COMPELLENT TECHNOLOGIES INC - FORM 10-Q

Attached files

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EX-31.2 - EX-31.2 - COMPELLENT TECHNOLOGIES INC	c59556exv31w2.htm
EX-32.1 - EX-32.1 - COMPELLENT TECHNOLOGIES INC	c59556exv32w1.htm
EX-31.1 - EX-31.1 - COMPELLENT TECHNOLOGIES INC	c59556exv31w1.htm
EX-10.3 - EX-10.3 - COMPELLENT TECHNOLOGIES INC	c59556exv10w3.htm
EX-10.2 - EX-10.2 - COMPELLENT TECHNOLOGIES INC	c59556exv10w2.htm
EX-10.1 - EX-10.1 - COMPELLENT TECHNOLOGIES INC	c59556exv10w1.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)


þ		Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended June 30, 2010


o		Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from to

Commission File Number 001-33685

COMPELLENT TECHNOLOGIES, INC.

(Exact name of Registrant as specified in its charter)


Delaware (State or other jurisdiction of incorporation or organization)		37-1434895 (I.R.S. Employer Identification No.)

7625 Smetana Lane
Eden Prairie, Minnesota 55344
(952) 294-3300
(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):


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

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

As of July 30, 2010, 31,820,751 shares of the registrant’s common stock, $0.001 par value, were outstanding.

COMPELLENT TECHNOLOGIES, INC.

FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2010

INDEX


	Page
PART I — FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of June 30, 2010 and December 31, 2009		1
Condensed Consolidated Statements of Operations for the Three and Six months ended June 30, 2010 and 2009		2
Condensed Consolidated Statements of Cash Flows for the Six months ended June 30, 2010 and 2009		3
Notes to the Condensed Consolidated Financial Statements		4
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		10
Item 3. Quantitative and Qualitative Disclosures About Market Risk		17
Item 4. Controls and Procedures		18
PART II -— OTHER INFORMATION
Item 1. Legal Proceedings		18
Item 1A. Risk Factors		19
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		30
Item 3. Defaults Upon Senior Securities		30
Item 4. (Removed and Reserved)		30
Item 5. Other Information		30
Item 6. Exhibits		30
Signatures		32
EX-10.1
EX-10.2
EX-10.3
EX-31.1
EX-31.2
EX-32.1

PART I — FINANCIAL INFORMATION


Item 1.		Financial Statements

COMPELLENT TECHNOLOGIES, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)


	June 30,			December 31,
	2010			2009
	(unaudited)
Assets
Current assets
Cash and cash equivalents	$	28,014		$	29,155
Short-term investments		29,628			35,218
Accounts receivable, net		34,112			36,702
Inventories, net		8,301			4,750
Other current assets		4,008			3,497

Total current assets		104,063			109,322

Long-term investments		74,363			59,472
Property and equipment, net		8,184			5,153

Total assets	$	186,610		$	173,947


Liabilities and stockholders’ equity
Current liabilities
Accounts payable	$	8,819		$	8,968
Accrued liabilities		1,583			1,261
Accrued compensation		6,232			5,489
Deferred revenues, current		30,294			25,668

Total current liabilities		46,928			41,386

Deferred revenues, non-current		16,234			12,529
Commitments and contingencies		—			—

Stockholders’ equity
Common stock, $0.001 par value, 300,000,000 shares authorized; 31,818,590 and 31,674,940 shares issued and outstanding as of June 30, 2010 and December 31, 2009		32			32
Additional paid in capital		168,975			164,885
Accumulated deficit		(46,014	)		(45,062	)
Accumulated other comprehensive income		455			177

Total stockholders’ equity		123,448			120,032

Total liabilities and stockholders’ equity	$	186,610		$	173,947

See accompanying notes to condensed consolidated financial statements.

COMPELLENT TECHNOLOGIES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited, in thousands, except per share amounts)


	For the Three Months Ended						For the Six Months Ended
	June 30,						June 30,
	2010			2009			2010			2009
Revenues
Product	$	24,842		$	20,288		$	45,457		$	41,577
Support and services		11,652			8,428			22,864			15,212

Total revenues		36,494			28,716			68,321			56,789

Cost of revenues
Product		13,036			10,306			23,617			21,132
Support and services		3,886			2,983			7,677			5,407

Total cost of revenues		16,922			13,289			31,294			26,539

Gross profit		19,572			15,427			37,027			30,250

Operating expenses
Sales and marketing		13,216			10,846			25,366			20,666
Research and development		4,542			3,074			8,837			5,884
General and administrative		2,139			1,550			4,222			2,950

Total operating expenses		19,897			15,470			38,425			29,500

Operating income (loss)		(325	)		(43	)		(1,398	)		750
Other income, net		311			419			716			915

Income (loss) before income taxes		(14	)		376			(682	)		1,665
Income tax expense		158			129			270			405

Net income (loss)	$	(172	)	$	247		$	(952	)	$	1,260

Net income (loss) per weighted average share, basic	$	(0.01	)	$	0.01		$	(0.03	)	$	0.04
Net income (loss) per weighted average share, diluted	$	(0.01	)	$	0.01		$	(0.03	)	$	0.04
Weighted average shares, basic		31,773			30,729			31,728			30,688
Weighted average shares, diluted		31,773			32,840			31,728			32,634

See accompanying notes to condensed consolidated financial statements.

COMPELLENT TECHNOLOGIES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited, in thousands)


	For the Six Months Ended
	June 30,
	2010			2009
Operating activities
Net income (loss)	$	(952	)	$	1,260
Adjustments to reconcile net income (loss) to net cash provided by operating activities
Depreciation and amortization		1,567			1,076
Stock-based compensation expense		2,962			2,075
Changes in operating assets and liabilities
Accounts receivable, net		2,590			(10,282	)
Inventories, net		(3,551	)		67
Other current assets		(511	)		(1,201	)
Accounts payable		(149	)		5,370
Accrued liabilities		332			(250	)
Accrued compensation		743			(658	)
Deferred revenues		8,331			8,025

Net cash provided by operating activities		11,362			5,482

Investing activities
Purchases of property and equipment		(4,598	)		(1,857	)
Purchases of investments		(57,851	)		(54,119	)
Proceeds from sales of investments		33,936			25,970
Proceeds from maturities of investments		14,911			5,044

Net cash used in investing activities		(13,602	)		(24,962	)

Financing activities
Proceeds from issuance of common stock		1,099			633

Net decrease in cash and cash equivalents		(1,141	)		(18,847	)
Cash and cash equivalents, beginning of period		29,155			51,989


Cash and cash equivalents, end of period	$	28,014		$	33,142


Supplemental cash flow disclosure:
Cash paid for income taxes	$	94		$	443
Supplemental non-cash disclosure:
Vesting of restricted common stock	$	29		$	58

See accompanying notes to condensed consolidated financial statements.

COMPELLENT TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

1. Nature of Business, Basis of Presentation and Recent Accounting Pronouncements

Nature of Business

Compellent Technologies, Inc., individually or in any combination with its consolidated subsidiaries, “we”, “us”, or “our”, was incorporated in March 2002. We develop, market and service enterprise-class network storage solutions, which include software and hardware. We sell products through an all-channel assisted sales model. Corporate headquarters are in Eden Prairie, Minnesota, and we have channel partners and end users located in the United States and certain international markets.

Basis of Presentation

The accompanying condensed consolidated balance sheet as of December 31, 2009, which has been derived from audited financial statements, and the unaudited interim condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America, or U.S. GAAP, for interim financial information, pursuant to the rules and regulations of the Securities and Exchange Commission, or the SEC. Pursuant to such rules and regulations, certain financial information and footnote disclosures normally included in the financial statements have been condensed or omitted. However, in the opinion of management, the financial statements include all adjustments, consisting of normal recurring accruals, necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods presented. Operating results for these interim periods are not necessarily indicative of results expected for the entire fiscal year or any future operating periods. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2009 as filed with the SEC on March 5, 2010.

Preparation of the condensed consolidated financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. The items in our condensed consolidated financial statements requiring significant estimates and judgment are revenue recognition, allowance for doubtful accounts, inventory valuations, stock-based compensation and income taxes.

Certain reclassifications have been made to prior years’ notes to the condensed consolidated financial statements to conform to the current year presentation. The reclassifications were deemed immaterial to the financial statements as they had no effect on net earnings, total stockholders’ equity, total assets or cash flows.

Recent Accounting Pronouncements

In October 2009, the FASB issued ASU No. 2009-13, “Revenue Recognition (ASC Topic 605) — Multiple-Deliverable Revenue Arrangements, a consensus of the FASB Emerging Issues Task Force.” This guidance modifies the fair value requirements of ASC Subtopic 605-25 Revenue Recognition-Multiple-Element Arrangements by allowing the use of the “best estimate of selling price” in addition to VSOE and Vendor Objective Evidence (now referred to as third-party evidence, or TPE) for determining the selling price of a deliverable. A vendor is now required to use its best estimate of the selling price when VSOE or TPE of the selling price cannot be determined. In addition, the residual method of allocating arrangement consideration is no longer permitted.

In October 2009, the FASB issued ASU No. 2009-14, “Software (ASC Topic 985) — Certain Revenue Arrangements That Include Software Elements, a consensus of the FASB Emerging Issues Task Force.” This guidance modifies the scope of ASC Subtopic 985-605 Software-Revenue Recognition to exclude from its requirements (a) non-software components of tangible products and (b) software components of tangible products that are sold, licensed, or leased with tangible products when the software components and non-software components of the tangible product function together to deliver the tangible product’s essential functionality.

These updates require expanded qualitative and quantitative disclosures and are effective for fiscal years beginning on or after June 15, 2010 and as such we plan to adopt these updates on January 1, 2011 on a prospective basis. We are currently evaluating the impact of adopting these updates on our consolidated financial statements.

In January 2010, the FASB issued ASU No. 2010-06, “Fair Value Measurements and Disclosures (ASC Topic 820) — Improving Disclosures about Fair Value Measurements.” This guidance requires new disclosures about significant transfers in and out of Level 1 and Level 2 categories and separate disclosures about purchases, sales, issuances, and settlements of Level 3 fair value measurements.

This update is effective for interim and annual reporting periods beginning after December 15, 2009, except for new disclosures of Level 3 fair value measurements. Those disclosures are effective for fiscal years beginning after December 15, 2010, and for interim periods within those fiscal years. We have adopted the portion of this update related to Level 1 and Level 2 fair value measurements on January 1, 2010, but it did not have a material impact on our financial condition or results of operations. We do not expect the portion of this update related to Level 3 fair value measurements to have a material impact on our financial condition or results of operations when it is adopted on January 1, 2011.

2. Fair Value Measurements and Investments

Fair Value Measurements

Fair value is defined as the amount that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants as of the measurement date. A hierarchy for inputs used in measuring fair value is in place to maximize the use of observable inputs and minimize the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs market participants would use in valuing the asset or liability developed based on market data obtained from sources independent of us. Unobservable inputs are inputs that reflect our assumptions about the factors market participants would use in valuing the asset or liability developed based upon the best information available in the circumstances.

The following table presents information about our financial assets included in our condensed consolidated balance sheets that are measured at fair value on a recurring basis for the periods presented, and indicates the fair value hierarchy of the valuation techniques utilized to determine such fair value. The hierarchy is broken down into three levels. Level 1 inputs are unadjusted quoted prices in active markets that are accessible at the measurement date for identical assets or liabilities. Level 2 inputs are based on quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, or model-based valuation techniques for which all significant assumptions are observable in the market. Level 3 inputs are generated from model-based techniques that use significant assumptions not observable in the market. On June 30, 2010, we transferred our corporate debt securities, from Level 1 to Level 2. We use significant observable inputs to value our corporate debt securities, which more closely align with the definition of Level 2 inputs provided above. We recognize transfers into and out of the fair value hierarchy levels at the end of a reporting period.


			Fair Value Measurements Using
	June 30,				(in thousands)
Description	2010		Level 1		Level 2		Level 3
Assets:
Cash (4)	$	1,194	$	1,194	$	—	$	—
Corporate debt securities (1)		55,242		—		55,242		—
U.S. agency securities (1)		39,151		—		39,151		—
Municipal bonds (2)		5,904		—		5,904		—
Commercial paper (3)		13,995		—		13,995		—
Certificates of deposit (2)		697		—		697		—
Money market funds (4)		15,822		15,822		—		—

Total	$	132,005	$	17,016	$	114,989	$	—


			Fair Value Measurements Using
	December 31,				(in thousands)
Description	2009		Level 1		Level 2		Level 3
Assets:
Cash (4)	$	1,276	$	1,276	$	—	$	—
Corporate debt securities (1)		50,172		50,172		—		—
U.S. agency securities (1)		27,394		—		27,394		—
Municipal bonds (1)		5,925		—		5,925		—
Commercial paper (2)		2,998		—		2,998		—
Certificates of deposit (2)		1,396		—		1,396		—
Variable rate demand notes (2)		6,806		—		6,806		—
Money market funds (4)		27,878		27,878		—		—

Total	$	123,845	$	79,326	$	44,519	$	—


(1)		Included in short-term and long-term investments on the consolidated balance sheets.

(2)		Included in short-term investments on the consolidated balance sheets.


(3)		Included in cash and cash equivalents and short-term investments on the consolidated balance sheets.

(4)		Included in cash and cash equivalents on the consolidated balance sheets.

Available-for-sale investments included in the Level 2 category above are based on significant observable inputs, such inputs include benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and other reference data.

Investments

The amortized cost, gross unrealized gains and losses and fair values of available-for-sale investments for the periods presented, consist of the following (in thousands):


			Gross Unrealized
At June 30, 2010	Cost		Gains		Losses			Fair Value
Corporate debt securities	$	54,826	$	446	$	(30	)	$	55,242
U.S. agency securities		39,078		74		(1	)		39,151
Municipal bonds		5,891		13		—			5,904
Commercial paper		13,995		—		—			13,995
Certificates of deposit		697		—		—			697
Money market funds		15,822		—		—			15,822

Total	$	130,309	$	533	$	(31	)	$	130,811


			Gross Unrealized
At December 31, 2009	Cost		Gains		Losses			Fair Value
Corporate debt securities	$	49,972	$	323	$	(123	)	$	50,172
U.S. agency securities		27,399		34		(39	)		27,394
Municipal bonds		5,915		13		(3	)		5,925
Commercial paper		2,998		—		—			2,998
Certificates of deposit		1,396		—		—			1,396
Variable rate demand notes		6,806		—		—			6,806
Money market funds		27,878		—		—			27,878

Total	$	122,364	$	370	$	(165	)	$	122,569

All of our securities in an unrealized loss position as of June 30, 2010 had been in an unrealized loss position for less than twelve months. We intend to hold these securities until maturity and the possibility that we will be required to sell these securities prior to the recovery of their amortized cost basis is remote. Based on a review of all relevant information such as revised estimates of cash flows and specific conditions affecting the investment, we expect to recover the entire amortized cost basis of these securities. Therefore, there was no other-than-temporary impairment charges recorded during the first half of 2010 or 2009.

The amortized cost and fair value of available-for-sale investments by contractual maturity at June 30, 2010 are as follows (in thousands):


	Cost		Fair Value
Due in one year or less	$	56,411	$	56,449
Due between one year to three years		73,898		74,362

Total	$	130,309	$	130,811

Securities classified as available-for-sale are carried at estimated fair value with unrealized gains and losses, net of tax if applicable, recorded as a component of accumulated other comprehensive income (loss). Upon the sale of a security classified as available-for-sale, the amount reclassified out of accumulated other comprehensive income into earnings is based on the specific identification method.

Our proceeds from sales and maturities of available-for-sale investments were $48.8 million and $31.0 million for the six months ended June 30, 2010 and 2009, respectively. By identifying the specific cost of each security that has been sold or that has matured, we realized gross gains of $21,000 and $11,000 on our sales and maturities in the three months ended June 30, 2010 and 2009, respectively. We realized gross gains of $42,000 and $12,000 on our sales and maturities in the six months ended June 30, 2010 and 2009, respectively. We realized gross losses of $95,000 for the three and six months ended June 30, 2010 and had no realized loss for the three and six months ended June 30, 2009. Gross realized gains and losses are recognized in other income, net on the condensed consolidated statement of operations.

3. Inventories

Inventories consist of the following (in thousands):


	June 30,		December 31,
	2010		2009
Component materials	$	3,945	$	2,045
Finished systems		4,356		2,705

Total	$	8,301	$	4,750

4. Property and Equipment

Property and equipment consist of the following (in thousands):


	June 30,			December 31,
	2010			2009
Computer equipment	$	12,053		$	8,855
Computer software		966			951
Office furniture and fixtures		1,410			1,200
Leasehold improvements		2,397			1,217

		16,826			12,223
Accumulated depreciation and amortization		(8,642	)		(7,070	)

Total	$	8,184		$	5,153

5. Comprehensive Income (Loss)

Comprehensive income (loss) consists of our net income (loss), foreign currency translation adjustments and unrealized holding gains and losses from available-for-sale securities. The components of and changes in other comprehensive income (loss) are as follows (in thousands):


	For the Three Months						For the Six Months
	Ended June 30,						Ended June 30,
	2010			2009			2010			2009
Net income (loss)	$	(172	)	$	247		$	(952	)	$	1,260
Net changes in other comprehensive income (loss):
Cumulative translation adjustment		(10	)		(8	)		(18	)		(12	)
Unrealized gain on investments, net		126			419			297			96

Total comprehensive income (loss)	$	(56	)	$	658		$	(673	)	$	1,344

6. Stock-Based Compensation

Option Activity

A summary of option activity for the 2002 Stock Option Plan, or 2002 Plan, and 2007 Equity Incentive Plan, or 2007 Plan, for the six months ended June, 2010 are as follows:


				Weighted		Weighted
				Average		Average
				Exercise		Remaining
	Number of			Price per		Contractual
	Shares			Share		Life
Options outstanding at December 31, 2009		3,374,061		$	9.19		6.00
Granted		855,539			15.91		—
Exercised		(74,534	)		4.54		—
Cancelled		(57,327	)		11.91		—

Options outstanding at June 30, 2010		4,097,739		$	10.64		5.74

Options exercisable at June 30, 2010		1,856,931		$	7.34		5.54

Stock-Based Compensation Expense

Stock-based compensation expense for the 2002 Plan, 2007 Plan, and ESPP included in the condensed consolidated statements of operations is as follows (in thousands):


	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2010		2009		2010		2009
Cost of product	$	18	$	12	$	33	$	26
Cost of support and services		49		75		89		138
Sales and marketing		757		544		1,372		893
Research and development		333		267		603		413
General and administrative		481		389		865		605

Total stock-based compensation expense	$	1,638	$	1,287	$	2,962	$	2,075

As of June 30, 2010, there is $14.3 million of total unrecognized compensation costs related to non-vested stock-based compensation arrangements granted under our stock option plans. This expense will be amortized on a straight-line basis over a weighted-average period of 2.8 years.

7. Net Income (Loss) Per Share

The following table sets forth the computation of net income (loss) per common share (in thousands, except per share amounts):


	For the Three Months					For the Six Months
	Ended June 30,					Ended June 30,
	2010			2009		2010			2009
Basic weighted-average shares outstanding		31,773			30,729		31,728			30,688
Dilutive effect of stock options and unvested restricted common stock		—			2,111		—			1,946

Diluted weighted-average shares outstanding		31,773			32,840		31,728			32,634

Net income (loss)	$	(172	)	$	247	$	(952	)	$	1,260
Net income (loss) per weighted average share, basic and diluted	$	(0.01	)	$	0.01	$	(0.03	)	$	0.04

For the three months ended June 30, 2010 and 2009, we had 4.1 million and 1.0 million options outstanding, respectively, that were excluded from the computations of diluted net income (loss) per share because including them would have had an anti-dilutive effect. For the six months ended June 30, 2010 and 2009, we had 3.9 million and 1.1 million options outstanding, respectively, that were excluded from the computations of diluted net income (loss) per share because including them would have had an anti-dilutive effect

8. Income Taxes

Income tax expense was $158,000 and $129,000 for the three months ended June 30, 2010 and 2009, respectively. For the three months ended June 30, 2010, our income tax expense consisted of $64,000 of federal alternative minimum income tax expense, or AMT, $66,000 of state income tax expense and $28,000 of foreign income tax expense. For the three months ended June 30, 2009, our income tax expense consisted of $18,000 of federal AMT, $109,000 of state income tax expense and $2,000 of foreign income tax expense. Income tax expense was $270,000 and $405,000 for the six months ended June 30, 2010 and 2009, respectively. For the six months ended June 30, 2010, our income tax expense consisted of $102,000 of federal AMT, $132,000 of state income tax expense and $36,000 of foreign income tax expense. For the six months ended June 30, 2009, our income tax expense consisted of $160,000 of federal AMT, $238,000 of state income tax expense and $7,000 of foreign income tax expense. Federal AMT was provided on the portion of our AMT income which could not be entirely offset by the available alternative net operating loss, or NOL, carryforwards.

In assessing the realization of deferred tax assets, we have considered whether it is more likely than not that some or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Based on the level of projected future taxable income over the periods in which the deferred tax assets are deductible and our history of losses, we believe that it is more likely than not that we will not realize the benefits of these deductible differences. Accordingly, we have provided a full valuation allowance against our deferred tax assets as of June 30, 2010 and December 31, 2009, respectively.

We recognize the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more likely than not threshold, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority. We recognize interest and penalties related to uncertain tax provisions as part of our provision for income taxes. We have not currently reserved for any interest or penalties for such reserves. A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows (in thousands):


Balance at December 31, 2009	$	430
Increase related to current year tax positions		12

Balance at June 30, 2010	$	442

We are subject to U.S. federal income tax as well as state income tax in multiple jurisdictions. The typical statute of limitations is three years from the filing of the federal income tax return. However, due to NOL carryforwards from prior periods, and the utilization of those NOL carryforwards on current and future income tax returns, the statute remains open for the Internal Revenue Service and the appropriate state income taxing authorities to review the losses from 2002 to 2009. We are also subject to income tax in two foreign jurisdictions which have open tax years varying by jurisdiction that range from 2007 to 2009. We do not expect the amount of unrecognized tax benefits to significantly change within the next twelve months.

9. Commitments and Contingencies

Indemnification Obligations

We have agreements with our channel partners and end users, which generally include certain provisions for indemnifying the channel partners and end users against liabilities if our products infringe a third party’s intellectual property rights. To date, we have not incurred any material costs as a result of such indemnification provisions and have not accrued any liabilities related to such obligations in our condensed consolidated financial statements. As permitted under Delaware law and to the maximum extent allowable under that law, we have certain obligations to indemnify our executive officers, directors and may indemnify other employees for certain events or occurrences while the executive officer, director or employee is or was serving at our request in such capacity. These indemnification obligations are valid as long as the executive officer, director or employee acted in good faith and in a manner the person reasonably believed to be in or not opposed to the best interests of the corporation, and, with respect to any criminal proceeding, had no reasonable cause to believe his or her conduct was unlawful. The maximum potential amount of future payments we could be required to make under these indemnification obligations is unlimited; however, we have a director and officer insurance policy that mitigates our exposure and generally enables us to recover a portion of any future amounts paid.

Legal Proceedings

In April 2009, Data Network Storage LLC, or Data Networks, filed a lawsuit in the U.S. District Court for the Southern District of California, against us and 14 other storage vendors, alleging, among other things, patent infringement on a universal storage management system for which it holds an exclusive license. Data Networks sought unspecified monetary damages and an injunction against further infringement from us and the other defendants. We filed an answer to Data Network’s complaint denying any liability and vigorously contested the lawsuit. The case has settled and on April 20, 2010, the Court entered its order dismissing the case with prejudice. We paid Data Networks $12,500 to settle this case in April 2010, and we received a license to a patent portfolio that relates to storage area network technology.

On April 14 and 15, 2010, respectively, two purported securities class actions were commenced in the U.S. District Court for the District of Minnesota, naming us and certain of our executive officers as defendants. The lawsuits allege that the defendants made materially false or misleading public statements about our business and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. The plaintiffs seek to represent a class of investors who purchased our common stock between October 28, 2009 and April 7, 2010. We believe that the allegations are without merit and intend to vigorously defend against them.

In the ordinary course of business, we are also from time to time involved in lawsuits, claims, investigations, proceedings, and threats of litigation consisting of intellectual property, commercial and other matters of this type. While the outcome of these proceedings and claims cannot be predicted with certainty, there are no matters, as of June 30, 2010, that, in the opinion of management, might have a material adverse effect on our financial position, results of operations or cash flows.

10. Segment and Geographic Information

We operate in one reportable industry segment: the design, marketing, and technical support of enterprise-class network storage solutions. The following table is based on the geographic location of the channel partner or end user who purchased our products. For sales to channel partners, their geographic location may be different from the geographic locations of the end user. Historically, channel partners located in the United States have generally sold our products to end users located in the United States. Revenues by geographic region were as follows (in thousands):


	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2010		2009		2010		2009
Revenues
United States	$	31,582	$	22,997	$	57,713	$	46,643
International		4,912		5,719		10,608		10,146

Total	$	36,494	$	28,716	$	68,321	$	56,789

We did not hold any long-lived assets outside of the United States as of June 30, 2010 and December 31, 2009.

11. Subsequent Events

We have evaluated all subsequent events through the date the condensed consolidated financial statements were issued. No subsequent events have taken place that meet the definition of a subsequent event that requires further disclosure in this filing.


Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that are based on our management’s beliefs and assumptions and on information currently available to our management. Forward-looking statements include all statements other than statements of historical fact contained in this Quarterly Report on Form 10-Q, including, but not limited to, statements about:

•

our expectations regarding our net income (loss), revenues, gross margin, expenses and earnings per share;

•

our expectations regarding unfavorable economic and market conditions, including lessening demand in the information technology market;

•

our ability to compete in our industry;

•

our ability to maintain and grow our channel partner relationships;

•

our growth strategy and our growth rate;

•

our ability to protect our intellectual property rights;

•

pricing and availability of our suppliers’ products; and

•

assumptions underlying or related to any of the foregoing.

In some cases, you can identify forward-looking statements by terms such as “anticipate,” “believe,” “can,” “continue,” “could,” “expect,” “intend,” “may,” “plan,” “potential,” “will,” “would” and similar expressions intended to identify forward-looking statements. These statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance, time frames or achievements to be materially different from any future results, performance, time frames or achievements expressed or implied by the forward-looking statements. We discuss many of these risks, uncertainties and other factors in this Quarterly Report on Form 10-Q in greater detail in Part II, Item IA. “Risk Factors.” Given these risks, uncertainties and other factors, you should not place undue reliance on these forward-looking statements. Also, these forward-looking statements represent our estimates and assumptions only as of the date hereof. We hereby qualify all of our forward-looking statements by these cautionary statements. Except as required by law, we assume no obligation to update these forward-looking statements publicly, or to update the reasons actual results could differ materially from those anticipated in these forward-looking statements, even if new information becomes available in the future.

The following discussion should be read in conjunction with our condensed consolidated financial statements and the related notes contained elsewhere in this Quarterly Report on Form 10-Q and in our other Securities and Exchange Commission, or SEC, filings, including our Annual Report on Form 10-K for the year ended December 31, 2009, filed with the SEC on March 5, 2010.

Overview

We are a leading provider of enterprise-class network storage solutions that automate the movement and management of data at a granular level, enabling organizations to constantly adapt to change. We combine our sophisticated software with standards-based hardware into a single integrated solution. Our Storage Center is a Storage Area Network, or SAN, that is designed to significantly lower storage and infrastructure capital expenditures, reduce the skill level and number of personnel required to manage information and enable continuous data availability and storage virtualization. Storage Center is based on our innovative Fluid Data Architecture, which allows enterprises of all sizes to actively and intelligently store, recover and manage large amounts of data with minimal effort, which can allow our customers to reduce costs and easily secure information against downtime or disaster. As of June 30, 2010, Storage Center was installed in 2,124 enterprises worldwide, across a wide variety of industries including education, financial services, government, healthcare, insurance, legal, media, retail, technology and transportation. We believe that Storage Center is the most comprehensive enterprise-class network storage solution available today, providing increased functionality and lower total cost of ownership when compared to competitive storage systems.

We developed our Storage Center software and hardware solution to target mid-size enterprises. We believe mid-size enterprises are acutely impacted by the proliferation of data and that their need for a scalable and cost-effective storage solution has historically been unmet. We believe our business model is highly differentiated and provides us with several competitive advantages. We sell our products through an all-channel assisted sales model designed to enable us to quickly scale and cost effectively increase sales. Our sales team is spread geographically throughout the United States, and in certain international markets. We also employ a virtual manufacturing strategy, which significantly reduces inventory and eliminates the need for in-house and outsourced manufacturing.

Critical Accounting Policies and Estimates

Our critical accounting policies are more fully described in Note 1 of the audited financial statements for the year ended December 31, 2009, included in our Annual Report on Form 10-K filed with the SEC on March 5, 2010. There have been no material changes in our critical accounting policies during the six months ended June 30, 2010.

The discussion of our financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles in the United States. In preparing the condensed consolidated financial statements, we are required to make various estimates, judgments and assumptions that have a significant impact on the results reported in the condensed consolidated financial statements. We evaluate our estimates on an ongoing basis, including those related to revenue recognition, the allowance for doubtful accounts, inventory valuations, stock-based compensation and income taxes. We base our estimates on historical experience and other assumptions that we believed to be reasonable under the circumstances. Changes to these estimates could have a material effect on our condensed consolidated financial statements. We have discussed the development, selection and disclosure of these estimates with the audit committee of our board of directors.

Results of Operations

The following table sets forth a summary of our condensed consolidated statements of operations and the related changes for the periods shown (in thousands):


	Three Months Ended												Six Months Ended
	June 30,						Change						June 30,						Change
	2010			2009			$			%			2010			2009			$			%
	(unaudited)												(unaudited)
Revenues
Product	$	24,842		$	20,288		$	4,554			22.4	%	$	45,457		$	41,577		$	3,880			9.3	%
Support and services		11,652			8,428			3,224			38.3			22,864			15,212			7,652			50.3

Total revenues		36,494			28,716			7,778			27.1			68,321			56,789			11,532			20.3
Cost of revenues
Product		13,036			10,306			2,730			26.5			23,617			21,132			2,485			11.8
Support and services		3,886			2,983			903			30.3			7,677			5,407			2,270			42.0

Total cost of revenues		16,922			13,289			3,633			27.3			31,294			26,539			4,755			17.9

Gross profit		19,572			15,427			4,145			26.9			37,027			30,250			6,777			22.4
Operating expenses
Sales and marketing		13,216			10,846			2,370			21.9			25,366			20,666			4,700			22.7
Research and development		4,542			3,074			1,468			47.8			8,837			5,884			2,953			50.2
General and administrative		2,139			1,550			589			38.0			4,222			2,950			1,272			43.1

Total operating expenses		19,897			15,470			4,427			28.6			38,425			29,500			8,925			30.3

Operating income (loss)		(325	)		(43	)		(282	)		655.8			(1,398	)		750			(2,148	)		*
Other income, net		311			419			(108	)		(25.8	)		716			915			(199	)		(21.7	)

Income (loss) before income taxes		(14	)		376			(390	)		*			(682	)		1,665			(2,347	)		*
Income tax expense		158			129			29			22.5			270			(405	)		(135	)		(33.3	)

Net income (loss)	$	(172	)	$	247		$	(419	)		*		$	(952	)	$	1,260		$	(2,212	)		*


*		Percentage is not meaningful

Comparison of Three Months Ended June 30, 2010 and 2009

Revenues

Revenues and the related changes for the periods shown were as follows (in thousands):


	Three Months Ended June 30,
	2010					2009
			%					%
			of Total					of Total			Change
	$		Revenues			$		Revenues			$		%
Revenues
Product	$	24,842		68.1	%	$	20,288		70.7	%	$	4,554		22.4	%
Support and services		11,652		31.9			8,428		29.3			3,224		38.3

Total revenues	$	36,494		100.0	%	$	28,716		100.0	%	$	7,778		27.1	%

Product Revenue. Product revenue derived from system sales primarily increased due to an increase in the number of systems sold. While we continued to experience lower revenue per megabyte for disk drives, this was offset by increased revenue from enhanced capacity and complexity of systems purchased by our customers. We also experienced an increase in add-on hardware and software sales due to the ongoing growth in the number of our total end users, which increased to 2,124 as of June 30, 2010 from 1,491 as of June 30, 2009.

Support and Services Revenues. Support revenue increased 36% primarily due to the renewal of maintenance agreements by existing end users and the growth of our installed base. Services revenue increased 61% due to increases in our technical professional services, end user and channel partner training programs and Storage Center installations. These increases were due to an increase in the number of systems sold and our sales and marketing efforts to grow services revenue.

Cost of Revenues and Gross Profit

Cost of revenues and gross profit and the related changes for the periods shown were as follows (in thousands):


	Three Months Ended June 30,
	2010					2009
			%					%
			of Related					of Related			Change
	$		Revenues			$		Revenues			$		%
Cost of revenues
Product	$	13,036		52.5	%	$	10,306		50.7	%	$	2,730		26.5	%
Support and services		3,886		33.4			2,983		35.4			903		30.3

Total cost of revenues	$	16,922		46.4	%	$	13,289		46.3	%	$	3,633		27.3	%

Gross profit				53.6	%				53.7	%

Cost of Product Revenue. Cost of product revenue increased primarily due to increased component hardware costs associated with the increased number of systems sold.

Cost of Support and Services Revenues. Cost of support and services revenues increased primarily due to increased salaries and employee benefits expense of $361,000 related to growth in our customer service and technical support headcount to 64 people from 50 people, increased hardware expense and related freight costs of $335,000 due to growth of our installed base, and increased hardware service fees of $119,000 charged by our third-party hardware maintenance providers associated with the continuing growth of our installed base.

Gross Profit. Gross profit remained consistent due to the growth of support and services revenues, which have a higher gross profit than product sales, outpacing the growth of product revenue.

Operating Expenses

Operating expenses and the related changes for the periods shown were as follows (in thousands):


	Three Months Ended June 30,
	2010					2009
			%					%
			of Total					of Total			Change
	$		Revenues			$		Revenues			$		%
Operating expenses
Sales and marketing	$	13,216		36.2	%	$	10,846		37.8	%	$	2,370		21.9	%
Research and development		4,542		12.4			3,074		10.7			1,468		47.8
General and administrative		2,139		5.9			1,550		5.4			589		38.0

Total operating expenses	$	19,897		54.5	%	$	15,470		53.9	%	$	4,427		28.6	%

Sales and Marketing Expenses. Sales and marketing expenses increased primarily due to an increase in sales and marketing headcount to 211 people from 190 people, resulting in a $1.8 million increase in salaries, employee benefits, commissions and stock-based compensation expense. The increase in headcount was partially offset by a change in the classification of our Technical Solutions team, consisting of 14 people, from a sales and marketing expense to a research and development expense as this team evaluates the interoperability of third party applications with our Storage Center’s technology. Increased marketing efforts led to an additional $513,000 of expense related to partner programs, trade shows and other promotional activities.

Research and Development Expenses. Research and development expenses increased primarily due to an increase in research and development headcount to 104 people from 68 people, resulting in a $1.2 million increase in salaries, employee benefits and stock-based compensation expense. A portion of the increase in headcount is due to the change in the classification of our Technical Solutions team as discussed previously in the sales and marketing expenses section above. This change resulted in an additional $445,000 in research and development expenses, or 1.2% of total revenues for the three months ended June 30, 2010. Depreciation expense increased $207,000 due to an increase in purchases of lab equipment.

Other Income, Net

Other Income, Net. Other income, net, decreased $108,000 primarily due to a $52,000 net loss on sale of investments and decreased interest income resulting from lower interest rates on higher cash, cash equivalents and investment balances.

Income Tax Expense

Income Tax Expense. Income tax expense increased $29,000 due to increases in U.S. federal alternative minimum income tax expense of $46,000 and foreign income tax expense of $26,000 due to higher taxable income, partially offset by a decrease of $43,000 in state income taxes due to lower state taxable income.

Comparison of Six Months Ended June 30, 2010 and 2009

Revenues

Revenues and the related changes for the periods shown were as follows (in thousands):


	Six Months Ended June 30,
	2010					2009
			%					%
			of Total					of Total			Change
	$		Revenues			$		Revenues			$		%
Revenues
Product	$	45,457		66.5	%	$	41,577		73.2	%	$	3,880		9.3	%
Support and services		22,864		33.5			15,212		26.8			7,652		50.3

Total revenues	$	68,321		100.0	%	$	56,789		100.0	%	$	11,532		20.3	%

Support and Services Revenues. Support revenue increased 48% primarily due to the renewal of maintenance agreements by existing end users and the growth of the installed base. Services revenue increased 68% due to an increase in end user and channel partner training programs and an increase in Storage Center installations. These increases were due to an increase in the number of systems sold and our sales and marketing efforts to grow services revenue.

Cost of Revenues and Gross Margin

Cost of revenues and gross margin and the related changes for the periods shown were as follows (in thousands):


	Six Months Ended June 30,
	2010					2009
			%					%
			of Related					of Related			Change
	$		Revenues			$		Revenues			$		%
Cost of revenues
Product	$	23,617		52.0	%	$	21,132		50.8	%	$	2,485		11.8	%
Support and services		7,677		33.6			5,407		35.5			2,270		42.0

Total cost of revenues	$	31,294		45.8	%	$	26,539		46.7	%	$	4,755		17.9	%

Gross profit				54.2	%				53.3	%

Cost of Product Revenue. Cost of product revenue increased due to increased component hardware costs associated with the increased number of systems and additional add-on hardware and software purchased by our customers.

Cost of Support and Services Revenues. Cost of support and services revenues increased primarily due to increased salaries, employee benefits and stock-based compensation expense of $828,000 related to growth in our customer service and technical support headcount to 64 people from 50 people, increased hardware expense and related freight costs of $678,000 due to growth of our

installed base, increased hardware service fees of $508,000 charged by our third-party hardware maintenance providers associated with the continuing growth of our installed base, and $119,000 increase in support and services related travel.

Gross Profit. Gross profit increased due to the growth in revenues outpacing the growth in cost of revenues.

Operating Expenses

Operating expenses and the related changes for the periods shown were as follows (in thousands):


	Six Months Ended June 30,
	2010					2009
			%					%
			of Total					of Total			Change
	$		Revenues			$		Revenues			$		%
Operating expenses
Sales and marketing	$	25,366		37.1	%	$	20,666		36.4	%	$	4,700		22.7	%
Research and development		8,837		12.9			5,884		10.4			2,953		50.2
General and administrative		4,222		6.2			2,950		5.2			1,272		43.1

Total operating expenses	$	38,425		56.2	%	$	29,500		51.9	%	$	8,925		30.3	%

Sales and Marketing Expenses. Sales and marketing expenses increased primarily due to an increase in sales and marketing headcount to 211 people from 190 people, resulting in a $3.9 million increase in salaries, employee benefits, commissions and stock-based compensation expense, and a $354,000 increase in sales and marketing related travel and support costs, partially offset by a $280,000 decrease in channel partner referral commissions due to fewer orders being billed direct to the end user. The increase in headcount was partially offset by a change in the classification of our Technical Solutions team, consisting of 14 people, from a sales and marketing expense to a research and development expense as this team evaluates the interoperability of third party applications with our Storage Center’s technology. Increased marketing efforts led to an additional $600,000 of expense related to partner programs, trade shows and other promotional activities.

Research and Development Expenses. Research and development expenses increased primarily due to an increase in research and development headcount to 104 people from 68 people, resulting in a $2.5 million increase in salaries, employee benefits and stock-based compensation expense. A portion of the increase in headcount is due to the change in the classification of our Technical Solutions team as discussed previously in the sales and marketing expenses section above. This change resulted in an additional $946,000 in research and development expenses, or 1.4% of total revenues for the six months ended June 30, 2010. Depreciation expense increased $350,000 due to an increase in our purchases of lab equipment.

General and Administrative Expenses. General and administrative expenses increased primarily due to an increase in salaries, employee benefits and stock-based compensation expense of $868,000 due to an increase in staff headcount in finance, information technology, and human resources to 33 people from 20 people and due to an increase in compensation costs for existing employees. Legal fees increased $123,000 primarily due to legal fees associated with the legal proceedings as discussed in Note 9 of the notes to the condensed consolidated financial statements. Professional service fees increased $102,000 primarily due to increased placement service fees paid to outside recruiters and due to increased use of outside consultants for finance and human resources system implementations and enhancements.

Other Income, Net

Other Income, Net. Other income, net decreased by $199,000 due to a $52,000 net loss on sale of investments and lower interest rates on increased cash and cash equivalents and investment balances.

Income Tax Expense

Income Tax Expense. Income tax expense decreased $135,000 due to decreases in U.S. federal alternative minimum income tax expense of $58,000 and state income tax expense of $106,000 due to lower taxable income, partially offset by an increase of $29,000 in foreign income taxes due to higher foreign taxable income.

Liquidity and Capital Resources

We completed an initial public offering of our common stock on October 9, 2007 in which we sold 6,900,000 shares of our common stock at $13.50 per share for cash proceeds of $84.6 million, net of underwriting discounts and commissions and offering expenses. We have used these funds for general corporate purposes since our initial public offering and expect to continue to do so. We also completed a secondary offering of our common stock on November 17, 2009 in which we sold 600,000 shares of our common stock at $19.25 per share for cash proceeds of $10.7 million, net of underwriting discounts and commissions and offering expenses. Cash in excess of immediate operating requirements is invested in accordance with our investment policy, with a goal of maintaining liquidity and capital preservation. Our cash, cash equivalents and short and long-term investments are held in highly liquid money market funds, commercial paper, federal agency securities, corporate debt securities, municipal bonds, and certificates of deposit.

Our cash, cash equivalents and short-term investments available to fund current operations were $57.6 million and $64.4 million at June 30, 2010 and December 31, 2009, respectively. Our cash, cash equivalents and short-term investment balances decreased due to transfers of short-term investments to long-term investments that have higher yield rates. We held $74.4 million and $59.5 million of long-term investments at June 30, 2010 and December 31, 2009, respectively.

Cash Flows

The following table summarizes our cash flows for the periods shown (in thousands):


	Six Months Ended
	June 30,
	2010			2009
Net cash provided by operating activities	$	11,362		$	5,482
Net cash used in investing activities		(13,602	)		(24,962	)
Net cash provided by financing activities		1,099			633

Net decrease in cash and cash equivalents	$	(1,141	)	$	(18,847	)

Operating Activities

Cash provided by operating activities was $11.4 million for the six months ended June 30, 2010. We incurred a net loss of $952,000, which included non-cash charges consisting of $1.6 million in depreciation and amortization expenses and $3.0 million in stock-based compensation expense. Cash provided by other operating activities included an increase in deferred revenues of $8.3 million, a decrease in accounts receivable of $2.6 million, and an increase in accrued compensation of $743,000, partially offset by an increase in inventories of $3.6 million. The increase in deferred revenues reflects an increase in our customer base and related increase in the purchase of our maintenance agreements, which are paid for in advance but recorded as revenue ratably over the term of the agreements. Accounts receivable decreased due to increased collections on billings that came in earlier in the quarter for the three months ended June 30, 2010. Accrued compensation increased primarily due to timing of payroll and benefit related payments, which is partially offset by a decrease in annual bonuses due to timing. The increase in inventories reflects an increase in spare parts due to the increase in the number of hardware maintenance agreements and an increase in component inventory to meet sales demands.

Cash provided by operating activities was $5.5 million for the six months ended June 30, 2009. We reported net income of $1.3 million, which included non-cash charges consisting of $1.1 million in depreciation and amortization expenses and $2.1 million in stock-based compensation expense related to employees. Other cash generating operating activities included an increase in accounts payable of $5.4 million and an increase in deferred revenues of $8.0 million, offset by an increase in accounts receivable of $10.3 million. The increase in accounts payable is primarily due to the timing of inventory purchases and corresponding payments at the end of the quarter. The increase in deferred revenues reflects an increase in our customer base and related increase in the purchase of our maintenance agreements, which are paid for in advance but recorded as revenue ratably over the term of the agreements. The increase in accounts receivable reflects an overall increase in revenues primarily due to the expansion of our operations.

Investing Activities

Cash used in investing activities was $13.6 million for the six months ended June 30, 2010, consisting of $4.6 million for purchases of property and equipment and $57.9 million for purchases of investments, partially offset by $48.9 million of sales and maturities of investments.

Cash used in investing activities was $25.0 million for the six months ended June 30, 2009, consisting of $1.9 million for purchases of property and equipment and $54.1 million for the purchase of investments, partially offset by $31.0 million of sales and maturities of investments.

Financing Activities

Cash provided by financing activities was $1.1 million for the six months ended June 30, 2010, which consists of the cash received from the issuance of shares of common stock of $354,000 in conjunction with the exercise of stock options and $745,000 related to our Employee Stock Purchase Plan.

Cash provided by financing activities was $633,000 for the six months ended June 30, 2009, which consists of the cash received from the issuance of shares of common stock of $212,000 in conjunction with the exercise of stock options and $421,000 related to our Employee Stock Purchase Plan.

Operating and Capital Expenditure Requirements

We anticipate using available cash to fund growth in operations and to further investment in human capital and capital equipment. For the remainder of 2010, capital expenditures are expected to be in the range of approximately $2.0 million to $2.5 million, primarily for product development. We believe that our current cash and cash equivalents, investments and the interest we earn on these balances, will be sufficient to meet our anticipated cash needs for working capital and capital expenditures for at least the next 12 months. If these sources of cash are insufficient to satisfy our liquidity requirements beyond the next 12 months, we may seek to sell additional equity or convertible debt securities or enter into a credit facility. The sale of additional equity and convertible debt securities may result in dilution to our stockholders. If we raise additional funds through the issuance of convertible debt securities, such securities could have rights senior to those of our common stock and could contain covenants that would restrict our operations. We may require additional capital beyond our currently forecasted amounts. Any such required additional capital may not be available on reasonable terms, if at all.

Contractual Obligations

There have been no material changes in our contractual obligations from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2009 filed with the SEC on March 5, 2010, other than scheduled payments through June 30, 2010. Please see Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations — Contractual Obligations, contained in Part II of our Annual Report on Form 10-K for the year ended December 31, 2009 for a description of our contractual obligations.

Off-Balance Sheet Arrangements

Since our inception, we have not engaged in any off-balance sheet arrangements, including the use of structured finance, special purpose entities or variable interest entities.

Recent Accounting Pronouncements

See Note 1 to the notes to condensed consolidated financial statements for a full description of recent accounting pronouncements, including the respective expected dates of adoption and effects on results of operations and financial condition.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

We are exposed to market risk from changes in interest rates relating to our investment portfolio. The primary objective of our investment activities is to preserve our capital for the purpose of funding operations while at the same time maximizing the income we receive from our investments without significantly increasing risk. Through our money managers, we maintain risk management control systems to monitor interest rate risk. As of June 30, 2010, we had unrestricted cash and cash equivalents and short-term investments of $57.6 million. Due to the short-term nature of these investments, we believe that we do not have any material exposure to changes in the fair value of our investment portfolio as a result of changes in interest rates; however, declines in interest rates would reduce future investment income.

We manufacture our products in the United States and sell them worldwide. As a result, our financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in foreign markets. Since our sales are currently denominated in U.S. dollars, a strengthening of the dollar could make our products less competitive in foreign markets and our accounts receivable more difficult to collect. We do not currently hedge our exposure to foreign currency exchange rate fluctuations. We may, however, hedge such exposure to foreign currency exchange rate fluctuations in the future.

We believe that our international entities are subject to risks typical of any international entity, including, but not limited to: differing economic conditions, changes in political climate, differing tax structures, other regulations and restrictions and foreign exchange rate volatility. Accordingly, our future results could be materially adversely impacted by changes in these or other factors.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Based on their evaluations as of June 30, 2010, our Chief Executive Officer and Chief Financial Officer, with the participation of management, have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) were effective at the reasonable assurance level.

Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting during the quarter ended June 30, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Inherent Limitations of Internal Controls

Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, control may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.

PART II — OTHER INFORMATION

Item 1. Legal Proceedings

In the ordinary course of business, we are also from time to time involved in lawsuits, claims, investigations, proceedings, and threats of litigation consisting of intellectual property, commercial and other matters. While the outcome of these proceedings and claims cannot be predicted with certainty, there are no matters of this type, as of June 30, 2010, that, in the opinion of management, might have a material adverse effect on our financial position, results of operations or cash flows.

Item 1A. Risk Factors

We have identified the following additional risks and uncertainties that may have a material adverse effect on our business, financial condition or results of operations. Investors should carefully consider the risks described below before making an investment decision. The risks described below are not the only ones we face. Additional risks not presently known to us or that we currently believe are immaterial may also significantly impair our business operations. Our business could be harmed by any of these risks. The trading price of our common stock could decline due to any of these risks, and investors may lose all or part of their investment.

Risks Related to Our Business

Our quarterly operating results may fluctuate significantly, which makes our future results difficult to predict.

Our quarterly operating results fluctuate due to a variety of factors, many of which are outside of our control. Our future revenues are difficult to predict. A significant portion of our sales typically occurs during the last month of a quarter. As a result, we typically cannot predict our revenues in any particular quarter with any certainty until late in that quarter. Our storage products typically are shipped shortly after orders are received. As a result, revenues in any quarter are substantially dependent on orders booked and shipped in that quarter. Revenues for any future period are not predictable with any significant degree of certainty. As a result, comparing our operating results on a period-to-period basis may not be meaningful. You should not rely on our past results as an indication of our future performance. Moreover, spending on storage solutions has historically been cyclical in nature, reflecting overall economic conditions as well as budgeting and buying patterns of business enterprises. The first quarter is generally the slowest sales quarter in the storage industry. We believe our rapid growth in previous periods has masked the cyclicality and seasonality of our business. Our expense levels are relatively fixed in the short term and are based, in part, on our expectations as to future revenues. If revenue levels are below our expectations, we may incur less income and may not return to profitability on a quarterly basis or sustain profitability on an annual basis. Our operating results may be disproportionately affected by a reduction in revenues because a proportionately smaller amount of our expenses varies with our revenues. As a result, our quarterly operating results are difficult to predict, even in the near term. If our revenues or operating results fall below the expectations of investors or securities analysts or below any guidance we may provide to the market, the price of our common stock would likely decline substantially.

In addition to other risk factors listed in this “Risk Factors” section, factors that may affect our operating results include:

	•		reductions in end users’ budgets for information technology purchases and delays in their budgeting and purchasing cycles, given current macroeconomic conditions;

	•		hardware and software configuration and mix;

	•		fluctuations in demand, including due to seasonality, for our products and services;

	•		changes in pricing by us in response to competitive pricing actions;

	•		the sale of Storage Center in the timeframes we anticipate, including the number and size of orders in each quarter;

	•		our ability to develop, introduce and ship in a timely manner new products and product enhancements that meet end user requirements;

	•		the timing of product releases or upgrades by us or by our competitors;

	•		any significant changes in the competitive dynamics of our market, including new entrants or substantial discounting of products;

	•		our ability to control costs, including our operating expenses and the costs of the components we purchase;

	•		the extent to which our end users renew their service and maintenance agreements with us;

	•		volatility in our stock price, which may lead to higher stock compensation expenses; and

	•		general economic conditions in our domestic and international markets.

We have a history of losses, and we may not return to profitability on a quarterly basis or sustain profitability on an annual basis in the future.

We achieved profitability on an annual basis for the first time as of December 31, 2009, which we have not sustained on a quarterly basis since such time. We had net income of $4.8 million for the year ended December 31, 2009 and net losses of $416,000 and $7.8 million for the years ended December 31, 2008 and 2007, respectively. We experienced a net loss of $952,000 for the six months ended June 30, 2010 and as of June 30, 2010 our accumulated deficit was $46.0 million. We expect to make significant expenditures related to the development of our products and expansion of our business, including sales and marketing, research and development and general and administrative expenses. We may also encounter unforeseen difficulties, complications, product delays and other unknown factors that require additional expenditures. As a result of these increased expenditures, we will have to generate and sustain substantially increased revenues to return to profitability on a quarterly basis and maintain profitability on an annual basis, which we may never do. In addition, the percentage growth rates we achieved in prior periods will not be sustainable and we may not be able to increase our revenues sufficiently in absolute dollars to return to profitability on a quarterly basis or maintain profitability on an annual basis.

Unfavorable economic and market conditions and a lessening demand in the information technology market could adversely affect our operating results.

Our operating results may be adversely affected by unfavorable global economic and market conditions as well as a lessening demand in the information technology, or IT, market. Customer demand for our products is intrinsically linked to the strength of the economy. A reduction in demand for storage and data management products caused by weak and/or deteriorating economic conditions and customer decreases in corporate spending, deferral or delay of IT projects, longer time frames for IT purchasing decisions, the inability of customers to obtain credit to finance purchases of our products and generally reduced capital expenditures for IT storage solutions will result in decreased revenues and lower revenues growth rates for us. If the storage and data management markets grow slower than anticipated or if IT spending is reduced, demand for our products could decline and our operating results could be materially and adversely affected.

The markets in which we compete are highly competitive and dominated by large corporations and we may not be able to compete effectively.

The storage market is intensely competitive and is characterized by rapidly changing technology. This competition could make it more difficult for us to sell our products, and result in increased pricing pressure, reduced gross profit, increased sales and marketing expense and failure to increase, or the loss of, market share or expected market share which would likely result in lower revenues.

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

	•		our products’ functionality, scalability, performance, ease of use, reliability, availability and cost effectiveness relative to that of our competitors’ products;

	•		our success in utilizing new and proprietary technologies to offer products and features previously not available in the marketplace;

	•		our success in identifying new markets, applications and technologies;

	•		our ability to attract and retain value-added resellers, which we refer to as channel partners;

	•		our name recognition and reputation;

	•		our ability to recruit software engineers and sales and marketing personnel; and

	•		our ability to protect our intellectual property.

Potential end users may prefer to purchase from their existing suppliers rather than a new supplier regardless of product performance or features. In the event a potential end user decides to evaluate a new storage system, the end user may be more inclined to select one of our competitors whose product offerings are broader than just storage systems. In addition, potential end users may prefer to purchase from their existing suppliers rather than a new supplier, regardless of product performance or features. Most of our new end users have installed storage systems, which gives an incumbent competitor an advantage in retaining an end user because it already understands the network infrastructure, user demands and information technology needs of the end user, and also because it is costly and time-consuming for end users to change storage systems.

A number of very large corporations have historically dominated the storage market. We consider our primary competitors to be companies that provide Storage Area Network, or SAN products, such as 3Par, Inc., Dell, Inc., EMC Corporation, Hewlett-Packard Company, Hitachi Data Systems Corporation, IBM, NetApp, Inc. and Xiotech Corporation. Some of our competitors, including Dell, EMC and NetApp, have made acquisitions of businesses that allow them to offer more directly competitive and comprehensive solutions than they had previously offered. Most of our competitors have longer operating histories, greater name recognition, larger customer bases and significantly greater financial, technical, sales, marketing and other resources than we have. We expect to encounter new competitors as we enter new markets as well as increased competition, both domestically and internationally, from other established and emerging storage companies, original equipment manufacturers, and from systems and network management companies. In addition, there may be new technologies that are introduced that reduce demand for, or make our, storage solution architecture obsolete. Our current and potential competitors may also establish cooperative relationships among themselves or with third parties and rapidly acquire significant market share. Increased competition could also result in price reductions and loss of market share, any of which could result in lower revenues and reduced gross profits.

We are dependent on a single product, and the lack of continued market acceptance of Storage Center would result in lower revenues.

Storage Center accounts for all of our revenues and will continue to do so for the foreseeable future. As a result, our revenues could be reduced by:

	•		any decline in demand for Storage Center;

	•		the failure of Storage Center to achieve continued market acceptance;

	•		the introduction of products and technologies that serve as a replacement or substitute for, or represent an improvement over, Storage Center;

	•		technological innovations or new communications standards that Storage Center does not address; and

	•		our inability to release enhanced versions of Storage Center on a timely basis.

We are particularly vulnerable to fluctuations in demand for storage area network products in general and Storage Center in particular. If the storage markets grow more slowly than anticipated or if demand for Storage Center does not grow as quickly as anticipated, whether as a result of competition, product obsolescence, technological change, unfavorable economic conditions, uncertain geopolitical environments, budgetary constraints of our end users or other factors, we may not be able to increase our revenues sufficiently to return to profitability on a quarterly basis or sustain profitability on an annual basis and our stock price would decline.

Our products must meet exacting specifications, and defects and failures may occur, which may cause channel partners or end users to return or stop buying our products.

Our channel partners and end users generally establish demanding specifications for quality, performance and reliability that our products must meet. However, our products are highly complex and may contain undetected defects and failures when they are first introduced or as new versions are released. We have in the past and may in the future discover software errors in new versions of Storage Center or new products or product enhancements after their release or introduction, which could result in lost revenues during the period required to correct such errors. Despite testing by us and by current and potential end users, errors may not be found in new releases or products until after commencement of commercial shipments, resulting in loss of or delay in market acceptance. Storage Center may also be subject to intentional attacks by viruses that seek to take advantage of these bugs, errors or other weaknesses. If defects or failures occur in Storage Center, a number of negative effects in our business could result, including:

	•		lost revenues;

	•		increased costs, including warranty expense and costs associated with end user support;

	•		delays or cancellations or rescheduling of orders or shipments;

	•		product returns or discounts;

	•		diversion of management resources;

	•		damage to our reputation and brand equity;

	•		payment of damages for performance failures;

	•		reduced orders from existing channel partners and end users; and

	•		declining interest from potential channel partners or end users.

In addition, delays in our ability to fill product orders as a result of quality control issues may negatively impact our relationship with our channel partners and end users. Our revenues could be lower and our expenses could increase if any of the foregoing occurs.

Our end users utilize Storage Center to manage their data. As a result, we could face claims resulting from any loss or corruption of our end users’ data due to a product defect. Our contracts with end users contain provisions relating to warranty disclaimers and liability limitations, which may not be upheld. Defending a lawsuit, regardless of its merit, is costly and may divert management’s attention and could result in public perception that our products are not effective, even if the occurrence is unrelated to the use of our products or services. In addition, if our business liability insurance coverage proves inadequate or future coverage is unavailable on acceptable terms or at all, our costs to defend and cover such claims, if any, will increase.

We will not sustain our percentage growth rate, and we may not be able to manage any future growth effectively.

We have experienced significant growth in a short period of time. Our revenues increased from $3.9 million in 2004 to $125.3 million in 2009, and our revenues were $68.3 million for the six months ended June 30, 2010. The percentage growth rates we achieved in prior periods will not be sustainable. You should not rely on our operating results for any prior quarterly or annual periods as an indication of our future operating performance. If we are unable to maintain adequate revenues growth in dollars, we may not be able to return to profitability on a quarterly basis or maintain profitability on an annual basis and our stock price could decline.

Our future operating results depend to a large extent on our ability to successfully manage our anticipated expansion and growth. To manage our growth successfully and handle the responsibilities of being a public company, we believe we must effectively, among other things:

	•		increase our channel partners and end users;

	•		address new markets, such as large enterprise end users and end users outside the United States;

	•		control expenses;

	•		recruit, hire, train and manage additional qualified engineers;

	•		add additional sales and marketing personnel;

	•		expand our international operations; and

	•		implement and improve our administrative, financial and operational systems, procedures and controls.

We intend to increase our investment in sales and marketing, research and development and general and administrative and other functions to grow our business. We are likely to recognize the costs associated with these increased investments earlier than some of the anticipated benefits and the return on these investments may be lower, or may develop more slowly, than we expect, which could decrease our annual net income.

If we are unable to manage our growth effectively, we may not be able to take advantage of market opportunities or develop new products or enhancements to existing products and we may fail to satisfy end user requirements, maintain product quality, execute on our business plan or respond to competitive pressures, which could result in lower revenues and a decline in our stock price.

Our gross profit may vary and such variation may make it more difficult to forecast our earnings.

Our gross profit has been and may continue to be affected by a variety of other factors, including:

	•		demand for Storage Center and related services;

	•		discount levels and price competition;

	•		average order system size and end user mix;

	•		hardware and software component mix;

	•		the cost of components;

	•		level of fixed costs of customer service personnel;

	•		the mix of services as a percentage of revenues;

	•		new product introductions and enhancements; and

	•		geographic sales mix.

Changes in gross profit may result from various factors such as continued investments in our Copilot services, increases in our fixed costs, changes in the mix between technical support services and professional services, as well as the timing and amount of maintenance agreement initiations and renewals.

We receive a substantial portion of our revenues from a limited number of channel partners, and the loss of, or a significant reduction in, orders from one or more of our major channel partners would result in lower revenues.

Our future success is highly dependent upon establishing and maintaining successful relationships with a variety of channel partners. We market and sell Storage Center through an all-channel assisted sales model and we derive substantially all of our revenues from these channel partners. We generally enter into agreements with our channel partners outlining the terms of our relationship, including channel partner sales commitments, installation and configuration training requirements, and the channel partners’ acknowledgement of the existence of our sales registration process for registering potential systems sales to end users. These contracts typically have a term of one year, automatically renew, and are terminable without cause upon written notice to the other party. Our reseller agreements with our channel partners do not prohibit them from offering competitive products or services. Many of our channel partners also sell our competitors’ products. If our channel partners give higher priority to our competitors’ storage products, we may be unable to grow our revenues and could decrease our annual net income.

We receive a substantial portion of our revenues from a limited number of channel partners. For the three months ended June 30, 2010 and 2009, our top ten channel partners accounted for 36% and 34% of our revenues, respectively. We anticipate that we will continue to be dependent upon a limited number of channel partners for a significant portion of our revenues for the foreseeable future and, in some cases, the portion of our revenues attributable to individual channel partners may increase in the future. The loss of one or more key channel partners or a reduction in sales through any major channel partner would reduce our revenues. Further, in order to develop and expand our channels, we must continue to scale and improve our processes and procedures that support our channel partners, including investments in systems and training, and those processes and procedures may become increasingly complex and difficult to manage. If we fail to maintain existing channel partners or develop relationships with new channel partners, our revenue opportunities will be reduced.

The loss of any key suppliers or the failure to accurately forecast demand for our products or successfully manage our relationships with our key suppliers could negatively impact our ability to sell our products.

We generally maintain minimal inventory for repairs, evaluation and demonstration units and acquire components only as needed. We do not enter into long-term supply contracts for these components. As a result, our ability to respond to channel partner or end user orders efficiently may be constrained by the then-current availability, terms and pricing of these components. Our industry has experienced component shortages and delivery delays in the past, and we may experience shortages or delays of critical components in the future as a result of strong demand in the industry or other factors. If we or our suppliers inaccurately forecast demand for our products, our suppliers may have inadequate inventory, which could increase the prices we must pay for substitute components or result in our inability to meet demand for our products, as well as damage our channel partner or end user relationships.

We currently rely on a limited number of suppliers for components such as system controllers, enclosures, disk drives and switches utilized in the assembly of Storage Center. We generally purchase components on a purchase order basis and do not have long-term supply contracts with these suppliers. In particular, we rely on Bell Microproducts, Inc., a value-added distributor, to provide us with customized system controllers, which Bell Microproducts generally obtains from Supermicro Computer, Inc., a server and component manufacturer. We also rely on Xyratex Corporation, a provider of data storage subsystems, to provide us with their custom enclosures and disk drives. Xyratex purchases most of the disk drives that it supplies to us from Seagate Technology, Inc., a disk drive manufacturer. Our reliance on these key suppliers reduces our control over the manufacturing process, exposing us to risks, including

reduced control over product quality, production costs, timely delivery and capacity. It also exposes us to the potential inability to obtain an adequate supply of required components, because we do not have long-term supply commitments and generally purchase our products on a purchase order basis. Component quality is particularly significant with respect to our suppliers of disk drives. We have in the past and may in the future experience disk drive failures, which could cause our reputation to suffer, our competitive position to be impaired and our customers to select other vendors. To meet our product performance requirements, we must obtain disk drives of extremely high quality and capacity. In addition, there are periodic supply-and-demand issues for disk drives that could result in component shortages, selective supply allocations and increased prices of such components. We may not be able to obtain our full requirements of components, including disk drives, that we need for our storage products or the prices of such components may increase. If we fail to effectively manage our relationships with our key suppliers, or if our key suppliers increase prices of components, experience delays, disruptions, capacity constraints, or quality control problems in their manufacturing operations, our ability to ship products to our channel partners or end users could be impaired and our competitive position and reputation could be adversely affected. Qualifying a new key supplier is expensive and time-consuming. If we are required to change key suppliers or assume internal manufacturing operations, we may lose revenues and damage our channel partner or end user relationships.

If our third-party repair service fails to timely and correctly resolve hardware failures experienced by our end users, our reputation will suffer, our competitive position will be impaired and our expenses could increase.

We rely upon DecisionOne, a third-party hardware maintenance provider, which specializes in providing vendor-neutral support of storage equipment, network devices and peripherals, to provide repair services to our end users. We currently have limited capabilities in-house to resolve hardware failures or other issues experienced by our end users. If DecisionOne fails to timely and correctly resolve hardware failures or issues experienced by our end users, our reputation will suffer, our competitive position will be impaired and our expenses could increase. In May 2008, we entered into a five year agreement with DecisionOne. Our agreement with DecisionOne will automatically renew for successive one-year terms, unless either party notifies the other, in writing, of its intention to terminate or renegotiate the agreement at least 180 days prior to the end of the initial five-year term or any successive one-year term. In addition, either party may immediately terminate the agreement for a material default by the other party that is not cured within 30 days. If our relationship with DecisionOne were to end, we would have to engage a new third-party provider of hardware support, and the transition could result in delays in effecting repairs and damage our reputation and competitive position as well as increase our operating expenses.

If we are unsuccessful in developing and selling new products, services and product enhancements, our competitive position will be adversely affected and our ability to grow our revenues will be impaired.

We operate in a dynamic environment characterized by rapid technological change, changing end user needs, frequent new product introductions and evolving industry standards. The introduction of products embodying new technologies and the emergence of new industry standards could render our existing products obsolete and unmarketable. Our competitiveness and future success depend on our ability to anticipate, develop, market and support new products and product enhancements on a timely and cost effective basis that keep pace with technological developments and emerging industry standards and that address the increasingly sophisticated needs of our end users. We may fail to develop and market products and services that respond to technological changes or evolving industry standards, experience difficulties that could delay or prevent the successful development, introduction and marketing of these products and services, or fail to develop products and services that adequately meet the requirements of the marketplace or achieve market acceptance. Our failure to develop and market such products and services on a timely basis would erode our competitive position and impair our ability to grow our revenues.

If our channel partners fail to timely and correctly install and configure our storage systems, or face disruptions in their business, our reputation will suffer, our competitive position could be impaired and we could lose customers.

In addition to our small team of installation personnel, we rely upon some of our channel partners to install Storage Center at our end user locations. Our channel partner agreements generally contain provisions requiring installation and configuration training by the channel partners, which we may waive at our discretion. Although we train and certify our channel partners on the installation and configuration of Storage Center, end users have in the past encountered installation and configuration difficulties. In addition, if one or more of our channel partners suffers an interruption in its business, or experiences delays, disruptions or quality control problems in its operations, or we have to change or add additional channel partners, installation and configuration of Storage Center to our end users could be delayed, our revenues could be reduced and our ability to compete could be impaired. As a significant portion of our sales occur in the last month of a quarter, our end users may also experience installation delays following a purchase if we or our channel partners have too many installations in a short period of time. If we or our channel partners fail to timely and correctly install and configure Storage Center, end users may not purchase additional products and services from us, our reputation could suffer and our revenues could be reduced. In addition, we will incur additional expenses to correctly install and configure Storage Center to meet the expectations of our end users.

If we fail to attract or retain engineering or sales and marketing personnel or if we lose the services of our founders or key management, our ability to grow our business and our competitive position would be impaired.

We believe our future success will depend in large part upon our ability to attract, retain and motivate highly skilled managerial, research and development, sales and marketing personnel. Our management, research and development, sales and marketing personnel represent a significant asset and serve as the source of our business strategy, technological and product innovations, and sales and marketing initiatives. As a result, our success is substantially dependent upon our ability to attract additional personnel for all areas of our organization, particularly in our research and development department and our sales and marketing department. Competition for qualified personnel is intense, and we may not be successful in attracting and retaining such personnel on a timely basis or on competitive terms. Any failure to adequately expand our management, research and development, sales and marketing personnel will impede our growth. In addition, many qualified personnel are located outside of the Minneapolis geographic area where our headquarters are located, and some qualified personnel that we may recruit may not be interested in relocating. If we are unable to attract and retain the necessary personnel on a cost-effective basis, our ability to grow our business and our competitive position would be impaired.

In particular, we are highly dependent on the contributions of our three founders, Philip E. Soran, our Chairman, President and Chief Executive Officer, John P. Guider, our Chief Operating Officer, and Lawrence E. Aszmann, our Chief Technology Officer. The loss of any of our founders could make it more difficult to manage our operations and research and development activities, reduce our employee retention and revenues and impair our ability to compete. If any of our founders were to leave us unexpectedly, we could face substantial difficulty in hiring qualified successors and could experience a loss in productivity during the search for and while any such successor is integrated into our business and operations. The loss of any of our founders or the inability to attract, retain or motivate qualified personnel, including research and development and sales and marketing personnel, could delay the development and introduction of, and impair our ability to, sell our products.

We expect to face numerous challenges as we attempt to grow our operations, and our channel partner and end user base internationally.

Historically, we have conducted only a small portion of our business internationally. We have two international offices and revenues from international sales were 13% and 20% for the three months ended June 30, 2010 and 2009, respectively and 16% and 18% for the six months ended June 30, 2010 and 2009, respectively. Although we expect that part of our future revenues growth will be from channel partners and end users located outside of the United States, we may not be able to increase international market demand for Storage Center. In January 2008, we entered into a marketing agreement with AMEX, Inc., an export firm, pursuant to which we granted AMEX exclusive distribution rights to resell Storage Center to resellers and end users internationally, except in Canada. AMEX agrees to use its best efforts to further the promotion, marketing and sale of Storage Center. The marketing agreement is renewable on an annual basis each January unless either party notifies the other party in writing of an intention to discontinue the relationship at least 90 days prior to the renewal date. If AMEX is not successful in helping us expand our international distribution channel, our revenues and our ability to compete internationally could be impaired.

We expect to face numerous challenges as we attempt to grow our operations, channel partner relationships and end user base internationally, in particular attracting and retaining channel partners with international capabilities or channel partners located in international markets. Our revenues and expenses could be adversely affected by a variety of factors associated with international operations some of which are beyond our control, including:

	•		difficulties of managing and staffing international offices, and the increased travel, infrastructure and legal compliance costs associated with international locations;

	•		greater difficulty in collecting accounts receivable and longer collection periods;

	•		difficulty in contract enforcement;

	•		regulatory, political or economic conditions in a specific country or region;

	•		compliance with local laws and regulations and unanticipated changes in local laws and regulations, including tax laws and regulations;

	•		export and import controls, trade protection measures and other regulatory requirements;

	•		effects of changes in currency exchange rates;

	•		potentially adverse tax consequences;

	•		service provider and government spending patterns;

	•		reduced protection of our intellectual property and other assets in some countries;

	•		greater difficulty documenting and testing our internal controls;

	•		differing employment practices and labor issues; and

	•		man-made problems such as computer viruses and acts of terrorism and international conflicts.

In addition, we expect that we may encounter increased complexity and costs of managing international operations, including longer and more difficult collection of receivables, difficulties in staffing international operations, local business and cultural factors that differ from our normal standards and practices, differing employment practices and labor issues, and work stoppages, any of which could result in lower revenues and higher expenses.

If we fail to protect our intellectual property rights adequately, our ability to compete effectively or to defend ourselves from litigation could be impaired which could reduce our revenues and increase our costs.

We rely primarily on patent, copyright, trademark and trade secret laws, as well as confidentiality and non-disclosure agreements and other methods, to protect our proprietary technologies and know-how. As of June 30, 2010, we have five issued patents in the United States, one issued foreign patent and additional patents applications pending in the United States and in foreign countries. The rights granted to us under our issued patents and, if the pending patent applications are granted, those applications may not be meaningful or provide us with any commercial advantage and they could be opposed, contested, circumvented or designed around by our competitors or be declared invalid or unenforceable in judicial or administrative proceedings. The failure of our patents to adequately protect our technology might make it easier for our competitors to offer similar products or technologies. Foreign patent protection is generally not as comprehensive as U.S. patent protection and may not protect our intellectual property in some countries where our products are sold or may be sold in the future. Many U.S.-based companies have encountered substantial intellectual property infringement in foreign countries, including countries where we sell or intend to sell products. Even if foreign patents are granted, effective enforcement in foreign countries may not be available.

Monitoring unauthorized use of our intellectual property is difficult and costly. Although we are not aware of any unauthorized use of our intellectual property in the past, it is possible that unauthorized use of our intellectual property may have occurred or may occur without our knowledge. The steps we have taken may not prevent unauthorized use of our intellectual property. Our failure to effectively protect our intellectual property could reduce the value of our technology in licensing arrangements or in cross-licensing negotiations, and could impair our ability to compete. We may in the future need to initiate infringement claims or litigation. Litigation, whether we are a plaintiff or a defendant, can be expensive, time-consuming and may divert the efforts of our technical staff and managerial personnel, which could result in lower revenues and higher expenses, whether or not such litigation results in a determination favorable to us.

Assertions by third parties of infringement by us of their intellectual property rights could result in a significant diversion of management’s time and increased expenses.

The storage industry is characterized by vigorous protection and pursuit of intellectual property rights and positions, which has resulted in protracted and expensive litigation for many companies. Litigation can be expensive, lengthy, and disruptive to ordinary business operations. Moreover, the results of complex legal proceedings are difficult to predict. We have received and expect that in the future we may receive communications from various industry participants alleging our infringement of their patents, trade secrets or other intellectual property rights and/or offering licenses to such intellectual property. Any lawsuits resulting from such allegations could subject us to significant liability for damages and invalidate our proprietary rights. Any intellectual property litigation also could force us to do one or more of the following:

	•		stop selling products or using technology that contains the allegedly infringing intellectual property;

	•		lose the opportunity to license our technology to others or to collect royalty payments based upon successful protection and assertion of our intellectual property against others;

	•		incur significant legal expenses;

	•		pay substantial damages to the party whose intellectual property rights we may be found to be infringing;

	•		redesign those products that contain the allegedly infringing intellectual property; or

	•		attempt to obtain a license to the relevant intellectual property from third parties, which may not be available on reasonable terms or at all.

We expect that companies in the storage market will increasingly be subject to infringement claims as the number of products and competitors in our industry segment grows and the functionality of products in different industry segments overlaps. Our channel partners and end users could also become the target of litigation relating to patent and other intellectual property rights of others. This could trigger technical support and indemnification obligations in our licenses and maintenance agreements. These obligations could results in substantial expenses, including the payment by us of costs and damages.

If we fail to comply with the terms of our open source software license agreement, we could be required to release portions of our software codes, which could impair our ability to compete and result in lower revenues.

Storage Center utilizes a software application called eCos, an “open source,” royalty-free, real-time operating system intended for embedded applications. eCos is licensed to us under a modified version of version 2.0 of the GNU General Public License. Open source software is often made available to the public by its authors and/or other third parties under licenses, such as the GNU General Public License, which impose certain obligations on licensees in the event such licensees re-distribute and/or make derivative works of the open source software. The terms of our license to the eCos application require us to make source code for the derivative works freely available to the public, and/or license such derivative works under a particular type of license, rather than the forms of commercial license customarily used to protect our intellectual property. In addition, there is little or no legal precedent for interpreting the terms of certain of these open source licenses, including the determination of which works are subject to the terms of such licenses. While we believe we have complied with our obligations under the various applicable licenses for open source software to avoid subjecting our proprietary products to conditions we do not intend, in the event the copyright holder of any open source software were to successfully establish in court that we had not complied with the terms of a license for a particular work, we could be required to release the source code of that work to the public, stop distribution of that work and/or recall our products that include that work. In this event, we could be required to seek licenses from third parties in order to continue offering our products, to make generally available, in source code form, proprietary code that links to certain open source modules, to re-engineer our products, or to recall and/or discontinue the sale of our products if re-engineering could not be accomplished on a timely basis, any of which could impair our ability to compete, result in lower revenues and increase our expenses.

We may need to raise additional funds in the future, which may not be available to us on terms acceptable to us, or at all.

We may need to raise additional funds in the future. Any required additional financing may not be available on terms acceptable to us, or at all. If we raise additional funds by issuing equity securities or convertible debt, investors may experience significant dilution of their ownership interest, and the newly-issued securities may have rights senior to those of the holders of our common stock. If we raise additional funds by obtaining loans from third parties, the terms of those financing arrangements may include negative covenants or other restrictions on our business that could impair our operational flexibility, and would also require us to fund additional interest expense. If additional financing is not available when required or is not available on acceptable terms, we may be unable to successfully develop or enhance our storage products in order to take advantage of business opportunities or respond to competitive pressures, which could result in lower revenues and reduce the competitiveness of our storage product offerings.

We may engage in future acquisitions that could disrupt our business, cause dilution to our stockholders, reduce our financial resources and result in increased expenses.

In the future, we may acquire other businesses, products or technologies. We have not made any acquisitions to date. Accordingly, our ability as an organization to make acquisitions is unproven. We may not be able to find suitable acquisition candidates, and we may not be able to complete acquisitions on favorable terms, if at all. If we do complete acquisitions, we may not strengthen our competitive position or achieve our goals, or these acquisitions may be viewed negatively by channel partners, end users, financial markets or investors. In addition, any acquisitions that we make could lead to difficulties in integrating personnel, technologies and operations from the acquired businesses and in retaining and motivating key personnel from these businesses. Acquisitions may disrupt our ongoing operations, divert management from day-to-day responsibilities and increase our expenses. Future acquisitions may reduce our cash available for operations and other uses, and could result in an increase in amortization expense related to identifiable assets acquired, potentially dilutive issuances of equity securities or the incurrence of debt. We cannot forecast the number, timing or size of future acquisitions, or the effect that any such acquisitions might have on our operating or financial results.

Risks Related to the Ownership of Our Common Stock

Our stock price is volatile and purchasers of our common stock could incur substantial losses.

The market price of our common stock and the securities of other technology companies has been and may continue to be highly volatile. The market price of our common stock may fluctuate significantly in response to a number of factors, including:

	•		quarterly variations in our results of operations or those of our competitors;

	•		fluctuations in the valuation of companies perceived by investors to be comparable to us;

	•		economic developments in the storage industry as a whole;

	•		general economic conditions and slow or negative growth of related markets;

	•		changes in financial estimates including our ability to meet our future revenues and operating profit or loss projections;

	•		changes in earnings estimates or recommendations by securities analysts;

	•		announcements by us or our competitors of acquisitions, new products, significant contracts, commercial relationships or capital commitments;

	•		our ability to develop and market new and enhanced products on a timely basis;

	•		commencement of, or our involvement in, litigation;

	•		disruption to our operations;

	•		any major change in our board of directors or management; and

	•		changes in governmental regulations.

In addition, the stock market in general, and the market for technology companies in particular, has experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of those companies. These broad market and industry factors may cause the market price of our common stock to decrease, regardless of our actual operating performance. These trading price fluctuations may also make it more difficult for us to use our common stock as a means to make acquisitions or to use options to purchase our common stock to attract and retain employees. In addition, in the past, following periods of volatility in the overall market and the market price of a company’s securities, securities class action litigation has often been instituted against these companies. This litigation, if instituted against us, could result in substantial costs and a diversion of our management’s attention and resources.

We have been named a defendant in purported securities class action lawsuits. These, and potential similar or related litigation, could result in substantial damages and may divert management’s time and attention from our business.

On April 14 and 15, 2010, respectively, two purported securities class actions were commenced in the U.S. District Court for the District of Minnesota, naming us and certain of our executive officers as defendants. The lawsuits allege that the defendants made materially false or misleading public statements about our business and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. The plaintiffs seek to represent a class of investors who purchased our common stock between October 28, 2009 and April 7, 2010. It is possible that similar lawsuits may yet be filed in the same or other courts that name the same or additional defendants.

We believe that the allegations are without merit and intend to vigorously defend against them. These lawsuits and any other related lawsuits are subject to inherent uncertainties, and the actual cost will depend upon many unknown factors. The outcome of the litigation is necessarily uncertain. We could be forced to expend significant resources in the defense of these actions and we may not prevail. Monitoring and defending against legal actions is time-consuming for our management and detracts from our ability to fully focus our internal resources on our business activities. In addition, we may incur substantial legal fees and costs in connection with the litigation. We are not currently able to estimate the possible cost to us from these matters, as these lawsuits are currently at an early stage and we cannot be certain of how long it may take to resolve these matters or the possible amount of any damages that we may be required to pay. We have not established any reserves for any potential liability relating to these lawsuits. It is possible that we could,

in the future, incur judgments or enter into settlements of claims for monetary damages. A decision adverse to our interests on these actions could result in the payment of substantial damages, or possibly fines, and could have a material adverse effect on our cash flow, results of operations and financial position. In addition, the uncertainty of the currently pending litigation could lead to more volatility in our stock price.

If securities analysts or industry analysts downgrade our stock, publish negative research or reports, or do not publish reports about our business, our stock price and trading volume could decline.

The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us, our business and our market. If one or more analysts adversely change their recommendation regarding our stock or our competitors’ stock, our stock price would likely decline. If one or more analysts cease coverage of us or fail to regularly publish reports on us, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline.

A limited number of stockholders will have the ability to influence the outcome of director elections and other matters requiring stockholder approval.

Our directors and executive officers and their affiliates beneficially own approximately 29% of our outstanding common stock, as of July 30, 2010. These stockholders, if they acted together, could exert substantial influence over matters requiring approval by our stockholders, including electing directors, adopting new compensation plans and approving mergers, acquisitions or other business combination transactions. This concentration of ownership may discourage, delay or prevent a change of control of our company, which could deprive our stockholders of an opportunity to receive a premium for their stock as part of a sale of our company and might reduce our stock price. These actions may be taken even if they are opposed by our other stockholders.

Delaware law and our amended and restated certificate of incorporation and bylaws contain provisions that could delay or discourage takeover attempts that stockholders may consider favorable and result in a lower market price for our common stock.

Provisions in our amended and restated certificate of incorporation and bylaws may have the effect of delaying or preventing a change of control or changes in our management. These provisions include the following:

	•		the division of our board of directors into three classes;

	•		the right of the board of directors to elect a director to fill a vacancy created by the expansion of the board of directors or due to the resignation or departure of an existing board member;

	•		the prohibition of cumulative voting in the election of directors, which would otherwise allow less than a majority of stockholders to elect director candidates;

	•		the requirement for the advance notice of nominations for election to the board of directors or for proposing matters that can be acted upon at a stockholders’ meeting;

	•		the ability of our board of directors to alter our bylaws without obtaining stockholder approval;

	•		the ability of the board of directors to issue, without stockholder approval, up to 10,000,000 shares of preferred stock with terms set by the board of directors, which rights could be senior to those of our common stock;

	•		the elimination of the rights of stockholders to call a special meeting of stockholders and to take action by written consent in lieu of a meeting;

	•		the required approval of at least 66 2/3% of the shares entitled to vote at an election of directors to adopt, amend or repeal our bylaws or repeal the provisions of our amended and restated certificate of incorporation regarding the election and removal of directors; and

	•		the required approval of at least a majority of the shares entitled to vote at an election of directors to remove directors without cause.

In addition, because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law. These provisions may prohibit large stockholders, particularly those owning 15% or more of our outstanding voting stock, from merging or combining with us. These provisions in our amended and restated certificate of incorporation and amended and restated bylaws and under Delaware law could discourage potential takeover attempts, could reduce the price that investors are willing to pay for shares of our common stock in the future and could potentially result in the market price being lower than they would without these provisions.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Unregistered Sales of Equity Securities

None.

Use of Proceeds from the Sale of Registered Securities

Our initial public offering of common stock was effected through a Registration Statement on Form S-1 (File No. 333-144255), that was declared effective by the Securities and Exchange Commission on October 9, 2007. We registered 6,900,000 shares of our common stock with a proposed maximum aggregate offering price of $93.1 million. The offering has terminated, and did not terminate until after the sale of all of the shares registered on the Registration Statement. All of the shares of common stock issued pursuant to the registration statement were sold at a price to the public of $13.50 per share. The managing underwriters were Morgan Stanley & Co. Incorporated, Needham & Company, LLC, Piper Jaffray & Co., RBC Capital Markets and Thomas Weisel Partners LLC.

As a result of our initial public offering, we raised a total of approximately $84.6 million in net proceeds after deducting underwriting discounts and commissions of $6.5 million and offering expenses of $2.0 million. As of June 30, 2010, $5.0 million of the $84.6 million in net proceeds has been utilized as working capital in support of operations, with the remainder included in our investment portfolio. No payments for such expenses were made directly or indirectly to (i) any of our officers or directors or their associates, (ii) any persons owning 10% or more of any class of our equity securities, or (iii) any of our affiliates.

Item 3. Defaults Upon Senior Securities

None.

Item 4. (Removed and Reserved)

Item 5. Other Information

None.

Item 6. Exhibits

Exhibit

Incorporated by Reference

Filed

Number

Exhibit Description

Form

Date

Number

Herewith

3.1

Amended and Restated Certificate of Incorporation of Compellent Technologies, Inc.

8-K

10/16/07

3.1

3.2

Amended and Restated Bylaws of Compellent Technologies, Inc.

S-1

07/02/07

3.4

4.1

Reference is made to Exhibits 3.1 and 3.2.

4.2

Specimen Common Stock Certificate.

S-1/A

09/21/07

4.2

10.1

Agreement to Waive Annual Medical Allowance, by and between Compellent Technologies, Inc. and Philip E. Soran, dated April 12, 2010.

10.2

Agreement to Waive Annual Medical Allowance, by and between Compellent Technologies, Inc. and John P. Guider, dated April 12, 2010.

10.3

Agreement to Waive Annual Medical Allowance, by and between Compellent Technologies, Inc. and Lawrence E. Aszmann, dated April 12, 2010.

31.1

Certification of Chief Executive Officer of Compellent Technologies, Inc., as required by Rule 13a-14(a) or Rule 15d-14(a).

Exhibit

Incorporated by Reference

Filed

Number

Exhibit Description

Form

Date

Number

Herewith

31.2

Certification of Chief Financial Officer of Compellent Technologies, Inc., as required by Rule 13a-14(a) or Rule 15d-14(a).

32.1

Certification by the Chief Executive Officer and Chief Financial Officer, as required by Rule 13a-14(b) or Rule 15d-14(b) and Section 1350 of Chapter 36 of Title 18 of the United States Code (18 U.S.C. §1350).*


*		The certification attached as Exhibit 32.1 that accompanies this Quarterly Report on Form 10-Q, is not deemed filed with the SEC and is not to be incorporated by reference into any filing of Compellent Technologies, Inc. under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date of this Form 10-Q, irrespective of any general incorporation language contained in such filing.

SIGNATURES

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

Dated: August 6^th, 2010


	Compellent Technologies, Inc.
	/s/ John. R. Judd
	John R. Judd
	Chief Financial Officer

EXHIBIT INDEX

Exhibit

Incorporated by Reference

Filed

Number

Exhibit Description

Form

Date

Number

Herewith

3.1

Amended and Restated Certificate of Incorporation of Compellent Technologies, Inc.

8-K

10/16/07

3.1

3.2

Amended and Restated Bylaws of Compellent Technologies, Inc.

S-1

07/02/07

3.4

4.1

Reference is made to Exhibits 3.1 and 3.2.

4.2

Specimen Common Stock Certificate.

S-1/A

09/21/07

4.2

10.1

Agreement to Waive Annual Medical Allowance, by and between Compellent Technologies, Inc. and Philip E. Soran, dated April 12, 2010.

10.2

Agreement to Waive Annual Medical Allowance, by and between Compellent Technologies, Inc. and John P. Guider, dated April 12, 2010.

10.3

Agreement to Waive Annual Medical Allowance, by and between Compellent Technologies, Inc. and Lawrence E. Aszmann, dated April 12, 2010.

31.1

Certification of Chief Executive Officer of Compellent Technologies, Inc., as required by Rule 13a-14(a) or Rule 15d-14(a).

31.2

Certification of Chief Financial Officer of Compellent Technologies, Inc., as required by Rule 13a-14(a) or Rule 15d-14(a).

32.1


*		The certification attached as Exhibit 32.1 that accompanies this Quarterly Report on Form 10-Q, is not deemed filed with the SEC and is not to be incorporated by reference into any filing of Compellent Technologies, Inc. under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date of this Form 10-Q, irrespective of any general incorporation language contained in such filing.

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COMPELLENT TECHNOLOGIES INC Reports

COMPELLENT TECHNOLOGIES INC - FORM 10-Q - August 6, 2010

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COMPELLENT TECHNOLOGIES INC Reports