Mark A. Weinzierl, one ofour founders and a member of our board of directors until the closing of thetransaction, for an aggregate cash purchase price of approximately $35.4million. We funded the transaction with available cash.  The shares repurchased representedapproximately 19% of our total shares outstanding immediately prior to thetransaction.  Effective as of theclosing of the transaction, Mr. Weinzierl resigned from our board of directors.

 

**Note 3 -****                       ****Earnings Per Share**

 

Thefollowing table sets forth the computation of basic and diluted earnings pershare (in thousands, except per share amounts):

 
|                                                                                   |   | **Three months ended  March 31,** |       |
|----------------------------------------------------------------------------------------|--------|----------------------------------------|------------|
|                                                                                   |   | **2004**                               |       | **2003** |   |
|                                                                                   |   |                                   | ** ** |   | ** ** |
| Numerator:                                                                             |   |                                   |       |   |   |
| Net income for  basic and diluted  earnings  per share                                 |   | $                                      | 3,276      |   | $ | 3,255 |   |
| Denominator:                                                                           |   |                                   |       |   |   |
| Denominator  for basic earnings per  share  — weighted-average shares             |   | 39,119                                 |       | 40,395 |   |
| Dilutive  securities: Employee stock options and purchase rights                       |   | 669                                    |       | 168 |   |
| Denominator  for diluted earnings  per  share — adjusted  weighted-average shares |   | 39,788                                 |       | 40,563 |   |
|                                                                                   |   |                                   |       |   |   |
| Basic earnings  per common share                                                       |   | $                                      | 0.08       |   | $ | 0.08 |   |
| Diluted  earnings per common share                                                     |   | $                                      | 0.08       |   | $ | 0.08 |   |

 

12

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**Note 5 -****                       ****Segment Information**

 

We operate in a single industry segment,providing communications software solutions and associated services to ourcustomers through our sales personnel and certain foreign resellers.  As a result, the financial informationdisclosed in this report represents all material financial information relatedto our sole operating segment.  Thegeographic distribution of our revenues as a percentage of total revenues is asfollows:

 
|                            |   | **Three months ended****March 31,** |       |
|---------------------------------|--------|------------------------------------------|------------|
|                            |   | **2004**                                 |       | **2003** |   |
|                            |   |                                     | ** ** |   | ** ** |
| United States                   |   | 37.8                                     | %          | 19.2 | % |
| Export:                         |   |                                     |       |   |   |
| Asia/Pacific                    |   | 5.2                                      |       | 8.0 |   |
| Europe, Middle  East and Africa |   | 54.7                                     |       | 71.2 |   |
| Other                           |   | 2.3                                      |       | 1.6 |   |
| Total export                    |   | 62.2                                     |       | 80.8 |   |
|                            |   | 100.0                                    | %          | 100.0 | % |

 

In the three months ended March 31,2004, revenues from one international wireline customer accounted forapproximately 18% of total revenues, revenues from one international wirelesscustomer accounted for approximately 15% of total revenues, revenues from onedomestic wireless customer accounted for 11% of total revenues and revenuesfrom one domestic wireline customer accounted for 11% of total revenues.  For the three months ended March 31,2003, revenues from one international wireline customer accounted forapproximately 44% of total revenues.

 

We have no significant long-lived assetsdeployed outside of the United States.

 

**Item2.**                             **Management’sDiscussion and Analysis of Financial Condition and Results of Operations**

 

**Forward-LookingStatements**

 

*This Quarterly Report on Form 10-Q contains forward-looking statementswithin the meaning of Section 27A of the Securities Act of 1933, asamended, and Section 21E of the Securities Exchange Act of 1934, asamended. All statements other than historical or current facts, including,without limitation, statements about our business strategy, plans andobjectives of management and our future prospects, are forward-lookingstatements. Although we believe that the expectations reflected in suchforward-looking statements are reasonable, such forward-looking statements aresubject to risks and uncertainties that could cause actual results to differmaterially from these expectations. Such risks and uncertainties include,without limitation, the following:*

 

•                        *ouroperating results are difficult to predict and are likely to vary significantlyfrom quarter to quarter in the future;*

 

•                        *we could bematerially harmed in the event of a general economic slowdown, decreasedspending by communications carriers and equipment manufacturers orconsolidations or bankruptcies involving our current or prospective customers;*

 

•                        *we could bematerially harmed if demand for our products is less than we anticipate;*

 

•                        *we could bematerially harmed if the market for current- and next-generation networkproducts and applications fails to develop as we currently anticipate;*

 

13

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•                        *we expect toface increased competition that could result in price reductions and reducedmargins, as well as loss of market share; and*

 

•                        *other risksindicated below under the caption “Risk Factors”.*

 

*These risks and uncertainties are beyond our control and, in manycases, we cannot predict the risks and uncertainties that could cause ouractual results to differ materially from those indicated by the forward-lookingstatements. When used in this document, the words “believes,” “plans,”“expects,” “anticipates,” “intends,” “continue,” “may,” “will,” “could,”“should,” “future,” “potential,” “estimate,” or the negative of such terms andsimilar expressions as they relate to us or our management are intended toidentify forward-looking statements.*

 

*The following discussion should be read in conjunction with, and isqualified in its entirety by, the condensed consolidated financial statementsand notes thereto included in Item 1 of this Quarterly Report and the condensedconsolidated financial statements and notes thereto and Management’s Discussionand Analysis of Financial Condition and Results of Operations in our Form 10-Kfiled with the SEC on January 30, 2004. Historical results and percentagerelationships among any amounts in the financial statements are not necessarilyindicative of trends in operating results for any future periods.*

 

**Overview**

 

Inet Technologies, Inc. is a global providerof communications software products that enable communications carriers to morestrategically and profitably operate their businesses. Our Unified AssuranceSolution and our Diagnostics products help our customers reduce capital andoperating expenditures, improve customer acquisition and retention rates,protect and grow revenues, and more quickly and effectively develop products orservices. Our products address next-generation networks, including mobile dataand voice-over-packet technologies, and traditional networks.

 

This Management’s Discussion and Analysis ofFinancial Condition and Results of Operations provides information that our management believes to be necessary toachieve a clear understanding of our financial statements and results ofoperations.

 

Our management monitors and analyzes a numberof key performance indicators in order to manage our business and evaluate ourfinancial and operating performance. Those indicators include:

 

•                  *Revenues*.  We derive revenues from product and licensefees and services relating to our products. These revenues vary based on such factors as demand for our products,the number and size of transactions within the reporting period and the impactof changes in our sales prices.  Inaddition to monitoring the amount of our product and license fees revenues,services revenues and total revenues, we also consider revenue concentration bycustomer and by geographic region to be possible indicators of current andfuture trends in our business.

 

•                  *Cost ofrevenues and gross margins*. We strive to control our cost of revenues and thereby maintain orimprove our gross margins.  The majoritems impacting cost of product and license fees are hardware and third-partysoftware, personnel and overhead expenses. Hardware and third-party software costs will vary significantly fromquarter to quarter based on the relative mix of implementations during areporting period.  Implementationsrelated to new systems and expansion projects involving increased physicalnetwork coverage involve a greater use of hardware.  In contrast, expansions of system capacity and software-onlyapplication sales require less hardware. Cost of services is driven primarilyby personnel expenses.  These costs tendto fluctuate as a result of the relative mix of product support and trainingactivities during a specific period.

 

14

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•                  *Operatingexpenses*.  Operating expensesare substantially driven by personnel and overhead expenses. Other significantoperating expenses that we monitor include travel, professional fees andfacilities and communication expenses.

 

•                  *Liquidityand cash flows*.  The primarysource of our liquidity is our cash reserves and short-term investments.  The primary driver of our cash flows is ournet income.  From period to period, wesee fluctuations in various items, including our working capital accounts,capital expenditures and proceeds from the exercise of employee stock optionsand stock purchases.

 

•                  *Balancesheet*.  We view cash,short-term investments, working capital, inventory, accounts receivablebalances and days sales outstanding as important indicators of our financialhealth.

 

**Resultsof Operations**

 

***Revenues***

 

The followingtable sets forth, for the periods indicated, a year-over-year comparison of thekey components of our revenues:

 
| **($ in millions)**                      |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|------------------------------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                                     |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** |   |
| Product and  license fees                |   | $                                      | 19.6   |                          | $      | 17.5 |   | $ | 2.1 |   | 12 | % |
| Services                                 |   | 7.6                                    |   | 7.5                           |   | 0.1 |   | 1 |   |
| Total revenues                           |   | $                                      | 27.2   |                          | $      | 25.0 |   | $ | 2.2 |   | 9 | % |
|                                     |   |                                   |   |                          |   |   |   |   |   |
| Top 10  customers as % of total revenues |   | 73                                     | %      | 69                            | %      |   |   |   |   |
|                                     |   |                                   |   |                          |   |   |   |   |   |
| Revenues from  international markets:    |   |                                   |   |                          |   |   |   |   |   |
| Asia/Pacific                             |   | 5.2                                    | %      | 8.0                           | %      |   |   |   |   |
| Europe, Middle  East and Africa          |   | 54.7                                   |   | 71.2                          |   |   |   |   |   |
| Other                                    |   | 2.3                                    |   | 1.6                           |   |   |   |   |   |
| Total                                    |   | 62.2                                   | %      | 80.8                          | %      |   |   |   |   |

 

*Product and license fees. *Theincrease in product and license fees for the three months ended March 31,2004 compared to March 31, 2003 reflected a 50% increase in the number ofUnified Assurance product implementations. This increase was somewhat mitigated by a lower average value perimplementation and a decrease in our sales prices compared to the sameprior-year period.  Prices for our mostbasic GeoProbe system generally decreased by approximately 8% in the threemonths ended March 31, 2004 compared to the same prior-year period. Weexperience the greatest pressure on sales prices in highly competitivesituations involving prospective customers and we anticipate that we willcontinue to experience pricing pressure for our products during the remainderof 2004.

 

*Services.* In the three months ended March 31, 2004 compared to the sameprior-year period, the increase in services revenues was primarily attributableto a larger installed base of products with customers for which we provideproduct support services, offset by continued price pressure on prices forproduct support contracts.  In the threemonths ended March 31, 2004, approximately 87% of our total revenues werefrom expansions of existing systems. Going forward, we expect to selladditional applications to or expand the footprint of our products withexisting customers, and to add new customers, which should continue to increaseour installed base of products and corresponding services revenues;

 

15

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however, we expect that continued sales pressure on prices maypartially offset the effect of this anticipated increase in our installed base.

 

*Concentration of revenues.* In the three monthsended March 31, 2004, revenues from one international wireline customeraccounted for approximately 18% of totalrevenues, revenues from one international wireless customer accounted forapproximately 15% of total revenues, revenues from one domestic wirelesscustomer accounted for approximately 11% of total revenues and revenues fromone domestic wireline customer accounted for 11% of total revenues.  For the three months ended March 31,2003, revenues from one international wireline customer accounted forapproximately 44% of total revenues. A large percentage of our revenues aretypically derived from a small number of customers, the specific make up ofwhich typically varies from one quarter to the next.  On a quarterly basis, the 10 largest customers for the quartertypically account for approximately 50% to 80% of total revenues.  For the three months ended March 31,2004, approximately 73% of our revenues were derived from our 10 largest customersfor that period.  We expect these trendsto continue for the foreseeable future.

 

*International revenues.* Variations in thepercentage of total revenues derived from international markets primarily occuras a result of the concentration of revenues in a particular period from asmall number of customers and the economic conditions in the regions in whichwe operate. For the remainder of 2004, we expect revenues from internationalmarkets to represent the majority of our total revenues.

 

**C*ost of Revenues***

 

The followingtable sets forth, for the periods indicated, a year-over-year comparison of thekey components of our cost of revenues and gross margins:

 
| **Cost of  Revenues****($ in  millions)** |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|-------------------------------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                                      |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** |   |
| Product and  license fees                 |   | $                                      | 5.2    |                          | $      | 2.9 |   | $ | 2.3 |   | 79 | % |
| Services                                  |   | 3.2                                    |   | 4.2                           |   | (1.0 | ) | (24 | ) |
| Total cost of  revenues                   |   | $                                      | 8.4    |                          | $      | 7.1 |   | $ | 1.3 |   | 18 | % |
|                                      |   |                                   |   |                          |   |   |   |   |   |
| Average  headcount                        |   | 127                                    |   | 121                           |   |   |   |   |   |

 
| **Gross  Margin****($ in millions)**           |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|------------------------------------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                                           |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** | ** ** |
| Product and  license fees                      |   | $                                      | 14.4   |                          | $      | 14.6 |   | $ | (0.2 | ) | (1 | )% |
| Services                                       |   | 4.4                                    |   | 3.4                           |   | 1.0 |   | 29 |   |
| Total gross  margin                            |   | $                                      | 18.8   |                          | $      | 18.0 |   | $ | 0.8 |   | 4 | % |
|                                           |   |                                   |   |                          |   |   |   |   |   |
| **Gross margin as a  percentage of revenues:** |   |                                   |   |                          |   |   |   |   |   |
| Gross margin –  product and license fees  |   | 73.4                                   | %      | 83.4                          | %      |   |   |   |   |
| Gross margin –  services                  |   | 57.9                                   |   | 44.6                          |   |   |   |   |   |
| Gross margin –  total                     |   | 69.1                                   |   | 71.8                          |   |   |   |   |   |

 

*Product and license fees.*Cost of product andlicense fees consists primarily of hardware, third-party software, personneland overhead expenses related to the integration, installation andconfiguration of our products.  In thethree months ended March 31, 2004 compared to the three months endedMarch 31, 2003, hardware costs increased approximately $1.4 million due toa majority of our revenues being derived from increasing the physical networkcoverage of existing systems for current customers, which

 

16

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inherently involves a greater use of hardware.  In addition, personnel costs increasedapproximately $0.3 million in the three months ended March 31, 2004compared to the same prior-year period due to increased headcount and salaryadjustments. We expect a slight increase in headcount during the remainder of2004.

 

*Services.* Cost of services consists ofexpenses, primarily personnel costs, related to our product support, trainingand warranty activities.  In the three months ended March 31, 2004 compared to the three months ended March 31,2003, cost of services decreased due to a higher percentage of man-hours beingused to perform product-related installations than service-related tasks, suchas product support, training and warranty activities.  Historically, cost of services as a percentage of servicesrevenues has fluctuated as a result of the relative mix of product support andtraining activities during a specific period. We expect these fluctuations tocontinue into the foreseeable future.

 

## ***Operating Expenses***

 

*Research and Development*Expenses

 

The followingtable sets forth, for the periods indicated, a year-over-year comparison of thekey components of our research and development expenses:

 
| **($ in millions)**        |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|----------------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                       |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** |   |
| Research and  development  |   | $                                      | 8.1    |                          | $      | 7.7 |   | $ | 0.4 |   | 5 | % |
| Percent of  total revenues |   | 29.9                                   | %      | 30.7                          | %      |   |   |   |   |
| Average  headcount         |   | 250                                    |   | 247                           |   |   |   |   |   |
|                            |        |                                        |        |                               |        |  |  |  |  |  |  |  |

 

Research and development expenses consistprimarily of personnel, contract labor and facilities expenses incurred by ourresearch and development organization. Ourresearch and development efforts include expenditures relating to new productsand applications, and new features or enhancements for existing products,primarily in the areas of next-generation wireless and packet-basedtechnologies.  Research anddevelopment expenses increased in absolute dollars primarily due to increasedstaffing dedicated to research and development activities and increased use ofthird-party research and development services, which was approximately $0.2million more in the three months ended March 31, 2004 compared to thethree months ended March 31, 2003. As a percentage of total revenues, research and development expenses decreasedprimarily due to the increase in total revenues.  We expect research and development expenses to remain relativelyflat during the remainder of 2004.

 

Software development costs are expensed asincurred until technological feasibility has been established, at which timesubsequent costs are permitted to be capitalized until the product is availablefor general release to customers.  Todate, either the establishment of technological feasibility of our products hassubstantially coincided with their general release, or costs incurredsubsequent to the achievement of technological feasibility have not been material. As a result, software development costs qualifying for capitalizationhave been insignificant, and we have not capitalized any software developmentcosts.

 

*Sales and Marketing Expenses*

 

The followingtable sets forth, for the periods indicated, a year-over-year comparison of thekey components of our sales and marketing expenses:

 

17

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| **($ in millions)**       |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|---------------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                      |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** |   |
| Sales and marketing       |   | $                                      | 4.3    |                          | $      | 3.5 |   | $ | 0.8 |   | 23 | % |
| Percent of total revenues |   | 15.8                                   | %      | 14.0                          | %      |   |   |   |   |
| Average headcount         |   | 71                                     |   | 62                            |   |   |   |   |   |
|                           |        |                                        |        |                               |        |  |  |  |  |  |  |  |

 

Sales andmarketing expenses consist primarily of expenses associated with personnel,including commissions from direct sales, travel, facilities and marketing, suchas trade show and advertising expenses. The increases in sales and marketing expenses in absolute dollars and asa percentage of total revenues were primarily attributable to increasedpersonnel costs due to increased headcount, salary adjustments and increasedcommissions which reflect higher bookings in the three months endedMarch 31, 2004 compared to the same prior-year period.  We expect sales and marketing expenses toincrease in the remainder of 2004.

 

*General and Administrative Expenses*

 

The following table sets forth, for the periods indicated, ayear-over-year comparison of the key components of our general andadministrative expenses:

 
| **($ in millions)**        |   | **Three months ended  March 31,** |   | **Variance  2004 vs. 2003** |   |
|----------------------------|--------|----------------------------------------|--------|-----------------------------|--------|
|                       |   | **2004**                               |   | **2003**                    |   | **$** |   | **%** |   |
| General and administrative |   | $                                      | 2.3    |                        | $      | 2.4 |   | $ | (0.1 | ) | (4 | )% |
| Percent of total revenues  |   | 8.3                                    | %      | 9.7                         | %      |   |   |   |   |
| Average headcount          |   | 46                                     |   | 42                          |   |   |   |   |   |
|                            |        |                                        |        |                             |        |  |  |  |  |  |  |  |

 

General andadministrative expenses consist primarily of personnel, facilities andprofessional expenses of our finance and accounting, legal and executivedepartments.  The decrease in absolutedollars and as a percentage of total revenues was primarily attributable todecreased professional fees of approximately $0.2 million. In the three monthsended March 31, 2003, professional fees were higher than the three monthsended March 31, 2004 due to professional fees related to our repurchase ofrestricted common stock outstanding in January 2003. We expect general andadministrative expenses to increase in the remainder of 2004.

 

## ***Other Income***

 

The following table sets forth, for the periods indicated, ayear-over-year comparison of the key components of our other income:                                     

 
| **($ in millions)**                                       |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|-----------------------------------------------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                                                      |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** |   |
| Investment income                                         |   | $                                      | 0.4    |                          | $      | 0.4 |   | $ | — |   | — |   |
| Foreign currency translation loss                         |   | (0.2                                   | )      | —                        |   | (0.2 | ) | — |   |
| Total other income                                        |   | $                                      | 0.2    |                          | $      | 0.4 |   | $ | (0.2 | ) | (50 | )% |
|                                                      |   |                                   |   |                          |   |   |   |   |   |
| Rate of return on average cash and short-term investments |   | 0.9                                    | %      | 1.0                           | %      |   |   |   |   |

 

18

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Other incomeconsists primarily of interest income earned on our cash and cash equivalentsand investment income earned on our investment in U.S. Treasury bills and U.S.government agency discount notes, partially offset by foreign currencytranslation adjustments and losses on the disposal of assets.  The decrease in other income was primarilyattributable to the overall decrease in interest rates received on ourinvestments and foreign translation adjustments. Foreign currency translationgains or losses primarily arise from translation adjustments for ourinternational operations, including the United Kingdom and German sales andsupport organizations and, to a lesser extent, to the small percentage of ourbusiness denominated in non-U.S. currencies. To date, we have not engaged in hedging activities for our internationaloperations or our non-U.S. dollar business.

 

## ***Provision for Income Taxes***

##  

The following table sets forth, for the periods indicated, ayear-over-year comparison of our provision for income taxes:

 
| **($ in millions)** |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|---------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** |   |
| Income tax expense  |   | $                                      | 1.0    |                          | $      | 1.5 |   | $ | (0.5 | ) | (33 | )% |
| Effective tax rate  |   | 24.1                                   | %      | 32.1                          | %      |   |   |   |   |
|                     |        |                                        |        |                               |        |  |  |  |  |  |  |  |

 

Federal incometaxes for the periods presented have been calculated on the basis of anestimated annual rate.  Our effectivetax rate during the first quarter differs from the 35% statutory corporate taxrate primarily due to the effect of the extraterritorial income exclusion,research and development tax credits, and adjustments to the balance of ourstate tax liability and the balance of our deferred tax assets based oninformation developed in the quarter. For 2004, we currently anticipate our annual effective tax rate will beapproximately 29.5%.

 

Our financialstatements reflect net deferred tax assets of $2.0 million as of March 31,2004, comprised of deductible temporary differences.  We have concluded that it is more likely than not that the netdeferred tax assets will be realized based on the scheduling of deferred taxamounts and projected taxable income, although we cannot assure you that suchassets will be realized.  The amount ofthe net deferred tax assets actually realized could vary if there aredifferences in the timing or amount of future reversals of existing deferredtax amounts or changes in the actual amounts of future taxable income.

 

Ouranticipated annual effective tax rate of approximately 29.5% for 2004 differsfrom the 35% statutory corporate tax rate primarily due to the effect of theextraterritorial income exclusion and research and development tax credits.This tax rate currently reflects the impact of research and development taxcredits through June 2004 at which time the statute expires.  As such, our effective tax rate could beimpacted if the research and development tax credit was extended orreinstated.  Our tax rate could also beimpacted by our adjustment of certain tax accounts if the statute oflimitations were to expire on open tax years.

 

***Net Income***

 

The following table sets forth, for the periods indicated, ayear-over-year comparison of our net income:

 
| **($ in millions)**       |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|---------------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                      |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** |   |
| Net income                |   | $                                      | 3.3    |                          | $      | 3.3 |   | $ | — |   | — |   |
| Percent of total revenues |   | 12.0                                   | %      | 13.0                          | %      |   |   |   |   |
|                           |        |                                        |        |                               |        |  |  |  |  |  |  |  |

 

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In terms of absolute dollars and as a percentage of total revenues, netincome decreased slightly due to the significant decrease in gross margins,reflecting the higher hardware-based content in our productimplementations in the three months ended March 31, 2004 compared to thethree months ended March 31, 2003.

 

## **Liquidityand Capital Resources**

##  

The following table sets forth, for the periods indicated, a year-overyear comparison of key components of our liquidity and capital resources:

 
| **($ in millions)**  |   | **Three months ended  March 31,** |   | **Variance****2004 vs. 2003** |   |
|----------------------|--------|----------------------------------------|--------|-------------------------------|--------|
|                 |   | **2004**                               |   | **2003**                      |   | **$** |   | **%** |   |
| Operating cash flows |   | $                                      | (2.1   | )                             | $      | 9.8 |   | $ | (11.9 | ) | (121 | )% |
| Investing cash flows |   | (44.9                                  | )      | (0.9                          | )      | (44.0 | ) | * |   |
| Financing cash flows |   | 1.3                                    |   | (34.8                         | )      | 36.1 |   | * |   |
|                 |   |                                   |   |                          |   |   |   |   |   |
| Capital expenditures |   | $                                      | 0.9    |                          | $      | 0.9 |   | — |   | — |   |
|                      |        |                                        |        |                               |        |  |  |  |  |  |  |  |

 
|                                                                           |   | **March 31,  2004** |   | **December 31,****2003** |   | **$**  |   | **%**  |   |
|--------------------------------------------------------------------------------|--------|--------------------------|--------|-------------------------------|--------|--------|--------|--------|--------|
| Cash and cash equivalents                                                      |   | $                        | 72.9   |                          | $      | 118.5  |   | $      | (45.6  | ) | (39 | )% |
| Short-term investments                                                         |   | 99.3                     |   | 55.0                          |   | 44.3   |   | 81     |   |
| Accounts receivable, net                                                       |   | 15.1                     |   | 10.9                          |   | 4.2    |   | 39     |   |
| Inventories                                                                    |   | 9.0                      |   | 7.9                           |   | 1.1    |   | 14     |   |
| Working capital                                                                |   | 171.1                    |   | 165.5                         |   | 5.6    |   | 3      |   |
|                                                                           |   |                     |   |                          |   |   |   |   |   |
| Days sales outstanding in accounts receivable, including unbilled  receivables |   | 51.2                     |   | 43.0                          |   |   |   |   |   |
| Inventory turns                                                                |   | 3.8                      |   | 3.4                           |   |   |   |   |   |
|                                                                                |        |                          |        |                               |        |        |        |        |        |  |  |  |

 

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* Thesepercentages are affected by one-time transactions and are not meaningful to theunderstanding of our financial condition and results of operations.

 

Since our inception, we have funded our operations and met our capitalexpenditure requirements primarily through cash flows from operations and to alesser extent during our initial years of operations through bankborrowings.  We have consistentlyinvested the proceeds from our initial public offering in temporaryinvestments, including cash, cash equivalents and short-term investments.  The decrease in cash was offset by anincrease in short-term investments due to our investment in U.S. Treasury billsand U.S. government agency discount notes with maturities greater than 90 days,but less than one year, which are classified as short-term investments.

 

Operating cash flows in the three months ended March 31, 2004compared to the three months ended March 31, 2003 decreased primarily dueto changes in trade accounts receivable and deferred revenues.  In the three months ended March 31,2004, accounts receivable increased due to increased levels of business and thetiming of billings for our Unified Assurance product implementations.

 

Net cash usedin investing activities related to purchases of short-term investments andpurchases of property and equipment.  Inthe three months ended March 31, 2004, we used $44.0 million to purchaseshort-term investments.  In both thethree months ended March 31, 2004 and the three months endedMarch 31, 2003, we used $0.9 million to purchase property andequipment.  We anticipate that cash used

 

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to purchaseproperty and equipment will increase on a quarterly basis for the remainder of2004 from levels experienced in the current quarter.

 

Net cashprovided by financing activities in both the three months ended March 31,2004 and the three months ended March 31, 2003 resulted from proceeds fromthe issuance of common stock upon the exercise of stock options and purchasesunder our employee stock purchase plan. In the three months ended March 31, 2003, we used approximately$35.4 million to repurchase 8,969,984 restricted shares of common stock in aprivately-negotiated transaction.

 

We may in the future pursue acquisitions of businesses, products ortechnologies, or enter into joint venture arrangements, that could complementor expand our business and product offerings. Any material acquisition or joint venture could result in a decrease inour working capital depending on the amount, timing and nature of theconsideration to be paid.  From time totime we also consider various other alternatives to utilize any cash and cashequivalents that exceed our working capital requirements, including payment ofcash dividends, additional stock repurchases or other similar transactions.

 

At March 31,2004, we had no long-term debt. We believe that our current cash balances andexpected future cash flows will be sufficient to meet our anticipated cashneeds for working capital, capital expenditures and other activities for atleast the next 12 months. Beyond that, if current sources are not sufficient tomeet our needs, we may seek additional equity or debt financing. In addition,any material acquisition of other businesses, products or technologies ormaterial investments in joint ventures could require us to obtain additionalequity or debt financing. There can be no assurance that additional financingwould be available on acceptable terms, if at all.

 

**Off-Balance Sheet Arrangements andContractual Obligations**

 

It is not our usual business practice to enter into off-balance sheetarrangements, except for off-balance sheet arrangements related to inventorypurchase commitments and operating lease commitments, as disclosed in the tableof contractual obligations below.  Inaddition, it is not our normal policy to issue guarantees to third parties.

 

We are obligated to make future payments under various contracts,including non-cancelable inventory purchase commitments and the operatingleases for our corporate office facility and our facilities near the cities ofLondon, England; Frankfurt, Germany and Paris, France and in Milan, Italy. Thefollowing table summarizes our contractual cash obligations as ofMarch 31, 2004 (in thousands):

 
|                 |   | **Remainder of****2004** |   | **2005** |   | **2006** |   | **2007** |   | **2008** |   | **Thereafter** |   |
|----------------------|--------|--------------------------|--------|----------|--------|----------|--------|----------|--------|----------|--------|----------------|--------|
| Purchase commitments |   | $                        | 3,209  |     | $      | —   |   | $        | — |     | $      | —         |   | $ | — |   | $ | — |   |
| Capital commitments  |   | 419                      |   | —   |   | —   |   | —   |   | —   |   | —         |   |
| Operating leases     |   | 4,618                    |   | 6,294    |   | 6,364    |   | 6,364    |   | 6,364    |   | 11,645         |   |
| Total                |   | $                        | 8,246  |     | $      | 6,294    |   | $        | 6,364  |     | $      | 6,364          |   | $ | 6,364 |   | $ | 11,645 |   |

 

During the remainder of 2004, we expect quarterlycapital expenditures to increase slightly compared to the level experienced inthe first three months of 2004.

 

**RelatedParty Transactions**

 

EpygiTechnologies, Ltd., an entity controlled by Samuel S. Simonian, one of ourfounders and chairman of our board, currently performs development services forus pursuant to a consulting agreement for which it is paid a monthly fee perfull-time programmer plus reimbursement of reasonable business

 

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expenses. We expensed approximately $0.1 million for these services in both thethree months ended March 31, 2004 and the three months endedMarch 31, 2003.

 

On January 21, 2003, we repurchased in a privately-negotiated transaction8,969,984 restricted shares of our common stock from Mark A. Weinzierl, one ofour founders and a member of our board of directors until the closing of thetransaction, for an aggregate cash purchase price of approximately $35.4million. We funded the transaction with available cash.  The shares repurchased representedapproximately 19% of our total shares outstanding immediately prior to thetransaction.  Effective as of theclosing of the transaction, Mr. Weinzierl resigned from our board of directors.

 

**Accounting Policies**

 

In preparing our condensed consolidated financial statements inconformity with U.S. generally accepted accounting principles, we use certainestimates and assumptions that affect the reported amounts and relateddisclosures and may vary from actual results. We consider the following accounting policies as those most important tothe portrayal of our financial condition and those that require the mostjudgment or the greatest use of estimates. Although we believe that our estimates and assumptions are reasonable,actual results may differ, and such differences could be significant to ourfinancial results.

 

***Revenue Recognition***

 

*General.*We deriverevenues primarily from product and license fees as well as services, which includetraining, warranty and product support services. The majority of the contractsfor our Unified Assurance products contain multiple billing milestones, such ascontract award, shipment, installation, ready for acceptance and acceptance,not all of which are associated with revenue recognition. Except as otherwisediscussed below, revenues from product and license fees are recognized in theperiod that we have completed all hardware manufacturing and/or softwaredevelopment to contractual specifications, factory testing has been completed,the product has been shipped to the customer, the fee is fixed and determinableand collection of the fee is considered probable.  When we have significant obligations subsequent to shipment, suchas installation and system integration, revenues are recognized when there areno significant unfulfilled obligations. Revenues from arrangements that include significant acceptance termsand/or provisions and revenues from arrangements that include significantdevelopmental items are recognized when acceptance has occurred.  Revenues from our Diagnostics products aretypically recognized when title and risk of loss pass to the customer, whichtypically occurs at shipment.  For theseproducts, we typically have no significant obligations subsequent toshipment.  If a significant obligationwere to exist, we would defer revenue recognition until such obligation wassatisfied.  All shipping costs are includedin cost of revenues in our condensed consolidated statements of income.

 

*Multiple-element arrangements.*Contractsfor our Unified Assurance products typically involve multipledeliverables.  We determine the fairvalue of each of the contract deliverables using vendor-specific objectiveevidence, or VSOE.  VSOE for each elementis based on the price for which we would sell the element on a stand-alonebasis. We offer our customers product support services, which include thecorrection of software problems, hardware replacement, telephone access to ourtechnical personnel and the right to receive unspecified product updates,upgrades and enhancements, when and if they become available.  Revenues from these services, includingpost-contract support included in initial licensing fees, are recognizedratably over the service period. Post-contract support included in the initial licensing fee areallocated from the total contract amount based on the fair value of theseservices determined using VSOE.  Revenuesfrom other services, such as training, are recognized when the services havebeen completed. If we determine that we do not have VSOE on an undeliveredelement of an arrangement, we will not recognize revenue until all elements ofthe arrangement are delivered.  Thisoccurrence could materially impact our financial results because of thesignificant dollar amount of many

 

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of our contracts and the significant portionof total revenues that a single contract may represent in any particularperiod.

 

***Trade Accounts Receivable and Allowance forDoubtful Accounts***

 

A largeportion of our revenues and accounts receivable are attributable to our carriercustomers in the communications industry and, to a lesser extent, to ourequipment manufacturer customers who supply equipment into the communicationsindustry. Our trade accounts receivable balance is recorded net of allowancesfor amounts not expected to be collected from our customers. Because ouraccounts receivable are usually unsecured, we periodically evaluate thecollectibility of our accounts based on a combination of factors, including aparticular customer’s ability to pay and the age of the receivables. Toevaluate a specific customer’s ability to pay, we analyze the customer’spayment history, if any, financial statements or other information provided bythe customer, or third-party credit analysis reports or otherpublicly-available information. In cases where the evidence suggests a customermay not be able to satisfy its obligations to us, we set up a specific reservein an amount we determine appropriate for the perceived risk. Most of ourcontracts include multiple payment milestones, some of which occur in advanceof revenue recognition, which mitigates our risk both in terms ofcollectibility and adjustments to recorded revenue. We have not historicallyexperienced significant losses on uncollectible accounts and our allowance hasbeen less than 5% of recorded receivables.

 

***InventoryReserves***

 

Inventories are recorded net of allowances for unsalable or obsoleteraw materials, work-in-process and finished goods.  We evaluate on a quarterly basis the status of our inventory toensure the amount recorded in our financial statements reflects the lower ofour cost or the value we expect to receive when we sell the inventory.  This estimate is based on several factors,including the condition and salability of our inventory and the forecasteddemand for the particular products incorporating inventory components.  Based on current backlog, expected ordersand other expected demand, we forecast the usage of current stock.  We record reserves for obsolete andslow-moving parts of up to 100% for excess parts with insufficient demand orobsolete parts.  Amounts inwork-in-process and finished goods inventory typically relate to firm ordersand, therefore, are not subject to obsolescence risk. If market conditionsdeteriorate or the expected future demand for our products otherwise decreases,or if changes in our business strategy reduce our need for these components,our estimate of the carrying value of our inventory could be reduced by amaterial amount.

 

***Income Taxes***

 

In thepreparation of our provision for income taxes and determination of whetherdeferred tax assets will be realized in full or in part, we must estimateseveral factors.  When it is more likelythan not that all or some portion of the deferred tax asset will not berealized, a valuation allowance must be established for the amount of thedeferred tax assets that is determined not to be realizable. As ofMarch 31, 2004 and December 31, 2003, a valuation for deferred taxassets was not deemed necessary.  If thefacts underlying our determination or financial results on which our estimatesare based were to change in a manner impacting the likelihood of realizing thedeferred tax assets, judgment would have to be applied to determine the amountof valuation allowance required in any given period.  Additionally, our income tax returns are subject to review andexamination in the various jurisdictions in which we operate.  We are currently not aware of any materialissues that have been raised by taxing jurisdictions, and management believesthat all income tax issues which may be raised as a result of such reviews andexaminations in the future will be resolved with no material impact on ourfinancial condition or future results of operations.  However, in the event there was an assessment by any of thesejurisdictions, it could impact our tax provision.  In addition, we review the tax provision on a component basis andreflect changes in

 

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estimate in the period in which they areidentified.  The tax provision is basedon tax statutes in affect as of the date of the balance sheet.

 

**RiskFactors**

 

*You should carefully consider the risksdescribed below before making an investment decision regarding our commonstock. The risks and uncertainties described below are not the only ones facingus. Additional risks and uncertainties that we do not presently know or that wecurrently deem immaterial may also impair our business operations. Thisdocument is qualified in its entirety by these risk factors.*

 

*If any of the following risks actually occur,they could materially harm our business, financial condition or results ofoperations. In that case, the market price of our common stock could decline.*

 

***Ourquarterly financial results fluctuate and are difficult to predict.***

 

Our quarterlyfinancial results have varied significantly in the past and are likely to varysignificantly from quarter to quarter in the future based on a number offactors, many of which are outside of our control. As a result, you should notrely on our results of operations during any particular quarter as anindication of our future performance in any quarterly period or fiscal year.The factors that could affect our quarterly financial results include:

 

•                  thesize, timing, pricing structure and other terms of specific orders by ourcustomers;

 

•                  thetiming of the delivery to and the installation and acceptance of our productsby our customers;

 

•                  thetiming of our development and introduction of new products or applications;

 

•                  therelative mix of product and license fees and services fees included in ourrevenues;

 

•                  therelative mix of hardware- and software-related revenues in our total revenues;

 

•                  therelative percentages of products sold through our direct and indirect saleschannels;

 

•                  thetiming and level of our investments in research and development activities, andthe timing and magnitude of our sales and marketing and general andadministrative expenses;

 

•                  changesin, and our ability to implement, our strategy; and

 

•                  otherrisks described below.

 

A significantportion of our operating expenses, including rent and salaries, is largelyfixed in nature. Accordingly, if revenues are below expectations, our financialresults are likely to be adversely and disproportionately affected becausethese operating expenses are not variable in the short term and cannot bequickly reduced to respond to unanticipated decreases in revenues.

 

Our financialresults are also likely to fluctuate due to factors that impact our current andprospective customers. Expenditures by customers tend to vary in cycles thatreflect overall economic conditions, individual budgeting and buying patternsand, in some cases, the ability of some of our customers to obtain thefinancing they require to make capital expenditures. Our business has beenharmed by a soft economy, and we would be further harmed by a decline in theeconomic prospects of our customers or the

 

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economy in general. This harm would beexacerbated by a decline in the economic prospects of our current andprospective customers in Europe, as revenues from this region have historicallyrepresented the majority of our total revenues. In many cases, these adverseeconomic conditions have altered current and prospective customers’ capitalspending priorities or budget cycles, which have extended our sales cycle.These adverse effects could continue and could impact our customers’ ability tomeet their financial obligations to us. Our business also could be harmed bychanges in customer spending patterns reflecting industry trends. For example,customer budgetary constraints have contributed to downward sales pricepressure on some of our products and on renewals of product support agreementsfor our Unified Assurance products, which have adversely affected ourrevenues.  In addition, our financialresults historically have been influenced by seasonal fluctuations, with orderstending to be strongest in the fourth quarter of each year and orders in ourfirst quarter tending to be lower than the levels achieved in the precedingquarter. We believe that this seasonality has been due in large part to thecapital appropriation practices of many of our customers.

 

As a result ofall of the foregoing, we cannot assure you that our revenues will grow orremain stable in future periods or that we will remain profitable. In addition,in some future quarters our financial results may be below the expectations ofpublic market analysts or investors. In such event, the market price of ourcommon stock would likely fall.

 

***Reducedcommunications spending, or consolidations or bankruptcies in the communicationsindustry, could harm our business, financial condition and results ofoperations.***

 

We havederived substantially all of our revenues from sales of products and relatedservices to the communications industry. Since early 2001, we and a number of othercompanies have been impacted by reduced spending by communications carriers andequipment manufacturers, and spending levels for future periods are difficultto predict.  Our business, financialcondition and results of operations could be materially harmed in the eventthat economic or business conditions in our industry do not continue toimprove. We could also be impacted in the event that there are consolidationsof our current customers, which could result in the displacement of ourproducts by a competitor’s products preferred by the other party to theconsolidation, or bankruptcies of our current or prospective customers, whichcould result in reduced revenues or significant write-offs of uncollectibleaccounts receivable. Additionally, decreases in spending often cause delays insales and installations and could cause cancellations of current or plannedprojects, any of which could harm our financial results in a particular period.

 

***Ourfinancial results could be materially harmed if demand for our new products isless than we anticipate or the performance of our products falls below thelevels required by our customers.***

 

A keycomponent of our strategy is the ability to successfully develop, introduce andmarket new Unified Assurance and Diagnostics products and applications.Although we have obtained input from our customers and potential customersregarding our development and product strategy, we have made certainassumptions as to the needs of our customers and the features, functionality andperformance expected by them. Our current or prospective customers may notorder these new products and applications.

 

Also, purchasedecisions regarding certain of our Unified Assurance products and applicationsmay be influenced or made by individuals within organizations with which wehave no significant existing relationships, such as customer service, sales andmarketing, or information technology departments. We may not be successful indeveloping the relationships necessary to sell certain of our Unified Assuranceproducts and applications.

 

In addition tothe service quality management features of our Unified Assurance products,communications carriers also require systems to manage the quality of serviceof the other aspects of their

 

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customer-related activities, such as billing,trouble ticket management and inventory control.  As a result, in certain cases a communications carrier may seekthe functionality that we offer as a component of a broader service qualitymanagement system, addressing all of these quality management needs, ratherthan through specific offerings from multiple vendors.  In such cases, and as a result of thecomplexity surrounding the integration of these various functionalities, theopportunity to provide these systems may only be offered to our competitors whohave a broader product offering or to system integrators who would develop suchfunctionality internally or purchase it from other vendors.  We cannot assure you that we would beconsidered by such system integrators to provide our products as part of theoverall service quality management system.

 

***Ourrevenues are highly concentrated among a small number of customers.***

 

A largepercentage of our revenues are typically derived from a small number ofcustomers, and we expect this trend to continue. For example, in the threemonths ended March 31, 2004, approximately 73% of our revenues werederived from our 10 largest customers in the period, with four customers eachaccounting for more than 10% of total revenues.  On a combined basis, our four 10% customers in this three-monthperiod accounted for approximately 54% of our total revenues.  Although the customer make-up of our largestprojects varies from quarter to quarter, a small number of significant repeatcustomers frequently account for a significant portion of our revenues in agiven period. If we were to lose one or more of our significant repeatcustomers, our financial results could be harmed. Additionally, if one or moreof these significant repeat customers experiences adverse conditions in itsindustry or operations, including the impact of any economic downturn orreduction in communications spending, these customers may not be able to meettheir ongoing financial obligations to us or purchase additional products.

 

***Changesor delays in the implementation or customer acceptance of our products couldharm our financial results.***

 

Revenues forour Unified Assurance products, which account for the majority of our totalrevenues, are typically recognized upon the completion of system installationor customer acceptance. Delays caused by us or our customers in thecommencement or completion of scheduled product installations and acceptancetesting may occur from time to time due to site-readiness delays, the oftencomprehensive processes for testing and acceptance required by certain of ourcustomers, insufficient personnel on the part of us or our customers tocomplete a project, the lengthening of implementation schedules due to theintroduction of new features or applications, or other issues. Because asignificant portion of our total revenues on a quarterly basis is derived froma small number of customer projects, product installation delays couldmaterially harm our financial results for a particular period. With respect tocontracts providing for a significant payment or performance milestone tied tocustomer acceptance or allowing customer return, termination or similar rightsprior to acceptance, we generally do not recognize revenue until acceptance isachieved. For new products, we typically recognize revenue initially uponacceptance. As a result, in cases where the recognition of revenue is tied tocustomer acceptance, the failure to obtain acceptance or delayed acceptancecould harm our financial results for a particular period. Additionally, we maybe subject to penalties or other customer claims for a failure to meetcontractually agreed upon milestones or deadlines.

 

***Thesales cycle for our products is long, which could harm our quarterly financialresults.***

 

Sales of ourUnified Assurance products, which since 1998 have accounted for the majority ofour total revenues, are made predominantly to large communications carriers andinvolve significant capital expenditures as well as lengthy sales cycles andimplementation processes. Sales to this type of customer generally require anextensive sales effort throughout the customer’s organization and finalapproval by

 

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an executive officer or other senior-levelapproval. We expend substantial funds and management effort pursuing thesesales. Additionally, potential customers often maintain comprehensive processesfor internal approval, contracting and procurement, which may cause potentialsales to be delayed or foregone. As a result of these and other factors, thesales cycle for our products is long, historically ranging from six to 18months for our Unified Assurance products (excluding the cycle for subsequentapplications and enhancements, which varies widely) and averaging three monthsfor occasional, large sales of our Diagnostics products. Accordingly, ourability to forecast the timing and amount of specific sales is limited, and thedeferral or loss of one or more significant sales could materially harm ourfinancial results in a particular quarter, especially if there are significantsales and marketing expenses associated with any deferred or lost sales.

 

***Competitionis intense, may intensify and could result in increased downward pricingpressure, reduced margins and the loss of market share.***

 

Competitionfor all of our products is intense, is expected to continue and in some casesmay intensify. We compete principally with a number of U.S. and internationalhardware and software suppliers that vary in size and in the scope and breadthof the products and services offered. We compete to a lesser extent withsystems integrators and with the international development organizations ofcurrent and prospective customers. Certain of our competitors have, in relationto us, longer operating histories, larger installed customer bases,longer-standing relationships with customers, greater name recognition andsignificantly greater financial, technical, marketing, customer service, publicrelations, distribution and other resources. As a result, these competitors maybe able to more quickly develop or adapt to new or emerging technologies andchanges in customer requirements, or devote greater resources to the development,promotion and sale of their products. Additionally, it is possible that newcompetitors or alliances among competitors could emerge and rapidly acquiresignificant market share. Increased competition could result in increaseddownward pricing pressure, reduced margins and the loss of market share. Wecontinue to experience pressure on sales prices for our most basic GeoProbesystem and certain of our Orion applications, especially for those applicationsfor which there is a competitive offering, or in highly competitive situationsinvolving prospective customers.

 

***Ourbusiness depends on retaining our existing key personnel.***

 

Our businessdepends to a significant extent upon the continued service and performance of arelatively small number of key senior managers, technical personnel and salesand marketing personnel, few of whom are bound by an agreement to remain in ouremploy. The loss of any existing key personnel, or the inability to attract,motivate and retain additional key personnel, could harm our business,financial condition and results of operations.

 

***Wemay be unable to adapt to rapid technological change and evolving customerrequirements.***

 

Theintroduction by others of products involving superior technologies or theevolution of alternative technologies or new industry protocol standards couldrender our existing products, as well as products currently under development,obsolete and unsalable. We believe that our future success will depend in partupon our ability, on a timely and cost-effective basis, to continue to:

 

•                  developand introduce new products or applications for the communications market;

 

•                  enhanceour Unified Assurance and Diagnostics products;

 

•                  keeppace with evolving industry protocol standards, next-generation technologiesand changing customer needs;

 

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•                  establishand maintain interoperability between our products and the third-party productsforming other components of our customers’ operation support systems; and

 

•                  achievebroad market acceptance for our products.

 

We cannotassure you that we will achieve these objectives.

 

Over the longterm, we expect carrier spending for traditional networks to continue todecrease, which requires that we continue to develop products and applicationsfor networks based on emerging next-generation wireless and packet-basedtechnologies and standards. We may not successfully develop or acquireadditional competitive products for these emerging technologies and standards.

 

Products ascomplex as those currently under development by us frequently are subject todelays, and we cannot assure you that we will not encounter difficulties, suchas the inability to assign a sufficient number of qualified technical personnelto key projects or other unanticipated causes, that could delay or prevent thesuccessful and timely development, introduction and marketing of thesepotential new products. Even if such potential new products are developed andintroduced, we cannot assure you that they will achieve any significant degreeof market acceptance. In addition, our products are implemented with ourpurpose-specific hardware platform and certain third-party hardware andsoftware. We cannot assure you that we will be able to design and manufacture,or procure from third parties, the hardware and software necessary tosuccessfully implement our new products and applications.

 

***Amajority of our revenues have historically come from our internationalcustomers, and, as a result, our business may be harmed by political andeconomic conditions in foreign markets and the challenges associated withoperating internationally.***

 

Historically,revenues from international markets have represented the majority of our totalrevenues, and international revenues as a percentage of total revenues haveincreased in recent years. We expect revenues from international markets tocontinue to represent the majority of our total revenues for the foreseeablefuture. International business activities involve certain risks, including:

 

•                  managementof our geographically dispersed operations;

 

•                  longersales cycles in certain countries, especially on initial entry into a newgeographical market;

 

•                  greaterdifficulty in evaluating a customer’s ability to pay, longer accounts receivablepayment cycles and greater difficulty in the collection of past-due accounts;

 

•                  generaleconomic conditions in each country;

 

•                  currencycontrols and exchange rate fluctuations;

 

•                  challengesassociated with operating in diverse cultural and legal environments;

 

•                  seasonalreductions in business activity specific to certain markets;

 

•                  lossof revenues, property and equipment from expropriation, nationalization, war,insurrection, terrorism and other political risks;

 

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•                  foreigntaxes and the overlap of different tax structures, including modifications tothe U.S. tax code as a result of international trade regulations;

 

•                  greaterdifficulty in safeguarding intellectual property;

 

•                  importand export licensing requirements and other trade restrictions;

 

•                  involuntaryrenegotiation of contracts with foreign governments and communicationscarriers; and

 

•                  existenceor adoption of laws and regulations affecting the operation and taxation of ourbusiness and the general business climate for foreign companies.

 

***Wemay be unable to produce sufficient quantities of our products because weobtain various key components from sole and limited source suppliers. If we areunable to obtain these components, or if the prices of these componentsincrease, we could be unable to ship our products in a timely manner or ourproduct costs could be materially impacted.***

 

We couldexperience delays or reductions in product shipments or increases in productcosts if we are unable to obtain sufficient key components as required or todevelop alternative sources if and as required in the future. Currently, ourproducts utilize certain components that are available from only one or alimited number of suppliers. While alternative suppliers have been identifiedfor a variety of key components, those alternative sources have not beenqualified or activated by us. Our qualification process could be lengthy, andwe cannot assure you that additional sources would become available to us on atimely basis, or if such sources were to become available, that the componentswould be comparable in price and quality to our current components. Wegenerally do not execute long-term supply agreements with our suppliers and, inthe case of many components, make our purchases with purchase orders on an“as-needed basis.” Some of the components our products utilize require longorder lead-times, in certain cases up to nine months. Other components thatcurrently are readily available may become difficult to obtain in the future.Our failure to order sufficient quantities of these components in advance ofproduct delivery deadlines could prevent us from adequately responding tounanticipated increases in customer orders. In the past, we have experienceddelays in the receipt of a variety of our key components, which have resultedin delays in product deliveries. In addition, the cost of various keycomponents of our products has fluctuated significantly in the past based onsupply and demand factors. Significant changes in supply and demandcharacteristics in the future could cause the cost of various components toincrease, which could adversely impact our product costs.

 

***Keycomponents used in our products may become obsolete. If we are unable to find anddesign in replacement parts, we may be unable to ship our products insufficient quantities.***

 

From time totime, components used in our products are declared obsolete and no longerproduced by our suppliers. Historically, we have typically received adequatenotice from these suppliers so that we may procure quantities of these partssufficient to allow us time to find and design new parts into our products;however, we cannot assure you that we will always be provided adequate notice.If we are not given adequate notice, we may be unable to produce sufficientquantities of our products to satisfy demand. Also, we cannot assure you thatreplacement parts will be readily available or that we will be able to designnew parts into our products on a timely basis at a reasonable cost. If we arenot able to produce sufficient quantities of our products, our financialresults could be harmed.

 

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***Ourinventory may become obsolete or unusable.***

 

From time totime, we make advance purchases of various component parts in relatively largequantities to ensure that we have an adequate and readily available supply. Ourfailure to accurately project our needs for these components and the demand forour products that incorporate them, or changes in our business strategy thatreduce our need for these components, could result in these components becomingobsolete prior to their intended use or otherwise unusable in our business,which in turn could result in significant write-offs of inventory.

 

***Werely in part on third-party subcontractors in the manufacture and developmentof our products. Our ability to sell products to our customers could beimpaired if these subcontractors do not meet their commitments to us.***

 

Any disruptionin our relationships with third-party subcontractors and our inability todevelop alternative sources if and as required in the future could result indelays or reductions in product shipments or increases in product costs. Werely exclusively upon third-party subcontractors to manufacture oursubassemblies, and we have retained, from time to time, third-party designservices in the layout of circuit boards. We also frequently subcontract thedevelopment of specific features or enhancements for our products. Our relianceon third-party subcontractors involves a number of risks, including thepotential absence of adequate capacity, the unavailability of or interruptionin access to various process technologies, and reduced control over productquality, delivery schedules, manufacturing yields and costs.

 

***Werely upon software licensed from third parties. If we are unable to maintainthese software licenses on commercially reasonable terms, our business,financial condition and results of operations could be harmed.***

 

We rely uponsoftware that we license from Oracle Corporation, Cognos Incorporated and otherthird parties, including software that is integrated with ourinternally-developed software and used in our products to perform keyfunctions. In certain cases, we are unable to obtain long-term pricingcommitments for this software. The inability to maintain any software licenseson commercially reasonable terms could result in shipment delays or reductionsuntil equivalent software could be developed or licensed and integrated intoour products. Additionally, the presence of defects or errors in the licensedsoftware or allegations that the licensed software infringes on theintellectual property rights of others could result in reductions or delays inshipments, claims against us or damage to our reputation and business, recoursefor which might not be available against the related licensors.

 

***Ourstrategy may require that we pursue acquisitions, joint ventures or otherbusiness relationships.  We may notsuccessfully develop these relationships to support our strategy or we may notreceive the intended benefits of any future acquisitions, joint ventures orother business relationships.***

 

Although inthe past we have developed or licensed substantially all of our producttechnologies, some of the technologies, features and functionalities we arecontemplating or which may be required to meet the perceived needs of ourcustomers and potential customers may be more effectively and timely obtainedthrough the acquisition of businesses, products or technologies fromthird-parties, or the establishment of joint venture, strategic partnership orother arrangements with firms already possessing such technologies.  We may also pursue such acquisitions orarrangements to expand our business, addressable markets and productofferings.  There can be no assurancethat suitable and interested candidates for these activities will beidentified, or if they are identified that any such acquisition or arrangementcan be consummated on terms acceptable to us.

 

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Thenegotiation of potential acquisitions or strategic relationships, as well asthe integration of an acquired or jointly developed business, technology orproduct, could cause diversion of management’s time and resources. Futureacquisitions and strategic relationships by us could result in potentiallydilutive issuances of equity securities, a material reduction in cash reserves,the incurrence of debt and contingent liabilities, research and developmentwrite-offs and other acquisition-related expenses. We cannot assure you thatany acquisition or joint venture will be successfully integrated with ouroperations. If we were to pursue any such acquisition or strategic relationship,we may not receive the intended benefits of the acquisition or strategicrelationship.

 

***Wemay be accused of infringing the proprietary rights of others, which couldsubject us to costly and time-consuming litigation.***

 

Thecommunications industry is characterized by the existence of a large number ofpatents and frequent allegations of patent infringement. In the past, we havereceived, and may receive in the future, notices from holders of patents thatraise issues as to possible infringement by our products. As the number ofcompetitive products increases and the functionality of these products furtheroverlaps, we believe that we may become increasingly subject to allegations ofinfringement. Questions of infringement and the validity of patents in thefield of communications signaling technologies involve highly technical andsubjective analyses. Patent holders may initiate legal proceedings in thefuture against us, and if any proceedings are initiated, we may not besuccessful in defending ourselves. Any claim or proceeding could be timeconsuming and expensive to defend or resolve, result in substantial diversionof management resources, cause product shipment delays, or force us to enterinto royalty or license agreements rather than dispute the merits of any suchclaim made or proceeding initiated against us. Any such royalty or licenseagreements may not be available on terms acceptable to us, if at all.

 

***Ourlimited ability or failure to protect our intellectual property may materially harmour ability to compete.***

 

Our continuedsuccess is dependent in part upon our proprietary technology. To protect ourproprietary technology, we rely on a combination of technical innovation, tradesecret, copyright and trademark laws, non-disclosure agreements and, to alesser extent, patents, each of which affords only limited protection. Inaddition, the laws of some foreign countries do not protect our proprietaryrights in our products to the same extent as do the laws of the U.S. Despitethe measures taken by us, it may be possible for a third party to copy orotherwise obtain and use our proprietary technology and information withoutauthorization. Policing unauthorized use of our products is difficult, andlitigation may be necessary in the future to enforce our intellectual propertyrights. Any litigation could be time consuming and expensive to prosecute orresolve, result in substantial diversion of management attention and resources,and materially harm our business, financial condition and results ofoperations. We may not be successful in protecting our proprietary technology,or our proprietary rights may not provide us a meaningful competitiveadvantage.

 

***Wemay face potential liability for product defects.***

 

Products ascomplex as ours may contain undetected defects or errors, especially when firstintroduced or as enhancements are released, that, despite our testing, are notdiscovered until after a product has been installed and used by customers.Defects or errors could result in delayed market acceptance of the product,claims against us or damage to our reputation and business. We generallyinclude provisions in our agreements with customers that are intended to limitour exposure to potential liability for damages arising out of defects orerrors in our products. However, the nature and extent of these limitationsvary from agreement to agreement, and it is possible that these limitations maynot be effective as a result of unfavorable judicial decisions or current orfuture laws enacted in one or more of

 

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the jurisdictions in which we do business.Although we have not experienced any product liability suits to date, the saleand support of our products entail the risk of these claims. We carry insurancethat mitigates our risk associated with certain product liability claims, butthe policy is subject to coverage limits, various exceptions and options tocancel prior to term and may not be sufficient to cover all claims. Any productliability claim brought against us, regardless of its merit, could result inmaterial expense to us, diversion of management attention and resources, anddamage to our business reputation and our ability to retain existing customersor attract new customers.

 

***Ourbusiness and reputation could suffer if we do not prevent security breaches.***

 

We haveincluded security features in some of our products that are intended to protectthe privacy and integrity of customer data. Despite the existence of thesesecurity features, our products may be vulnerable to breaches in security dueto unknown defects in the security mechanisms, as well as vulnerabilitiesinherent in the operating system or hardware platform on which the product runsand/or the networks linked to that platform. Security vulnerabilities,regardless of origin, could jeopardize the security of information stored inand transmitted through the computer systems of our customers. Any securityproblem may require significant capital expenditures to solve and couldmaterially harm our reputation and product acceptance.

 

***Ourtwo largest stockholders own approximately 39% of our common stock, which givesthem effective control over the management and affairs of our company and coulddelay or prevent a change of control.***

 

Two of ourfounders, Samuel S. Simonian, chairman of our board, and Elie S. Akilian, ourpresident and chief executive officer and a director, collectively beneficiallyown approximately 39% of the outstanding shares of our common stock. Consequently,if these individuals were to act together, they could effectively control theoutcome of all matters submitted for stockholder action, including the electionof our board of directors and the approval of significant corporatetransactions. They also effectively control the management and affairs of ourcompany, which could have the effect of delaying or preventing a change incontrol of our company. In addition, as two of the five members of our board ofdirectors, Messrs. Simonian and Akilian have significant influence in directingthe actions taken by our board.

 

***Wehave previously adopted anti-takeover defenses that could delay or prevent anacquisition of our company.***

 

Ourcertificate of incorporation and bylaws and Delaware law contain provisions thatmay have the effect of discouraging, delaying or preventing a change in controlof our company or unsolicited acquisition proposals that a stockholder mayconsider favorable. For example, we have a classified board of directors withstaggered, three-year terms, our stockholders are unable to take action bywritten consent, our stockholders are limited in their ability to makeproposals at stockholder meetings, and our board of directors is empowered toissue blank-check preferred stock without any need to obtain stockholderapproval.

 

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***Volatilityin our stock price could result in claims against us.***

 

The marketprice of our common stock has been, and is likely to continue to be, highlyvolatile. In the periods listed below, the market price of our common stock hasranged as follows:

 
|            |   | **High** |   | **Low** |   |
|-----------------|--------|----------|--------|---------|--------|
| **2004**        |   |     |   |    |   |
| First  Quarter  |   | $        | 17.20  |    | $      | 10.76 |   |
|            |   |     |   |    |   |
| **2003**        |   |     |   |    |   |
| Fourth  Quarter |   | $        | 14.60  |    | $      | 11.09 |   |
| Third  Quarter  |   | 16.00    |   | 9.76    |   |
| Second  Quarter |   | 10.50    |   | 5.87    |   |
| First  Quarter  |   | 8.25     |   | 5.78    |   |

 

Our stock price may be significantly affectedby factors such as:

 

•                  variationsin our results of operations;

 

•                  changesin our business strategy;

 

•                  futuresales of our common stock, particularly by institutional investors with largeholdings and by our founders;

 

•                  theannouncement of technological innovations or new products by us, ourcompetitors or others;

 

•                  marketanalysts’ estimates of our performance, our customers’ or competitors’performance or the performance of the communications industry in general;

 

•                  thefinancial and other announcements made by us, our competitors or customers;

 

•                  generalmarket and economic conditions; and

 

•                  equitymarket conditions and industry-specific equity market trends.

 

The publicmarkets have experienced significant volatility that has particularly affectedthe market prices of securities of many technology and communications companiesfor reasons that have often been unrelated to financial results. Thisvolatility has and may in the future materially harm the market price of ourcommon stock as well as our visibility and credibility in our markets.

 

Additionally,in the past, securities class action litigation often has been brought againsta company following periods of volatility in the market price of its commonstock. We may be the target of similar litigation in the future. Securitieslitigation could result in substantial costs and diversion of managementattention and resources.

 

**Item3.****                             Quantitativeand Qualitative Disclosures about Market Risk**

 

Historically,we have been exposed to immaterial levels of market risk and have not beensignificantly exposed to fluctuations in currency exchange rates. In the threemonths ended March 31, 2004, approximately 4% of total revenues wasdenominated in currencies other than the U.S. dollar.  In the full-year 2003, approximately 3% of total revenues wasdenominated in currencies other than the U.S. dollar, principally the Euro.  In future periods, we believe a greaterportion of total revenues could be

 

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denominated in currencies other than the U.S.dollar, thereby increasing our exposure to exchange rate gains and losses onnon-U.S. currency transactions. Currently, we do not engage in hedging activities for our non-U.S.dollar business.

 

Ourinternational subsidiaries operate in currencies other than the U.S. dollar,which results in foreign currency translation gains and losses; however, theU.S. dollar is the functional currency of all our subsidiaries.  Currently, we do not engage in hedgingactivities for our international operations. However, we may engage in hedging activities in the future.

 

Our international business is subject to the typical risks of anyinternational business, including, but not limited to, the risks described inItem 2 – “Management’s Discussion and Analysis of Financial Condition andResults of Operations – Risk Factors.” Accordingly, our future results could be materially harmed by the actualoccurrence of any of these or other risks.

 

Currently, our cash is invested in bank deposits and money market fundsdenominated in U.S. dollars. We account for these investments in accordancewith SFAS 115, *Accounting for Certain Investments in Debt and Equity Securities*.These cash equivalents are treated as available-for-sale under SFAS 115.  The carrying value of these cash equivalentsapproximates fair market value.  We alsoinvest in U.S. Treasury bills, U.S. government agency discount notes andcommercial paper.  U.S. Treasury bills,U.S. government agency discount notes and commercial paper with maturities thatare less than 90 days are classified as cash equivalents.  U.S Treasury bills, U.S. government agencydiscount notes and commercial paper with maturities that are more than 90 daysbut less than one year are classified as short-term investments.  All U.S. Treasury bills, U.S. governmentagency discount notes and commercial paper are classified as held to maturity andcarried at amortized cost.  Our investmentsare subject to interest rate risk, which is the risk that our financialcondition and results of operations could be adversely affected due tomovements in interest rates.  Assumingcurrent levels of cash, if the per annum rate of interest earned on ourinvested cash were to change by 50 basis points, or 0.5%, our investment incomewould be impacted by approximately $0.4 million on an annual basis.

 

**Item 4.****                             Controlsand Procedures**

 

(a)                Evaluation ofdisclosure controls and procedures. We maintain disclosure controls andprocedures designed to provide reasonable assurance that information requiredto be disclosed in the periodic reports we file with the SEC is recorded,processed, summarized and reported within the time periods specified in therules of the SEC.  We carried out anevaluation as of March 31, 2004, under the supervision and theparticipation of our management, including our chief executive officer andchief financial officer, of the design and operation of these disclosurecontrols and procedures pursuant to Exchange Act Rule 13a-15(e).  Based upon that evaluation, our chiefexecutive officer and chief financial officer concluded that our disclosurecontrols and procedures are effective in timely alerting them to materialinformation relating to the company (including our consolidated subsidiaries)required to be included in our periodic SEC filings.

 

(b)               Changes ininternal control over financial reporting. There was no change in ourinternal control over financial reporting that occurred during the three monthsended March 31, 2004 that has materially affected, or is reasonably likelyto materially affect, our internal control over financial reporting.

 

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**PART II.   OTHER INFORMATION**

 

**Item 2****.****                             Changesin Securities, Use of Proceeds and Issuer Repurchases of Equity Securities**

 

The Securities and Exchange Commission onMay 26, 1999 declared effective our registration statement on Form S-1(File No. 333-59753) relating to the initial public offering of our commonstock.  As of March 31, 2004, wehave used all of the net offering proceeds for the purchase of temporaryinvestments, consisting of cash, cash equivalents, and short-term investments.  We currently intend to use the net proceedsof the offering for working capital and general corporate purposes, includingfinancing accounts receivable and capital expenditures made in the ordinarycourse of business.  We also may apply aportion of the proceeds of the offering to acquire businesses, products andtechnologies, or enter into joint venture arrangements, that are complementaryto our business and product offerings; however, at this time we have notidentified a specific acquisition or joint venture or allocated a specificamount for this purpose. We also may applya portion of the proceeds to the payment of cash dividends or for additionalstock repurchases or other similar transactions.

 

We did not repurchase any shares of our common stockduring the three months ended March 31, 2004.

 

**Item6.****                             Exhibitsand Reports on Form 8-K**

 
| (a)    | Exhibits |                                                                                                                                                                                                                            |
|--------|----------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |     |                                                                                                                                                                                                                            |
|   | 10.1     | Employment Agreement dated  June 27, 1990 between the registrant and Michael J. Reiman.                                                                                                                                    |
|   | 31.1     | Certification of Elie S.  Akilian, President and Chief Executive Officer of the Company, as adopted pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002.                                                            |
|   | 31.2     | Certification of Jeffrey A.  Kupp, Vice President and Chief Financial Officer of the Company, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                       |
|   | 32.1     | Certification of Elie S.  Akilian, President and Chief Executive Officer of the Company, pursuant to 18  United States Code Section 1350, as adopted pursuant to Section 906  of the Sarbanes-Oxley Act of 2002.      |
|   | 32.2     | Certification of Jeffrey A.  Kupp, Vice President and Chief Financial Officer of the Company, pursuant to  18 United States Code Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002. |

 

(b)               Reportson Form 8-K

 

Duringthe three months ended March 31, 2004 we furnished one Report on Form 8-K.  Information regarding each item reported onis listed below.

 
| **Date Filed  or  Furnished** |   | **Item No.** |   | **Description**                                                                                                             |
|-------------------------------|--------|--------------|--------|-----------------------------------------------------------------------------------------------------------------------------|
| January 27,  2004        |   | Item 12      |   | On  January 27, we announced our results of operations for our fiscal  quarter and year ended December 31, 2003.* |

 

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*Thisfurnished Form 8-K is not to be deemed filed or incorporated by reference intoany filing.

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has duly causedthis report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 
|                                                    | INET  TECHNOLOGIES, INC. |
|---------------------------------------------------------|--------------------------|
|                                                    |                     |
|                                                    | By:                      | /s/ | Jeffrey A. Kupp |   |
|                                                    |                     | Jeffrey A. Kupp |
|                                                    |                     | Vice President  and Chief Financial Officer  (Principal accounting and financial officer) |
|                                                    |                     |
| Date:     April 21,  2004 |                     |

 

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**INETTECHNOLOGIES, INC.INDEX TO EXHIBITS**

 
| **Exhibit  Number** |   | **Description**                                                                                                                                                                                                                 |
|---------------------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |   |                                                                                                                                                                                                                            |
| 10.1                |   | Employment Agreement dated  June 27, 1990 between the registrant and Michael J. Reiman.                                                                                                                                    |
| 31.1                |   | Certification of Elie S.  Akilian, President and Chief Executive Officer of the Company, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                            |
| 31.2                |   | Certification of Jeffrey A.  Kupp, Vice President and Chief Financial Officer of the Company, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                       |
| 32.1                |   | Certification of Elie S.  Akilian, President and Chief Executive Officer of the Company, pursuant to 18  United States Code Section 1350, as adopted pursuant to Section 906  of the Sarbanes-Oxley Act of 2002.      |
| 32.2                |   | Certification of Jeffrey A.  Kupp, Vice President and Chief Financial Officer of the Company, pursuant to  18 United States Code Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002. |

 

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