UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Aruba Networks, Inc.

Delaware		02-0579097
(State or Other Jurisdiction of		(I.R.S. Employer
Incorporation or Organization)		Identification Number)

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 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.:

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

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

The number of shares of the registrant’s common stock, par value $0.0001, outstanding as of June 4, 2009 was 86,369,266.

 

 

ARUBA NETWORKS INC.
INDEX

		Page No.
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements (unaudited)
Consolidated Balance Sheets as of April 30, 2009 and July 31, 2008			3
Consolidated Statements of Operations for the three and nine months ended April 30, 2009 and 2008			4
Consolidated Statements of Cash Flows for the nine months ended April 30, 2009 and 2008			5
Notes to Consolidated Financial Statements			6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			19
Item 3. Quantitative and Qualitative Disclosures About Market Risk			32
Item 4. Controls and Procedures			32
PART II. OTHER INFORMATION
Item 1. Legal Proceedings			33
Item 1A. Risk Factors			33
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			46
Item 3. Defaults Upon Senior Securities			46
Item 4. Submission of Matters to a Vote of Security Holders			46
Item 5. Other Information			46
Item 6. Exhibits			46
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1

Item 1 — Consolidated Financial Statements

ARUBA NETWORKS, INC.

		April 30,				July 31,
		2009				2008
		(in thousands, except per share data)
ASSETS
Current assets
Cash and cash equivalents		$	34,777			$	37,602
Short-term investments			77,006				64,130
Accounts receivable, net			30,733				32,679
Inventory			12,318				11,644
Deferred costs			2,754				4,317
Prepaids and other			2,128				3,196
Total current assets			159,716				153,568
Property and equipment, net			7,773				7,181
Goodwill			7,656				7,656
Intangible assets, net			15,325				19,027
Deferred costs			39				239
Other assets			1,159				1,130
Total assets		$	191,668			$	188,801
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities
Accounts payable		$	4,364			$	5,844
Accrued liabilities			20,195				16,908
Income taxes payable			394				576
Deferred revenue			24,610				27,143
Total current liabilities			49,563				50,471
Deferred revenue			7,342				7,338
Other long-term liabilities			51				117
Total liabilities			56,956				57,926
Commitments and contingencies (Note 13)
Stockholders’ equity
Preferred stock: $0.0001 par value; 10,000 shares authorized at April 30, 2009 and July 31, 2008, no shares issued and outstanding at April 30, 2009 and July 31, 2008			—				—
Common stock: $0.0001 par value; 350,000 shares authorized at April 30, 2009 and July 31, 2008; 86,212 and 82,836 shares issued and outstanding at April 30, 2009 and July 31, 2008			9				8
Additional paid-in capital			271,750				249,131
Accumulated other comprehensive income (loss)			87				(45	)
Accumulated deficit			(137,134	)			(118,219	)
Total stockholders’ equity			134,712				130,875
Total liabilities and stockholders’ equity		$	191,668			$	188,801

See Notes to Consolidated Financial Statements.

ARUBA NETWORKS, INC.

		Three months ended April 30,								Nine months ended April 30,
		2009				2008				2009				2008
		(in thousands, except per share data)
Revenues
Product		$	35,822			$	35,478			$	118,561			$	108,105
Professional services and support			9,666				6,287				26,271				19,109
Ratable product and related professional services and support			318				841				1,101				2,767
Total revenues			45,806				42,606				145,933				129,981
Cost of revenues
Product			14,005				11,236				43,978				34,077
Professional services and support			1,814				1,650				5,585				5,853
Ratable product and related professional services and support			110				294				385				986
Total cost of revenues			15,929				13,180				49,948				40,916
Gross profit			29,877				29,426				95,985				89,065
Operating expenses
Research and development			9,734				9,762				30,407				27,148
Sales and marketing			20,251				21,230				66,519				61,755
General and administrative			5,854				4,730				17,154				13,325
Acquisition related expenses			—				197				—				197
Restructuring expenses			—				—				1,447				—
Total operating expenses			35,839				35,919				115,527				102,425
Operating loss			(5,962	)			(6,493	)			(19,542	)			(13,360	)
Other income (expense), net
Interest income			368				854				1,572				3,474
Other income (expense), net			46				(324	)			(438	)			258
Total other income (expense), net			414				530				1,134				3,732
Loss before provision for income taxes			(5,548	)			(5,963	)			(18,408	)			(9,628	)
Provision for income taxes			213				260				507				712
Net loss		$	(5,761	)		$	(6,223	)		$	(18,915	)		$	(10,340	)
Net loss per common share, basic and diluted		$	(0.07	)		$	(0.08	)		$	(0.23	)		$	(0.13	)
Shares used in computing basic and diluted net loss per common share			85,200				80,644				84,044				78,922
Stock-based compensation expense included in above:
Cost of revenues		$	230			$	161			$	758			$	464
Research and development			1,547				1,458				5,723				4,226
Sales and marketing			2,401				1,839				7,793				6,248
General and administrative			1,355				794				3,881				2,612

See Notes to Consolidated Financial Statements.

ARUBA NETWORKS, INC.

		Nine months ended April 30,
		2009				2008
		(in thousands)
Cash flows from operating activities
Net loss		$	(18,915	)		$	(10,340	)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization			7,168				3,436
Provision for doubtful accounts			122				149
Write downs for excess and obsolete inventory			3,324				823
Compensation related to stock options and share awards			18,155				13,550
Net realized gain on short-term investments			(7	)			(21	)
Accretion of purchase discounts on short-term investments			(293	)			(1,283	)
Change in carrying value of preferred stock warrants			—				(715	)
Gain on disposal of fixed assets			(25	)			—
Excess tax benefits associated with stock based compensation			(44	)			—
Changes in operating assets and liabilities:
Accounts receivable			1,824				(4,101	)
Inventory			(4,417	)			(9,380	)
Prepaids and other			1,068				(2,755	)
Deferred costs			1,763				721
Other assets			179				(372	)
Accounts payable			(1,611	)			4,199
Deferred revenue			(2,528	)			5,690
Other current and noncurrent liabilities			3,566				3,438
Income taxes payable			(195	)			261
Net cash provided by operating activities			9,134				3,300
Cash flows from investing activities
Purchases of short-term investments			(77,783	)			(85,665	)
Proceeds from sales and maturities of short-term investments			65,128				93,104
Purchases of property and equipment			(3,514	)			(4,169	)
Proceeds from sale of property and equipment			34				—
Cash paid in purchase acquisition, net of cash acquired			—				(16,030	)
Net cash used in investing activities			(16,135	)			(12,760	)
Cash flows from financing activities
Proceeds from issuance of common stock			5,124				10,013
Repurchase of common stock under stock repurchase program			(991	)			(1,649	)
Excess tax benefits associated with stock based compensation			44				—
Net cash provided by financing activities			4,177				8,364
Effect of exchange rate changes on cash and cash equivalents			(1	)			2
Net decrease in cash and cash equivalents			(2,825	)			(1,094	)
Cash and cash equivalents, beginning of period			37,602				42,570
Cash and cash equivalents, end of period		$	34,777			$	41,476
Supplemental disclosure of cash flow information
Income taxes paid		$	607			$	468
Supplemental disclosure of non-cash investing and financing activities
Common stock issued in purchase acquisition		$	—			$	7,852

See Notes to Consolidated Financial Statements.

ARUBA NETWORKS, INC.

1. The Company and its Significant Accounting Policies

The Company

Aruba Networks, Inc. (the “Company”) was incorporated in the state of Delaware on February 11, 2002. The Company securely delivers the enterprise network to users with user-centric networks that expand the reach of traditional port-centric networks. The products the Company licenses and sells include the ArubaOS modular operating system, optional value-added software modules, a centralized mobility management system, high-performance programmable Mobility Controllers, wired and wireless access points, wireless intrusion detection tools, spectrum analyzers, and endpoint compliance solutions. The Company has offices in North America, Europe, the Middle East and the Asia Pacific region and employs staff around the world.

Basis of Presentation

The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated. The accompanying statements are unaudited and should be read in conjunction with the audited consolidated financial statements and related notes contained in the Company’s Annual Report on Form 10-K filed on October 7, 2008. The July 31, 2008 consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the US (“US”).

The accompanying unaudited consolidated financial statements have been prepared in accordance with United States generally accepted accounting principles (“GAAP”), pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). They do not include all of the financial information and footnotes required by GAAP for complete financial statements. The Company believes the unaudited consolidated financial statements have been prepared on the same basis as its audited financial statements as of and for the year ended July 31, 2008 and include all adjustments necessary for the fair statement of the Company’s financial position as of April 30, 2009, its results of operations for the three and nine months ended April 30, 2009 and 2008, and its cash flows for the nine months ended April 30, 2009 and 2008. The results for the three and nine months ended April 30, 2009 are not necessarily indicative of the results to be expected for any subsequent quarter or for the fiscal year ending July 31, 2009.

Certain prior period balances have been reclassified to conform to the current year presentation. The reclassifications did not affect previously reported net loss.

Significant Accounting Policies

Other than the adoption of the provisions of Statement of Financial Accounting Standards No. 157, Fair Value Measurements, (“SFAS 157”) effective August 1, 2008, there have been no significant changes in the Company’s accounting policies during the nine months ended April 30, 2009 as compared to the accounting policies described in the Company’s Annual Report on Form 10-K filed on October 7, 2008. In September 2006, the FASB issued SFAS 157 which defines fair value, establishes guidelines for measuring fair value and expands disclosures regarding fair value measurements. In February 2008, the FASB issued FASB Staff Position (“FSP”) FAS 157-1, Application of FASB Statement 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under Statement 13, which amends SFAS No. 157 to exclude accounting pronouncements that address fair value measurements for purposes of lease classification or measurement under SFAS No. 13, Accounting for Leases. In February 2008, the FASB issued FASB issued FSP FAS No. 157-2, Effective Date of FASB Statement No. 157, (“FSP FAS 157-2”) which permitted the Company to defer the effective date of SFAS 157 until its first quarter of fiscal 2010 for all non-financial assets and non-financial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). SFAS 157 does not require any new fair value measurements but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements. The Company believes that the adoption of FSP FAS 157-2 for non-financial assets and liabilities will not have an impact on its consolidated financial statements. SFAS 157 does not require any new fair value measurements but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements for financial assets and financial liabilities. SFAS 157 became effective for the Company beginning on August 1, 2008. On October 10, 2008, the FASB issued FASB FSP FAS No. 157-3, Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active (“FSP FAS 157-3” ), which clarifies the application of SFAS 157 as it relates to the valuation of financial assets in a market that is not active for those financial assets. FSP FAS 157-3 is effective immediately and includes those periods for which financial statements have not been issued. The adoption of FSP FAS 157-3 in the quarter ended October 31, 2008, did not have an impact on the Company’s consolidated financial statements.

2. Restructuring Charges

On November 14, 2008, the Company’s board of directors approved a plan to reduce the Company’s costs and streamline operations through a combination of a reduction in the Company’s work force and the closing of certain facilities. The majority of the reduction in the Company’s work force was completed in the second quarter of fiscal 2009 and the remaining reduction was completed in the third quarter of fiscal 2009. The reduction in the Company’s work force resulted in the termination of 46 employees worldwide, or about 8% of its global work force, mainly in the sales and marketing and research and development functions. Expenses associated with the work force reduction, which were comprised primarily of severance and benefits payments, as well as professional fees associated with career transition services, totaled $1.1 million. Additionally, the Company closed facilities in California and North Carolina and incurred facility exit costs of $0.3 million as a result. The restructuring expenses recorded in the second quarter of fiscal 2009 are shown in the consolidated statement of operations as restructuring expenses.

The following table provides a summary of the restructuring activities and related liabilities recorded in accrued liabilities in the consolidated balance sheet:

		Accrual as of												Accrual as of
		January 31,				Restructuring				Cash				April 30,
		2009				Charges				Paid				2009
Three months ended April 30, 2009
Severance and professional fees		$	283			$	—			$	(215	)		$	68
Facility exit costs			277				—				(80	)			197
Total		$	560			$	—			$	(295	)		$	265

		Accrual as of												Accrual as of
		July 31,				Restructuring				Cash				April 30,
		2008				Charges				Paid				2009
Nine months ended April 30, 2009
Severance and professional fees		$	—			$	1,138			$	(1,070	)		$	68
Facility exit costs			—				309				(112	)			197
Total		$	—			$	1,447			$	(1,182	)		$	265

3. Intangible Assets

The following table presents details of the Company’s total purchased intangible assets:

		Estimated				Gross				Accumulated				Net Book
As of April 30, 2009		Useful Lives				Value				Amortization				Value
						(in thousands)
Intangible Assets, net
Existing Technology		4 years				$	9,283			$	(3,012	)		$	6,271
Patents/Core Technology		4 years					3,046				(988	)			2,058
Customer Contracts			6 to 7 years				5,083				(976	)			4,107
Support Agreements			5 to 6 years				2,717				(606	)			2,111
Tradenames/Trademarks		5 years					600				(134	)			466
Non-Compete Agreements		2 years					712				(400	)			312
Total						$	21,441			$	(6,116	)		$	15,325

		Estimated				Gross				Accumulated				Net Book
As of July 31, 2008		Useful Lives				Value				Amortization				Value
						(in thousands)
Intangible Assets, net
Existing Technology		4 years				$	9,283			$	(1,272	)		$	8,011
Patents/Core Technology		4 years					3,046				(417	)			2,629
Customer Contracts			6 to 7 years				5,083				(349	)			4,734
Support Agreements			5 to 6 years				2,717				(199	)			2,518
Tradenames/Trademarks		5 years					600				(44	)			556
Non-Compete Agreements		2 years					712				(133	)			579
Total						$	21,441			$	(2,414	)		$	19,027

The Company recorded $1.2 million and $3.7 million, respectively, of amortization expense related to its purchased intangible assets during the three and nine months ended April 30, 2009, and $0.7 million and $1.2 million, respectively, during the three and nine months ended April 30, 2008.

The estimated future amortization expense of purchased intangible assets as of April 30, 2009 is as follows:

		Amount
		(in thousands)
Remaining three months of fiscal 2009		$	1,234
Years ending July 31, 2010			4,804
2011			4,555
2012			2,917
2013			1,259
Thereafter			556
Total		$	15,325

4. Net Loss Per Common Share

Basic net loss per common share is calculated by dividing net loss by the weighted average number of common shares outstanding during the period that are not subject to vesting provisions. Diluted net loss per common share is calculated by giving effect to all potentially dilutive common shares, including options and common stock subject to repurchase. The following table sets forth the computation of net loss per share:

		Three months ended April 30,								Nine months ended April 30,
		2009				2008				2009				2008
		(in thousands, except per share data)								(in thousands, except per share data)
Net loss		$	(5,761	)		$	(6,223	)		$	(18,915	)		$	(10,340	)
Weighted-average common shares outstanding net of weighted-average common shares subject to repurchase			85,200				80,644				84,044				78,922
Basic and diluted net loss per common share		$	(0.07	)		$	(0.08	)		$	(0.23	)		$	(0.13	)

The following outstanding options, common stock subject to repurchase, and restricted stock awards were excluded from the computation of diluted net loss per common share for the periods presented because including them would have had an anti-dilutive effect:

		April 30,
		2009				2008
		(in thousands)
Options to purchase common stock			19,900				20,624
Common stock subject to repurchase			215				708
Restricted stock awards			2,954				3,287

5. Short-term Investments

Short-term investments consist of the following:

						Gross				Gross
		Cost				Unrealized				Unrealized				Fair
		Basis				Gains				Losses				Value
		(in thousands)
Balances at April 30, 2009
Corporate bonds and notes		$	12,704			$	21			$	(105	)		$	12,620
U.S. government agency securities			62,465				175				(4	)			62,636
Commercial paper			1,750				—				—				1,750
Total short-term investments		$	76,919			$	196			$	(109	)		$	77,006

						Gross				Gross
		Cost				Unrealized				Unrealized				Fair
		Basis				Gains				Losses				Value
		(in thousands)
Balances at July 31, 2008
Corporate bonds and notes		$	11,930			$	5			$	(23	)		$	11,912
U.S. government agency securities			44,724				19				(47	)			44,696
Commercial paper			7,521				1				—				7,522
Total short-term investments		$	64,175			$	25			$	(70	)		$	64,130

The cost basis and fair value of debt securities as of April 30, 2009, by contractual maturity, are presented below:

		Cost				Fair
		Basis				Value
		(in thousands)
One year or less		$	44,178			$	44,188
One to two years			32,741				32,818
Total short-term investments		$	76,919			$	77,006

Unrealized gains and losses are recorded as a component of cumulative other comprehensive income (loss) in stockholders’ equity. If these investments are sold at a loss or are considered to have other than temporarily declined in value, a charge to operations is recorded. The specific identification method is used to determine the cost of securities disposed of, with realized gains and losses reflected in other income (expense), net.

The following table summarizes the fair value and gross unrealized losses of the Company’s investments with unrealized losses aggregated by type of investment instrument and length of time that individual securities have been in a continuous unrealized loss position:

		Less than 12 Months								12 Months or Greater								Total
		Fair				Unrealized				Fair				Unrealized				Fair				Unrealized
		Value				Loss				Value				Loss				Value				Loss
		(in thousands)								(in thousands)								(in thousands)
April 30, 2009
Corporate bonds and notes		$	5,720			$	(75	)		$	2,049			$	(30	)		$	7,769			$	(105	)
U.S. government agency securities			3,249				(4	)			—				—				3,249				(4	)
Total		$	8,969			$	(79	)		$	2,049			$	(30	)		$	11,018			$	(109	)

Fair Value of Financial Instruments

Cash and cash equivalents consist primarily of bank deposits with third-party financial institutions and highly liquid money market securities with remaining maturities at date of purchase of 90 days or less. The carrying value of cash and cash equivalents as of April 30, 2009 and July 31, 2008 was approximately $34.8 million and $37.6 million, respectively, and approximates fair value.

Short-term investments consist of corporate bonds and notes, government sponsored enterprise obligations, and commercial paper. As of July 31, 2008, the short-term investments are recorded at amortized cost which approximates fair market value. Effective August 1, 2008, the fair value of the Company’s short-term investments is determined in accordance with SFAS 157, which defines fair value as the exit price in the principal market in which the Company would transact representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or a liability.

As a basis for considering such assumptions, SFAS 157 establishes a three-tier value hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value. Level 1 instruments are valued based on quoted market prices in active markets for identical instruments and include the Company’s investments in money market funds. Level 2 instruments are valued based on quoted prices in markets that are not active or alternative pricing sources with reasonable levels of price transparency and include the Company’s investments in corporate bonds and notes, government sponsored enterprise obligations and commercial paper. Level 3 instruments are valued based on unobservable inputs that are supported by little or no market activity and reflect the Company’s own assumptions in measuring fair value. The Company has no level 3 instruments.

As of April 30, 2009, the fair value measurements of our cash, cash equivalents and short-term investments consisted of the following:

		Total				Level 1				Level 2
		(in thousands)
Corporate bonds and notes		$	12,620			$	—			$	12,620
U.S. government agency securities			62,636				—				62,636
Commercial paper			1,750				—				1,750
Money market funds			21,893				21,893				—
Total cash equivalents and short-term investments			98,899			$	21,893			$	77,006
Cash deposits with third-party financial institutions			12,884
Total cash, cash equivalents and short-term investments		$	111,783

6. Balance Sheet Components

The following tables provide details of selected balance sheet items:

		April 30,				July 31,
		2009				2008
		(in thousands)
Accounts Receivable, net
Trade accounts receivable		$	31,226			$	33,237
Less: Allowance for doubtful accounts			(493	)			(558	)
Total		$	30,733			$	32,679

		April 30,				July 31,
		2009				2008
		(in thousands)
Inventory
Raw materials		$	267			$	283
Finished goods			12,051				11,361
Total		$	12,318			$	11,644

		April 30,				July 31,
		2009				2008
		(in thousands)
Accrued Liabilities
Compensation and benefits		$	8,333			$	8,768
Inventory			4,792				1,033
Other			7,070				7,107
Total		$	20,195			$	16,908

7. Property and Equipment, Net

Property and equipment, net consists of the following:

		Estimated				April 30,				July 31,
		Useful Lives				2009				2008
						(in thousands)
Property and Equipment, net
Computer equipment		2 years				$	7,098			$	6,197
Computer software		2-5 years					4,026				3,582
Machinery and equipment		2 years					6,621				5,032
Furniture and fixtures		5 years					1,725				863
Leasehold improvements		2-5 years					637				551
Total property and equipment, gross							20,107				16,225
Less: Accumulated depreciation and amortization							(12,334	)			(9,044	)
Total property and equipment, net						$	7,773			$	7,181

8. Deferred Revenue

Deferred revenue consists of the following:

		April 30,				July 31,
		2009				2008
		(in thousands)
Deferred Revenue
Product		$	3,518			$	9,351
Professional services and support			20,180				16,399
Ratable product and related services and support			912				1,393
Total deferred revenue, current			24,610				27,143
Professional services and support, long-term			7,194				6,563
Ratable product and related services and support, long-term			147				775
Total deferred revenue, long-term			7,341				7,338
Total deferred revenue		$	31,951			$	34,481

Deferred product revenue relates to arrangements where not all revenue recognition criteria have been met. Deferred professional services and support revenue primarily represents customer payments made in advance for support contracts. Support contracts are typically billed on an annual basis in advance and revenue is recognized ratably over the support period.

Deferred ratable product and related services and support revenue consists of revenue on transactions where Vendor Specific Objective Evidence (“VSOE”) of fair value of support was not established at the date of the transactions and the entire arrangement is being recognized ratably over the support period, which typically ranges from one year to five years. Typically, the Company’s sales involve multiple elements, such as sales of products that include support, training and/or consulting services. When a sale involves multiple elements, the Company allocates the entire fee from the arrangement to each respective element based on its VSOE of fair value and recognizes revenue when each element’s revenue recognition criteria are met. VSOE of fair value for each element is established based on the sales price the Company charges when the same element is sold separately. If VSOE of fair value cannot be established for the undelivered element of an agreement, when the undelivered element is support, the entire amount of revenue from the arrangement is deferred and recognized ratably over the period that the support is delivered.

9. Income Taxes

For the three and nine months ended April 30, 2009 and 2008, the Company generated operating losses. However, while the Company generated book and tax losses, it generated operating income for foreign and state purposes.

The Company uses the asset and liability method of accounting for income taxes in accordance with FASB Statement No. 109, Accounting for Income Taxes. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Based on the available objective evidence, including the fact that the Company has generated losses since inception and continues to incur a loss, management believes it is more likely than not that the deferred tax assets will not be realized. Accordingly, management has applied a full valuation allowance against its deferred tax assets generated primarily in the U.S.

On September 30, 2008, California enacted Assembly Bill 1452 which among other provisions, suspends net operating loss deductions for 2008 and 2009 and extends the carryforward period of any net operating losses not utilized due to such suspension; adopts the federal 20-year net operating loss carryforward period; phases-in the federal two-year net operating loss carryback periods beginning in 2011 and limits the utilization of tax credits to 50% of a taxpayer’s taxable income. The Company incorporated the impact of this new law to the income tax provision during the first quarter of fiscal 2009. As a result, only 50% of California tax liability was off-set by the available state research & development tax credit carryover, yielding a $64,000 tax liability as of April 30, 2009.

In addition, under the U.S. federal government’s Housing and Economic Recovery Act of 2008 (“Act”), taxpayers may claim bonus depreciation on certain qualified fixed assets placed in service from the period between April and December 2008 if they forego refundable AMT or research and development credit carryovers. The Company estimated and recognized the bonus depreciation, subject to certain limitations, based on fixed assets placed into service through the nine months ended April 30, 2009. During the nine months ended April 30, 2009, the Company recorded a net income tax benefit of $37,000 for the bonus depreciation as provided by the Act, which was netted against deferred tax assets subject to a full valuation allowance.

The Company’s only material uncertain tax position is its research and development credits. On October 3, 2008, the Emergency Economic Stabilization Act of 2008, Energy Improvement and Extension Act of 2008 and Tax Extenders and Alternative Minimum Tax Relief Act of 2008 (HR1424) was signed into law, which, as enacted, includes a provision that extends the research tax credit for two years retroactively applied for tax years beginning January 1, 2008. Due to this retroactive extension, the Company estimates an increase of approximately $0.8 million of additional uncertain tax positions relating to research credits in the next 12 months, none of which would affect its income tax expense if recognized to the extent that the Company continues to maintain a full valuation allowance against its deferred tax assets. The Company recognizes interest and penalties related to income tax matters as part of the provision for income taxes. To date, the Company has incurred no such charges.

The Company files annual income tax returns in the U.S. federal jurisdiction, various U.S. state and local jurisdictions, and in various foreign jurisdictions. The Company remains subject to tax authority review for all jurisdictions for all years.

10. Stock Benefit Plans and Common Stock

In April 2002, the Company’s board of directors adopted the 2002 Stock Plan (“2002 Plan”). In December 2006, the Company’s board of directors approved the 2007 Equity Incentive Plan (“2007 Plan”) and the Employee Stock Purchase Plan (“ESPP”). As provided by the 2007 Plan, all remaining shares reserved for issuance under the 2002 Plan were transferred to the 2007 Plan upon the closing of the Company’s initial public offering.

Stock Option Activity

The following table summarizes the information about shares available for grant and outstanding stock options activity for the nine months ended April 30, 2009:

										Weighted				Weighted
										Average				Average
		Shares								Exercise				Remaining				Aggregate
		Available for				Number of				Price				Contractual				Intrinsic
		Grant				Options				per Share				Term (Years)				Value
Outstanding at July 31, 2008			3,169,466				19,518,002			$	4.41				7.43			$	44,913,703
Shares reserved for issuance			4,141,807				—
Restricted stock awards granted			(1,400,367	)			—
Restricted stock awards cancelled			516,031				—
Options granted			(8,455,675	)			8,455,675				2.90
Options exercised			—				(1,174,859	)			1.11								3,683,391
Options repurchased			18,333				—				0.49
Options cancelled			6,898,400				(6,898,400	)			7.52
Outstanding at April 30, 2009			4,887,995				19,900,418			$	2.88				6.91			$	39,732,008

The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying stock option awards and the fair value of the Company’s common stock on the date of each option exercise. Stock-based compensation expense recognized for stock options for the three and nine months ended April 30, 2009 was $2.8 million and $8.7 million, respectively, and $2.4 million and $8.1 million for the three and nine months ended April 30, 2008, respectively.

The following table summarizes the non-vested restricted stock awards activity for the nine months ended April 30, 2009:

						Weighted Average
						Grant Date
						Fair Value
		Shares				per Share
Balance at July 31, 2008			3,364,950			$	6.81
Awards granted			1,400,367				4.21
Awards vested			(1,295,536	)			5.55
Awards cancelled			(516,031	)			6.20
Balance at April 30, 2009			2,953,750			$	6.24

The estimated fair value of restricted stock awards is based on the market price of the Company’s stock on the grant date. Stock-based compensation expense recognized for restricted stock awards for the three and nine months ended April 30, 2009 was $2.0 million and $7.5 million, respectively, and $1.2 million and $3.2 million for the three and nine months ended April 30, 2008, respectively.

Stock Option Exchange Program

On February 17, 2009, the Company commenced an exchange offer to allow certain of its employees the opportunity to exchange all or a portion of their eligible outstanding stock options for the same number of new options. The new options had an exercise price of $2.91, equal to the closing price per share of the Company’s common stock on March 17, 2009. Stock options held by eligible employees with exercise prices above this closing price were eligible for the exchange offer. Generally, all employees who hold options, other than the Company’s board members, Section 16 officers and employees located in China, France, India or the Netherlands, were eligible to participate in the program.

The number of shares of common stock subject to outstanding options did not change as a result of the exchange offer. New options issued as part of the exchange offer are subject to a new vesting schedule in which one-third of the shares subject to each new option grant will vest on the one-year anniversary of the new grant date with the remaining shares vesting in equal monthly installments over the following two years. The new options will have a maximum term of seven years following the new grant date. The Company will recognize $3.4 million in incremental stock-based compensation expense over the vesting period of the new grants. The Company recognized $0.6 million in incremental stock-based compensation expense arising from the new grants for the three and nine months ended April 30, 2009.

Employee Stock Purchase Plan Activity

During the three months ended April 30, 2009, 624,458 shares were purchased at an average per share price of $2.33. At April 30, 2009, there were 3,838,452 shares available to be issued under the ESPP. Compensation expense recognized in connection with the ESPP for the three and nine months ended April 30, 2009 was $0.7 million and $1.9 million, respectively, and $0.7 million and $2.1 million for the three and nine months ended April 30, 2008.

During the three months ended April 30, 2009, the Company modified the terms of certain existing awards under its ESPP pursuant to the reset provisions of the plan. Consequently, the Company will recognize $0.3 million in incremental stock-based compensation expense over the vesting period. The Company recognized $0.1 million in incremental stock-based compensation expense arising from the award modification for the three and nine months ended April 30, 2009.

Fair Value Disclosures

The fair value of each option grant is estimated on the date of grant using the Black-Scholes model with the following weighted average assumptions:

Employee Stock Options

		Three months ended April 30,								Nine months ended April 30,
		2009				2008				2009				2008
Assumptions
Risk-free interest rate			1.8	%			2.4	%			2.0	%			3.3	%
Expected term (in years)			4.2				4.3				4.2				4.3
Dividend yield			—				—				—				—
Volatility			69	%			51	%			64	%			51	%
Weighted average fair value of options granted		$	0.67			$	2.44			$	0.91			$	3.87

Employee Stock Purchase Plan

Three months ended April 30,

Nine months ended April 30,

2009

2008

2009

2008

Assumptions

Risk-free interest rate

0.5% to 0.9%

1.5% to 1.6%

0.5% to 0.9%

1.5% to 4.2%

Expected term (in years)

0.5 to 2.0

0.5 to 2.0

0.5 to 2.0

0.5 to 2.0

Dividend yield

—

—

—

—

Volatility

75% to 101%

47% to 65%

75% to 101%

43% to 65%

Weighted average fair value of stock purchase rights granted

$1.37

$2.13

$1.37

$2.43

The expected term of the stock-based awards represents the period of time that the Company expects such stock-based awards to be outstanding, giving consideration to the contractual term of the awards, vesting schedules and expectations of future employee behavior. The Company gave consideration to its historical exercises, the vesting term of its options, the post vesting cancellation history of its options and the options’ contractual terms. The contractual term of options granted from inception of the Company through August 16, 2007 was generally 10 years. On August 17, 2007, the Company’s Compensation Committee revised the Company’s 2007 Plan to provide for a contractual term of seven years on all option grants on or after such date. Given the Company’s limited operating history, the Company then compared this estimated term to those of comparable companies from a representative peer group selected based on industry data to determine the expected term. The Company computes expected volatility based on its historical volatility and the historical volatility of comparable companies from a representative peer group that the Company selected based on industry data. As required by SFAS 123R, the Company made an estimate of expected forfeitures, and is recognizing stock-based compensation only for those equity awards that it expects to vest. The risk-free interest rate for the expected term of the option is based on the U.S. Treasury Constant Maturity rate as of the date of grant.

Stock-based Expenses

The Company did not record an income tax provision benefit related to stock-based compensation during the three and nine months ended April 30, 2009 and 2008, since the Company currently maintains a full valuation allowance on its deferred tax assets.

Shares Subject to Repurchase

Certain common stock option holders have the right to exercise unvested options, subject to the right of the Company to repurchase unvested shares of common stock received upon exercise, in the event of a voluntary or involuntary termination of the stockholder’s employment. The cash received from these exercises is initially recorded as a liability and is subsequently reclassified to common stock as the shares vest. As of April 30, 2009 and July 31, 2008, respectively, a total of 215,073 and 429,570, shares of common stock were subject to repurchase by the Company at the original exercise price of the related stock option. The corresponding exercise value of $0.5 million and $0.8 million as of April 30, 2009 and July 31, 2008, respectively, is recorded in accrued liabilities. For the nine months ended April 30, 2009, the non-vested shares activity was as follows:

Non-Vested Shares		Shares
Non-vested as of July 31, 2008			429,570
Early exercise of options			12,500
Vested			(208,664	)
Forfeited			(18,333	)
Non-vested as of April 30, 2009			215,073

Stock Repurchase Program

On February 26, 2008, the Company announced a stock repurchase program for up to $10.0 million worth of the Company’s common stock. The Company is authorized until February 26, 2010, to make purchases in the open market and any such purchases will be funded from available working capital. The number of shares to be purchased and the timing of purchases will be based on the price of the Company’s common stock, general business and market conditions, and other investment considerations, and shall not exceed $2.5 million per quarter. Shares are retired upon repurchase. During the nine months ended April 30, 2009, the Company purchased 191,200 shares under this program for an aggregate purchase price of $1.0 million. No purchases were made under this program during the three months ended April 30, 2009. The Company is authorized to purchase up to an additional $6.9 million worth of shares under this program as of April 30, 2009. The Company’s policy related to repurchases of its common stock is to charge any excess of cost over par value entirely to additional paid-in capital.

11. Comprehensive Loss

Comprehensive loss includes the following:

		Three months ended April 30,								Nine months ended April 30,
		2009				2008				2009				2008
		(in thousands)								(in thousands)
Net loss		$	(5,761	)		$	(6,223	)		$	(18,915	)		$	(10,340	)
Change in unrealized gain/ (loss) on short-term investments			(9	)			(192	)			132				21
Comprehensive loss		$	(5,770	)		$	(6,415	)		$	(18,783	)		$	(10,319	)

12. Segment Information and Significant Customers

The Company operates in one industry segment selling fixed and modular mobility controllers, wired and wireless access points, and related software and services.

FASB Statement No. 131, Disclosures about Segments of an Enterprise and Related Information, establishes standards for reporting information about operating segments. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or decision making group, in deciding how to allocate resources and in assessing performance. The Company’s chief operating decision maker is its Chief Executive Officer. The Company’s Chief Executive Officer reviews financial information presented on a consolidated basis for purposes of allocating resources and evaluating financial performance. The Company has one business activity, and there are no segment managers who are held accountable for operations, operating results and plans for products or components below the consolidated unit level. Accordingly, the Company reports as a single operating segment. The Company and its Chief Executive Officer evaluate performance based primarily on revenue in the geographic locations in which the Company operates. Revenue is attributed by geographic location based on the ship-to location of the Company’s customers. The Company’s assets are primarily located in the United States of America and not allocated to any specific region. Therefore, geographic information is presented only for total revenue.

The following presents total revenue by geographic region:

		Three months ended April 30,								Nine months ended April 30,
		2009				2008				2009				2008
		(in thousands)								(in thousands)
United States		$	27,565			$	28,081			$	92,705			$	87,234
Europe, Middle East and Africa			9,543				8,565				27,693				23,736
Asia Pacific			6,756				4,390				20,038				13,503
Rest of World			1,942				1,570				5,497				5,508
Total		$	45,806			$	42,606			$	145,933			$	129,981

13. Commitments and Contingencies

Legal Matters

On August 27, 2007, Symbol Technologies, Inc. and Wireless Valley Communications, Inc., both Motorola subsidiaries, filed suit against the Company in the Federal District Court of Delaware asserting infringement of U.S. Patent Nos. 7,173,922; 7,173,923; 6,625,454; and 6,973,622. The Company filed its response on October 17, 2007, denying the allegations and asserting counterclaims. The complaint seeks unspecified monetary damages and injunctive relief. On September 8, 2008, the Company filed an amended answer and counterclaims, asserting infringement of Aruba’s U.S. Patent Nos. 7,295,524 and 7,376,113 against Motorola, Inc. as well as its subsidiaries, Symbol Technologies, Inc. and Wireless Valley Communications, Inc. The counterclaims seek unspecified monetary damages and injunctive relief. On November 13, 2008, Motorola filed an amended complaint asserting infringement of U.S. Patent No. 7,359, 676 owned by AirDefense, Inc., another Motorola subsidiary. The trial is scheduled to commence on January 10, 2010.

Although the Company intends to vigorously defend against all of these claims, intellectual property litigation is expensive and time-consuming, regardless of the merits of any claim, and could divert management’s attention from operating the Company’s business. Because of the inherent uncertainties of litigation, the outcome of this action could be unfavorable. At this time, the Company is unable to estimate the potential financial impact this action could have on the Company.

The Company could become involved in additional litigation from time to time relating to claims arising out of its ordinary course of business. Other than described above there were no claims as of April 30, 2009 that, in the opinion of management, might have a material adverse effect on the Company’s financial position, results of operations or cash flows.

Lease Obligation

The Company leases office space under non-cancelable operating leases with various expiration dates through July 2012. The terms of certain operating leases provide for rental payments on a graduated scale. The Company recognizes rent expense on a straight-line basis over the respective lease periods and has accrued for rent expense incurred but not paid.

Future minimum lease payments under non-cancelable operating leases are as follows:

		Operating
		Leases
		(in thousands)
Three months remaining in fiscal 2009		$	859
Year ending July 31,
2010			3,428
2011			891
2012			150
Thereafter			—
Total minimum payments		$	5,328

Non-cancelable purchase commitments

The Company outsources the production of its hardware to a third-party contract manufacturer. In addition, the Company enters into various inventory related purchase commitments with this contract manufacturer and other suppliers. The Company had $9.0 million and $12.4 million in non-cancelable purchase commitments with these providers as of April 30, 2009 and July 31, 2008, respectively. The Company expects to sell all products that it has committed to purchase from these providers.

In its sales agreements, the Company may agree to indemnify its indirect sales channels and end-user customers for any expenses or liability resulting from claimed infringements of patents, trademarks or copyrights of third parties. The terms of these indemnification agreements are generally perpetual any time after execution of the agreement. The maximum amount of potential future indemnification is unlimited. To date the Company has not paid any amounts to settle claims. The Company is unable to reasonably estimate the maximum amount that could be payable under these arrangements since these obligations are not capped but are conditional to the unique facts and circumstances involved. Accordingly, the Company has no liabilities recorded for these agreements as of April 30, 2009 and July 31, 2008.

14. Recent Accounting Pronouncements

In December 2007, the FASB issued SFAS No. 141(R), Business Combinations (“SFAS 141(R)”). SFAS 141(R) establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed and the goodwill acquired. This statement also establishes disclosure requirements to enable the evaluation of the nature and financial effect of the business combination. The Company is required to adopt SFAS 141(R) effective August 1, 2009. The Company is currently evaluating the potential impact of this statement.

In December 2007, the FASB issued SFAS No. 160, Non-controlling Interests in Consolidated Financial Statement (“SFAS 160”). This statement establishes accounting and reporting standards for non-controlling interests in consolidated financial statements. Early adoption is prohibited. The Company is required to adopt SFAS 160 effective August 1, 2009. Based on the Company’s current operations, it does not expect that the adoption of SFAS 160 will have a material impact on its financial position or results of operations.

In April 2008, the FASB issued a FASB Staff Position on SFAS No. 142-3, Determination of the Useful Life of Intangible Assets (“FSP FAS 142-3”). FSP FAS 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FASB Statement No. 142, Goodwill and Other Intangible Assets. The intent of this FSP is to improve the consistency between the useful life of a recognized intangible asset under Statement 142 and the period of expected cash flows used to measure the fair value of the asset under FASB Statement No. 141 (revised 2007), Business Combinations, and other U.S. generally accepted accounting principles. The Company is required to adopt FSP FAS 142-3 effective August 1, 2009. The Company is currently evaluating the potential impact of this statement.

In June 2008, the FASB issued Financial Statement of Position (“FSP”) EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities. FSP EITF 03-6-1 provides that unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and shall be included in the computation of earnings per share pursuant to the two-class method. The Company is required to adopt FSP EITF 03-6-1 effective August 1, 2009. Upon adoption, a company is required to retrospectively adjust its earnings per share data (including any amounts related to interim periods, summaries of earnings and selected financial data) to conform with the provisions of FSP EITF 03-6-1. The Company is currently evaluating the potential impact of this statement.

In April 2009, the FASB issued three FSPs related to fair value measurements, disclosures and other-than-temporary impairments. FSP FAS No. 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly (“FSP FAS 157-4”), provides additional guidance for estimating fair value in accordance with SFAS 157 when the volume and level of activity for an asset or liability have significantly decreased. FSP FAS 157-4 also includes guidance on identifying circumstances that indicate a transaction is not orderly. FSP FAS 115-2 and FSP FAS No. 124-2, Recognition and Presentation of Other-Than-Temporary Impairments, amends the other-than-temporary impairment guidance in U.S. GAAP to make the guidance more operational and to improve the presentation of other-than-temporary impairments in the financial statements. Finally, FSP FAS No. 107-1 and APB No. 28-1, Interim Disclosures About Fair Value of Financial Instruments, amends SFAS No. 107, Disclosures about Fair Value of Financial Instruments, to require disclosures about fair value of financial instruments in interim financial statements as well as in annual financial statements and also amends APB Opinion No. 28, Interim Financial Reporting, to require those disclosures in all interim financial statements. The three FSPs are effective for periods ending after June 15, 2009. Early adoption is permitted for periods ending after March 15, 2009, however, the Company elected to adopt the FSPs during the fourth quarter of 2009. The Company is evaluating the impact, if any, the FSPs will have on its consolidated financial statements.

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

In addition to historical information, this report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements include, among other things, statements concerning our expectations:

•		regarding the timing and amount of expenses we expect to incur as a result of our cost reduction efforts, as well as the annualized savings we expect to realize;
•		that revenues from our indirect channels will continue to constitute a significant majority of our future revenues;
•		that international revenues will increase in absolute dollars compared to fiscal 2008 and increase as a percentage of total revenues in future periods;
•		that, as our customer base grows, the proportion of our revenues represented by support revenues will increase;
•		that we will strategically hire employees throughout the company;
•		that we will continue to invest significantly in our research and development efforts;
•		that research and development expenses for fiscal 2009 will increase on an absolute dollar basis and remain consistent or decrease as a percentage of revenue compared with fiscal 2008;
•		that our operating expenses will increase at a slower rate as a result of our cost reduction measures;
•		that we will continue to invest strategically in our sales and marketing efforts, and in particular, that we will increase the number of sales personnel worldwide;
•		that sales and marketing expenses for fiscal 2009 will continue to be our most significant operating expense and will increase on an absolute dollar basis and decrease as a percentage of revenue compared with fiscal 2008;
•		that we will incur significant additional legal costs related to defending ourselves against claims made by outside parties;
•		that general and administrative expenses for fiscal 2009 will increase on an absolute dollar basis and as a percentage of revenue compared with fiscal 2008;
•		that ratable product and related professional services and support revenues will decrease in absolute dollars and as a percentage of total revenues in future periods;
•		that, as we expand internationally, we plan to continue to hire additional technical support personnel to support our growing international customer base; and
•		regarding the sufficiency of our existing cash, cash equivalents, short-term investments and cash generated from operations,

as well as other statements regarding our future operations, financial condition and prospects and business strategies. These forward-looking statements are subject to certain risks and uncertainties that could cause our actual results to differ materially from those reflected in the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in this report, and in particular, the risks discussed under the heading “Risk Factors” in Part II, Item 1A of this report and those discussed in other documents we file with the Securities and Exchange Commission. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements.

The following discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and related notes included elsewhere in this report.

Overview

We securely deliver the enterprise network to users, wherever they work or roam, with user-centric networks that expand the reach of traditional port-centric networks. User-centric networks integrate adaptive wireless local area networks (“WLANs”), application continuity services, and identity-based security into a cohesive, high-performance system that can be deployed as an overlay to existing enterprise networks. Adaptive WLANs deliver high-performance, follow-me connectivity so users are always connected. Application continuity services enable follow-me applications that can be seamlessly accessed across WLANs and cellular networks. Identity-based security associates access policies with users, not ports, to enable follow-me security that is enforced regardless of access method or location. The products we license and sell include the ArubaOS operating system, optional value-added software modules, a centralized and vendor neutral mobility management system, high-performance programmable Mobility Controllers, wired and wireless access points, wireless intrusion detection tools, spectrum analyzers, and endpoint compliance solutions.

Our products have been sold to over 7,200 end customers worldwide (not including customers of Alcatel-Lucent, our largest channel partner), including some of the largest and most complex global organizations. We have now implemented a two-tier distribution model in most areas of the world, including the US, with value-added distributors (“VADs”) providing our portfolio of products, including a variety of our support services, to a diverse number of value-added resellers (“VARs”). Our focus continues to be management of our channel including selection and growth of high prospect partners, activation of our VARs and VADs through active training and field collaboration, and evolution of our channel programs in consultation with our partners.

Our ability to increase our product revenues will depend significantly on continued growth in the market for enterprise mobility solutions, continued acceptance of our products in the marketplace, our ability to continue to attract new customers, our ability to compete against both publicly traded companies as well as privately-held competitors, and our ability to continue to sell into our installed base of existing customers. Our growth in support revenues is dependent upon increasing the number of products under support contracts, which is dependent on both growing our installed base of customers and renewing existing support contracts. Our future profitability and rate of growth, if any, will be directly affected by the continued acceptance of our products in the marketplace, as well as the timing and size of orders, product and channel mix, average selling prices, costs of our products and general economic conditions. Our ability to attain profitability will also be affected by our ability to effectively implement and generate incremental business from our two-tier distribution model, the extent to which we invest in our sales and marketing, research and development, and general and administrative resources to grow our business, and current economic conditions.

Economic conditions worldwide have negatively impacted our business. While we believe in the long-term growth prospects of the WLAN market, the deterioration in overall economic conditions, and, in particular, tightening in the credit markets and reduced spending by both enterprises and consumers have significantly impacted various industries on which we rely for purchasing our products. This has led to our customers deferring purchases in response to tighter credit, negative financial news and delayed budget approvals. For example, we have recently experienced softness in the retail vertical market, as our customers in the retail industry continue to struggle with these economic challenges.

While we have seen signs of some stabilization and improved visibility in the third quarter of fiscal 2009 relative to the first six months of fiscal 2009, the economic turmoil in the United States, the continuing credit crisis that has affected worldwide financial markets, the significant volatility in the stock markets and other current negative macroeconomic indicators, such as the global recession, or uncertainty or further weakening in key vertical or geographic markets, have resulted in reductions in capital expenditures by end-user customers for our products, longer sales cycles, the deferral or delay of purchase commitments for our products and increased competition. These factors have created significant and increasing uncertainty for the future as they could continue to negatively impact technology spending for the products and services we offer and materially adversely affect our business, operating results and financial condition.

The revenue growth that we have experienced has been driven primarily by an expansion of our customer base coupled with increased purchases from existing customers. We believe the growth we have experienced is the result of business enterprises needing to provide secure mobility to their users in a manner that we believe is more cost effective than the traditional approach of using port-centric networks. While we have experienced both longer sales cycles and seasonality, both of which have slowed our revenue growth, we believe that, without the effect of the current economic conditions, our revenues may have increased at a higher rate during fiscal 2009.

Each quarter, our ability to meet our product revenue expectations is dependent upon (1) new orders received, shipped, and recognized in a given quarter, (2) the amount of orders booked but not shipped in the prior quarter, and (3) the amount of deferred revenue entering a given quarter. Our product deferred revenue is comprised of revenue associated with product orders that have shipped but where the terms of the agreement contain acceptance language or other terms that require that the revenue be deferred until all revenue recognition criteria are met, as well as those customer contracts that we entered into prior to our establishment of VSOE of fair value. We typically ship products within a reasonable time period after the receipt of an order and our ability to meet our forecasted product revenue is dependent on our ability to convert our sales pipeline into product revenues from orders received and shipped within the same fiscal quarter.

On November 14, 2008, as a result of the macroeconomic downturn, our board of directors approved a plan to reduce our costs and streamline operations through a combination of a reduction in our work force and the closing of certain facilities. The majority of the reduction in our work force was completed in the second quarter of fiscal 2009 and the remaining reduction was completed in the third quarter of fiscal 2009. The reduction in our work force resulted in the termination of 46 employees worldwide, or about 8% of our global work force. Expenses associated with the work force reduction, which were comprised primarily of severance and benefits payments as well as professional fees associated with career transition services, totaled $1.1 million. Additionally, we closed facilities in California and North Carolina and incurred facility exit costs of $0.3 million as a result. These expenses were recorded in the second quarter of fiscal 2009. These cost reduction efforts, when added to our other cost control measures, resulted in a savings of approximately $2.0 million during the second quarter of fiscal 2009. We expect to realize an additional $5.0 million to $6.0 million in additional savings through the end of fiscal 2009 based on all of our cost reduction efforts.

On February 17, 2009, we commenced an exchange offer to allow certain of our employees the opportunity to exchange all or a portion of their eligible outstanding stock options for the same number of new options. The new options had an exercise price of $2.91, equal to the closing price per share of our common stock on March 17, 2009. Stock options held by eligible employees with exercise prices above this closing price were eligible for the exchange offer. Generally, all employees who hold options, other than our board members, Section 16 officers and employees located in China, France, India or the Netherlands, were eligible to participate in the program.

The number of shares of common stock subject to outstanding options did not change as a result of the exchange offer. New options issued as part of the exchange offer are subject to a new vesting schedule in which one-third of the shares subject to each new option grant will vest on the one-year anniversary of the new grant date with the remaining shares vesting in equal monthly installments over the following two years. The new options will have a maximum term of seven years following the new grant date. We will recognize $3.4 million in incremental stock-based compensation expense over the vesting period of the new grants. We recognized $0.6 million in incremental stock-based compensation expense arising from the new grants for the third quarter and first nine months of fiscal 2009.

Revenues, Cost of Revenues and Operating Expenses

Revenues

We derive our revenues from sales of our ArubaOS operating system, controllers, wired and wireless access points, application software modules, multi-vendor management solution software, and professional services and support. Professional services revenues consist of consulting and training services. Consulting services primarily consist of installation support services. Training services are instructor led courses on the use of our products. Support revenues typically consist of software updates, on a when and if available basis, telephone and internet access to technical support personnel and hardware support. We provide customers with rights to unspecified software product upgrades and to maintenance releases and patches released during the term of the support period.

We sell our products directly through our sales force and indirectly through VADs, VARs, distributors and original equipment manufacturers (“OEMs”). We expect revenues from indirect channels to continue to constitute a substantial majority of our future revenues.

We sell our products to channel partners and end customers located in the Americas, Europe, the Middle East, Africa and Asia Pacific. Shipments to our channel partners that are located in the United States are classified as U.S. revenue regardless of the location of the end customer. We continue to expand into international locations and introduce our products in new markets, and we expect international revenues to increase in absolute dollars and as a percentage of total revenues in future periods. For more information about our international revenues, see Note 12 of Notes to Consolidated Financial Statements.

In 2005, we began to sell our products to Alcatel-Lucent, one of our OEMs, which, in turn, sells our products under its own brand name. Alcatel-Lucent accounted for 16.5% and 13.2% of our revenues for the three and nine months ended April 30, 2009, respectively, and 11.8% and 10.8% for the three and nine months ended April 30, 2008, respectively.

Cost of Revenues

Cost of product revenues consists primarily of manufacturing costs for our products, shipping and logistics costs, and expenses for inventory obsolescence and warranty obligations. We utilize third parties to manufacture our products and perform shipping logistics. We have outsourced the substantial majority of our manufacturing, repair and supply chain operations. Accordingly, the substantial majority of our cost of revenues consists of payments to Flextronics, our contract manufacturer. Flextronics manufactures our products in China and Singapore using quality assurance programs and standards that we jointly established. Manufacturing, engineering and documentation controls are conducted at our facilities in Sunnyvale, California and Bangalore, India. Cost of product revenues also includes amortization expense from our purchased intangible assets.

Cost of professional services and support revenues is primarily comprised of the personnel costs, including stock-based compensation, of providing technical support, including personnel costs associated with our internal support organization. In addition, we employ a third-party support vendor to complement our internal support resources, the costs of which are included within costs of professional services and support revenues.

Gross Margin

Our gross margin has been, and will continue to be, affected by a variety of factors, including:

	•		the proportion of our products that are sold through direct versus indirect channels;
	•		new product introductions and enhancements both by us and by our competitors;
	•		product mix and average selling prices;
	•		pressure to discount our products in response to our competitor’s discounting practices;
	•		demand for our products and services;
	•		our ability to attain volume manufacturing pricing from Flextronics and our component suppliers;
	•		losses associated with excess and obsolete inventory;
	•		growth in our headcount and other related costs incurred in our customer support organization; and
	•		amortization expense from our purchased intangible assets.

Due to higher net effective discounts for products sold through our indirect channel, our overall gross margins for indirect channel sales are typically lower than those associated with direct sales. We expect product revenues from our indirect channel to continue to constitute a substantial majority of our total revenues, which, by itself, negatively impacts our gross margins.

Operating Expenses

Operating expenses consist of research and development, sales and marketing, and general and administrative expenses. The largest component of our operating expenses is personnel costs. Personnel costs consist of salaries, benefits and incentive compensation for our employees, including commissions for sales personnel and stock-based compensation for all employees.

Our headcount increased from 541 employees at July 31, 2008 to 570 employees at October 31, 2008, and then declined to 531 employees at January 31, 2009 and April 30, 2009. On November 14, 2008, our board of directors approved a plan to reduce our costs and streamline operations, through a combination of a reduction in work force and closing certain facilities. As of April 30, 2009, we terminated 46 employees worldwide, or about 8% of our global work force. We completed our reduction in work force in the third quarter of fiscal 2009. Going forward, we expect to continue to strategically hire employees throughout the company as well as invest in research and development.

Research and development expenses primarily consist of personnel costs and facilities costs. We expense research and development expenses as incurred. We are devoting substantial resources to the continued development of additional functionality for existing products and the development of new products. We intend to continue to invest significantly in our research and development efforts because we believe it is essential to maintaining our competitive position. For fiscal 2009, we expect research and development expenses to increase on an absolute dollar basis and remain consistent or decrease as a percentage of revenue compared to fiscal 2008. However, we expect research and development expenses will increase at a slower rate as a result of our cost reduction measures.

Sales and marketing expenses represent the largest component of our operating expenses and primarily consist of personnel costs, sales commissions, marketing programs and facilities costs. Marketing programs are intended to generate revenue from new and existing customers and are expensed as incurred.

We plan to continue to invest strategically in sales and marketing with the intent to add new customers and increase penetration within our existing customer base, expand our domestic and international sales and marketing activities, build brand awareness and sponsor additional marketing events. We expect future sales and marketing expenses to continue to be our most significant operating expense. Generally, sales personnel are not immediately productive, and thus, the increase in sales and marketing expenses that we experience as we hire additional sales personnel is not expected to immediately result in increased revenues and reduces our operating margins until such sales personnel become productive and generate revenue. Accordingly, the timing of sales personnel hiring and the rate at which they become productive will affect our future performance. For fiscal 2009, we expect sales and marketing expenses to increase on an absolute dollar basis and decrease as a percentage of revenue compared to fiscal 2008. However, we expect sales and marketing expenses will increase at a slower rate as a result of our cost reduction measures.

General and administrative expenses primarily consist of personnel and facilities costs related to our executive, finance, human resource, information technology and legal organizations, as well as insurance, investor relations, and IT infrastructure costs related to our new ERP system. Further, our general and administrative expenses include professional services consisting of outside legal, audit, Sarbanes-Oxley and information technology consulting costs. We expect that we will incur significant additional legal costs related to defending ourselves against claims made by outside parties, such as the claims described below in Part II, Item 1 of this report. For fiscal 2009, we expect general and administrative expenses to increase on an absolute dollar basis and as a percentage of revenue compared to fiscal 2008. However, we expect general and administrative expenses will increase at a slower rate as a result of our cost reduction measures.

Stock-Based Compensation

We recognized $5.5 million and $18.2 million of stock-based compensation for the three and nine months ended April 30, 2009, respectively, and $4.3 million and $13.6 million for the three and nine months ended April 30, 2008.

Other Income (Expense), net

Other income (expense), net includes interest income on cash balances, accretion of discount or amortization of premium on short-term investments, interest expense, and losses or gains on remeasurement of non-U.S. dollar transactions into U.S. dollars. Cash has historically been invested in money market funds and marketable securities.

Critical Accounting Policies

Our consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). These accounting principles require us to make estimates and judgments that affect the reported amounts of assets and liabilities as of the date of the consolidated financial statements, as well as the reported amounts of revenues and expenses during the periods presented. We believe that the estimates and judgments upon which we rely are reasonable based upon information available to us at the time that these estimates and judgments are made. To the extent there are material differences between these estimates and actual results, our consolidated financial statements will be affected. The accounting policies that reflect our more significant estimates and judgments and which we believe are the most critical to aid in fully understanding and evaluating our reported financial results include revenue recognition, stock-based compensation, inventory valuation, allowances for doubtful accounts, income taxes, and goodwill and purchased intangible assets.

Revenue Recognition

Our revenues are derived primarily from two sources: (1) product revenue, including hardware and software products, and (2) related professional services and support revenue. Support typically includes software updates, on a when and if available basis, telephone and internet access to technical support personnel and hardware support. We provide our customers with rights to unspecified software product upgrades and to maintenance releases and patches released during the term of the support period. Revenues for support services are recognized on a straight-line basis over the service contract term, which is typically between one year and five years.

We account for revenues in accordance with Statement of Position No. 97-2, Software Revenue Recognition, and all related amendments and interpretations (“SOP 97-2”) because our products are integrated with software that is essential to their functionality and because we provide unspecified software upgrades and enhancements related to the equipment through support agreements.

Typically, our sales involve multiple elements, such as sales of products that include support, training and/or consulting services. When a sale involves multiple elements, we allocate the entire fee from the arrangement to each respective element based on its VSOE of fair value and recognize revenue when each element’s revenue recognition criteria are met. VSOE of fair value for each element is established based on the sales price we charge when the same element is sold separately. If VSOE of fair value cannot be established for the undelivered element of an agreement, when the undelivered element is support, the entire amount of revenue from the arrangement is deferred and recognized ratably over the period that the support is delivered. Prior to the second quarter of fiscal 2006, we had not been able to establish VSOE of fair value in accordance with SOP 97-2 at the outset of our arrangements. Accordingly, prior to the second quarter of 2006, we recognized revenue for the entire transaction ratably over the support period, as the only undelivered element was typically support.

Beginning in the second quarter of fiscal 2006, we were able to establish VSOE of fair value at the outset of our arrangements as we established a new support and services pricing policy, with different services and support offerings than were previously sold. We also began selling support services separately from our arrangements in the form of support renewals. Accordingly, beginning in the second quarter of fiscal 2006, we began recognizing product revenues upon delivery using the residual method for transactions where all other revenue recognition criteria were met. As we had not been able to establish VSOE on our prior services and support offerings, all transactions prior to the second quarter of fiscal 2006 continue to be recognized ratably over the support period.

We recognize revenue only when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectibility is probable. Additionally, we recognize revenue from indirect sales channel partners upon persuasive evidence provided by our indirect channel customers of a sale to an end customer. If a sale to an end customer has not occurred by the end of the month, the goods remain in the partner’s inventory pending a sale to an end customer. This inventory is classified on the consolidated balance sheet as deferred costs until the sale to an end customer occurs and the persuasive evidence of the sale is provided. The amount of inventory held by resellers pending a sale to an end customer was $0.9 million and $1.7 million as of April 30, 2009 and July 31, 2008, respectively.

The related sale of support services to a reseller occurs when a specific sale to an end customer occurs. If the sale of support services occurs at the same time as we receive the initial purchase order from the reseller, the support services are included on that purchase order and recognized ratably over the related support period, commencing on delivery to the end customer. If the sale of support services occurs after we receive the initial purchase order, the support services for the specific product sales are purchased on a subsequent purchase order at the time the point-of-sale (“POS”) report is provided for all product sales that occurred during the month. The support services are recognized ratably over the related support period, commencing from the delivery date to each respective end customer.

PCS services that we provide to our channel partners differ from PCS that we provide to our end customers in that we are only obligated to provide support services to the channel partner directly, while the channel partner is obligated to provide support services directly to the end customer. The channel partner is obligated to provide Level 1 and Level 2 support services to the end customer, including technical support and RMA fulfillment, while our obligations are only to provide software upgrades and Level 3 technical support in the unusual scenario in which the channel partner is unable to provide the technical support that the end customer requires.

Stock-Based Compensation

We apply the provisions of SFAS No. 123R which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors based on estimated fair values. Our share-based payment awards include stock options, restricted stock units and awards, and employee stock purchase plan awards. This methodology requires the use of subjective assumptions in implementing SFAS 123R, including expected stock price volatility and the estimated term of each award. We calculate the fair value of restricted stock-based on the fair market value of our stock on the date of grant. We calculate the fair value of stock options and employee stock purchase plan shares on the date of grant using the Black-Scholes option-pricing model. The determination of the fair value of stock-based payment awards using an option-pricing model is affected by our stock price, as well as assumptions regarding a number of variables. These variables include our expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, risk-free interest rates and expected dividends. This fair value is then amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period. This model also utilizes the fair value of our common stock and requires that, at the date of grant, we use the expected term of the stock-based award, the expected volatility of the price of our common stock over the expected term, the risk free interest rate and the expected dividend yield of our common stock to determine the estimated fair value. We determine the amount of stock-based compensation expense based on awards that we ultimately expect to vest, reduced for estimated forfeitures. SFAS 123R requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. In addition, compensation expense includes the effects of awards modified, repurchased or cancelled. Employee stock-based compensation related to unvested awards is being amortized on a straight-line basis.

Goodwill and Intangibles

We apply SFAS No. 142, Goodwill and Other Intangible Assets and perform an annual goodwill impairment test. For purposes of impairment testing, we have determined that we have only one reporting unit. The identification and measurement of goodwill impairment involves the estimation of the fair value of the Company. These estimates of fair value are based on the best information available as of the date of the assessment, which primarily includes our market capitalization. We did not recognize impairment charges in any of the periods presented.

Purchased intangible assets with finite lives are amortized using the straight-line method over the estimated economic lives of the assets, which range from two to seven years. Long-lived assets, including intangible assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. Some factors we consider important which could trigger an impairment review include the following:

	•		significant underperformance relative to estimated results;
	•		significant changes in the manner of our use of the acquired assets or the strategy for our overall business; and
	•		significant negative industry or economic trends.

Determination of recoverability of purchased intangible assets is based on an estimate of undiscounted future cash flows resulting from the use of the asset and its eventual disposition. Measurement of an impairment loss is based on the fair value of the asset. We did not recognize impairment charges in any of the periods presented.

Screening for and assessing whether impairment indicators exist or if events or changes in circumstances have occurred, including market conditions, operating fundamentals, competition and general economic conditions, requires significant judgment. Additionally, changes in the technology industry occur frequently and quickly. Therefore, there can be no assurance that a charge to operations will not occur as a result of future goodwill and purchased intangible impairment tests.

Inventory Valuation

Inventory consists of hardware and related component parts and is stated at the lower of cost or market. Cost is computed using the standard cost, which approximates actual cost, on a first-in, first-out basis. We record inventory write-downs for potentially excess inventory based on forecasted demand, economic trends, technological obsolescence of our products and transition of inventory related to new product releases. If future demand or market conditions are less favorable than our projections, additional inventory write-downs could be required and would be reflected in cost of product revenues in the period the revision is made. At the point of the loss recognition, a new, lower-cost basis for that inventory is established, and subsequent changes in facts and circumstances do not result in the restoration or increase in that newly established cost basis. Inventory write-downs amounted to $1.9 million and $3.3 million in the three and nine months ended April 30, 2009, respectively, and $0.3 million and $0.8 million in the three and nine months ended April 30, 2008, respectively.

Allowances for Doubtful Accounts

We record a provision for doubtful accounts based on historical experience and a detailed assessment of the collectibility of our accounts receivable. In estimating the allowance for doubtful accounts, our management considers, among other factors, (1) the aging of the accounts receivable, including trends within and ratios involving the age of the accounts receivable, (2) our historical write-offs, (3) the credit-worthiness of each customer, (4) the economic conditions of the customer’s industry, and (5) general economic conditions, especially given the recent financial crisis in today’s economic environment. In cases where we are aware of circumstances that may impair a specific customer’s ability to meet their financial obligations to us, we record a specific allowance against amounts due from the customer, and thereby reduce the net recognized receivable to the amount we reasonably believe will be collected. The allowance for doubtful accounts was $0.5 million and $0.6 million at April 30, 2009 and July 31, 2008, respectively.

Income Taxes

We use the asset and liability method of accounting for income taxes in accordance with FASB Statement No. 109, Accounting for Income Taxes. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets are recognized for deductible temporary differences, along with net operating loss carryforwards, if it is more likely than not that the tax benefits will be realized. The ultimate realization of the deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences, research and credit carryforwards and net operating loss carryforwards are deductible. To the extent deferred tax assets cannot be recognized under the preceding criteria, a valuation allowance is established.

Based on the available objective evidence, including the fact that we have generated losses since inception, management believes it is more likely than not that the deferred tax assets will not be realized. Accordingly, management has applied a full valuation allowance against our deferred tax assets.

Recent Accounting Pronouncements

See Note 14 of Notes to Consolidated Financial Statements for recent accounting pronouncements that could have an effect on us.

Results of Operations

The following table presents our historical operating results as a percentage of revenues for the periods indicated:

		Three months ended April 30,								Nine months ended April 30,
		2009				2008				2009				2008
Revenues:
Product			78.2	%			83.3	%			81.2	%			83.2	%
Professional services and support			21.1	%			14.7	%			18.0	%			14.7	%
Ratable product and related professional services and support			0.7	%			2.0	%			0.8	%			2.1	%
Total revenues			100.0	%			100.0	%			100.0	%			100.0	%
Cost of revenues:
Product			30.6	%			26.3	%			30.1	%			26.2	%
Professional services and support			4.0	%			3.9	%			3.8	%			4.5	%
Ratable product and related professional services and support			0.2	%			0.7	%			0.3	%			0.8	%
Gross margin			65.2	%			69.1	%			65.8	%			68.5	%
Operating expenses:
Research and development			21.2	%			22.9	%			20.8	%			20.9	%
Sales and marketing			44.2	%			49.8	%			45.6	%			47.5	%
General and administrative			12.8	%			11.1	%			11.8	%			10.2	%
Acquisition related expenses			0.0	%			0.5	%			0.0	%			0.2	%
Restructuring expenses			0.0	%			0.0	%			1.0	%			0.0	%
Operating margin			(13.0	%)			(15.2	%)			(13.4	%)			(10.3	%)
Other income (expense), net			0.9	%			1.2	%			0.8	%			2.9	%
Loss before income taxes			(12.1	%)			(14.0	%)			(12.6	%)			(7.4	%)
Provision for income taxes			0.5	%			0.6	%			0.4	%			0.5	%
Net loss			(12.6	%)			(14.6	%)			(13.0	%)			(7.9	%)