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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
 
     
þ
  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the fiscal year ended July 31, 2011
     
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: 001-33347
 
Aruba Networks, Inc.
(Exact name of registrant as specified in its charter)
 
 
     
Delaware
(State or other jurisdiction of
incorporation or organization)
  02-0579097
(I.R.S. Employer
Identification No.)
 
1344 Crossman Ave.
Sunnyvale, California 94089-1113
(408) 227-4500
(Address, including zip code, and telephone number,
including area code, of registrant’s principal executive offices)
 
 
Securities registered pursuant to Section 12(b) of the Act:
 
     
Title of Each Class   Name of Exchange on Which Registered
 
Common Stock, par value $0.0001 per share
  The NASDAQ Stock Market LLC
(NASDAQ Global Select Market)
 
Securities registered pursuant to 12(g) of the Act:
None
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes þ     No o
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o     No þ
 
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 þ     No o
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  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 þ Accelerated filer o 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 Act.) Yes o     No þ
 
As of January 31, 2011, the last business day of the registrant’s most recently completed second fiscal quarter, the aggregate market value of the registrant’s common stock held by non-affiliates was approximately $2,063,670,475, based on the closing price of such stock reported for such date on the NASDAQ Global Select Market. This calculation does not reflect a determination that persons are affiliates for any other purposes.
 
The number of outstanding shares of the registrant’s common stock was 105,678,491 as of September 14, 2011.
 
DOCUMENTS INCORPORATED BY REFERENCE
 
Portions of the registrant’s Proxy Statement for the 2011 Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission within 120 days after the end of the registrant’s fiscal year ended July 31, 2011 are incorporated by reference into Part III of this Annual Report on Form 10-K.
 


 

 
TABLE OF CONTENTS
 
                 
        Page
 
 
PART I
  Item 1.     Business     4  
  Item 1A.     Risk Factors     13  
  Item 1B.     Unresolved Staff Comments     29  
  Item 2.     Properties     30  
  Item 3.     Legal Proceedings     30  
  Item 4.     Reserved     30  
 
PART II
  Item 5.     Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities     31  
  Item 6.     Selected Consolidated Financial Data     33  
  Item 7.     Management’s Discussion and Analysis of Financial Condition and Results of Operations     34  
  Item 8.     Consolidated Financial Statements and Supplementary Data     54  
  Item 9.     Changes in and Disagreements With Accountants on Accounting and Financial Disclosure     90  
  Item 9A.     Controls and Procedures     90  
  Item 9B.     Other Information     90  
 
PART III
  Item 10.     Directors, Executive Officers and Corporate Governance     90  
  Item 11.     Executive Compensation     91  
  Item 12.     Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters     91  
  Item 13.     Certain Relationships and Related Transactions and Director Independence     91  
  Item 14.     Principal Accountant Fees and Services     91  
 
PART IV
  Item 15.     Exhibits and Financial Statement Schedule     91  
Signatures     92  
Index to Exhibits     93  
 EX-10.5
 EX-10.13
 EX-10.14
 EX-10.21
 EX-10.28
 EX-10.29
 EX-10.31
 EX-10.40
 EX-10.41
 EX-10.47
 EX-21.1
 EX-23.1
 EX-31.1
 EX-31.2
 EX-32.1
 EX-101 INSTANCE DOCUMENT
 EX-101 SCHEMA DOCUMENT
 EX-101 CALCULATION LINKBASE DOCUMENT
 EX-101 LABELS LINKBASE DOCUMENT
 EX-101 PRESENTATION LINKBASE DOCUMENT
 EX-101 DEFINITION LINKBASE DOCUMENT


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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. You can identify these forward-looking statements by words such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “predict,” “potential,” “should,” “will,” “would” and other similar expressions. These statements include, among other things, statements concerning our expectations:
 
  •  that revenues from our indirect channels will continue to constitute a significant majority of our future revenues;
 
  •  that competition will intensify in the future as other companies introduce new products in the same markets we serve or intend to enter;
 
  •  that our product offerings, in particular our products that incorporate 802.11n wireless local area network (“LAN”) standard technologies, will enable broader networking initiatives by both our current and potential customers;
 
  •  regarding the factors that will affect our gross margins;
 
  •  regarding the growth of our offshore operations and the establishment of additional offshore capabilities for certain general and administrative functions;
 
  •  that, within our indirect channel, sales through our value-added distributors (“VADs”) and original equipment manufacturers (“OEMs”) will continue to be significant, which will negatively impact our gross margins as VADs and OEMs experience a larger net effective discount than our other channel partners;
 
  •  that international revenues will increase in absolute dollars and remain consistent or increase as a percentage of total revenues in future periods compared with fiscal 2011;
 
  •  that we will continue to hire employees;
 
  •  that we will continue to invest significantly in our research and development efforts;
 
  •  that research and development expenses for fiscal 2012 will increase on an absolute dollar basis and decrease as a percentage of revenue compared with fiscal 2011;
 
  •  regarding continued momentum in our network rightsizing and MOVE architecture initiatives;
 
  •  that we will continue to invest strategically in our sales and marketing efforts;
 
  •  that sales and marketing expenses for fiscal 2012 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 2011;
 
  •  that general and administrative expenses for fiscal 2012 will increase on an absolute dollar basis and decrease as a percentage of revenue compared with fiscal 2011;
 
  •  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 may incur additional costs to conform our products to comply with local laws and product specifications, and we plan to continue to hire additional personnel to support our growing international customer base;
 
  •  regarding the sufficiency of our existing cash, cash equivalents, short-term investments and cash generated from operations, and
 
  •  that we will increase our market penetration and extend our geographic reach through our network of channel partners,
 
as well as other statements regarding our future operations, financial condition and prospects and business strategies. These forward-looking statements are based on information available to us as of the date of this report and current expectations, forecasts and assumptions are subject to certain risks and uncertainties that could cause


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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 I, Item 1A of this report and those discussed in other documents we file with the Securities and Exchange Commission (“SEC”). Our forward-looking statements should not be relied upon as representing our views as of any subsequent date, and we are under no obligation to, and expressly disclaim any responsibility to, update or alter our forward-looking statements, whether as a result of new information, future events or otherwise. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements.
 
The following information should be read in conjunction with the Consolidated Financial Statements and the accompanying Notes to Consolidated Financial Statements included in this report.
 
PART I
 
ITEM 1.   BUSINESS
 
Overview
 
Aruba Networks is a leading provider of next-generation network access solutions for the mobile enterprise. Our product portfolio encompasses industry-leading high-speed 802.11n wireless local area networks (“WLANs”), Virtual Branching Networking solutions for branch offices and teleworkers, network operations tools, including spectrum analyzers, wireless intrusion prevention systems, and the AirWave Wireless Management Suite for managing wired, wireless, and mobile device networks. During the third quarter of fiscal 2011, we introduced our new Mobile Virtual Enterprise (“MOVE”) architecture. Our MOVE architecture unifies wired and wireless network infrastructures into one seamless access solution for corporate headquarters, mobile business professionals, remote workers and guests. This unified approach to access networks dramatically improves productivity and lowers capital and operational costs compared to wired networks.
 
Our products have been sold to over 15,500 end customers worldwide (not including customers of Alcatel-Lucent), including some of the largest and most complex global organizations. We have implemented a two-tier distribution model in most areas of the world, including the United States (“U.S.”), with VADs selling 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.
 
Industry Background
 
Network users are increasingly mobile and depend on continuous access to enterprise networks in order to work productively in the office, at home, or on the road. No longer just a convenience, mobile computing and connectivity are business critical infrastructure that must deliver to mobile users the same experience, access to data, and security as they would enjoy at the office.
 
Most critically, businesses of all types are being overrun by employee-owned mobile devices on the network, and many are seeking to deploy these devices en masse as well. Most current deployed networks are designed for a port-based architecture, with mobility as an added convenience and “best-effort” solution.
 
Our vision is to transform the way that organizations design, deploy, manage and maintain user access networks to deliver a wide range of applications, from data to voice and video, to users wherever and whenever they want. This strategy is delivered via our MOVE architecture.
 
Our MOVE architecture is unique in that it is context-aware, taking user, device, location and application into account when applying security and management policies over the network. Context-awareness also helps ensure application performance and network reliability. This enables customer organizations to rightsize their networks, reducing the number of physical ports. It also helps ensure secure connectivity for tablets and smartphones. This


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enables access networks to be built at a fraction of the cost of traditionally overprovisioned and undersubscribed ethernet-switch based access networks, while providing greater utility, utilization, security and visibility.
 
Effectively implemented, secure mobility solutions offer a significant competitive advantage by allowing resources to be used optimally and at the lowest cost. We expect that ultimately every workplace will be all-wireless, and users will be completely un-tethered from restrictive wired networks.
 
Delivering secure mobility solutions requires that certain challenges be overcome:
 
  •  Enabling both security and mobility — Radio waves cannot be confined within a building’s walls, challenging traditional wired network physical security models that depend on an impenetrable perimeter. To enable mobility, network access privileges and permissions must be clearly defined on a per-user basis to enable secure access and the reliable delivery of data, voice, video, and other applications to mobile users. Unauthorized wireless devices that could potentially circumvent network security must be detected and prevented.
 
  •  Delivering applications reliably in a mobile environment — Without special handling, many applications that are intended to be delivered over a fixed network may perform sub-optimally in a mobile environment. This is especially true for mission-critical data and latency-sensitive voice and video applications. Enabling a network to recognize and adapt to an application — so-called “application awareness” — is essential if data, voice and video are to be delivered reliably and with full fidelity.
 
  •  System integration — Enterprise-class mobility solutions require more than just wireless access. Security, application, network, and radio frequency (“RF”) management services are also necessary, potentially increasing the complexity of a system as it grows in size and scope. To be effective, a mobility solution must minimize deployment and integration complexity, and support massive scalability, without requiring expensive upgrades to existing networking infrastructure.
 
  •  Network and operations management — The management system is the heart of any secure mobility solution because it so profoundly affects up-time, ease-of-use, information technology (“IT”) overhead, and on-going operating costs. Essential tasks like network set-up, diagnostics, report generation, maintenance, and software upgrades require an efficient centralized management system that encompasses wired, wireless, and mobile device networks. To ease the transition from legacy to new 802.11n Wi-Fi networks — and make the most of existing capital investments — it is imperative that the management system seamlessly integrate devices from multiple vendors into a single management console.
 
  •  Support for emerging mobile applications — Secure mobility solutions need to be future-proof, ready to support emerging applications such as high definition video, unified communications, real-time telemetry, wide-area smart grid over resilient mesh, large-scale telework, and location-based services such as asset tracking and inventory management.
 
Our Solution
 
We believe that our user-centric networks are fundamentally different from alternative mobility solutions. In traditional enterprise networks, users are connected to physical ports using wire cables. These port-centric architectures assume a static relationship between a user and a data port, and the network access policies and application delivery priorities are not designed to accommodate — and therefore limit — user mobility away from that port. To enable user mobility, the fixed ports must either be opened so any user can connect from any port, or they must be connected to wireless LANs. Both of these options reduce network security and application performance in a port-centric architecture. To allow remote users to securely access a port-centric network, enterprises commonly deploy virtual private networks (“VPNs”), which increase cost and complexity while often degrading the user experience and application performance. None of these alternatives address the fundamental challenge of convenient and secure user access, reliable application delivery, or delivery of a consistent user experience across both wireless and wired networks at local and remote locations.
 
We address the secure mobility problem using a user-centric architecture that assigns network access policies to users instead of to data ports or other infrastructure. As soon as a user is authenticated by our policy enforcement


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firewall, access policies are immediately enforced for that individual, regardless of whether they are working in the office, from home, or on the road. Our security mechanisms allows unrestricted mobility and a common user experience whenever and wherever the network is accessed.
 
While this design puts wireless networking on an equal footing with wired networks with respect to security, it also enhances mobility and potentially increases user productivity and operational efficiencies. Within a campus environment these benefits are typically realized by customers who “rightsize” their networking infrastructure by deploying Wi-Fi wherever it is possible to do so, and wired ethernet only where there is no wireless alternative. For users at branch offices or on the road, user-centric technology extends the enterprise network wherever it is needed. Leveraging this capability, our Virtual Branch Networking solution delivers an “in-the-office” experience to fixed teleworker and branch office users across town and around the world.
 
Other key elements of our user-centric architecture include:
 
  •  Adaptive wireless — Adaptive 802.11n wireless LANs enhance productivity and collaboration by delivering high performance wireless data, voice, and video connections even in environments with densely deployed clients and high levels of RF interference. Our solutions scale for campus applications yet remain cost-effective for small branch deployments. They can be used both indoors and outdoors, and incorporate secure enterprise mesh for completely wireless networking.
 
  •  Identity-based security — IT departments can deliver authentication, encryption, and access control services to all users via a single integrated, low-power appliance. VPN termination appliances and access control firewalls are not required, reducing IT overhead and expenses.
 
  •  Application-awareness — Our user-centric network is application-aware — it knows what type of applications are running on the network — and will dynamically adjust itself to improve the performance of data, voice, and video applications. IT managers can define policies that prioritize and optimize services based on the specific user and/or the application being delivered.
 
  •  Vendor-agnostic operations management — Our AirWave Wireless Management Suite is a multi-vendor network management platform that provides business-critical insights into the operation of wireless networks made by a wide variety of different vendors. Whether managing a single vendor network, or a multi-vendor legacy system in transition to 802.11n, the AirWave platform extends the life of existing infrastructure investments and lowers IT overhead associated with managing a dynamic network.
 
  •  Easy to deploy, easy to use — We have designed our architecture as a non-disruptive overlay to existing enterprise networks, allowing our networks to be quickly deployed without replacing existing infrastructure. Additionally, we have integrated all of the disparate elements of enterprise mobility — security, application, network and RF management services — into a single architecture, making it easier and less expensive to deploy.
 
  •  Cost-effective scalability — We believe our architecture provides industry-leading scalability through its ability to support significant numbers of concurrent users from a single centralized point of control. In addition, our integrated solution reduces the amount and type of equipment required to enable mobility within a given location. As a result, our architecture enhances management efficiency and reduces equipment and personnel costs, allowing enterprise IT managers to scale enterprise mobility solutions in a cost-effective manner.
 
  •  Flexible platform supports emerging applications — By combining the flexibility of modular software with high-performance, programmable hardware, customers can rapidly implement updates, upgrades, and new features with no or minimal equipment changes.
 
  •  Remote networking — Virtual Branch Networking extends the benefits of centralized management and secure networking to branch offices, teleworkers, and road warriors. Simple to deploy, use and maintain — and with the option to use 3G cellular broadband connections — these remote networking solutions extend the enterprise network virtually anywhere.


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  •  Network rightsizing — Network rightsizing enables customers to lower operating expenses and reduce their carbon footprint by bringing their wired and wireless LAN infrastructure in line with actual user demand. Rightsizing is a three-step process that involves assessing wired ethernet LAN utilization, consolidating edge switches to meet actual usage, and expanding the wireless LAN to meet growing demand. We believe that cost savings can result from, among other things, fewer switch service contracts, lower electricity consumption, and reduced air conditioning loading. Our Return-On-Investment calculators help predict the monetary and carbon savings opportunities based on company size and network configuration.
 
Our Strategy
 
Our goal is to establish our secure mobility solution as the de facto standard for global education, enterprise, finance, government, healthcare, hospitality, industrial, and retail verticals. In pursuit of this quest, we believe that the following key elements of our strategy will help us maintain our competitive advantage:
 
  •  Commitment to customer service and success  — Our philosophy is that our customers come first and last in everything we do. Our commitment to customer success means that we work collaboratively to do what is best for them and that we work to see things from their points of view when making our business and technology decisions. We strive to ensure that our customer service is the best in the industry. We are continuously focused on finding new ways to solve our customers’ most critical problems, meaning that we listen closely to their needs and that we seek what is best for them first, in every instance.
 
  •  Enable the proliferation of bring-your-own-device (“BYOD”) policies and initiatives across the enterprise — IT departments are at a crossroads. Whether overwhelmed by the number and variety of wireless devices that their employees are bringing into the workplace or embracing and issuing such devices to their employees, chances are their access networks are ill-designed for the purpose. Our MOVE architecture and its Mobile Device Access Control (“MDAC”) capabilities make broad deployment and secure self-provisioning of mobile devices possible in either case. This means that companies can benefit from letting their employees use the devices they enjoy using without imposing a heavy support burden on IT.
 
  •  Enable the unified communication (“UC”) migration — More and more enterprises are moving from wired internet protocol (“IP”) phones or even time-division multiplexing (“TDM”)-based telephony to unified communications suites such as Microsoft Lync. Less challenging in a wired networking environment, moving to UC delivered over Wi-Fi often results in performance degradation and noticeable loss of quality due to the competition from an ever-increasing number of Wi-Fi devices for finite wireless bandwidth. We have worked closely with leading UC vendors such as Microsoft to ensure that UC runs just as well over Wi-Fi as it does over wire.
 
  •  Drive adoption across the enterprise — Many enterprises initially deploy our solutions at corporate headquarters or main campus locations. Our objective is to penetrate remote locations and gain adoption by mobile users across primary campuses, as well as in satellite, branch, and home offices. We intend to do so by emphasizing the productivity enhancements and cost-efficiency of our approach. Network rightsizing and Virtual Branch Networking are two pillars of this strategy, helping users to enhance mobility, obtain a uniform network experience for all users, and lower both operating and capital expenditures.
 
  •  Maintain and extend our software offerings — We believe that the integrated encryption, authentication, and network access technology embedded in the ArubaOS operating system are key competitive differentiators. We intend to continue enhancing the ArubaOS operating system and our centralized mobility architecture to maintain our position as a technology innovator. We also intend to extend the functionality and performance of the ArubaOS operating system with additional software modules such as unified communications, video-over-IP, and location-based services. Finally, we intend to continue enhancing the capabilities of our multi-vendor AirWave Wireless Management Suite to support additional competitive products and enhance the underlying features of this market-leading platform.
 
  •  Utilize channel partners to expand our global market penetration — We intend to increase our market penetration and extend our geographic reach through the expansion of our network of channel partners. We


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  plan to expand our growing channel footprint and will tailor training and support programs to help drive this expansion.
 
  •  Realize increased operating efficiencies — We currently outsource our hardware manufacturing to overseas contract manufacturers such as Flextronics Manufacturing Singapore Pte. Ltd. (“Flextronics”), Sercomm Corporation (“Sercomm”), Accton Corporation (“Accton”) and Wistron Corporation (“Wistron”) and have established offshore research and development and customer support capabilities. We plan to continue to realize increased operating efficiencies by growing these offshore operations, and by establishing additional offshore capabilities for certain general and administrative functions.
 
  •  Expand our base of technology partners — We will continue expanding our network of technology partners to enhance and complement our unified mobility solutions with security solutions, management tools, connectivity devices, and mobility applications.
 
Products
 
Our MOVE architecture unifies wired and wireless LANs into one seamless access solution. This allows traveling business professionals, remote workers, headquarters employees and guests to obtain a secure network connection — no matter where they are, what computing devices they use or how they connect.
 
To connect users to the network — whether at work, at home, or on the road — we offer a set of access on-ramps that include wireless, wired, and remote networking products that are centrally controlled in the data center to simplify deployment and management.
 
We also offer comprehensive mobility network services. Deployed in the data center, these services perform device and user authorization, enforce mobility and security policies, unify network operations, and provide visibility into the RF environment.
 
ArubaOS
 
ArubaOS is the operating system software for wired, wireless and remote access products in our MOVE architecture. It integrates user-based security, application-aware radio-frequency services, and wireless LAN access to deliver a scalable and secure mobile networking solution for large and mid-sized enterprises.
 
ArubaOS comes standard with comprehensive centralized controls and additional security and mobility functionality that can be added or unlocked via licensed software modules.
 
Software Modules for ArubaOS
 
Software modules extend the base capabilities of ArubaOS. Current software modules include:
 
  •  The Policy Enforcement Firewall (“PEF”) ensures secure network access for wired, wireless and remote users. Access control policies are centrally defined and enforced on a per-user or per-group basis and follow users no matter where they roam.
 
  •  RFProtect provides integrated wireless intrusion protection to mitigate Wi-Fi security threats as well as spectrum analysis, which provides visibility into sources of radio frequency interference.
 
  •  Advanced Cryptography (“ACR”) with U.S. National Security Agency (“NSA”)-approved Suite B cryptography enables secure access to networks that handle sensitive but unclassified, confidential and classified information.
 
  •  The xSec protocol uses data encryption and other security methods to safeguard wired and wireless connections. Compliant with Federal Information Processing Standard (“FIPS”) 140-2, xSec protects extremely sensitive information on high-security networks.


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Mobility Controllers
 
Our Mobility Controllers run the ArubaOS operating system, creating a single mobile enterprise network that enforces security policies and manages wired and wireless access across indoor, outdoor and remote sites.
 
Aware of all users, devices, applications and locations, they provide mobility and secure network access throughout the extended enterprise. Mobility Controllers also maintain configurations and automate software updates for access points, Mobility Access Switches and other Mobility Controllers.
 
Highly scalable, our Mobility Controllers are designed to meet a wide range of deployment scenarios, from branch offices and retail stores to large campuses and extended multisite networks.
 
Access Points
 
Our access points serve as on-ramps that aggregate user traffic onto the enterprise network and direct the traffic to Mobility Controllers. Available in a wide range of indoor and outdoor versions, our access points connect authorized consumer and commercial mobile devices using standard 802.11a/b/g/n Wi-Fi. In addition to Wi-Fi connectivity, access points provide security monitoring and interference avoidance.
 
Mobility Access Switches
 
Our Mobility Access Switches provide secure network access for wired users and devices based on their identity and independent of their location or the applications they use. Installed in the wiring closet, Mobility Access Switches provide wire-speed Gigabit Ethernet and can enforce universal security policies when operating with our Mobility Controllers.
 
Remote Networks
 
Our remote networking products include Remote Access Points, Aruba Instant and Virtual Intranet Access client software.
 
  •  Remote Access Points (“RAPs”) provide secure always-on network access to corporate enterprise networks from remote locations. Ideal for small branch offices and teleworkers in home offices, RAPs provide wired and wireless access, traffic forwarding, security and backup connectivity over cellular networks.
 
  •  Combining high-end enterprise-class features with affordability and ease-of-use, Aruba Instant is a family of 802.11n access points with integrated Mobility Controller capabilities. Installed in minutes using three easy steps, up to 16 Aruba Instant access points can run at one site, and multiple sites can be remotely managed from a central location.
 
  •  Virtual Intranet Access (“VIA”) client software provides secure network connectivity for Windows laptops and MacBooks. Unlike other VPN clients, VIA chooses the best secure connection to the enterprise network and automatically configures wireless laptop settings to ensure a zero-touch user experience. VIA also supports U.S. NSA Suite B cryptography when used with the ArubaOS ACR module. With the ACR module, VIA clients can securely access networks that handle controlled unclassified, confidential and classified information.
 
Outdoor Wireless Mesh Routers
 
Our AirMesh family of outdoor wireless mesh routers provide secure Wi-Fi access and backhaul links to transport voice, video and data traffic wirelessly over vast distances. Ideal where wired connectivity is impractical or unavailable, AirMesh is optimized for applications like video surveillance in municipal, public safety and industrial deployments.
 
Management and Security Software
 
Our management and security software includes AirWave network management, Amigopod access management and our cloud-based Content Security Service.


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  •  AirWave network management provides end-to-end clarity and control to manage mobile and wired users on multivendor, multisite networks. It features management and wireless security tools such as user location and mapping, real-time monitoring, proactive alerts, historical reporting, and troubleshooting.
 
  •  Amigopod provisions and manages secure wireless LAN access for visitors, contractors, employees and their mobile devices. Simple and automated self-registration makes it easy for receptionists and non-IT staff to create temporary enterprise Wi-Fi accounts.
 
  •  From data centers around the world, our Content Security Service (“CSS”) provides high-performance web security for branch offices and teleworkers. CSS offers URL filtering, peer-to-peer control, anti-virus/anti-malware, data loss prevention and more.
 
Customers
 
Our products have been sold to over 15,500 end customers worldwide (excluding end-customers of Alcatel-Lucent) in most major industries including general enterprise, construction, education, finance, government, healthcare, hospitality, manufacturing, media, retail, technology, telecom, transportation, and utilities. Our products are deployed in a wide range of organizations from small organizations to large multinational corporations, including:
 
         
United States   EMEA   Asia Pacific and Other
 
California State University
  BAA   China University of Geoscience
Boston Medical Center
  Saudi Aramco   Lawson
Seattle Police Department
  Trafford Council   Tennis Australia
Microsoft
  KPMG Netherlands   Port of Yokohama, Japan
United States Air Force
  London School of Business   Samsung Medical Center
 
Customers purchase our products directly from us and through our VARs, VADs and OEMs. For a description of our revenues based on our customers’ geographic locations, see Note 11 of Notes to Consolidated Financial Statements.
 
Sales and Marketing
 
We sell our products and support directly through our sales force and indirectly through our VAR, VAD and OEM partners:
 
  •  Our sales force — We have a sales force in each of the following regions: the Americas, Europe, Middle East and Africa (“EMEA”), Asia Pacific (“APAC”) and throughout the rest of the world. Each sales force is responsible for managing all direct, as well as channel, business within its designated geographic territory.
 
  •  VARs, VADs and OEMs — Our VARs, VADs and OEMs market, sell, and deploy our solutions to a broad array of organizations. Some of these VARs also purchase our solutions and offer them to their end customers as a managed service. We continue to grow the use of our channel partners in each of our theatres of operations.
 
As part of our continuing efforts to improve operating leverage through our channel partners we are increasingly relying on our VARs, channel managers, and sales support team to manage smaller-sized deals. This improves our sales productivity and enables our direct sales teams to focus more on winning large customers.
 
Our marketing activities include lead generation, tele-sales, advertising, website operations, direct marketing, and public relations, as well as participation at technology conferences and trade shows.
 
Backlog
 
In our experience, the actual amount of product backlog at any particular time is not a meaningful indication of our future business prospects. We have orders for products that have not been shipped and for services that have not yet been performed for various reasons. Because we allow customers to cancel or change orders with limited advance notice prior to shipment or performance and because many orders remain in backlog due to concerns about the credit


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worthiness of the partner or customer, we do not consider backlog to be firm and do not believe our backlog information is a reliable indicator of our ability to achieve any particular level of revenue or financial performance.
 
Customer Service, Support and Training
 
We offer tiered customer service and support programs that encompass hardware, software, and access to future software upgrades on a when-and-if available basis. In order to better serve our customers, we have multiple support centers available to respond 24x7x365. Service and support for end customers of our VARs, VADs and OEMs are typically provided by these channel partners, to whom we provide back-up support.
 
Our training department conducts basic and advanced courses through an on-line training portal and on-site at customer locations, third-party regional training facilities, and our headquarters training facility in Sunnyvale, California. As part of our training program, we offer certification programs to demonstrate that participants have successfully completed the program and passed written and practical exams covering our products, networking, and wireless technologies.
 
Research and Development
 
Continued investment in research and development is critical to our business. To this end, we have assembled a team of engineers with expertise in various fields, including networking, security and RF. Our research and development efforts are focused in Sunnyvale, California, Bangalore, India and Beijing, China. We have invested significant time and financial resources into the development of our unified mobility solutions and architecture. We will continue to expand our product offerings and solutions capabilities in the future and plan to dedicate significant resources to these continued research and development efforts. Research and development expenses for fiscal years 2011, 2010, and 2009 are disclosed in the Consolidated Statements of Operations.
 
Manufacturing
 
We outsource the manufacturing of a significant majority of our hardware products to contract manufacturers and original design manufacturers (“ODM”). These manufacturing partners help us optimize our operations by lowering costs and reducing time to market. Our major manufacturing partners are Flextronics, Sercomm, Accton and Wistron. Our manufacturing agreement with each partner is structured similarly. The agreements are automatically renewed each year for successive one-year terms unless we or our manufacturing partner provides at least 90 days’ advance written notice to the other party of an intent not to renew. In addition, these agreements may be terminated by us or our manufacturing partners for any reason upon 180 days’ advance written notice to the other party.
 
In addition, we utilize a Flextronics facility in Singapore for limited production of specialized products and fulfillment operations for all customer shipments destined for most APAC and EMEA destinations. We also have a second fulfillment center located in Sunnyvale, California that is responsible for all customer shipments destined to locations in the Americas. We perform rigorous in-house quality control inspection and testing at both of our fulfillment centers to ensure the reliability and quality of our hardware components.
 
We utilize components from many suppliers. Whenever possible, we strive to have multiple sources for these components to ensure continuous supply and competitive costs. We work in conjunction with the extensive supply chain management organizations at all of our manufacturing partners to select and utilize suppliers with established delivery and quality track records. We source a limited number of components that are technically unique and only available from specific suppliers, but neither we nor our manufacturing partners have entered into any long-term supply agreements with these suppliers. Instead, we maintain close, direct relationships with these suppliers to ensure supply meets our requirements including, in some cases, entering into license agreements that allow us to incorporate certain of their components into our products.
 
We also incorporate certain generally available software programs into our architecture pursuant to license agreements with third parties. We have also entered into license agreements with Qualcomm Atheros, Inc. (“Atheros”), Netlogic Microsystems Corporation (“Netlogic”) and Broadcom Corporation (“Broadcom”), each of which is a sole supplier of certain components used by our manufacturing partners, in the production of our products.


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Although the contract manufacturing and ODM services required to manufacture and assemble our products may be readily available from a number of established manufacturers, it is time consuming and costly to qualify and implement contract manufacturer relationships. Therefore, if any of our manufacturing partners, Atheros, Netlogic, Broadcom or any other sole source supplier suffers an interruption in its business, or experiences delays, disruptions or quality control problems in its manufacturing operations, or we have to change or add additional manufacturing partners or suppliers of our sole sourced components, our ability to ship products to our customers would be delayed, and our business, operating results and financial condition would be adversely affected.
 
Competition
 
The market for secure mobility products is highly competitive and constantly evolving. We believe that we compete primarily on the basis of providing a comprehensive solution that enables mobility, security, and the delivery of converged application services. We believe other principal competitive factors in our market include the total cost of ownership, performance of software and hardware products, ability to deploy easily into existing networks, interoperability of networks with other devices, ability to easily scale, ability to provide secure mobile access to the network, speed of mobile connectivity, and ability to allow the centralized management of networks.
 
Our competitive position also depends on our ability to innovate and adapt to meet the evolving needs of our customers. We believe we compete favorably in each of these areas.
 
We expect competition to intensify in the future as other companies introduce new products in the same markets we serve or intend to enter. This competition could result in increased pricing pressure, reduced profit margins, increased sales and marketing expenses and failure to increase, or the loss of, market share, any of which could seriously harm our business, operating results or financial condition. If we do not keep pace with product and technology advances, there could be a material adverse effect on our competitive position, revenues and prospects for growth.
 
Our primary competitors include Cisco Systems, primarily through its Wireless Networking Business Unit, Hewlett-Packard, and Motorola. We also face competition from a number of smaller companies and new market entrants.
 
Key differentiators from the competition include the following:
 
  •  Field-proven in the world’s largest WLANs, our MOVE architecture seamlessly unifies wired and wireless into one cohesive network access solution, providing context-aware and secure user access to appropriate network services. Adaptive 802.11n with infrastructure-based controls lowers customer costs by simplifying deployments, as well as securely and reliably delivering data, toll-grade voice, and high-definition video applications.
 
  •  We deliver NSA-developed Suite B military-grade security for access control and data privacy.
 
  •  Our Virtual Branch Network (“VBN”) solution delivers the security of VPN, the economy of broadband, the simplicity of one-touch installation and the efficiency of centralized management for teleworkers and small branch offices.
 
  •  The AirWave Wireless Management Suite enhances operations management, reduces complexity and support costs, and extends the life of existing infrastructure through a multi-vendor, user-centric approach.
 
Intellectual Property
 
Our success as a company depends critically upon our ability to protect our core technology and intellectual property. To accomplish this, we rely on a combination of intellectual property rights including patents, trade secrets, copyrights and trademarks, as well as customary contractual protections.
 
We have been granted several United States patents, and have a growing pending patent portfolio. We intend to file counterparts for these patents and patent applications in other jurisdictions around the world as appropriate.
 
Our registered trademarks are Aruba Networks®, Aruba Wireless Networks®, the registered Aruba the Mobile Edge Company logo, Aruba Mobility Management System®, Mobile Edge Architecture®, People Move. Networks Must Follow®, RFProtect®, and Green Island®.
 
In addition to the foregoing protections, we generally control access to and use of our proprietary software and other confidential information through the use of internal and external controls, including contractual protections with employees, contractors, customers and partners, and our software is protected by United States and international copyright laws.


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Corporate Information
 
We were incorporated in Delaware in February 2002. Our principal executive offices are located at 1344 Crossman Ave., Sunnyvale, California 94089-1113, and our telephone number is (408) 227-4500. Our website address is www.arubanetworks.com
 
Employees
 
As of July 31, 2011, we had approximately 1,057 employees worldwide, of which 422 were engaged in sales and marketing, 426 were engaged in research and development, 111 were engaged in general and administrative functions, 65 were engaged in customer services and 33 were engaged in operations. None of our employees are represented by labor unions, and we consider current employee relations to be good.
 
Website Posting of SEC Filings
 
Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to such reports are available, free of charge, as soon as reasonably practical after they are electronically filed or furnished with the SEC, on our website and can be accessed by clicking on the “Company/Investor Relations” tab. Further, copies of materials filed by us with the SEC may be read and copied at the SEC’s Public Reference Room at 100 F Street, NE, Washington, D.C. 20549. Information on the operation of the Public Reference Room can be obtained by calling the SEC at 1-800-SEC-0330. The SEC maintains an internet site that contains reports, proxy and information statements and other information regarding our filings at www.sec.gov. The contents of our website are not incorporated into, or otherwise to be regarded as a part of, this report or any other report we file with or furnish to the SEC.
 
ITEM 1A.   RISK FACTORS
 
Set forth below and elsewhere in this report, and in other documents we file with the SEC, are risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this report and in our other public statements. Because of the following factors, as well as other factors affecting our financial condition and operating results, past financial performance should not be considered to be a reliable indicator of future performance, and investors should not use historical trends to anticipate results or trends in future periods.
 
Risks Related to Our Business and Industry
 
Our business, operating results and growth rates may be adversely affected by unfavorable economic and market conditions.
 
Our business depends on the overall demand for IT and on the economic health and general willingness of our current and prospective customers to make capital commitments. If the conditions in the U.S. and global economic environment remain uncertain or continue to be volatile, or if they deteriorate further, our business, operating results, and financial condition may be materially adversely affected. Economic weakness, customer financial difficulties and constrained spending on IT initiatives have resulted, and may in the future result, in challenging and delayed sales cycles and could negatively impact our ability to forecast future periods. In particular, we cannot be assured of the level of IT spending, the deterioration of which could have a material adverse effect on our results of operations and growth rates. The purchase of our products or willingness to replace existing infrastructure in some vertical markets may be discretionary and may involve a significant commitment of capital and other resources. Therefore, weak economic conditions, or a reduction in IT spending would likely adversely impact our business, operating results and financial condition in a number of ways, including longer sales cycles, lower prices for our products and services, and reduced unit sales. A reduction in IT spending could occur or persist even if economic conditions improve. In addition, if interest rates rise or foreign exchange rates weaken for our international customers, overall demand for our products and services could be further dampened, and related IT spending may be reduced. Furthermore, any increase in worldwide commodity prices may result in higher component prices and increased shipping costs, both of which may negatively impact our financial results.


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We compete in new and rapidly evolving markets and have a limited operating history, which makes it difficult to predict our future operating results.
 
We were incorporated in February 2002 and began commercial shipments of our products in June 2003. As a result of our limited operating history, it is very difficult to forecast our future operating results. In addition, we operate in an industry characterized by rapid technological change. Our prospects should be considered and evaluated in light of the risks and uncertainties frequently encountered by companies in rapidly evolving markets characterized by rapid technological change, changing customer needs, evolving industry standards and frequent introductions of new products and services. These risks and difficulties include challenges in accurate financial planning as a result of limited historical data and the uncertainties resulting from having had a relatively limited time period in which to implement and evaluate our business strategies as compared to older companies with longer operating histories.
 
In addition, our products are designed to be compatible with industry standards for secure communications over wireless and wireline networks. As we encounter changing standards, customer requirements and competitive pressures, we likely will be required to reposition our product and service offerings and introduce new products and services. We may not be successful in doing so in a timely and appropriately responsive manner, or at all. Our failure to address these risks and difficulties successfully could materially harm our business and operating results.
 
Our operating results may fluctuate significantly, which makes our future results difficult to predict and could cause our operating results to fall below expectations or our guidance.
 
Our annual and quarterly operating results have fluctuated in the past and may fluctuate significantly in the future, which makes it difficult for us to predict. Our operating results may fluctuate due to a variety of factors, many of which are outside of our control, including the changing and volatile U.S. and global economic environment, and any of which may cause our stock price to fluctuate. 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.
 
Furthermore, our product revenues generally reflect orders shipped in the same quarter they are received, and a substantial portion of our orders are often received in the last month of each fiscal quarter, a trend that may continue. As a result, if we are unable to ship orders received in the last month of each fiscal quarter, even though we may have business indicators about customer demand during a quarter, we may experience revenue shortfalls, and such shortfalls may materially adversely affect our earnings because we may not be able to adequately and timely adjust our expense levels.
 
In addition to other risk factors listed in this “Risk Factors” section, factors that may cause our operating results to fluctuate include:
 
  •  the impact of unfavorable worldwide economic and market conditions, including the restricted credit environment impacting the credit of our channel partners and end user customers;
 
  •  our ability to develop and maintain our relationships with our VARs, VADs, OEMs and other partners;
 
  •  fluctuations in demand, sales cycles and prices for our products and services;
 
  •  reductions in customers’ budgets for information technology purchases and delays in their purchasing cycles;
 
  •  the sale of our products 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 customer requirements;
 
  •  our dependence on several large vertical markets, including the government, healthcare, retail, enterprise and education vertical markets;
 
  •  the timing of product releases or upgrades by us or by our competitors;


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  •  any significant changes in the competitive dynamics of our markets, including new entrants, or further consolidation;
 
  •  our ability to control costs, including our operating expenses, and the costs of the components we purchase;
 
  •  product mix and average selling prices, as well as increased discounting of products by us and our competitors;
 
  •  the proportion of our products that are sold through direct versus indirect channels;
 
  •  our ability to maintain volume manufacturing pricing from our contract manufacturers, and our component suppliers;
 
  •  our contract manufacturers and component suppliers’ ability to meet our product demand forecasts;
 
  •  the potential need to record incremental inventory reserves for products that may become obsolete due to our new product introductions;
 
  •  growth in our headcount and other related costs incurred in our customer support organization;
 
  •  changing market conditions, including current and potential customer consolidation;
 
  •  any decision to increase or decrease operating expenses in response to changes in the marketplace or perceived marketplace opportunities;
 
  •  our ability to derive benefits from our investments in sales, marketing, engineering or other activities;
 
  •  volatility in our stock price, which may lead to higher stock compensation expenses;
 
  •  fluctuations in our effective tax rate, changes in the valuation of our deferred tax assets or liabilities, changes in actual results versus our estimates, or changes in tax laws, regulations, accounting principles, or interpretations thereof;
 
  •  the timing of revenue recognition in any given quarter as a result of revenue recognition rules;
 
  •  the regulatory environment for the certification and sale of our products; and
 
  •  seasonal demand for our products, some of which may not be currently evident due to our revenue growth during fiscal 2010 and 2011.
 
As a result, our quarterly operating results are difficult to predict even in the near term. In one or more future quarterly periods, our operating results may fall below the expectations of securities analysts and investors or below any guidance we may provide to the market. In this event, the trading price of our common stock could decline significantly. Such a stock price decline could occur even when we have met our publicly stated revenue and/or earnings guidance.
 
We expect our gross margins to vary over time and our recent level of product gross margin may not be sustainable.
 
Our product gross margins vary from quarter to quarter and the recent level of gross margins may not be sustainable and may be adversely affected in the future by numerous factors, including product or sales channel mix shifts, the percentage of revenue from international regions, increased price competition, increases in material or labor costs, excess product component or obsolescence charges from our contract manufacturers, write-downs for obsolete or excess inventory, increased costs due to changes in component pricing or charges incurred due to component holding periods if our forecasts do not accurately anticipate product demand, warranty-related issues, product discounting, freight charges, or our introduction of new products or new product platforms or entry into new markets with different pricing and cost structures. As a result of any of these factors, or other factors, our gross margin may be adversely affected, which in turn would harm our operating results.


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In our recent history we have incurred net losses and while we are currently profitable, we may not sustain profitability in the future.
 
We have a history of losses and only recently achieved profitability. We generated net income of $70.7 million for fiscal year 2011 and suffered net losses of $34.0 million and $23.4 million for fiscal years 2010 and 2009, respectively. As of July 31, 2011 and 2010, our accumulated deficit was $104.9 million and $175.6 million, respectively. Expenses associated with the continued development and expansion of our business, including expenditures to hire additional personnel for sales and marketing and technology development, could limit our ability to sustain operating profits. If we fail to increase revenues or manage our cost structure, we may not sustain profitability in the future. As a result, our business could be harmed, and our stock price could decline.
 
Our sales cycles can be long and unpredictable, and our sales efforts require considerable time and expense. As a result, our sales are difficult to predict and may vary substantially from quarter to quarter, which may cause our operating results to fluctuate significantly.
 
The timing of our revenues is difficult to predict. Our sales efforts involve educating our customers about the use and benefits of our products, including the technical capabilities of our products and the potential cost savings achieved by organizations that utilize our products. Customers typically undertake a significant evaluation process, which frequently involves not only our products but also those of our competitors and can result in a lengthy sales cycle, which typically ranges four to nine months in length but can be as long as 18 months. We spend substantial time, effort and money in our sales efforts without any assurance that our efforts will produce any sales. Even after making the decision to purchase, customers may deploy our products slowly and deliberately. In addition, product purchases are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing and other delays. Specifically, we view the federal vertical as highly dependent on large transactions, and therefore we could experience fluctuations from period to period in this vertical. Customers may also defer purchases as a result of anticipated or announced releases of new products or enhancements by our competitors or by us. Product purchases could be delayed by the volatile U.S. and global economic environment, which has introduced additional risk into our ability to accurately forecast sales in a particular quarter. If sales expected from a specific customer for a particular quarter are not realized in that quarter or at all, our business, operating results and financial condition could be materially adversely affected.
 
The market in which we compete is highly competitive, and competitive pressures from existing and new companies may have a material adverse effect on our business, revenues, growth rates and market share.
 
The market in which we compete is highly competitive and is influenced by the following competitive factors:
 
  •  comprehensiveness of the solution;
 
  •  performance of software and hardware products;
 
  •  ability to deploy easily into existing networks;
 
  •  interoperability with other devices;
 
  •  scalability of solution;
 
  •  ability to provide secure mobile access to the network;
 
  •  speed of mobile connectivity offering;
 
  •  initial price, total cost of ownership, and return-on-investment;
 
  •  ability to allow centralized management of products; and
 
  •  ability to obtain regulatory and other industry certifications.
 
We expect competition to intensify in the future as other companies introduce new products in the same markets we serve or intend to enter and as the market continues to consolidate. This competition could result in increased pricing pressure, reduced profit margins, increased sales and marketing expenses and failure to increase, or the loss of, market share, any of which would likely seriously harm our business, operating results or financial


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condition. If we do not keep pace with product and technology advances, there could be a material adverse effect on our competitive position, revenues and prospects for growth.
 
Competitive products may in the future have better performance, more and/or better features, lower prices and broader acceptance than our products. A number of our current or potential competitors have longer operating histories, greater name recognition, larger customer bases and significantly greater financial, technical, sales, marketing and other resources than we do. Potential customers may prefer to purchase from their existing suppliers rather than a new supplier, regardless of product performance or features. Currently, we compete with a number of large and well established public companies, including Cisco Systems (primarily through its Wireless Networking Business Unit), Hewlett-Packard and Motorola, as well as smaller companies and new market entrants, any of which could reduce our market share, require us to lower our prices, or both.
 
We expect increased competition from our current competitors, as well as other established and emerging companies, if our market continues to develop and expand. Our channel partners could market products and services that compete with our products and services. In addition, some of our competitors have made acquisitions or entered into partnerships or other strategic relationships with one another to offer a more comprehensive solution than they individually had offered. We expect this trend to continue as companies attempt to strengthen or maintain their market positions in an evolving industry and as companies enter into partnerships or are acquired. Many of the companies driving this consolidation trend have significantly greater financial, technical and other resources than we do and are better positioned to acquire and offer complementary products and technologies. The companies resulting from these possible consolidations may create more compelling product offerings and be able to offer greater pricing flexibility, making it more difficult for us to compete effectively, including on the basis of price, sales and marketing programs, technology or product functionality. Continued industry consolidation may adversely impact customers’ perceptions of the viability of smaller and even medium-sized technology companies and, consequently, customers’ willingness to purchase from such companies. These pressures could materially adversely affect our business, operating results and financial condition.
 
We sell a majority of our products through VADs, VARs, and OEMs. If these channel partners on which we rely do not perform their services adequately or efficiently, or if they exit the industry, are acquired by a competitor, or have financial difficulties, there could be a material adverse effect on our revenues and our cash flow.
 
Our future success is highly dependent upon establishing and maintaining successful relationships with a variety of VADs, VARs, and OEMs, which we refer to as our indirect channel. We have dedicated a significant amount of effort to increase the use of our VADs and VARs in each of our theatres of operations. The percentage of our total revenues fulfilled from sales through our indirect channel was 93.0%, 92.4%, and 84.6% for fiscal years 2011, 2010, and 2009, respectively. We expect that over time, indirect channel sales will continue to constitute a significant majority of our total revenues. Accordingly, our revenues depend in large part on the effective performance of our channel partners. Three of our channel partners accounted for more than 10% of total revenues for fiscal year 2011, 2010 and 2009. The table below represents the percentage of total revenues from our top channel partners (*denotes less than 10%):
 
                         
    Years Ended July 31,
    2011   2010   2009
 
ScanSource, Inc. (“Catalyst”)
    19.4 %     17.1 %     *  
Avnet Logistics U.S. LP
    17.1 %     16.6 %     10.1 %
Alcatel-Lucent
    13.9 %     10.4 %     14.5 %
 
Our agreements with our partners provide that they use reasonable commercial efforts to sell our products on a perpetual basis unless the agreement is otherwise terminated by either party. Our agreement with Alcatel-Lucent contains a “most-favored nations” clause, pursuant to which we agreed to lower the price at which we sell products to Alcatel-Lucent in the event that we agree to sell the same or similar products at a lower price to a similar customer on the same or similar terms and conditions. However, the specific terms of this “most-favored nations” clause are narrow and specific, and we have not to date incurred any obligations related to this term in the agreement.


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Some of our indirect channel partners may have insufficient financial resources and may not be able to withstand changes in worldwide business conditions, including economic downturns, abide by our inventory and credit requirements, or have the ability to meet their financial obligations to us. The table below represents the percentage of total accounts receivable from our top channel partners (*denotes less than 10%):
 
                 
    As of July 31,
    2011   2010
 
ScanSource, Inc. (“Catalyst”)
    *       31.6 %
Avnet Logistics U.S. LP
    23.8 %     18.2 %
Alcatel-Lucent
    18.4 %     *  
 
If the indirect channel partners on which we rely do not perform their services adequately or efficiently, fail to meet their obligations to us, or if they exit the industry and we are not able to quickly find adequate replacements, there could be a material adverse effect on our revenues, cash flow and market share. By relying on these indirect channels, we may have less contact with the end users of our products, thereby making it more difficult for us to establish brand awareness, ensure proper delivery and installation of our products, service ongoing customer requirements and respond to evolving customer needs. In addition, our indirect channel partners may receive pricing terms that allow for volume discounts off of list prices for the products they purchase from us, which reduce our margins to the extent revenues from such channel partners increase as a proportion of our overall revenues.
 
Recruiting and retaining qualified channel partners and training them in our technology and product offerings requires significant time and resources. In order to develop and expand our distribution channel, we must continue to scale and improve our processes and procedures that support our channel partners, including investment in systems and training, and those processes and procedures may become increasingly complex and difficult to manage. We have no minimum purchase commitments with any of our VADs, VARs, or OEMs, and our contracts with these channel partners do not prohibit them from offering products or services that compete with ours or from terminating our contract on short notice. Our competitors may be effective in providing incentives to existing and potential channel partners to favor their products or to prevent or reduce sales of our products. Our channel partners may choose not to focus primarily on the sale of our products or offer our products at all. Our failure to establish and maintain successful relationships with indirect channel partners would likely materially adversely affect our business, operating results and financial condition.
 
We depend upon the development of new products and enhancements to our existing products. If we fail to predict and respond to emerging technological trends and our customers’ changing needs, we may not be able to remain competitive.
 
We may not be able to anticipate future market needs or be able to develop new products or product enhancements to meet such needs, either on a timely basis or at all. For example, we anticipate a need to continue to increase the mobility of our solution, and certain customers have delayed, and may in the future delay, purchases of our products until either new versions of those products are available or the customer evaluations are completed. If we fail to develop new products or product enhancements, our business could be adversely affected, especially if our competitors are able to introduce solutions with such increased functionality. In addition, as new mobile applications are introduced, our success may depend on our ability to provide a solution that supports these applications.
 
We are active in the research and development of new products and technologies and enhancing our current products. However, research and development in the enterprise mobility industry is complex and filled with uncertainty. If we expend a significant amount of resources on research and development and our efforts do not lead to the successful introduction of products that are competitive in the marketplace, there could be a material adverse effect on our business, operating results, financial condition and market share. In addition, it is common for research and development projects to encounter delays due to unforeseen problems, resulting in low initial volume production, fewer product features than originally considered desirable and higher production costs than initially budgeted, which may result in lost market opportunities. In addition, any new products or product enhancements that we introduce may not achieve any significant degree of market acceptance or be accepted into our sales channel by our channel partners. There could be a material adverse effect on our business, operating results, financial


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condition and market share due to such delays or deficiencies in the development, manufacturing and delivery of new products.
 
Once a product is in the marketplace, its selling price often decreases over the life of the product, especially after a new competitive product is publicly announced. To lessen the effect of price decreases, our product management team attempts to reduce development and manufacturing costs in order to maintain or improve our margins. However, if cost reductions do not occur in a timely manner, there could be a material adverse effect on our operating results and market share. Further, the introduction of new products may decrease the demand for older products currently included in our inventory balances. As a result, we may need to record incremental inventory reserves for the older products that we do not expect to sell. This may have a material adverse effect on our operating results and market share.
 
We manufacture our products to comply with standards established by various standards bodies, including the Institute of Electrical and Electronics Engineers, Inc. (“IEEE”). If we are not able to adapt to new or changing standards that are ratified by these bodies, our ability to sell our products may be adversely affected. For example, prior to the ratification of the 802.11n wireless LAN standard (“11n”) by the IEEE in 2009, we had been developing and were offering for sale products that complied with the draft standard that the IEEE had not yet ratified. Although the IEEE ratified the 11n standard and did not modify the draft of the 11n standard, the IEEE could modify the standard in the future. We remain subject to any changes adopted by various standards bodies, which would require us to modify our products to comply with the new standards, require additional time and expense and could cause a disruption in our ability to market and sell the affected products.
 
We may engage in future acquisitions that could disrupt our business, cause dilution to our stockholders and harm our business, operating results and financial condition.
 
In December 2010, we completed our acquisition of substantially all of the assets of Amigopod and in September 2010, we completed our acquisition of Azalea Networks (“Azalea”). In the future we may acquire other businesses, products or technologies. However, 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 ultimately strengthen our competitive position or achieve our goals. These acquisitions and any future acquisitions may be viewed negatively by customers, financial markets or investors. In addition, these acquisitions and any future acquisitions that we may make could lead to difficulties in integrating personnel and operations from the acquired businesses and in retaining and motivating key personnel from these businesses. We may also encounter difficulties in maintaining uniform standards, controls, procedures and policies across locations, or in managing geographically or culturally diverse locations. We may experience significant problems with acquired or integrated product quality. We may also experience significant liabilities associated with acquired or integrated technology. Acquisitions may disrupt our ongoing operations, divert management from day-to-day responsibilities, increase our expenses and adversely impact our business, operating results and financial condition. 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, which could harm our business, operating results and financial condition.
 
As a result of the fact that we outsource the manufacturing of our products to contract manufacturers, we do not have the ability to ensure quality control over the manufacturing process. Furthermore, if there are significant changes in the financial or business condition of our contract manufacturers, our ability to supply quality products to our customers may be disrupted.
 
As a result of the fact that we outsource the manufacturing of our products to contract manufacturers, we are subject to the risk of supplier failure and customer dissatisfaction with the quality or performance of our products. Quality or performance failures of our products or changes in the financial or business condition of our contract manufacturers could disrupt our ability to supply quality products to our customers and thereby have a material adverse effect on our business, revenues and financial condition.
 
We rely on purchase orders or long-term contracts with our contract manufacturers. Some of our contract manufacturers are not obligated to supply products to us for any specific period, in any specific quantity or at any


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specific price. Our orders with our contract manufacturers represent a relatively small percentage of the overall orders received by them from their customers. As a result, fulfilling our orders may not be considered a priority in the event our contract manufacturers are constrained in their abilities to fulfill all of their customer obligations in a timely manner. We provide demand forecasts to our contract manufacturers. To the extent that any such demand forecast is binding, if we overestimate our requirements, our contract manufacturers may assess charges, or we may have liabilities for excess inventory, each of which could negatively affect our gross margins. Conversely, because lead times for required materials and components vary significantly and depend on factors such as the specific supplier, contract terms and the demand for each component at a given time, if we underestimate our requirements, our contract manufacturers may have inadequate materials and components required to produce our products. This could result in an interruption of the manufacturing of our products, delays in shipments and deferral or loss of revenue. In addition, on occasion we have underestimated our requirements, and, as a result, we have been required to pay additional fees to our contract manufacturers in order for manufacturing to be completed and shipments to be made on a timely basis.
 
It is time consuming and costly to qualify and implement contract manufacturer relationships. If any of our contract manufacturers suffer an interruption in their business, or experiences delays, disruptions or quality control problems in their manufacturing operations, or we have to change or add additional contract manufacturers, our ability to ship products to our customers would be delayed, and our business, operating results and financial condition would be adversely affected. In addition, the majority of our manufacturing is performed overseas and is therefore subject to risks associated with doing business in other countries.
 
Our contract manufacturers purchase some components, subassemblies and products from a single supplier or a limited number of suppliers, and with respect to some of these suppliers, we have entered into license agreements that allow us to use their components in our products. The loss of any of these suppliers or the termination of any of these license agreements may cause us to incur additional set-up costs, result in delays in manufacturing and delivering our products, or cause us to carry excess or obsolete inventory.
 
Shortages in components that we use in our products are possible, and our ability to predict the availability of such components may be limited. While components and supplies are generally available from a variety of sources, we currently depend on a limited number of suppliers for several components for our equipment and certain subassemblies and products. We rely on our contract manufacturers to obtain the components, subassemblies and products necessary for the manufacture of our products, including those components, subassemblies and products that are only available from a single supplier or a limited number of suppliers.
 
For example, our solution incorporates both software products and hardware products, including a series of high-performance programmable mobility controllers and a line of wired and wireless access points. The chipsets that our contract manufacturers source and incorporate in our hardware products are currently available only from a limited number of suppliers, with whom neither we nor our contract manufacturers have entered into supply agreements. All of our access points incorporate components from Atheros, and some of our mobility controllers incorporate components from Broadcom and Netlogic. We have entered into license agreements with Atheros, Broadcom and Netlogic, the termination of which could have a material adverse effect on our business. Our license agreements with Atheros, Broadcom and Netlogic have perpetual terms in that they will automatically be renewed for successive one-year periods unless the agreement is terminated prior to the end of the then-current term. As there are no other sources for identical components, in the event that our contract manufacturers are unable to obtain these components from Atheros, Broadcom or Netlogic, we would be required to redesign our hardware and software in order to incorporate components from alternative sources. All of our product revenues are dependent upon the sale of products that incorporate components from Atheros, Broadcom or Netlogic.
 
In addition, increased demand by third parties for the components, subassemblies and products we use in our products may lead to decreased availability and higher prices for those components, subassemblies and products. For certain components, subassemblies and products for which there are multiple sources, we are still subject to potential price increases and limited availability due to market demand for such components, subassemblies and products. In the past, unexpected demand for communication products caused worldwide shortages of certain electronic parts. If such shortages occur in the future, our business would be adversely affected. We carry very little


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to no inventory of our product components, and we and our contract manufacturers rely on our suppliers to deliver necessary components in a timely manner. We and our contract manufacturers rely on purchase orders rather than long-term contracts with these suppliers. As a result, even if available, we or our contract manufacturers may not be able to secure sufficient components at reasonable prices or of acceptable quality to build products in a timely manner and, therefore, may not be able to meet customer demands for our products, which would have a material adverse effect on our business, operating results and financial condition.
 
Our international sales and operations subject us to additional risks that may adversely affect our operating results.
 
We derive a significant portion of our revenues from customers outside the United States. We have sales and technical support personnel in numerous countries worldwide. In addition, a portion of our engineering and order management efforts are currently handled by personnel located in India and China, and we expect to expand our offshore development efforts within India and China and possibly in other countries. We expect to continue to add personnel in additional countries. Our international operations subject us to a variety of risks, including:
 
  •  the difficulty and cost of managing and staffing international offices and the increased travel, infrastructure and legal compliance costs associated with multiple international locations;
 
  •  difficulties in enforcing contracts and collecting accounts receivable, and longer payment cycles, especially in emerging markets;
 
  •  the need to localize our products for international customers;
 
  •  tariffs and trade barriers, export regulations and other regulatory or contractual limitations on our ability to sell or develop our products in certain foreign markets;
 
  •  increased exposure to foreign currency exchange rate risk;
 
  •  increased exposure to political and economic instability, war and terrorism;
 
  •  unfavorable changes in tax treaties or laws;
 
  •  limited protection for intellectual property rights in some countries; and
 
  •  increased cost of terminating international employees in some countries.
 
Foreign currencies periodically experience rapid fluctuations in value against the U.S. dollar. Any foreign currency devaluation against the U.S. dollar increases the real cost of our products to our customers and partners in foreign markets where we sell in U.S. dollars, which has resulted in the past and may result in the future in delayed or cancelled purchases of our products and, as a result, lower revenues. In addition, this increase in cost increases the risk to us that we will be unable to collect amounts owed to us by such customers or partners, which in turn would impact our revenues and could materially adversely impact our business and financial results. Any devaluation may also lead us to more aggressively discount our prices in foreign markets in order to maintain competitive pricing, which would negatively impact our revenues and gross margins. Conversely, a weakened U.S. dollar could increase the cost of local operating expenses and procurement of raw materials to the extent we purchase components in foreign currencies.
 
As we continue to expand our business globally, our success will depend, in large part, on our ability to anticipate and effectively manage these and other risks associated with our international operations. Our failure to manage any of these risks successfully could harm our international operations and reduce our international sales, adversely affecting our business, operating results and financial condition.
 
If we are unable to protect our intellectual property rights, our competitive position could be harmed or we could be required to incur significant expenses to enforce our rights.
 
We depend on our ability to protect our proprietary technology. We protect our proprietary information and technology through licensing agreements, third-party nondisclosure agreements and other contractual provisions, as well as through patent, trademark, copyright and trade secret laws in the United States and similar laws in other


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countries. There can be no assurance that these protections will be available in all cases or will be adequate to prevent our competitors from copying, reverse engineering or otherwise obtaining and using our technology, proprietary rights or products. For example, the laws of certain countries in which our products are manufactured or licensed do not protect our proprietary rights to the same extent as the laws of the United States. In addition, third parties may seek to challenge, invalidate or circumvent our patents, trademarks, copyrights and trade secrets, or applications for any of the foregoing. There can be no assurance that our competitors will not independently develop technologies that are substantially equivalent or superior to our technology or design around our proprietary rights. In each case, our ability to compete could be significantly impaired. To prevent substantial unauthorized use of our intellectual property rights, it may be necessary to prosecute actions for infringement and/or misappropriation of our proprietary rights against third parties. Any such action could result in significant costs and diversion of our resources and management’s attention, and there can be no assurance that we will be successful in such action. Furthermore, many of our current and potential competitors have the ability to dedicate substantially greater resources to enforce their intellectual property rights than we do. Accordingly, despite our efforts, we may not be able to prevent third parties from infringing upon or misappropriating our intellectual property.
 
Claims by others that we infringe their intellectual property rights could harm our business.
 
Third parties have asserted and may in the future assert claims of infringement of intellectual property rights against us or against our customers or channel partners for which we may be liable. Due to the rapid pace of technological change in our industry, much of our business and many of our products rely on proprietary technologies of third parties, and we may not be able to obtain, or continue to obtain, licenses from such third parties on reasonable terms. Technology companies frequently enter into litigation based on allegations of patent infringement or other violations of intellectual property rights. In addition, patent holding companies seek to monetize patents they have purchased or otherwise obtained. As our business expands and the number of products and competitors in our market increases and overlaps occur, we expect that infringement claims may increase in number and significance. Intellectual property lawsuits are subject to inherent uncertainties due to the complexity of the technical issues involved, and we cannot be certain that we will be successful in defending ourselves against intellectual property claims. Furthermore, a successful claimant could secure a judgment that requires us to pay substantial damages or prevents us from distributing certain products or performing certain services. In addition, we might be required to seek a license for the use of such intellectual property, which may not be available on commercially acceptable terms or at all. Alternatively, we may be required to develop non-infringing technology, which could require significant effort and expense and may ultimately not be successful. Any claims or proceedings against us, whether meritorious or not, could be time consuming, result in costly litigation, require significant amounts of management time, result in the diversion of significant operational resources, or require us to enter into royalty or licensing agreements.
 
Impairment of our goodwill or other assets would negatively affect our results of operations.
 
Our acquisitions have resulted in total goodwill of $33.1 million and intangible assets of $20.9 million as of July 31, 2011. Goodwill is reviewed for impairment at least annually or sooner under certain circumstances. Other intangible assets that are deemed to have finite useful lives are amortized over their useful lives but must be reviewed for impairment when events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. 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. Therefore, we cannot assure you that a charge to operations will not occur as a result of future goodwill and intangible asset impairment tests. If impairment is deemed to exist, we would write down the recorded value of these intangible assets to their fair values. If and when these write-downs do occur, they could harm our business, financial condition, and results of operations.


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If we lose members of our senior management or are unable to recruit and retain key employees on a cost-effective basis, or if we fail to effectively integrate new officers into our organization, our business could be harmed.
 
Our success is substantially dependent upon the performance of our senior management. All of our executive officers are at-will employees, and we do not maintain any key-man life insurance policies. The loss of the services of any members of our management team may significantly delay or prevent the achievement of our product development and other business objectives and could harm our business. Our success also is substantially dependent upon our ability to attract additional personnel for all areas of our organization, particularly in our sales, research and development, and customer service departments. Experienced management and technical, sales, marketing and support personnel in the IT industry are in high demand, and competition for their talents is intense. Additionally, fluctuations or a sustained decrease in the price of our stock could affect our ability to attract and retain such personnel. When our stock price declines, our equity incentive awards may lose retention value, which may negatively affect our ability to attract and retain such personnel. We may not be successful in attracting and retaining such personnel on a timely basis, on competitive terms, or at all. The loss of, or the inability to recruit, such employees could have a material adverse effect on our business.
 
Our future performance will depend in part on our ability to successfully integrate any new executive officers into our management team and develop an effective working relationship among senior management. For example, we have a new Chief Financial Officer. If we fail to integrate our new Chief Financial Officer, or any other executive officer whom we may hire in the future, and create effective working relationships among them and other members of management, our business operating results and financial condition could be adversely affected.
 
If we fail to manage future growth effectively, our business would be harmed.
 
We have expanded our operations significantly since inception and anticipate that further significant expansion will be required. We intend to increase our market penetration and extend our geographic reach through our network of channel partners. We also plan to increase offshore operations by establishing additional offshore capabilities for certain engineering and general and administrative functions. This future growth, if it occurs, will place significant demands on our management, infrastructure and other resources. To manage any future growth, we will need to hire, integrate and retain highly skilled and motivated employees. We will also need to continue to improve and expand our information technology and financial infrastructure, operating and administrative systems and controls, and continue to manage headcount, capital and processes in an efficient manner. Our failure to improve our systems and processes, or their failure to operate in the intended manner, may result in our inability to manage the growth of our business and to accurately forecast our revenues, expenses and earnings, or to prevent certain losses. Any future growth would add complexity to our organization and require effective coordination within our organization. If we do not effectively manage our growth, our business, operating results and financial condition could be adversely affected.
 
Our ability to sell our products is highly dependent on the quality of our support and services offerings, and our failure to offer high quality support and services would have a material adverse effect on our sales and results of operations.
 
Once our products are deployed within our end customers’ networks, our customers depend on our support organization to resolve any issues relating to our products. A high level of support is critical for the successful marketing and sale of our products. If we or our channel partners do not effectively assist our end customers in deploying our products, succeed in helping our end customers quickly resolve post-deployment issues, or provide effective ongoing support, it would adversely affect our ability to sell our products to existing customers and could harm our reputation with potential customers. In addition, as we expand our operations internationally, our support organization will face additional challenges, including those associated with delivering support, training and documentation in languages other than English. As a result, our failure, or the failure of our channel partners, to maintain high quality support and services would have a material adverse effect on our business, operating results and financial condition.


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Enterprises are increasingly concerned with the security of their data, and to the extent they elect to encrypt data between the end user and the server, our products will become less effective.
 
Our products depend on the ability to identify applications. Our products currently do not identify applications if the data is encrypted as it passes through our mobility controllers. Since most organizations currently encrypt most of their data transmissions only between sites and not on the LAN, the data is not encrypted when it passes through our mobility controllers. If more organizations elect to encrypt their data transmissions from the end user to the server, our products will offer limited benefits unless we have been successful in incorporating additional functionality into our products that address those encrypted transmissions. At the same time, if our products do not provide the level of network security expected by our customers, our reputation and brand would be damaged, and we would expect to experience decreased sales. Our failure to provide such additional functionality and expected level of network security could adversely affect our business, operating results and financial condition.
 
Our products are highly technical and may contain undetected hardware errors or software bugs, which could cause harm to our reputation and adversely affect our business.
 
Our products are highly technical and complex and, when deployed, are critical to the operation of many networks. Our products have contained and may contain undetected errors, bugs or security vulnerabilities. Some errors in our products may only be discovered after a product has been installed and used by customers. Any errors, bugs, defects or security vulnerabilities discovered in our products after commercial release could result in loss of revenues or delay in revenue recognition, loss of customers, damage to our brand and reputation, and increased service and warranty cost, any of which could adversely affect our business, operating results and financial condition. In addition, we could face claims for product liability, tort or breach of warranty, including claims relating to changes to our products made by our channel partners. Our contracts with customers 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 adversely affect the market’s perception of us and our products. In addition, if our business liability insurance coverage proves inadequate or future coverage is unavailable on acceptable terms or at all, our business, operating results and financial condition could be adversely impacted.
 
Our use of open source software could impose limitations on our ability to commercialize our products.
 
We incorporate open source software into our products. Although we monitor our use of open source closely, the terms of many open source licenses have not been interpreted by U.S. courts, and there is a risk that such licenses could be construed in a manner that could impose unanticipated conditions or restrictions on our ability to commercialize our products. We could also be subject to similar conditions or restrictions should there be any changes in the licensing terms of the open source software incorporated into our products. In either event, we could be required to seek licenses from third parties in order to continue offering our products, to re-engineer our products or to discontinue the sale of our products in the event re-engineering cannot be accomplished on a timely basis, any of which could adversely affect our business, operating results and financial condition.
 
We rely on the availability of third-party licenses.
 
Many of our products are designed to include software or other intellectual property licensed from third parties. It may be necessary in the future to seek or renew licenses relating to various aspects of these products. There can be no assurance that the necessary licenses would be available on acceptable terms, if at all. The inability to obtain certain licenses or other rights or to obtain such licenses or rights on favorable terms, or the need to engage in litigation regarding these matters, could have a material adverse effect on our business, operating results, and financial condition. Moreover, the inclusion in our products of software or other intellectual property licensed from third parties on a nonexclusive basis could limit our ability to protect our proprietary rights in our products.


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Enterprises may have slow WAN connections between some of their locations that may cause our products to become less effective.
 
Our mobility controllers and network management software were initially designed to function at LAN-like speeds in an office building or campus environment. In order to function appropriately, our mobility controllers synchronize with each other over network links. The ability of our products to synchronize may be limited by slow or congested data-links, including digital subscriber line (“DSL”) and dial-up. Our failure to provide such additional functionality could adversely affect our business, operating results and financial condition.
 
New regulations or changes in existing regulations related to our products may result in unanticipated costs or liabilities, which could have a material adverse effect on our business, results of operations and future sales, and could place additional burdens on the operations of our business.
 
Our products are subject to governmental regulations in a variety of jurisdictions. If any of our products becomes subject to new regulations or if any of our products becomes specifically regulated by additional government entities, compliance with such regulations could become more burdensome, and there could be a material adverse effect on our business and results of operations. For example, radio emissions are subject to regulation in the United States and in other countries in which we do business. In the United States, various federal agencies including the Center for Devices and Radiological Health of the Food and Drug Administration, the Federal Communications Commission, the Occupational Safety and Health Administration and various state agencies have promulgated regulations that concern the use of radio/electromagnetic emissions standards. Member countries of the European Union (“EU”) have enacted similar standards concerning electrical safety and electromagnetic compatibility and emissions standards.
 
If any of our products becomes subject to new regulations or if any of our products becomes specifically regulated by additional government entities, compliance with such regulations could become more burdensome, and there could be a material adverse effect on our business and our results of operations.
 
In addition, our wireless communication products operate through the transmission of radio signals. Currently, operation of these products in specified frequency bands does not require licensing by regulatory authorities. Regulatory changes restricting the use of frequency bands or allocating available frequencies could become more burdensome and could have a material adverse effect on our business, results of operations and future sales.
 
Compliance with environmental matters and worker health and safety laws could be costly, and noncompliance with these laws could have a material adverse effect on our results of operations, expenses and financial condition.
 
Some of our operations use substances regulated under various federal, state, local and international laws governing the environment and worker health and safety, including those governing the discharge of pollutants into the ground, air and water, the management and disposal of hazardous substances and wastes, and the cleanup of contaminated sites. Some of our products are subject to various federal, state, local and international laws governing chemical substances in electronic products. We could be subject to increased costs, fines, civil or criminal sanctions, third-party property damage or personal injury claims if we violate or become liable under environmental and/or worker health and safety laws.
 
We are subject to governmental export and import controls that could subject us to liability or impair our ability to compete in international markets.
 
Because we incorporate encryption technology into our products, our products are subject to U.S. export controls and may be exported outside the United States only with the required level of export license or through an export license exception. In addition, various countries regulate the import of certain encryption technology and radio frequency transmission equipment and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to implement our products in those countries. Changes in our products or changes in export and import regulations may increase the cost of building and selling our products, create delays in the introduction of our products in international markets, prevent our customers with international operations from deploying our products throughout their global systems or, in some cases, prevent the export or import of our


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products to certain countries altogether. Any change in export or import regulations or related legislation, shift in approach to the enforcement or scope of existing regulations, or change in the countries, persons or technologies targeted by such regulations, could result in decreased use of our products by, or in our decreased ability to export or sell our products to, existing or potential customers with international operations. Any decreased use of our products or limitation on our ability to export or sell our products would harm our business, operating results and financial condition.
 
Changes in our tax rates could adversely affect our future results.
 
We are a U.S. based multinational company subject to tax in multiple U.S. and foreign tax jurisdictions. Unanticipated changes in our tax rates could affect our future results of operations. Our future effective tax rates, which are difficult to predict, could be unfavorably affected by nondeductible stock-based compensation, changes in the research and development tax credit laws, earnings being lower than anticipated in jurisdictions where we have lower statutory rates and being higher than anticipated in jurisdictions where we have higher statutory rates, transfer pricing adjustments, not meeting the terms and conditions of tax holidays or incentives, changes in the valuation of our deferred tax assets and liabilities, changes in actual results versus our estimates, or changes in tax laws, regulations, accounting principles or interpretations thereof. Further, the accounting for stock compensation expense in accordance with Accounting Standards Codification Topic 718 Stock Compensation and uncertain tax positions in accordance with Accounting Standards Codification Topic 740 Income Taxes (“ASC 740”) could result in more unpredictability and variability to our future effective tax rates.
 
We are also subject to the periodic examination of our income tax returns by the Internal Revenue Service and other tax authorities. We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our provision for income taxes. We may underestimate the outcome of such examinations which, if significant, would have a material adverse effect on our results of operations and financial condition.
 
If we do not achieve increased tax benefits as a result of our planned new corporate structure, our financial condition and operating results could be adversely affected.
 
We intend to implement a new structure of our corporate organization during fiscal year 2012 to more closely align our corporate organization with the international nature of our business activities and to reduce our overall effective tax rate through changes in how we develop and use our intellectual property and the structure of our international procurement and sales, including by entering into transfer-pricing arrangements that establish transfer prices for our intercompany transactions. We anticipate achieving a reduction in our overall effective tax rate in the future as a result. There can be no assurance that the taxing authorities of the jurisdictions in which we operate or to which we are otherwise deemed to have sufficient tax nexus will not challenge the tax benefits that we expect to realize as a result of the new structure. In addition, future changes to U.S. or non-U.S. tax laws, including proposed legislation to reform U.S. taxation of international business activities as described above, would negatively impact the anticipated tax benefits of the proposed new structure. Any benefits to our tax rate will also depend on our ability to operate our business in a manner consistent with the new structure of our corporate organization and applicable taxing provisions, including by eliminating the amount of cash distributed to us by our subsidiaries. If the intended tax treatment is not accepted by the applicable taxing authorities, changes in tax law negatively impact the proposed structure or we do not operate our business consistent with the new structure and applicable tax provisions, we may fail to achieve the financial efficiencies that we anticipate as a result of the new structure and our future operating results and financial condition may be negatively impacted.
 
We incur significant costs as a result of operating as a public company, and our management devotes substantial time to compliance initiatives.
 
We incur significant legal, accounting and other expenses as a public company, including costs resulting from regulations regarding corporate governance practices and costs relating to compliance with the Sarbanes-Oxley Act. For example, the listing requirements of the Nasdaq Stock Market’s Global Select Market require that we satisfy certain corporate governance requirements relating to independent directors, audit committees, distribution of annual and interim reports, stockholder meetings, stockholder approvals, solicitation of proxies, conflicts of


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interest, stockholder voting rights and codes of conduct. In addition, the Dodd-Frank Wall Street Reform and Consumer Protection Act contains various provisions applicable to the corporate governance functions of public companies. Our management and other personnel devote a substantial amount of time to these compliance initiatives. Moreover, these rules and regulations have increased our legal and financial compliance costs and will make some activities more time consuming and costly. For example, these rules and regulations could make it more difficult for us to attract and retain qualified persons to serve on our Board of Directors, our board committees or as executive officers.
 
Our business is subject to the risks of earthquakes, fire, floods and other natural catastrophic events, and to interruption by manmade problems such as computer viruses or terrorism.
 
Our corporate headquarters are located in the San Francisco Bay Area, a region known for seismic activity. A significant natural disaster, such as an earthquake, fire or a flood, occurring at our headquarters or in either China or Singapore, where our major contract manufacturers are located, could have a material adverse impact on our business, operating results and financial condition. Our servers are vulnerable to computer viruses, break-ins and similar disruptions from unauthorized tampering with our computer systems. In addition, natural disasters, acts of terrorism or war could cause disruptions in our or our customers’ businesses or the economy as a whole. We also rely on information technology systems to communicate among our workforce and with third parties. Any disruption to our communications, whether caused by a natural disaster or by manmade problems, such as power disruptions, could adversely affect our business. To the extent that any such disruptions result in delays or cancellations of customer orders, or the deployment of our products, our business, operating results and financial condition would be adversely affected.
 
Risks Related to Ownership of our Common Stock
 
Our stock price may be volatile.
 
The trading price of our common stock has been and may continue to be volatile and could be subject to wide fluctuations in response to various factors, some of which are beyond our control. Factors that could affect the trading price of our common stock could include:
 
  •  variations in our operating results;
 
  •  announcements of technological innovations, new products or product enhancements, strategic alliances or significant agreements by us or by our competitors;
 
  •  the gain or loss of significant customers;
 
  •  recruitment or departure of key personnel;
 
  •  the impact of unfavorable worldwide economic and market conditions;
 
  •  falling short of guidance on our financial results;
 
  •  developments or disputes concerning our intellectual property or other proprietary rights;
 
  •  commencement of, or our involvement in, litigation;
 
  •  announcements by or about us regarding events or news adverse to our business;
 
  •  the loss or bankruptcy of any of our major customers, distribution partners or suppliers;
 
  •  variations in the operating results of other publicly traded corporations deemed by investors to be in our peer group;
 
  •  an announced acquisition of or by a competitor, or an announced acquisition of or by us;
 
  •  rumors and market speculation involving us or other companies in our industry;


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  •  providing estimates of our future operating results, or changes in these estimates, either by us or by any securities analysts who follow our common stock, or changes in recommendations by any securities analysts who follow our common stock;
 
  •  significant sales, or announcement of significant sales, of our common stock by us or our stockholders;
 
  •  adoption or modification of regulations, policies, procedures or programs applicable to our business; and
 
  •  other events or factors, including those resulting from war, incidents of terrorism or responses to these events.
 
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. Broad market and industry factors may seriously affect the market price of our common stock, regardless of our actual operating performance. In addition, in the past, following periods of volatility in the overall market and the market price of a particular 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. All of these factors could cause the market price of our common stock to decline, and investors may lose some or all of the value of their investment.
 
If securities or industry analysts do not publish research or reports about our business, or if they issue an adverse or misleading opinion regarding our stock, 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 or our business. If any of the analysts who cover us issue an adverse or misleading opinion regarding our stock, our stock price would likely decline. If one or more of these analysts cease coverage of our company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline.
 
Insiders have substantial control over us and will be able to influence corporate matters.
 
As of July 31, 2011, our directors and executive officers and their affiliates beneficially owned, in the aggregate, approximately 9.5% of our outstanding common stock. As a result, these stockholders will be able to exercise influence over matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions, such as a merger or other sale of our company or its assets. This concentration of ownership could limit stockholders’ ability to influence corporate matters and may have the effect of delaying or preventing a third party from acquiring control over us.
 
We may choose to raise additional capital. Such capital may not be available, or may be available on unfavorable terms, which may dilute the ownership of our common stock.
 
If we choose to raise additional funds through public or private debt or equity financings, due to unforeseen circumstances or material expenditures, we cannot be certain that we will be able to obtain additional financing on favorable terms, if at all, and any additional financings could result in additional dilution to our existing stockholders. In addition, capital raised through debt financing may require us to make periodic interest payments and may impose potentially restrictive covenants on the conduct of our business.
 
Provisions in our charter documents, Delaware law, employment arrangements with certain of our executive officers, and our OEM supply agreement with Alcatel-Lucent could discourage a takeover that stockholders may consider favorable.
 
Provisions in our 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:
 
  •  our board of directors has the right to elect directors to fill a vacancy created by the expansion of the board of directors or the resignation, death or removal of a director, which prevents stockholders from being able to fill vacancies on our board of directors;


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  •  our stockholders may not act by written consent or call special stockholders’ meetings; as a result, a holder, or holders, controlling a majority of our capital stock would not be able to take certain actions other than at annual stockholders’ meetings or special stockholders’ meetings called by the board of directors, the chairman of the board, the Chief Executive Officer or the president;
 
  •  our certificate of incorporation prohibits cumulative voting in the election of directors, which limits the ability of minority stockholders to elect director candidates;
 
  •  stockholders must provide advance notice and additional disclosures in order to nominate individuals for election to the board of directors or to propose matters that can be acted upon at a stockholders’ meeting, which may discourage or deter a potential acquiror from conducting a solicitation of proxies to elect the acquiror’s own slate of directors or otherwise attempting to obtain control of our company; and
 
  •  our board of directors may issue, without stockholder approval, shares of undesignated preferred stock; the ability to issue undesignated preferred stock makes it possible for our board of directors to issue preferred stock with voting or other rights or preferences that could impede the success of any attempt to acquire us.
 
As a Delaware corporation, we are also subject to certain Delaware anti-takeover provisions. Under Delaware law, a corporation may not engage in a business combination with any holder of 15% or more of its capital stock unless the holder has held the stock for three years or, among other things, the board of directors has approved the transaction. Our board of directors could rely on Delaware law to prevent or delay an acquisition of us.
 
Certain of our executive officers may be entitled to accelerated vesting of their stock options pursuant to the terms of their employment arrangements upon a change of control of Aruba. In addition to the arrangements currently in place with some of our executive officers, we may enter into similar arrangements in the future with other officers. Such arrangements could delay or discourage a potential acquisition of Aruba.
 
In addition, our OEM supply agreement with Alcatel-Lucent provides that, in the event of a change of control that would cause Alcatel-Lucent to purchase our products from an entity that is an Alcatel-Lucent competitor, we must, without additional consideration, (1) provide Alcatel-Lucent with any information required by Alcatel-Lucent to make, test and support the products that we distribute through our OEM relationship with Alcatel-Lucent, including all hardware designs and software source code, and (2) otherwise cooperate with Alcatel-Lucent to transition the manufacturing, testing and support of these products to Alcatel-Lucent. We are also obligated to promptly inform Alcatel-Lucent if and when we receive an inquiry concerning a bona fide proposal or offer to effect a change of control and will not enter into negotiations concerning a change of control without such prior notice to Alcatel-Lucent. Each of these provisions could delay or result in a discount to the proceeds our stockholders would otherwise receive upon a change of control or could discourage a third party from making a change of control offer.
 
We are required to evaluate our internal control over financial reporting under the Sarbanes-Oxley Act of 2002 and any adverse results from such evaluation could result in a loss of investor confidence in our financial reports and have an adverse effect on our stock price.
 
The Sarbanes-Oxley Act requires us to furnish a report by our management on our internal control over financial reporting. Such report contains, among other matters, an assessment of the effectiveness of our internal control over financial reporting as of the end of our fiscal year, including a statement as to whether or not our internal control over financial reporting is effective. This assessment must include disclosure of any material weaknesses in our internal control over financial reporting identified by management. While we were able to assert in this report that our internal control over financial reporting was effective as of July 31, 2011, we must continue to monitor and assess our internal control over financial reporting. If we are unable to assert in any future reporting period that our internal control over financial reporting is effective (or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal controls), we could lose investor confidence in the accuracy and completeness of our financial reports, which would have an adverse effect on our stock price.
 
ITEM 1B.   UNRESOLVED STAFF COMMENTS
 
Not applicable.


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ITEM 2.   PROPERTIES
 
We have approximately 196,000 square feet of office space in Sunnyvale, California pursuant to three leases that expire in July 2016. We also lease approximately 40,000 square feet of warehouse space in Sunnyvale, California pursuant to a lease that expires in July 2016. We also maintain customer service centers, sales offices and research and development facilities in multiple locations worldwide. See Note 12 of our Notes to Consolidated Financial Statements for information regarding our lease obligations.
 
We believe that our current facilities are suitable and adequate to meet our current needs and we intend to add new facilities or expand existing facilities as necessary.
 
ITEM 3.   LEGAL PROCEEDINGS
 
From time to time, we are involved in claims and legal proceedings that arise in the ordinary course of business. We expect that the number and significance of these matters will increase as our business expands. Any claims or proceedings against us, whether meritorious or not, could be time consuming, result in costly litigation, require significant amounts of management time, result in the diversion of significant operational resources, or require us to enter into royalty or licensing agreements which, if required, may not be available on terms favorable to us or at all. If management believes that a loss arising from these matters is probable and can be reasonably estimated, we record the amount of the loss. As additional information becomes available, any potential liability related to these matters is assessed and the estimates revised. Based on currently available information, management does not believe that the ultimate outcomes of these unresolved matters, individually and in the aggregate, are likely to have a material adverse effect on our financial position, liquidity or results of operations. However, litigation is subject to inherent uncertainties, and our view of these matters may change in the future. Were an unfavorable outcome to occur, there exists the possibility of a material adverse impact on our financial position and results of operations or liquidity for the period in which the unfavorable outcome occurs or becomes probable, and potentially in future periods.
 
ITEM 4.   RESERVED


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PART II
 
ITEM 5.   MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER REPURCHASES OF EQUITY SECURITIES
 
Market Information for Our Common Stock
 
Our common stock is traded on the Nasdaq Global Select Market under the symbol “ARUN”. The following table sets forth, for the periods indicated, the high and low sales prices for our common stock as reported on the Nasdaq Global Select Market.
 
                 
    High   Low
 
Fiscal 2010
               
First Quarter
  $ 9.48     $ 7.75  
Second Quarter
  $ 11.59     $ 7.59  
Third Quarter
  $ 13.89     $ 9.92  
Fourth Quarter
  $ 18.18     $ 10.80  
Fiscal 2011
               
First Quarter
  $ 22.24     $ 16.44  
Second Quarter
  $ 25.97     $ 20.88  
Third Quarter
  $ 35.92     $ 22.11  
Fourth Quarter
  $ 34.50     $ 22.78  
 
Holders
 
As of September 14, 2011, there were approximately 346 holders of record of our common stock. Because many of our shares are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of stockholders represented by these record holders.


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Stock Performance Graph
 
The following graph compares, for the period between March 20, 2007 (the date of our initial public offering) and July 31, 2011, the cumulative total stockholder return for our common stock, the Nasdaq Composite Index and the Nasdaq Computer Index. The graph assumes that $100 was invested on March 27, 2007 in our common stock, the Nasdaq Composite Index and the Nasdaq Computer Index and assumes reinvestment of any dividends. The stock price performance on the following graph is not necessarily indicative of future stock price performance. This performance graph shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), or incorporated by reference into any of our filings under the Securities Act of 1933, as amended, or the Exchange Act, except as shall be expressly set forth by specific reference in such filing.
 
COMPARISON OF 52 MONTH CUMULATIVE TOTAL RETURN*
Among Aruba Networks Inc, The NASDAQ Composite Index
And The NASDAQ Computer Index
 
(PERFORMANCE GRAPH)
 
 
(*) $100 invested on 3/27/07 in stock or 2/28/07 in index, including reinvestment of dividends.
Fiscal year ending July 31.
 
Dividend Policy
 
We have never declared or paid any cash dividend on our capital stock. We currently intend to retain any future earnings and do not expect to pay any dividends in the foreseeable future.
 
Repurchases of Equity Securities by the Issuer and Affiliated Purchasers
 
There were no repurchases of equity securities by us during fiscal 2011.
 
Equity Compensation Plan Information
 
See Item 12 of Part III of this report regarding information about securities authorized for issuance under our equity compensation plans.


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ITEM 6.   SELECTED CONSOLIDATED FINANCIAL DATA
 
You should read the following selected consolidated historical financial data below in conjunction with the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the Consolidated Financial Statements, related notes and schedule, and other financial information included in this report. The selected consolidated financial data in this section is not intended to replace the Consolidated Financial Statements and is qualified in its entirety by the Consolidated Financial Statements and related notes and schedule included in this report. The consolidated statement of operations data for the years ended July 31, 2008 and 2007, and the consolidated balance sheet data as of July 31, 2009, 2008 and 2007 are derived from audited consolidated financial statements, which are not included in this report.
 
                                         
    Years Ended July 31,  
    2011     2010     2009     2008     2007  
    (In thousands, except per share data)  
 
Consolidated Statements of Operations Data:
                                       
Revenues:
                                       
Product
  $ 334,860     $ 221,474     $ 161,927     $ 148,550     $ 107,939  
Professional services and support
    61,063       44,323       35,946       26,244       12,847  
Ratable product and related professional services and support
    591       737       1,386       3,466       6,713  
                                         
Total revenues
    396,514       266,534       199,259       178,260       127,499  
Cost of revenues(1):
                                       
Product
    107,820       77,070       59,917       48,126       36,035  
Professional services and support
    14,873       8,775       7,437       7,761       4,863  
Ratable product and related professional services and support
    10       229       483       1,228       2,470  
                                         
Total cost of revenues
    122,703       86,074       67,837       57,115       43,368  
                                         
Gross profit
    273,811       180,460       131,422       121,145       84,131  
Operating expenses:
                                       
Research and development(1)
    84,890       51,619       40,293       37,393       25,654  
Sales and marketing(1)
    154,239       109,393       90,241       86,008       60,115  
General and administrative(1)
    39,431       30,953       23,198       17,740       14,600  
In-process research and development
                            632  
Acquisition related severance expense
                      197        
Restructuring expenses
                1,447              
Litigation reserves
          21,900                    
                                         
Total operating expenses
    278,560       213,865       155,179       141,338       101,001  
                                         
Operating loss
    (4,749 )     (33,405 )     (23,757 )     (20,193 )     (16,870 )
Other income (expense), net
    3,802       135       1,132       4,036       (7,137 )
                                         
Income (loss) before provision for (benefit from) income taxes
    (947 )     (33,270 )     (22,625 )     (16,157 )     (24,007 )
Provision for (benefit from) income taxes
    (71,635 )     728       788       967       375  
                                         
Net income (loss)
  $ 70,688     $ (33,998 )   $ (23,413 )   $ (17,124 )   $ (24,382 )
                                         
Shares used in computing net income (loss) per common — basic
    100,299       89,978       84,612       79,467       34,808  
Net income (loss) per common share — basic
  $ 0.70     $ (0.38 )   $ (0.28 )   $ (0.22 )   $ (0.70 )
Shares used in computing net income (loss) per common — diluted
    117,117       89,978       84,612       79,467       34,808  
Net income (loss) per common share — diluted
  $ 0.60     $ (0.38 )   $ (0.28 )   $ (0.22 )   $ (0.70 )


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(1) Includes stock-based compensation as follows:
 
                                         
    Years Ended July 31,
    2011   2010   2009   2008   2007
    (In thousands)
 
Cost of revenues
  $ 3,464     $ 1,397     $ 1,018     $ 704     $ 327  
Research and development
    23,026       10,716       7,577       6,200       2,925  
Sales and marketing
    24,399       14,205       10,520       8,953       4,362  
General and administrative
  $ 12,862     $ 9,763     $ 5,464     $ 3,421     $ 5,103  
 
                                         
    As of July 31,
    2011   2010   2009   2008   2007
    (In thousands)
 
Consolidated Balance Sheet Data:
                                       
Cash and cash equivalents
  $ 80,773     $ 31,254     $ 41,298     $ 37,602     $ 42,570  
Short-term investments
    153,185       124,167       81,839       64,130       62,430  
Working capital
    269,900       133,927       115,639       103,097       109,496  
Total assets
    488,871       250,707       203,054       188,801       152,133  
Common stock and additional paid-in-capital
    450,157       326,187       279,035       249,139       213,553  
Total stockholders’ equity
  $ 345,342     $ 150,655     $ 137,585     $ 130,875     $ 112,487  
 
ITEM 7.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
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 are a global leader in distributed enterprise networks that securely connect local and remote users to corporate IT resources. Our award-winning portfolio of campus, branch office, teleworker, and mobile solutions simplify operations and provide secure access to all corporate applications and services — regardless of a user’s device, location, or network. The result is improved productivity and lower capital and operating costs.
 
Our product portfolio encompasses: industry-leading high-speed 802.11a/b/g/n WLANs, Virtual Branching Networking solutions for branch offices and teleworkers, network operations tools, including spectrum analyzers, wireless intrusion prevention systems, and the AirWave Wireless Management Suite for managing wired, wireless, and mobile device networks. During the third quarter of fiscal 2011, we introduced our new MOVE architecture. Our MOVE architecture integrates wireless, wired and remote silos into one cohesive access solution enabled by cloud based mobility services. Access privileges are context aware, meaning they are based on user, device, application and location, and this dictates the type of network resources each person is entitled to access. These products are key to our network rightsizing initiative which allows companies to move toward a low-cost IT infrastructure solution by funding wireless projects rather than wired LANs.
 
Our products have been sold to over 15,500 end customers worldwide (not including customers of Alcatel-Lucent), including some of the largest and most complex global organizations. We have implemented a two-tier distribution model in most areas of the world, including the United States, with VADs selling our portfolio of products, including a variety of our support services, to a diverse number of 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.


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Major Trends Affecting Our Financial Results
 
Worldwide Economic Conditions
 
Our business depends on the overall demand for IT and on the economic health and general willingness of our current and prospective customers to make capital commitments. If the conditions in the U.S. and global economic environment remain uncertain or continue to be volatile, or if they deteriorate further, our business, operating results, and financial condition may be materially adversely affected. Economic weakness, customer financial difficulties and constrained spending on IT initiatives have resulted, and may in the future result, in challenging and delayed sales cycles and could negatively impact our ability to forecast future periods. In particular, we cannot be assured of the level of IT spending, the deterioration of which could have a material adverse effect on our results of operations and growth rates.
 
Revenues
 
Our ability to increase our product revenues will depend significantly on continued growth in the market for enterprise mobility and remote networking solutions, continued acceptance of our products in the marketplace, our ability to continue to attract new customers, our ability to compete, the willingness of customers to displace wired networks with wireless LANs, in particular, wireless LANs that utilize our 802.11n solution, 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 also be directly affected by the timing and size of orders, product and channel mix, average selling prices, costs of our products, our ability to effectively implement and generate incremental business from our two-tier distribution model, general economic conditions, and the extent to which we invest in our sales and marketing, research and development, and general and administrative resources.
 
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 our product offerings, in particular our products that incorporate 802.11n wireless LAN standard technologies, will enable broader networking initiatives by both our current and potential customers in the future. 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 that are shipped in the current quarter, and (3) the amount of deferred revenue entering a given quarter. Our product deferred revenue is comprised of:
 
  •  product orders that have shipped but where the terms of the agreement, typically with our large customers, contain acceptance terms and conditions or other terms that require that the revenue be deferred until all revenue recognition criteria are met; and
 
  •  product orders shipped to our VADs and OEMs for which we have not yet received persuasive evidence from the VADs or OEMs of a sale to an end customer.
 
We typically ship products within a reasonable time period after the receipt of an order.
 
Costs and 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. Personnel-related costs are the most significant component of each these categories. Our total headcount increased to 1,057 at July 31, 2011 from 1,009 at April 30, 2011, 924 at January 31, 2011, 868 at October 31, 2010 and 681 at July 31, 2010. The increase in employees is the most significant driver behind the increase in costs and operating expenses in fiscal 2011. Going forward, we expect to continue to hire employees throughout the company.


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Acquisitions
 
On November 19, 2010, we entered into an agreement with Amigopod, pursuant to which we acquired substantially all of its assets. The acquisition was completed on December 3, 2010. The total consideration was $3.0 million and resulted in additional goodwill of $0.6 million.
 
On September 2, 2010, we completed our acquisition of Azalea Networks for a total purchase price of $42.0 million which included common stock, cash, and contingent rights. Azalea is a leading supplier of outdoor mesh networks and includes an operations center in Beijing, China that will complement our existing research and development centers. As part of the acquisition, we recorded $5.5 million of tangible assets, $17.0 million of intangible assets and $24.8 million of goodwill. We recorded a liability for the estimated fair value of the contingent rights which was based on significant inputs not observed in the market and thus represents a Level 3 instrument. Level 3 instruments are valued based on unobservable inputs that are supported by little or no market activity and reflect our own assumptions in measuring fair value. Gains and losses on the remeasurement of the liability are included in other income (expense), net. See Note 2 to the Notes to the Consolidated Financial Statements.
 
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, switches, 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 services 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, and OEMs. We expect revenues from indirect channels to continue to constitute a significant 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. 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 remain consistent or increase as a percentage of total revenues in fiscal 2012 compared to fiscal 2011. For more information about our international revenues, see Note 11 of the Notes to Consolidated Financial Statements.
 
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 our contract manufacturers. Our contractor manufacturers produce 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, Bangalore, India and Beijing, China. Cost of product revenues also includes amortization expense from our purchased intangible assets.
 
Cost of professional services and support revenues is primarily comprised of personnel costs, including stock-based compensation, of providing technical support, including personnel costs associated with our internal support organization. In addition, we engage 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.


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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;
 
  •  product mix and average selling prices;
 
  •  new product introductions, such as our MOVE architecture and our outdoor mesh network products, and product enhancements made by us as well as those made by our competitors;
 
  •  pressure to discount our products in response to our competitor’s discounting practices;
 
  •  mix of revenue attributed to our international regions;
 
  •  demand for our products and services;
 
  •  our ability to attain volume manufacturing pricing from our contract manufacturers 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;
 
  •  costs associated with manufacturing overhead;
 
  •  our ability to manage freight costs; 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 significant majority of our total revenues, which, by itself, negatively impacts our gross margins. Further, we expect that within our indirect channel, sales through our VADs and OEMs will continue to be significant, which will negatively impact our gross margins as VADs and OEMs experience a larger net effective discount than our other channel partners.
 
Research and Development Expenses
 
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 2012, we expect research and development expenses to increase on an absolute dollar basis and decrease as a percentage of revenue compared to fiscal 2011.
 
Sales and Marketing Expenses
 
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. Amortization expense related to our purchased intangible assets is also included in sales and marketing expenses. 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. As a result, these expenses will reduce 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 2012, we expect sales and


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marketing expenses to increase on an absolute dollar basis and decrease as a percentage of revenue compared to fiscal 2011.
 
General and Administrative Expenses
 
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 enterprise resource planning (“ERP”) system. Further, our general and administrative expenses include professional services consisting of outside legal, audit, Sarbanes-Oxley and IT consulting costs. We have incurred in the past, and may continue to incur, significant legal costs defending ourselves against claims made by third parties. These expenses are expected to continue as part of our ongoing operations and depending on the timing and outcome of lawsuits and the legal process, could have a significant impact on our financial statements. For fiscal 2012, we expect general and administrative expenses to increase on an absolute dollar basis and decrease as a percentage of revenue compared to fiscal 2011.
 
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, losses or gains on remeasurement of non-U.S. dollar transactions into U.S. dollars, and in connection with our acquisition of Azalea in September 2010, changes in the fair value of our contingent rights liability.
 
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 and Sales Returns
 
In October 2009, the Financial Accounting Standards Board (“FASB”) amended the accounting standards for revenue recognition to remove tangible products containing software components and non-software components that function together to deliver the product’s essential functionality from the scope of industry-specific software revenue recognition guidance. In October 2009, the FASB also amended the accounting standards for multiple-element revenue arrangements to:
 
(i) provide updated guidance on how the elements in a multiple-element arrangement should be separated, and how the consideration should be allocated;
 
(ii) require an entity to allocate revenue amongst the elements in an arrangement using estimated selling price if a vendor does not have vendor-specific objective evidence (“VSOE”) of the selling price or third-party evidence of the selling price; and
 
(iii) eliminate the use of the residual method and require an entity to allocate revenue using the relative selling price method.
 
We adopted this accounting guidance at the beginning of our first quarter of fiscal 2011 on a prospective basis for applicable arrangements originating or materially modified after July 31, 2010. The impact of this adoption was not material to our financial position and results of operations for fiscal 2011.


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This guidance does not generally change the units of accounting for our revenue transactions. Most non-software products and services qualify as separate units of accounting because they have value to the customer on a stand-alone basis and our revenue arrangements generally do not include a general right of return relative to delivered products.
 
The majority of our products are hardware appliances containing software components that function together to provide the essential functionality of the product. Therefore, our hardware appliances are considered non-software elements and are not subject to the industry-specific software revenue recognition guidance.
 
Our product revenue also includes revenue from the sale of stand-alone software products. Stand-alone software products may operate on our hardware appliance but are not considered essential to the functionality of the hardware. Sales of stand-alone software generally include a perpetual license to our software. Sales of stand-alone software continue to be subject to the industry-specific software revenue recognition guidance.
 
For all arrangements originating or materially modified after July 31, 2010, we recognize revenue in accordance with the amended accounting guidance. Certain arrangements with multiple-elements may continue to have stand-alone software elements that are subject to the existing software revenue recognition guidance along with non-software elements that are subject to the amended revenue accounting guidance. The revenue for these multiple deliverable arrangements is allocated to the stand-alone software elements as a group and the non-software elements based on the relative selling prices of all of the elements in the arrangement using the fair value hierarchy in the amended revenue accounting guidance.
 
For sales of stand-alone software after July 31, 2010 and for all transactions entered into prior to the first quarter of 2011, we recognize revenue based on software revenue recognition guidance. Under the software revenue recognition guidance, we use the residual method to recognize revenue when a product agreement includes one or more elements to be delivered at a future date and VSOE of the fair value of all undelivered elements exists. In the majority of our contracts, the only element that remains undelivered at the time of delivery of the product is support services. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the contract fee is recognized as product revenue. If evidence of the fair value of one or more undelivered elements does not exist, all revenue is generally deferred and recognized when delivery of those elements occurs or when fair value can be established. When the undelivered element for which we do not have VSOE of fair value is support, revenue for the entire arrangement is bundled and recognized ratably over the support period.
 
VSOE for elements of an arrangement is based upon the normal pricing and discounting practices for those services when sold separately, and VSOE for support services is measured by the stand-alone renewal rate offered to the customer. In determining VSOE, we require that a substantial majority of the selling prices for an element falls within a reasonably narrow pricing range, generally evidenced by a substantial majority of such historical stand-alone transactions falling within a reasonably narrow range of the median rates. In addition, we consider major service groups, geographies, customer classifications, and other variables in determining VSOE.
 
We are typically not able to determine third-party evidence (“TPE”) for our products or services. TPE is determined based on competitor prices for similar elements when sold separately. Generally, our go-to-market strategy differs from that of our peers and our offerings contain a significant level of differentiation such that the comparable pricing of products with similar functionality cannot be obtained. Furthermore, we are unable to reliably determine what similar competitor products’ selling prices are on a stand-alone basis.
 
When we are unable to establish selling price of our non-software elements using VSOE or TPE, we use estimated selling price (“ESP”) in our allocation of arrangement consideration. The objective of ESP is to determine the price at which we would transact a sale if the product or service were sold on a stand-alone basis. We determine ESP for a product or service by considering multiple factors including, but not limited to, cost of products, gross margin objectives, pricing practices, geographies, customer classes and distribution channels.
 
We regularly review VSOE and ESP and maintain internal controls over the establishment and updates of these estimates. There was not a material impact during fiscal 2011, nor do we currently expect a material impact in the near term from changes in VSOE or ESP.


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Product revenue consists of revenue from sales of our hardware appliances and perpetual software licenses. We recognize product revenue when all of the following have occurred: (1) we have entered into a legally binding arrangement with a customer; (2) delivery has occurred; (3) customer payment is deemed fixed or determinable and free of contingencies and significant uncertainties; and (4) collection is reasonably assured.
 
For sales to direct end-users and channel partners, including VARs, VADs, and OEMs, we recognize product revenue upon delivery, assuming all other revenue recognition criteria are met. For our hardware appliances, delivery occurs upon transfer of title and risk of loss, which is generally upon shipment. It is our practice to identify an end-user prior to shipment to a channel partner. For end-users and channel partners, we generally have no significant obligations for future performance such as rights of return or pricing credits. A portion of our sales are made through distributors under agreements allowing for stocking of our products in their inventory, pricing credits and limited rights of return for stock rotation. Product revenue on sales made through these distributors is initially deferred and revenue is recognized upon sell-through as reported by the distributors to us. Shipping charges billed to customers are included in product revenue and the related shipping costs are included in cost of product revenue. The amount of inventory held by resellers pending a sale to an end customer was $2.0 million and $3.7 million as of July 31, 2011 and 2010.
 
Support and services offerings consist of support agreements, professional services, and training. Support services include repair and replacement of defective hardware appliances, software updates and access to technical support personnel. Software updates provide customers with rights to unspecified software product upgrades and to maintenance releases and patches released during the term of the support period. Revenue for support services is recognized on a straight-line basis over the service contract term, which is typically one to five years. Revenue for professional services is recognized upon delivery or completion of performance. Professional service arrangements are typically short term in nature and are largely completed within 90 days from the start of service. Revenue for training services is recognized upon delivery of the training.
 
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 the related revenue is recognized ratably over the related support period, commencing on the date of 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. The subsequent purchase order is received at the time the point-of-sale (“POS”) report is provided for all product sales that occurred during the month. Revenue for support services is recognized ratably over the related support period, commencing from the delivery date to each respective end customer.
 
Post-contractual support (“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 return merchandise authorization (“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.
 
Our fees are typically considered to be fixed or determinable at the inception of an arrangement, generally based on specific products and quantities to be delivered. Substantially all of our contracts do not include rights of return or acceptance provisions. To the extent that our agreements contain such terms, we recognize revenue once the customer has accepted or once the acceptance provisions or right of return lapses. Payment terms to customers generally range from net 30 to 60 days. In the event payment terms are provided that differ from our standard business practices, the fees are deemed to not be fixed or determinable and revenue is recognized when the payments become due, provided the remaining criteria for revenue recognition have been met.
 
We assess the ability to collect from our customers based on a number of factors, including credit worthiness of the customer and past transaction history of the customer. If the customer is not deemed credit worthy, we defer revenue from the arrangement until payment is received and all other revenue recognition criteria have been met. We record estimated sales returns as a reduction to revenues upon shipment based on our contractual obligations and


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historical returns experience. In cases where we are aware of circumstances that will likely result in a specific customer’s request to return purchased equipment, we record a specific sales returns reserve.
 
Stock-Based Compensation
 
We measure and recognize compensation expense for all share-based payment awards made to employees and non-employees based on estimated fair values. Our share-based payment awards include stock options, restricted stock units and awards, employee stock purchase plan awards and performance-based awards, which require an assessment of the probability of vesting. We calculate the fair value of restricted stock based on the fair market value on the date of grant. We calculate the fair value of stock options and employee stock purchase plans on the date of grant using the Black-Scholes option-pricing method. This methodology requires the use of subjective assumptions, including 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. We determine the amount of stock-based compensation expense based on awards that we ultimately expect to vest, reduced for estimated forfeitures. In addition, compensation expense includes the effects of awards modified, repurchased or cancelled.
 
Goodwill and Intangibles
 
We 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. As of the date of the assessment, our market capitalization was substantially in excess of our carrying value. As a result, 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 one to seven years. Amortization expense is recorded in the Consolidated Statements of Operations in cost of revenues and sales and marketing expenses. 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 operating expenses 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


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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 $2.6 million, $2.9 million, and $3.4 million, for fiscal years 2011, 2010, and 2009, 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 $0.3 million and $0.5 million at July 31, 2011 and 2010, respectively.
 
Income Taxes
 
We use the asset and liability method of 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.
 
As a result of our increasing profitability in fiscal 2011, expectations for continued profits going forward, and expected material taxable income generated from intercompany payments resulting from our offshore tax restructuring to be implemented during fiscal year 2012, we determined that it is more likely than not that future profitability will be sufficient to realize deferred income tax assets. In accordance with ASC 740 and related literature, we released a majority of our valuation allowances against our deferred income tax assets during the fourth quarter of fiscal 2011. We continue to maintain $0.2 million valuation allowance against a portion of our foreign net operating loss deferred tax assets. Net income for fiscal 2011 includes a discrete tax benefit of $72.8 million which was largely attributed to the release of our valuation allowances and the recording of the associated net deferred tax assets on our balance sheet.
 
Income tax contingencies are accounted for and may require significant management judgment in estimating final outcomes. Actual results could differ materially from these estimates and could significantly affect the effective tax rate and cash flows in future years. As of July 31, 2011 and 2010, we had $10.9 million and $6.3 million, respectively, of unrecognized tax benefits, which if recognized would affect our income tax expense.
 
Recent Accounting Pronouncements
 
See Note 1 of Notes to Consolidated Financial Statements for recent accounting pronouncements that could have an effect on us.


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Results of Operations
 
The following table presents our historical operating results as a percentage of revenues for the periods indicated:
 
                         
    Years Ended July 31,  
    2011     2010     2009  
 
Revenues:
                       
Product
    84.5 %     83.1 %     81.3 %
Professional services and support
    15.4 %     16.6 %     18.0 %
Ratable product and related professional services and support
    0.1 %     0.3 %     0.7 %
                         
Total revenues
    100.0 %     100.0 %     100.0 %
Cost of revenues:
                       
Product
    27.2 %     28.9 %     30.1 %
Professional services and support
    3.7 %     3.3 %     3.7 %
Ratable product and related professional services and support
    0.0 %     0.1 %     0.2 %
                         
Gross margin
    69.1 %     67.7 %     66.0 %
Operating expenses:
                       
Research and development
    21.4 %     19.4 %     20.3 %
Sales and marketing
    38.9 %     41.0 %     45.3 %
General and administrative
    10.0 %     11.6 %     11.6 %
Restructuring expenses
    0.0 %     0.0 %     0.7 %
Litigation reserves
    0.0 %     8.2 %     0.0 %
                         
Total operating expenses
    70.3 %     80.2 %     77.9 %
                         
Operating margin
    (1.2 )%     (12.5 )%     (11.9 )%
Other income (expense), net
                       
Interest income
    0.2 %     0.3 %     0.9 %
Other income (expense), net
    0.7 %     (0.3 )%     (0.4 )%
                         
Income (loss) before provision for (benefit from) income taxes
    (0.3 )%     (12.5 )%     (11.4 )%
Provision for (benefit from) income taxes
    (18.1 )%     0.3 %     0.4 %
                         
Net income (loss)
    17.8 %     (12.8 )%     (11.8 )%
                         


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Revenues
 
                         
    Years Ended July 31,  
    2011     2010     2009  
    (In thousands)  
 
Total revenues
  $ 396,514     $ 266,534     $ 199,259  
                         
Type of revenues:
                       
Product
  $ 334,860     $ 221,474     $ 161,927  
Professional services and support
    61,063       44,323       35,946  
Ratable product and related professional services and support
    591       737       1,386  
                         
Total revenues
  $ 396,514     $ 266,534     $ 199,259  
                         
% revenues by type:
                       
Product
    84.5 %     83.1 %     81.3 %
Professional services and support
    15.4 %     16.6 %     18.0 %
Ratable product and related professional services and support
    0.1 %     0.3 %     0.7 %
Revenues by geography:
                       
United States
  $ 250,995     $ 166,584     $ 129,991  
Europe, the Middle East and Africa
    62,595       38,140       34,178  
Asia Pacific
    70,171       51,110       27,023  
Rest of World
    12,753       10,700       8,067  
                         
Total revenues
  $ 396,514     $ 266,534     $ 199,259  
                         
% revenues by geography:
                       
United States
    63.3 %     62.5 %     65.2 %
Europe, the Middle East and Africa
    15.8 %     14.3 %     17.2 %
Asia Pacific
    17.7 %     19.2 %     13.6 %
Rest of World
    3.2 %     4.0 %     4.0 %
Total revenues by sales channel:
                       
Indirect
  $ 368,945     $ 246,344     $ 168,512  
Direct
    27,569       20,190       30,747  
                         
Total revenues
  $ 396,514     $ 266,534     $ 199,259  
                         
% revenues by sales channel:
                       
Indirect
    93.0 %     92.4 %     84.6 %
Direct
    7.0 %     7.6 %     15.4 %
 
During fiscal 2011, total revenues increased $130.0 million, or 48.8%, over fiscal 2010. The increase in fiscal 2011 compared to fiscal 2010 was attributable to broad-based demand across all of our major geographies and verticals, and the significant growth in our customer base. We added nearly 5,000 new customers during fiscal 2011. Our network rightsizing and MOVE architecture initiatives continues to gain momentum as companies move toward a new access network. The rapid proliferation of Wi-Fi enabled mobile devices, the increase in demand for multimedia-rich mobility applications, and the rise of both server and desktop virtualization is driving this trend.
 
Product revenues increased 51.2% during fiscal 2011 compared to fiscal 2010. Our product revenues were bolstered by an increase in revenue related to our 802.11n access points with new customers almost exclusively choosing to roll out 802.11n networks. The increase in professional services and support revenues is a result of both increased product and first year support sales, and the renewal of support contracts by existing customers as our customer base continues to grow.


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Ratable product and related professional services and support revenues decreased in fiscal 2011 compared to fiscal 2010 due to the run-off in the amortization of deferred revenue associated with those customer contracts that we entered into prior to our establishment of VSOE of fair value. The current balance of ratable deferred revenue, and subsequent ratable revenue, relates entirely to our acquisition of Azalea. We expect ratable product and related professional services and support revenues to continue to decrease in absolute dollars and as a percentage of total revenues in future periods.
 
Revenues from our indirect sales channel increased during fiscal 2011 compared to fiscal 2010 and increased slightly as a percentage of revenue. Going forward, we expect to continue to derive a significant majority of our total revenues from indirect channels as we continue to focus on improving the efficiency of marketing and selling our products through these channels.
 
Revenues from shipments to locations outside the United States increased during fiscal 2011 compared to fiscal 2010 due to strong demand across all of our geographies but decreased slightly as a percentage of revenue. 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 remain consistent or increase as a percentage of total revenues in fiscal 2012 compared to fiscal 2011.
 
Total revenues increased 33.8% in fiscal 2010 compared to fiscal 2009 primarily due to an increase in product revenues of $59.5 million. Product revenue increased due to strong demand and the growth in our customer base. Support revenue grew $8.4 million in fiscal 2010 compared to fiscal 2009 as substantially all of our customers purchase support when they purchase our products. The increase in revenue from our indirect sales channel was primarily due to increased leverage from our partner relationships.
 
Cost of Revenues and Gross Margin
 
                         
    Years Ended July 31,  
    2011     2010     2009  
    (In thousands)  
 
Total revenues
  $ 396,514     $ 266,534     $ 199,259  
                         
Cost of product
  $ 107,820     $ 77,070     $ 59,917  
Cost of professional services and support
    14,873       8,775       7,437  
Cost of ratable product and related professional services and support
    10       229       483  
                         
Total cost of revenues
    122,703       86,074       67,837  
                         
Gross profit
  $ 273,811     $ 180,460     $ 131,422  
                         
Gross margin
    69.1 %     67.7 %     66.0 %
 
During fiscal 2011 total cost of revenues increased 42.6% compared to fiscal 2010 primarily due to the corresponding increase in our product revenue. The substantial majority of our cost of product revenues consists of payments to Flextronics, our largest contract manufacturer. For fiscal 2011, payments to Flextronics and Flextronics-related costs constituted approximately 43% of our cost of product revenues and Sercomm constituted approximately 33% of our cost of product revenues.
 
Cost of professional services and support revenues increased 69.5% during fiscal 2011 compared to fiscal 2010. These increases were primarily due to an increase in headcount in our support and professional services organization to meet the growing demand for these services, including personnel who joined Aruba as a result of the acquisition of Azalea in September 2010.
 
Cost of ratable product and related professional services and support revenues decreased during these periods consistent with the decrease in ratable product and related professional services and support revenues.
 
As we expand internationally, we may incur additional costs to conform our products to comply with local laws or local product specifications. In addition, we plan to continue to hire additional personnel to support our growing international customer base which would increase our cost of professional services and support.


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Gross margins increased 1.4% during fiscal 2011 compared to fiscal 2010. This increase is due in part to favorable product mix, timing of support renewals and contracts, and channel mix partially offset by an increase in our international revenues and the lower gross margin-profile associated with that revenue.
 
In fiscal 2010 cost of revenues increased 26.9% compared to fiscal 2009 primarily due to an increase in our product and support and professional services revenues. Gross margins increased 1.7% during fiscal 2010 compared to fiscal 2009 primarily due to product mix of sales on higher-margin controllers and software and better mix of sales with higher-margin channel partners. Further, during fiscal 2010 compared to fiscal 2009 we benefitted from economies of scale within our professional services department that kept our costs down despite the large increase in professional services and support revenues.
 
Research and Development Expenses
 
                         
    Years Ended July 31,
    2011   2010   2009
    (In thousands)
 
Research and development expenses
  $ 84,890     $ 51,619     $ 40,293  
Percent of total revenues
    21.4 %     19.4 %     20.3 %
 
During fiscal 2011, research and development expenses increased 64.5% compared to fiscal 2010, primarily due to an increase of $28.9 million in personnel and related costs, including an increase in stock-based compensation and associated payroll taxes of $13.1 million. The increase is directly related to an increase in headcount of 172 employees, including 52 from our acquisition of Azalea. Facilities expenses increased $1.2 million also due to the increase in headcount and the acquisition of the Azalea facilities. Expenses for consulting and outside agencies increased by $1.6 million as we increased our engineering program spend due to the ongoing evolution of our product roadmap. Depreciation expenses increased $1.0 million and software and hardware maintenance fees increased $0.3 million. Finally, amortization expense increased $0.2 million as a result of our two acquisitions in fiscal 2011.
 
During fiscal 2010, research and development expenses increased 28.1% compared to fiscal 2009, primarily due to an increase of $8.0 million in personnel and related costs as we added 77 new employees to our research and development team. Personnel and related costs included $3.6 million in stock-based compensation and associated payroll taxes. Expenses for consulting and outside agencies increased $1.3 million due to design and compliance work for our lower priced access point and controllers. Facilities expenses increased $1.1 million related to the increase in headcount. Depreciation expense increased $0.7 million due to an increase in fixtures, machinery and equipment used to design and test new products.
 
Sales and Marketing Expenses
 
                         
    Years Ended July 31,
    2011   2010   2009
    (In thousands)
 
Sales and marketing expenses
  $ 154,239     $ 109,393     $ 90,241  
Percent of total revenues
    38.9 %     41.0 %     45.3 %
 
During fiscal 2011, sales and marketing expenses increased 41.0% compared to fiscal 2010. Personnel and related costs increased $29.6 million primarily due to an increase in headcount of 122 employees. An increase in stock-based compensation and associated payroll taxes of $11.4 million contributed to the increase in personnel and related costs. Commission expense increased $10.0 million corresponding to the increase in revenue. Marketing expenses increased $3.7 million due to new product launches, specifically for our MOVE architecture launch, and user-group conventions we hosted. Recruiting expenses increased $0.7 million as we increased our headcount. Amortization expense of our purchased intangible assets increased $0.6 million as a result of our acquisitions. Finally, depreciation expense increased $0.3 million primarily due to purchases of computer equipment to support the increase in headcount.
 
During fiscal 2010, sales and marketing expenses increased 21.2% compared to fiscal 2009. Personnel and related costs increased $11.3 million primarily due to an increase in stock-based compensation and associated payroll taxes of $4.1 million, and an increase in headcount of 40 employees. Marketing expenses increased


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$2.7 million related to new product launches, website redesign fees and user-group conventions we hosted. Sales and marketing expenses were also impacted by an increase in commission expense of $3.5 million, and an increase in facilities expenses of $0.8 million due to the increase in headcount. Finally, demonstration equipment increased $0.8 million due to the increase in headcount as each new sales representative is provided demonstration equipment and our new products were distributed to sales teams.
 
General and Administrative Expenses
 
                         
    Years Ended July 31,
    2011   2010   2009
    (In thousands)
 
General and administrative expenses
  $ 39,431     $ 30,953     $ 23,198  
Percent of total revenues
    10.0 %     11.6 %     11.6 %
 
General and administrative expenses during fiscal 2011 increased 27.4% compared to fiscal 2010. Personnel expenses increased $8.4 million due to the increase in headcount and an increase in stock-based compensation and associated payroll taxes of $3.5 million. Facilities expenses increased $0.3 million and recruiting expenses increased $0.5 million, both due to the increase in headcount. Fees for accounting services increased $0.7 million. Business costs related to our foreign operations increased $0.4 million as we expanded internationally. These increases were offset by a decrease of $1.9 million in legal expenses. The higher legal expenses in fiscal 2010 were due to litigation we were involved in at that time and mergers and acquisitions activity.
 
During fiscal 2010, general and administrative expenses increased 33.4% compared to fiscal 2009, primarily due to an increase of $6.5 million in personnel expenses, including $4.5 million in stock-based compensation and associated payroll taxes. Expenses for outside services increased $0.8 million due to design work associated with our headquarters building as well as fees paid to consultants working on our internal systems. Facilities expenses increased $0.5 million due to an increase in our headcount of 11 employees.
 
Restructuring Expenses
 
In November 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 reduction in our work force was completed during fiscal 2009. 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 incurred facility exit costs of $0.3 million.
 
Litigation Reserves
 
During fiscal 2010, we recorded charges totaling $21.9 million related to legal matters, which included a one-time payment to Motorola of $19.8 million as part of a Patent Cross License and Settlement Agreement we entered into in November 2009. The remaining $2.1 million of litigation reserves is related to other settlements entered into during fiscal 2010.
 
Other Income (Expense), net
 
                         
    Years Ended July 31,  
    2011     2010     2009  
    (In thousands)  
 
Interest income
  $ 1,018     $ 834     $ 1,837  
Other income (expense), net
    2,784       (699 )     (705 )
                         
Total other income (expense), net
  $ 3,802     $ 135     $ 1,132  
                         
 
Interest income increased during fiscal 2011 compared to fiscal 2010. The increase is primarily due to higher cash and investment balances in interest-earning accounts. Our average interest-earning cash and investment balance for fiscal 2011 was $152.0 million compared to $116.6 million for fiscal 2010.


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Other income (expense), net increased during fiscal 2011 compared to fiscal 2010 primarily as a result of the change in the valuation of our contingent rights liability related to the acquisition of Azalea Networks from $9.5 million at the date of the acquisition to $5.9 million as of July 31, 2011. See Note 2 of the Notes to Consolidated Financial Statements for further discussion.
 
Interest income during fiscal 2010 decreased 54.6% from fiscal 2009, primarily due to declining interest rates. Our average yield-to-maturity rate decreased from 2.0% in fiscal 2009 to 0.7% in fiscal 2010.
 
Other income (expense), net during fiscal 2010 was consistent with fiscal 2009. Other income (expense) includes primarily foreign currency gains and losses driven by the remeasurement of foreign currency transactions into U.S. dollars.
 
Provision for Income Taxes
 
As of July 31, 2011, we had net operating loss carryforwards of $230.0 million and $156.1 million for federal and state income tax purposes, respectively. We also had research and credit carryforwards of $17.4 million for federal and $18.2 million for state income tax purposes as of July 31, 2011. Realization of deferred tax assets is dependent upon future earnings, if any, the timing and amount of which are uncertain.
 
If not utilized, the federal and state net operating loss and federal tax credit carryforwards will begin to expire between 2013 and 2023. Utilization of these net operating losses and credit carryforwards may be subject to an annual limitation due to provisions of the Internal Revenue Code of 1986, as amended, that are applicable if we have experienced an “ownership change” in the past, or if an ownership change occurs in the future.
 
We continuously monitor the circumstances impacting the expected realization of our deferred tax assets. As of July 31, 2011, based on available positive evidence, we determined that the majority of our deferred tax assets would be more likely than not realizable in the near future, with the exception of certain foreign net operating loss carryforwards as we cannot forecast sufficient future foreign source income to realize these deferred tax assets before they expire. Accordingly, in the fourth quarter of fiscal 2011 we recorded a tax benefit of $72.8 million which was largely attributed to the release of our valuation allowances and the recording of the associated net deferred tax assets on our balance sheet. See Note 9 of Notes to Consolidated Financial Statements.
 
We recognize in the Consolidated Financial Statements only those tax positions determined to be more likely than not of being sustained. We recorded a net increase of less than $0.1 million to the liability for unrecognized tax benefits related to tax positions taken in prior periods. Additionally, we did not make any reclassifications between current taxes payable and long-term taxes payable.


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Quarterly Fluctuations in Operating Results
 
The following table sets forth our unaudited quarterly Consolidated Statement of Operations data for each of the eight quarters ended July 31, 2011. In management’s opinion, the data has been prepared on the same basis as the audited Consolidated Financial Statements included in this report, and reflects all necessary adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of this data.
 
                                 
    For the Three Months Ended  
2011   July 31,     April 30,     January 31,     October 31,  
    (In thousands, except per share data)  
 
Revenues
                               
Product
  $ 97,141     $ 89,415     $ 79,100     $ 69,204  
Professional services and support
    16,475       16,186       14,602       13,800  
Ratable product and related professional services and support
    142       150       156       143  
                                 
Total revenues
    113,758       105,751       93,858       83,147  
Cost of revenues
                               
Product
    31,620       29,964       24,173       22,063  
Professional services and support
    4,259       4,167       3,542       2,905  
Ratable product and related professional services and support
                      10  
                                 
Total cost of revenues
    35,879       34,131       27,715       24,978  
                                 
Gross profit
    77,879       71,620       66,143       58,169  
Operating expenses
                               
Research and development
    23,370       22,799       21,608       17,113  
Sales and marketing
    42,972       40,916       36,936       33,415  
General and administrative
    11,741       10,319       10,183       7,188  
                                 
Total operating expenses
    78,083       74,034       68,727       57,716  
                                 
Operating income (loss)
    (204 )     (2,414 )     (2,584 )     453  
Other income (expense), net
                               
Interest income
    261       284       240       233  
Other income (expense), net
    (4,408 )     5,608       (61 )     1,645  
                                 
Total other income (expense), net
    (4,147 )     5,892       179       1,878  
Income (loss) before provision for (benefit from) income taxes
    (4,351 )     3,478       (2,405 )     2,331  
Provision for (benefit from) income taxes
    (72,536 )     277       428       196  
                                 
Net income (loss)
  $ 68,185     $ 3,201     $ (2,833 )   $ 2,135  
                                 
Shares used in computing net income (loss) per common share — basic
    104,310       102,055       98,795       96,037  
Net income (loss) per common share — basic
  $ 0.65     $ 0.03     $ (0.03 )   $ 0.02  
                                 
Shares used in computing net income (loss) per common share — diluted
    119,600       119,367       98,795       113,271  
Net income (loss) per common share- diluted
  $ 0.57     $ 0.03     $ (0.03 )   $ 0.02  
                                 
 


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    For the Three Months Ended  
2010   July 31,     April 30,     January 31,     October 31,  
    (In thousands, except per share data)  
 
Revenues
                               
Product
  $ 65,564     $ 56,634     $ 52,078     $ 47,198  
Professional services and support
    11,651       12,167       10,362       10,143  
Ratable product and related professional services and support
    111       156       215       255  
                                 
Total revenues
    77,326       68,957       62,655       57,596  
Cost of revenues
                               
Product
    22,624       19,911       18,103       16,432  
Professional services and support
    2,338       2,201       2,157       2,079  
Ratable product and related professional services and support
    29       46       68       86  
                                 
Total cost of revenues
    24,991       22,158       20,328       18,597  
                                 
Gross profit
    52,335       46,799       42,327       38,999  
Operating expenses
                               
Research and development
    13,907       13,874       12,042       11,796  
Sales and marketing
    30,380       27,697       26,576       24,740  
General and administrative
    7,353       8,840       7,628       7,132  
Litigation reserves
          1,650       500       19,750  
                                 
Total operating expenses
    51,640       52,061       46,746       63,418  
                                 
Operating income (loss)
    695       (5,262 )     (4,419 )     (24,419 )
Other income (expense), net
                               
Interest income
    218       218       187       211  
Other income (expense), net
    (266 )     (189 )     (148 )     (96 )
                                 
Total other income (expense), net
    (48 )     29       39       115  
Income (loss) before provision for income taxes
    647       (5,233 )     (4,380 )     (24,304 )
Provision for income taxes
    224       85       47       372  
                                 
Net income (loss)
  $ 423     $ (5,318 )   $ (4,427 )   $ (24,676 )
                                 
Shares used in computing net income (loss) per common share, basic
    92,977       90,874       88,572       87,489  
Net income (loss) per common share, basic
  $     $ (0.06 )   $ (0.05 )   $ (0.28 )
                                 
Shares used in computing net income (loss) per common share, diluted
    108,814       90,874       88,572       87,489  
Net income (loss) per common share, diluted
  $     $ (0.06 )   $ (0.05 )   $ (0.28 )
                                 
 
Our operating results may fluctuate due to a variety of factors, many of which are outside of our control. 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.

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Liquidity and Capital Resources
 
                 
    July 31,
  July 31,
    2011   2010
    (In thousands)
 
Working capital
  $ 269,900     $ 133,927  
Cash and cash equivalents
    80,773       31,254  
Short-term investments
  $ 153,185     $ 124,167  
 
                         
    Years Ended July 31,
    2011   2010   2009
    (In thousands)
 
Cash provided by operating activities
  $ 57,990     $ 25,834     $ 20,592  
Cash used in investing activities
    (44,916 )     (48,581 )     (21,754 )
Cash provided by financing activities
  $ 36,446     $ 12,702     $ 4,858  
 
As of July 31, 2011, our principal sources of liquidity were our cash, cash equivalents and short-term investments. Cash and cash equivalents are comprised of cash, sweep funds and money market funds with an original maturity of 90 days or less at the time of the purchase. Short-term investments include corporate bonds, U.S. government agency securities, U.S. treasury bills, commercial paper, and certificates of deposit. Cash, cash equivalents and short-term investments increased $78.5 million during fiscal 2011 from $155.4 million in cash, cash equivalents and short-term investments as of July 31, 2010 to $234.0 million as of July 31, 2011.
 
Cash Flows from Operating Activities
 
Our cash flows from operating activities will continue to be affected principally by our profitability, working capital requirements, the extent to which we increase spending on personnel and the continued growth in revenue and cash collections. The timing of hiring sales personnel in particular affects cash flows as there is a lag between the hiring of sales personnel and the generation of revenue and cash flows from sales personnel. Our largest source of operating cash flows is cash collections from our customers. Our primary uses of cash from operating activities are for personnel related expenditures, purchases of inventory, and rent payments.
 
During fiscal 2011, net cash provided by operating activities increased $32.2 million compared to fiscal 2010. The increase in cash flow from operating activities was primarily due to an increase in cash flow of $61.3 million from operations after adjusting for non-cash items, including depreciation and amortization, and stock-based compensation, and a decrease of $29.1 million from the change in operating assets and liabilities.
 
During fiscal 2010, net cash provided by operating activities increased $5.2 million compared to fiscal 2009. The increase in cash flow from operating activities was primarily due to an increase in cash flow of $2.1 million from operations after adjusting for non-cash items, including depreciation and amortization, and stock-based compensation, and a decrease of $3.1 million from the change in operating assets and liabilities. Further, in November 2009, pursuant to the Settlement Agreement with Motorola, we made a one-time payment to Motorola for $19.8 million.
 
Cash Flows from Investing Activities
 
Cash used in investing activities during fiscal 2011 decreased $3.7 million compared to fiscal 2010. We continue to invest our excess cash balances in short-term investments. Some of the proceeds from the sale and maturity of these investments were used to purchase property and equipment of $9.9 million during fiscal 2011. Further, we completed two acquisitions during fiscal 2011 for a total of $4.3 million in cash, net of cash received. See Note 2 of the Notes to Consolidated Financial Statements.
 
Cash used in investing activities increased $26.8 million during fiscal 2010 compared to fiscal 2009. We purchased more short-term investments during fiscal 2010 compared to fiscal 2009 as we reinvested cash flow from operations. We also sold fewer short-term investments in fiscal 2010 compared to fiscal 2009. Purchases of property and equipment in fiscal 2010 were slightly up compared to fiscal 2009 due to the build-out of our office headquarters.


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Cash Flows from Financing Activities
 
Cash provided by financing activities increased $23.7 million during fiscal 2011 compared to fiscal 2010. The cash proceeds from the issuance of common stock in conjunction with our 2007 Equity Incentive Plan and Employee Stock Purchase Plan increased substantially year-over-year primarily due to increased exercises of stock options by our employees as a result of the increase in our exercise price and an increase in the amount of contributions in our Employee Stock Purchase Plan.
 
Cash provided by financing activities increased $7.8 million in fiscal 2010 compared to fiscal 2009 also due to the cash proceeds from the issuance of common stock in conjunction with our equity plans as described above. During fiscal 2009 we repurchased shares of our common stock under our stock repurchase program in the amount of $1.0 million. We did not make any additional purchases in fiscal 2010 or fiscal 2011 related to that program.
 
Based on our current cash, cash equivalents and short-term investments we expect that we will have sufficient resources to fund our operations for the next 12 months. However, we may need to raise additional capital or incur additional indebtedness to continue to fund our operations in the future. Our future capital requirements will depend on many factors, including our rate of revenue growth, the expansion of our sales and marketing activities, the timing and extent of expansion into new territories, the timing of introductions of new products and enhancements to existing products, and the continuing market acceptance of our products.
 
Contractual Obligations
 
The following is a summary of our contractual obligations:
 
                                         
                            More
 
          Less Than
    1 — 3
    3 — 5
    Than
 
    Total     1 Year     Years     Years     5 Years  
    (In thousands)  
 
Operating leases
  $ 20,434     $ 4,823     $ 8,383     $ 7,228     $  
Non-cancellable inventory purchase commitments(1)
    29,747       29,747                    
                                         
Total contractual obligations
  $ 50,181     $ 34,570     $ 8,383     $ 7,228     $  
                                         
 
 
(1) We outsource the production of our hardware to third-party manufacturing suppliers. We enter into various inventory related purchase agreements with these suppliers. Under the agreement with our main contract manufacturer, 40% of the order quantities can be rescheduled or are cancelable by giving notice 60 days prior to the expected shipment date, and 20% of the order quantities can be rescheduled or are cancelable by giving notice 30 days prior to the expected shipment date. Orders are not cancelable within 30 days prior to the expected shipment date.
 
As of July 31, 2011, our unrecognized tax benefits were $10.9 million which were mostly reflected as a reduction to deferred tax assets, offset by a valuation allowance. As such, there are no material amounts of contractual obligations associated with these unrecognized benefits to be included in the table above.
 
Off-Balance Sheet Arrangements
 
As of July 31, 2011 and 2010, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.
 
ITEM 7A.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
Foreign Currency Risk
 
Most of our sales contracts are denominated in U.S. Dollars, and therefore, our revenue is not subject to significant foreign currency risk. Our operating expenses and cash flows are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the British Pound, Euro, and Chinese Yuan. To date, we


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have not entered into any hedging contracts because expenses in foreign currencies have been insignificant, and exchange rate fluctuations have had little impact on our operating results and cash flows.
 
Interest Rate Sensitivity
 
We had cash, cash equivalents and short-term investments totaling $234.0 million and $155.4 million at July 31, 2011 and 2010, respectively. The cash, cash equivalents and short-term investments are held for working capital purposes. We do not use derivative financial instruments in our investment portfolio. We have an investment portfolio of fixed income securities that are classified as “available-for-sale securities.” These securities, like all fixed income instruments, are subject to interest rate risk and will fall in value if market interest rates increase. We attempt to limit this exposure by investing primarily in short-term securities. Due to the short duration and conservative nature of our investment portfolio, a movement of 10% in market interest rates would not have a material impact on our operating results and the total value of the portfolio over the next fiscal year. If overall interest rates had fallen by 10% during fiscal 2011, our interest income on cash, cash equivalents and short-term investments would have declined less than $0.1 million assuming consistent investment levels.


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ITEM 8.   CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
 
Index to Consolidated Financial Statements
 
         
    Page
 
    55  
    56  
    57  
    58  
    59  
    60  
    61  


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MANAGEMENT’S REPORT ON
INTERNAL CONTROL OVER FINANCIAL REPORTING
 
Management of our Company is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15(d)-15(f) under the Securities Exchange Act of 1934. Our internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting includes those policies and procedures that:
 
  •  pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of our Company;
 
  •  provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of our Company; and
 
  •  provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our Company’s assets that could have a material effect on the financial statements.
 
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions and that the degree of compliance with the policies or procedures may change over time.
 
Management assessed the effectiveness of our internal control over financial reporting as of July 31, 2011. In making this assessment, our management used the criteria set forth in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based upon this assessment, management has concluded that, as of July 31, 2011, our internal control over financial reporting was effective to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.
 
The effectiveness of the Company’s internal control over financial reporting as of July 31, 2011 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report which appears on the following page.
 
     
/s/  Dominic P. Orr
 
/s/  Michael M. Galvin
     
Dominic P. Orr
President and Chief Executive Officer
September 27, 2011
  Michael M. Galvin
Chief Financial Officer
September 27, 2011


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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
To the Board of Directors and Stockholders of
Aruba Networks, Inc.:
 
In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, stockholders’ equity, and cash flows present fairly, in all material respects, the financial position of Aruba Networks, Inc. and its subsidiaries at July 31, 2011 and July 31, 2010, and the results of their operations and their cash flows for each of the three years in the period ended July 31, 2011 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedules listed in the accompanying index present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of July 31, 2011, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these financial statements and financial statement schedules, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express opinions on these financial statements, on the financial statement schedules, and on the Company’s internal control over financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
 
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
 
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
 
/s/ PricewaterhouseCoopers LLC
 
San Jose, California
September 27, 2011


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ARUBA NETWORKS, INC.
 
CONSOLIDATED BALANCE SHEETS
 
                 
    July 31,
    July 31,
 
    2011     2010  
    (In thousands, except per share data)  
 
ASSETS
Current assets
               
Cash and cash equivalents
  $ 80,773     $ 31,254  
Short-term investments
    153,185       124,167  
Accounts receivable, net
    68,598       41,269  
Inventory
    29,895       15,159  
Deferred costs
    6,999       5,451  
Prepaids and other
    5,097       5,108  
Deferred income tax assets
    53,310        
                 
Total current assets
    397,857       222,408  
Property and equipment, net
    14,772       9,919  
Goodwill
    33,143       7,656  
Intangible assets, net
    20,863       9,287  
Deferred income tax assets
    20,143        
Other assets
    2,093       1,437  
                 
Total assets
  $ 488,871     $ 250,707  
                 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities
               
Accounts payable
  $ 11,278     $ 8,082  
Accrued liabilities
    61,461       36,458  
Income taxes payable
    767       519  
Deferred revenue, current
    54,451       43,422  
                 
Total current liabilities
    127,957       88,481  
Deferred income tax liability
    815        
Deferred revenue, long-term
    14,000       10,976  
Other long-term liabilities
    757       595  
                 
Total liabilities
    143,529       100,052  
                 
Commitments and contingencies (Note 12)
               
Stockholders’ equity
               
Common stock: $0.0001 par value; 350,000 shares authorized at July 31, 2011 and 2010 , respectively; 104,905 and 93,606 shares issued and outstanding at July 31, 2011 and 2010, respectively
    10       9  
Additional paid-in capital
    450,147       326,178  
Accumulated other comprehensive income
    127       98  
Accumulated deficit
    (104,942 )     (175,630 )
                 
Total stockholders’ equity
    345,342       150,655  
                 
Total liabilities and stockholders’ equity
  $ 488,871     $ 250,707  
                 
 
The accompanying notes are an integral part of the Consolidated Financial Statements.


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ARUBA NETWORKS, INC.
 
CONSOLIDATED STATEMENTS OF OPERATIONS
 
                         
    Years Ended July 31,  
    2011     2010     2009  
    (In thousands, except per share data)  
 
Revenues
                       
Product
  $ 334,860     $ 221,474     $ 161,927  
Professional services and support
    61,063       44,323       35,946  
Ratable product and related professional services and support
    591       737       1,386  
                         
Total revenues
    396,514       266,534       199,259  
Cost of revenues
                       
Product
    107,820       77,070       59,917  
Professional services and support
    14,873       8,775       7,437  
Ratable product and related professional services and support
    10       229       483  
                         
Total cost of revenues
    122,703       86,074       67,837  
                         
Gross profit
    273,811       180,460       131,422  
Operating expenses
                       
Research and development
    84,890       51,619       40,293  
Sales and marketing
    154,239       109,393       90,241  
General and administrative
    39,431       30,953       23,198  
Restructuring expenses
                1,447  
Litigation reserves
          21,900        
                         
Total operating expenses
    278,560       213,865       155,179  
                         
Operating loss
    (4,749 )     (33,405 )     (23,757 )
Other income (expense), net
                       
Interest income
    1,018       834       1,837  
Other income (expense), net
    2,784       (699 )     (705 )
                         
Total other income (expense), net
    3,802       135       1,132  
                         
Loss before provision for (benefit from) income taxes
    (947 )     (33,270 )     (22,625 )
Provision for (benefit from) income taxes
    (71,635 )     728       788  
                         
Net income (loss)
  $ 70,688     $ (33,998 )   $ (23,413 )
                         
Shares used in computing net income (loss) per common share — basic
    100,299       89,978       84,612  
                         
Net income (loss) per common share — basic
  $ 0.70     $ (0.38 )   $ (0.28 )
                         
Shares used in computing net income (loss) per common share — diluted
    117,117       89,978       84,612  
                         
Net income (loss) per common share — diluted
  $ 0.60     $ (0.38 )   $ (0.28 )
                         
Stock-based compensation expense included in above:
                       
Cost of revenues
  $ 3,464     $ 1,397     $ 1,018  
Research and development
    23,026       10,716       7,577  
Sales and marketing
    24,399       14,205       10,520  
General and administrative
  $ 12,862     $ 9,763     $ 5,464  
 
The accompanying notes are an integral part of the Consolidated Financial Statements.


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ARUBA NETWORKS, INC.
 
CONSOLIDATED STATEMENTS OF
STOCKHOLDERS’ EQUITY
 
                                                 
                      Accumulated
             
                Additional
    Other
             
    Common Stock     Paid-in
    Comprehensive
    Accumulated
       
    Shares     Amount     Capital     Income (Loss)     Deficit     Total  
    (In thousands)  
 
Balance at July 31, 2008
    82,836     $ 8     $ 249,131     $ (45 )   $ (118,219 )   $ 130,875  
Comprehensive loss:
                                               
Unrealized gain on short-term investments
                      227             227  
Net loss
                            (23,413 )     (23,413 )
                                                 
Total comprehensive loss
                                        (23,186 )
                                                 
Fair value of shares issued to non-employees
    69             392                   392  
Fair value of stock options issued to non-employees
                37                   37  
Exercise of common stock options
    1,436             1,943                   1,943  
Shares purchased under employee stock purchase plan
    1,114             3,827                   3,827  
Repurchase of common stock
    (18 )           449                   449  
Stock-based compensation expense related to stock options and awards issued to employees
    1,498       1       24,150                   24,151  
Repurchase of common stock under stock repurchase program
    (191 )           (991 )                 (991 )
Excess tax benefit associated with stock-based compensation
                88                   88  
                                                 
Balance at July 31, 2009
    86,744       9       279,026       182       (141,632 )     137,585  
Comprehensive loss:
                                               
Unrealized loss on short-term investments, net of taxes
                      (84 )           (84 )
Net loss
                            (33,998 )     (33,998 )
                                                 
Total comprehensive loss
                                        (34,082 )
                                                 
Fair value of shares issued to non-employees
    199             2,385                   2,385  
Fair value of stock options issued to non-employees
                32                   32  
Exercise of common stock options
    2,974             8,116                   8,116  
Shares purchased under employee stock purchase plan
    1,808             4,515                   4,515  
Repurchase of common stock
    (16 )           314                   314  
Stock-based compensation expense related to stock options and awards issued to employees
    1,897             31,683                   31,683  
Excess tax benefit associated with stock-based compensation
                107                   107  
                                                 
Balance at July 31, 2010
    93,606       9       326,178       98       (175,630 )     150,655  
Comprehensive income:
                                               
Unrealized gain on short-term investments, net of taxes
                      29             29  
Net income
                            70,688       70,688  
                                                 
Total comprehensive income
                                            70,717  
                                                 
Fair value of shares issued to non-employees
    149             3,952                   3,952  
Exercise of common stock options
    6,413       1       29,751                   29,752  
Shares purchased under employee stock purchase plan
    2,048             6,889                   6,889  
Repurchase of common stock
                1                   1  
Stock-based compensation expense related to stock options and awards issued to employees
    1,164             54,879                   54,879  
Common stock issued in purchase acquisition
    1,525             28,691                   28,691  
Excess tax benefit associated with stock-based compensation
                (194 )                 (194 )
                                                 
Balance at July 31, 2011
    104,905     $ 10     $ 450,147     $ 127     $ (104,942 )   $ 345,342  
                                                 
 
The accompanying notes are an integral part of the Consolidated Financial Statements.


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ARUBA NETWORKS, INC.
 
CONSOLIDATED STATEMENTS OF CASH FLOWS
 
                         
    Years Ended July 31,  
    2011     2010     2009  
    (In thousands)  
 
Cash flows from operating activities
                       
Net income (loss)
  $ 70,688     $ (33,998 )   $ (23,413 )
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
                       
Depreciation and amortization
    15,042       10,091       9,686  
Provision for doubtful accounts
    17       265       138  
Write-downs for excess and obsolete inventory
    2,647       2,949       3,397  
Stock-based compensation expense
    63,750       36,081       24,579  
Accretion of purchase discounts on short-term investments
    1,290       837       (271 )
Gains on disposal of fixed assets
    (3 )     (3 )     (15 )
Change in carrying value of contingent rights liability
    (3,598 )            
Deferred income taxes
    (72,638 )            
Excess tax benefit associated with stock-based compensation
    194       (107 )     (88 )
Changes in operating assets and liabilities:
                       
Accounts receivable
    (24,821 )     (8,069 )     (924 )
Inventory
    (16,900 )     (10,653 )     (766 )
Prepaids and other
    (1,658 )     (2,757 )     847  
Deferred costs
    (1,548 )     (290 )     (606 )
Other assets
    (240 )     50       (50 )
Accounts payable
    (167 )     5,937       (4,926 )
Deferred revenue
    12,713       11,220       8,698  
Other current and noncurrent liabilities
    13,331       14,360       4,184  
Income taxes payable
    (109 )     (79 )     122  
                         
Net cash provided by operating activities
    57,990       25,834       20,592  
                         
Cash flows from investing activities
                       
Purchases of short-term investments
    (144,512 )     (122,750 )     (101,088 )
Proceeds from sales of short-term investments
    28,927       10,566       40,443  
Proceeds from maturities of short-term investments
    84,870       68,860       43,296  
Purchases of property and equipment
    (9,909 )     (5,299 )     (4,405 )
Proceeds from sale of property and equipment
    11       42        
Cash paid in purchase acquisitions, net of cash acquired
    (4,303 )            
                         
Net cash used in investing activities
    (44,916 )     (48,581 )     (21,754 )
                         
Cash flows from financing activities
                       
Proceeds from issuance of common stock
    36,640       12,631       5,761  
Repurchases of unvested common stock
          (36 )      
Repurchases of common stock under stock repurchase program
                (991 )
Excess tax benefit associated with stock-based compensation
    (194 )     107       88  
                         
Net cash provided by financing activities
    36,446       12,702       4,858  
                         
Effect of exchange rate changes on cash and cash equivalents
    (1 )     1        
Net increase (decrease) in cash and cash equivalents
    49,519       (10,044 )     3,696  
Cash and cash equivalents, beginning of period
    31,254       41,298       37,602  
                         
Cash and cash equivalents, end of period
  $ 80,773     $ 31,254     $ 41,298  
                         
Supplemental disclosure of cash flow information
                       
Income taxes paid
  $ 1,152     $ 899     $ 673  
Supplemental disclosure of non-cash investing and financing activities
                       
Common stock issued for purchase acquisition
  $ 28,691     $     $  
Contingent rights issued for purchase acquisition
  $ 9,486     $     $  
 
The accompanying notes are an integral part of the Consolidated Financial Statements.


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
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 is a leading provider of next-generation network access solutions for the mobile enterprise. Its Mobile Virtual Enterprise (“MOVE”) architecture unifies wired and wireless network infrastructures into one seamless access solution for corporate headquarters, mobile business professionals, remote workers and guests. The Company derives its revenues from sales of its ArubaOS operating system, controllers, wired and wireless access points, switches, application software modules, multi-vendor management solution software, and professional services and support. The Company has offices in North America, Europe, the Middle East and the Asia Pacific region and employs staff around the world.
 
Significant Accounting Policies
 
Basis of Presentation
 
The Company’s Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America. During the first quarter of fiscal 2009, the Company determined that the fair values assigned to certain warrants to purchase preferred stock issued to non-employees were not computed correctly as of the IPO closing date when they automatically converted to warrants to purchase common stock which resulted in $715,000 of excess warrant expense being recognized in other income (expense), net in the third quarter of fiscal 2007. During the first quarter of fiscal 2009, the Company corrected the valuation of these warrants resulting in the inclusion of other income of $715,000 within other income (expense), net and a reduction of additional paid-in capital of $715,000. In addition, during the first quarter of fiscal 2009, the Company determined that stock-based compensation related to its employee stock purchase plan was understated by $48,000 and $87,000 in the third and fourth quarters of fiscal 2007, respectively. During the first quarter of fiscal 2009, the Company corrected these errors resulting in the inclusion of $135,000 of additional stock-based compensation within the Consolidated Statements of Operations for the three months ended October 31, 2007. The Company and its Audit Committee concluded that these errors were not material to the third and fourth quarters of fiscal 2007, the fiscal year ended July 31, 2007 or the results for the year ending July 31, 2009, and therefore, the corrections were recorded in the first quarter of fiscal 2009.
 
Principles of Consolidation
 
The accompanying Consolidated Financial Statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated.
 
Use of Estimates
 
The preparation of these financial statements requires that the Company make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to provisions for doubtful accounts, sales returns, inventory, warranties useful lives of property and equipment, useful lives of intangible assets, income taxes and the valuation of equity instruments and contingencies, amongst others. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from the estimates made by management with respect to these and other items.


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
Foreign Currency Accounting
 
While the majority of the Company’s revenue contracts are denominated in United States (“U.S”) dollars, the Company has foreign operations that incur expenses in various foreign currencies. The functional currency of the Company’s subsidiaries is U.S. dollar. Monetary assets and liabilities are remeasured using the current exchange rate at the balance sheet date. Non-monetary assets and liabilities and capital accounts are remeasured using historical exchange rates. Revenues and expenses are remeasured using the average exchange rates in effect during the period. Foreign currency exchange gains and losses, which have not been material for any periods presented, are included in the Consolidated Statements of Operations under other income (expense), net.
 
Risks and Uncertainties
 
The Company is subject to all of the risks inherent in operating in the networking and communications industry. These risks include, but are not limited to, a limited operating history, new and rapidly evolving markets, a lengthy sales cycle, dependence on the development of new products and services, unfavorable economic and market conditions, customer acceptance of new products, competition from larger and more established companies, limited management resources, dependence on a limited number of contract manufacturers and suppliers, and the changing nature of the networking and communications industry. Failure by the Company to anticipate or to respond adequately to technological developments in its industry, changes in customer or supplier requirements, changes in regulatory requirements or industry standards, or any significant delays in the development or introduction of products and services, would have a material adverse effect on the Company’s business, operating results and financial position.
 
Fair Value of Financial Instruments
 
The reported amounts of the Company’s financial instruments including cash equivalents, short-term investments, accounts receivable and accounts payable approximate fair value due to their short maturities.
 
Cash and Cash Equivalents
 
The Company considers all highly liquid marketable securities purchased with an original maturity of 90 days or less at the time of purchase to be cash equivalents. Cash and cash equivalents is comprised of cash, sweep funds and money market funds and are stated at cost, which approximates fair value.
 
Short-Term Investments
 
Short-term investments comprise marketable securities that consist primarily of corporate bonds, U.S. government agency securities, U.S. treasury bills, commercial paper and certificates of deposit with original maturities beyond 90 days. As the Company views all securities as representing the investment of funds available for current operations, and management has the ability and intent, if necessary, to liquidate any of these investments in order to meet the Company’s liquidity needs within the next 12 months, the short-term investments are classified as current assets. The Company’s policy is to protect the value of its investment portfolio and minimize principal risk by earning returns based on current interest rates. All of the Company’s marketable securities are classified as available-for-sale.
 
The Company reviews the individual securities in its portfolio to determine whether a decline in a security’s fair value below the amortized cost basis is other-than-temporary. If other than temporary impairment (“OTTI”) has been incurred, and it is more likely than not that the Company will not sell the investment security before the recovery of its amortized cost basis, then the OTTI is separated into (a) the amount representing the credit loss and (b) the amount related to all other factors. The amount of the total OTTI related to the credit loss is recognized in earnings. The amount of the total OTTI related to other factors is recognized in accumulated other comprehensive


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
income. The Company determined that there were no investments in its portfolio that were other-than temporarily impaired as of July 31, 2011 and 2010.
 
Concentrations of Credit Risk
 
Financial instruments that potentially subject the Company to a concentration of credit risk include cash, cash equivalents and short-term investments. The Company has not experienced any losses on its deposits of its cash and cash equivalents, and its short-term investments due to concentration of credit risk.
 
The Company’s accounts receivable are derived from revenue earned from customers located in the Americas, Europe, the Middle East, Africa and Asia Pacific. The Company performs ongoing credit evaluations of its customers’ financial condition and generally requires no collateral from its customers. The Company maintains a provision for doubtful accounts receivable based upon the expected collectibility of accounts receivable, and to date such losses have been within management’s expectations. See Note 11 in these Notes to Consolidated Financial Statements for more details on significant customers.
 
Provision for Doubtful Accounts
 
The Company records a provision for doubtful accounts based on historical experience and a detailed assessment of the collectibility of its accounts receivable. In estimating the allowance for doubtful accounts, management considers, among other factors, (i) the aging of the accounts receivable, including trends within and ratios involving the age of the accounts receivable, (ii) the Company’s historical write-offs, (iii) the credit-worthiness of each customer, (iv) the economic conditions of the customer’s industry, and (v) general economic conditions. In cases where the Company is aware of circumstances that may impair a specific customer’s ability to meet their financial obligations to it, the Company records a specific allowance against amounts due from the customer, and thereby reduces the net recognized receivable to the amount it reasonably believes will be collected.
 
Charges to the income statement relating to allowance for doubtful accounts were less than $0.1 million, $0.3 million, and $0.1 million, for the fiscal years ended July 31, 2011, 2010, and 2009, respectively.
 
Inventory
 
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. The Company records inventory write-downs for potentially excess inventory based on forecasted demand, economic trends and technological obsolescence of its products. At the point of 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 are reflected as cost of product revenues and amounted to approximately $2.6 million, $2.9 million, and $3.4 million, for the fiscal years ended July 31, 2011, 2010, and 2009, respectively.
 
Deferred Costs
 
When the Company’s products have been delivered, but the product revenue associated with the arrangement has been deferred as a result of not meeting the revenue recognition criteria, the Company also defers the related inventory costs for the delivered items.
 
Property and Equipment, net
 
Property and equipment, net are stated at historical cost less accumulated depreciation. Depreciation is computed using the straight-line method over the shorter of the estimated useful lives of the respective assets, generally ranging from two to six years, or the lease term, if applicable. Leasehold improvements are recorded at


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
cost with any reimbursement from the landlord being accounted for as part of rent expense using the straight-line method over the lease term.
 
Upon retirement or sale, the cost of assets disposed of and the related accumulated depreciation are removed from the accounts and any resulting gain or loss is credited or charged to the statement of operations, under other income (expense), net. Expenditures for maintenance and repairs are charged to expense as incurred.
 
Impairment of Long-lived Assets
 
Intangible assets with finite lives are amortized using the straight-line method over the estimated economic lives of the assets, which range from one 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. Determination of recoverability 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 for long-lived assets that management expects to hold and use are based on the fair value of the asset. The Company did not recognize impairment charges in any of the periods presented.
 
Goodwill
 
The Company performs an annual goodwill impairment test during the fourth quarter of the fiscal year and when triggering events are present. For purposes of impairment testing, the Company determined that it has only one reporting unit. The identification and measurement of goodwill impairment involves the estimation of the fair value of the Company. The estimates of fair value of the Company are based on the best information available as of the date of the assessment, which primarily includes the Company’s market capitalization. As of the date of the assessment, the market capitalization of the Company was substantially in excess of its carrying value. As a result, the Company did not recognize impairment charges in any of the periods presented.
 
Revenue Recognition and Sales Returns
 
In October 2009, the Financial Accounting Standards Board (“FASB”) amended the accounting standards for revenue recognition to remove tangible products containing software components and non-software components that function together to deliver the product’s essential functionality from the scope of industry-specific software revenue recognition guidance. In October 2009, the FASB also amended the accounting standards for multiple-element revenue arrangements to:
 
(i) provide updated guidance on how the elements in a multiple-element arrangement should be separated, and how the consideration should be allocated;
 
(ii) require an entity to allocate revenue amongst the elements in an arrangement using estimated selling prices (“ESP”) if a vendor does not have vendor-specific objective evidence (“VSOE”) of the selling price or third-party evidence (“TPE”) of the selling price; and
 
(iii) eliminate the use of the residual method and require an entity to allocate revenue using the relative selling price method.
 
The Company adopted this accounting guidance at the beginning of its first quarter of fiscal 2011 on a prospective basis for applicable arrangements originating or materially modified after July 31, 2010. The impact of this adoption was not material to the Company’s financial position and results of operations during fiscal 2011.
 
This guidance does not generally change the units of accounting for the Company’s revenue transactions. Most non-software products and services qualify as separate units of accounting because they have value to the customer on a stand-alone basis and the Company’s revenue arrangements generally do not include a right of return relative to delivered products.


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The majority of the Company’s products are hardware appliances containing software components that function together to provide the essential functionality of the product. Therefore, the Company’s hardware appliances are considered non-software elements and are not subject to the industry-specific software revenue recognition guidance.
 
The Company’s product revenue also includes revenue from the sale of stand-alone software products. Stand-alone software products may operate on the Company’s hardware appliance but are not considered essential to the functionality of the hardware. Sales of stand-alone software generally include a perpetual license to the Company’s software. Sales of stand-alone software continue to be subject to the industry-specific software revenue recognition guidance.
 
For all arrangements originating or materially modified after July 31, 2010, the Company recognizes revenue in accordance with the amended accounting guidance. Certain arrangements with multiple-elements may continue to have stand-alone software elements that are subject to the existing software revenue recognition guidance along with non-software elements that are subject to the amended revenue accounting guidance. The revenue for these multiple element arrangements is allocated to the stand-alone software elements as a group and the non-software elements based on the relative selling prices of all of the elements in the arrangement using the fair value hierarchy in the amended revenue accounting guidance.
 
For sales of stand-alone software after July 31, 2010 and for all transactions entered into prior to the first quarter of 2011, the Company recognizes revenue based on software revenue recognition guidance. Under the software revenue recognition guidance, the Company uses the residual method to recognize revenue when a product agreement includes one or more elements to be delivered at a future date and VSOE of the fair value of all undelivered elements exists. In the majority of the Company’s contracts, the only element that remains undelivered at the time of delivery of the product is support services. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the contract fee is recognized as product revenue. If evidence of the fair value of one or more undelivered elements does not exist, all revenue is generally deferred and recognized when delivery of those elements occurs or when fair value can be established. When the undelivered element for which the Company does not have VSOE of fair value is support, revenue for the entire arrangement is bundled and recognized ratably over the support period.
 
VSOE for elements of an arrangement is based upon the normal pricing and discounting practices for those services when sold separately, and VSOE for support services is measured by the stand-alone renewal rate offered to the customer. In determining VSOE, the Company requires that a substantial majority of the selling prices for an element falls within a reasonably narrow pricing range, generally evidenced by a substantial majority of such historical stand-alone transactions falling within a reasonably narrow range of the median rates. In addition, the Company considers major service groups, geographies, customer classifications, and other variables in determining VSOE.
 
The Company is typically not able to determine TPE for the Company’s products or services. TPE is determined based on competitor prices for similar elements when sold separately. Generally, the Company’s go-to-market strategy differs from that of the Company’s peers and the Company’s offerings contain a significant level of differentiation such that the comparable pricing of products with similar functionality cannot be obtained. Furthermore, the Company is unable to reliably determine what similar competitor products’ selling prices are on a stand-alone basis.
 
When the Company is unable to establish the selling price of its non-software elements using VSOE or TPE, the Company uses ESP in its allocation of arrangement consideration. The objective of ESP is to determine the price at which the Company would transact a sale if the product or service were sold on a stand-alone basis. The Company determines ESP for a product or service by considering multiple factors including, but not limited to, cost of products, gross margin objectives, pricing practices, geographies, customer classes and distribution channels.


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The Company regularly reviews VSOE and ESP and maintains internal controls over the establishment and updates of these estimates. There was not a material impact during the third quarter or first nine months of fiscal 2011, nor does the Company currently expect a material impact in the near term from changes in VSOE or ESP.
 
Product revenue consists of revenue from sales of the Company’s hardware appliances and perpetual software licenses. The Company recognizes product revenue when all of the following have occurred: (1) the Company has entered into a legally binding arrangement with a customer; (2) delivery has occurred; (3) customer payment is deemed fixed or determinable and free of contingencies and significant uncertainties; and (4) collection is reasonably assured.
 
For sales to direct end-users and channel partners, including value-added resellers (“VARs”), value-added distributors (“VADs”), and original equipment manufacturers (“OEMs”), the Company recognizes product revenue upon delivery, assuming all other revenue recognition criteria are met. For the Company’s hardware appliances, delivery occurs upon transfer of title and risk of loss, which is generally upon shipment. It is the Company’s practice to identify an end-user prior to shipment to a channel partner. For end-users and channel partners, the Company generally has no significant obligations for future performance such as rights of return or pricing credits. A portion of the Company’s sales are made through distributors under agreements allowing for stocking of the Company’s products in their inventory, pricing credits and limited rights of return for stock rotation. Product revenue on sales made through these distributors is initially deferred and revenue is recognized upon sell-through as reported by the distributors to the Company. Shipping charges billed to customers are included in product revenue and the related shipping costs are included in cost of product revenue. The amount of inventory held by resellers pending a sale to an end customer was $2.0 million and $3.7 million as of July 31, 2011 and 2010.
 
Support and services offerings consist of support agreements, professional services, and training. Support services include repair and replacement of defective hardware appliances, software updates and access to technical support personnel. Software updates provide customers with rights to unspecified software product upgrades and to maintenance releases and patches released during the term of the support period. Revenue for support services is recognized on a straight-line basis over the service contract term, which is typically one to five years. Revenue for professional services is recognized upon delivery or completion of performance. Professional service arrangements are typically short-term in nature and are largely completed within 90 days from the start of service. Revenue for training services is recognized upon delivery of the training.
 
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 the Company receives 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 the date of delivery to the end customer. If the sale of support services occurs after the Company receives the initial purchase order, the support services for the specific product sales are purchased on a subsequent purchase order. The subsequent purchase order is received 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.
 
Post-contractual services (“PCS”) that the Company provides to its channel partners differs from PCS that the Company provides to its end customers in that the Company is 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 returned merchandise fulfillment (“RMA”) fulfillment, while the Company’s 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.
 
The Company’s fees are typically considered to be fixed or determinable at the inception of an arrangement, generally based on specific products and quantities to be delivered. Substantially all of the Company’s contracts do not include rights of return or acceptance provisions. To the extent that the Company’s agreements contain such


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
terms, the Company recognizes revenue once the customer has accepted, or once the acceptance provisions or right of return lapses. Payment terms to customers generally range from net 30 to 60 days. In the event payment terms are provided that differ from the Company’s standard business practices, the fees are deemed to not be fixed or determinable and revenue is recognized when the payments become due, provided the remaining criteria for revenue recognition have been met.
 
The Company assesses the ability to collect from its customers based on a number of factors, including credit worthiness of the customer and past transaction history of the customer. If the customer is not deemed credit worthy, the Company defers revenue from the arrangement until payment is received and all other revenue recognition criteria have been met. The Company records estimated sales returns as a reduction to revenues upon shipment based on its contractual obligations and historical returns experience. In cases where the Company is aware of circumstances that will likely result in a specific customer’s request to return purchased equipment, the Company records a specific sales returns reserve.
 
Shipping charges billed to customers are included in product revenues and the related shipping costs are included in cost of product revenues.
 
Research and Development Expenses
 
Research and development expenditures are charged to operations as incurred and consist primarily of compensation costs, including stock-based compensation costs, outside services, expensed materials, depreciation and an allocation of overhead expenses, including facilities and IT costs. Software development costs incurred prior to the establishment of technological feasibility are included in research and development and are expensed as incurred.
 
After technological feasibility is established, material software development costs are capitalized. The capitalized cost is amortized on a straight-line basis over the estimated product life, or on the ratio of current revenues to total projected product revenues, whichever is greater. To date, the period between achieving technological feasibility, which the Company has defined as the establishment of a working model, which typically occurs when beta testing commences, and the general availability of such software has been short and software development costs qualifying for capitalization have been insignificant. Accordingly, the Company has not capitalized any software development costs.
 
Stock-Based Compensation
 
The Company measures and recognizes compensation expense for all stock-based payment awards made to employees and non-employees based on estimated fair values. The Company’s stock-based payment awards include stock options, restricted stock units and awards, employee stock purchase plan awards, and performance-based awards, which require an assessment of the probability of vesting. The Company calculates the fair value of restricted stock and performance-based awards which are paid in restricted stock, based on the fair market value of its stock on the date of grant. The Company calculates the fair value of stock options and employee stock purchase plan shares on the date of grant using the Black-Scholes option-pricing model. This methodology requires the use of subjective assumptions such as 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. The Company determines the amount of stock-based compensation expense based on awards that it ultimately expects to vest, reduced for estimated forfeitures. In addition, compensation expense includes the effects of awards modified, repurchased or cancelled.


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
Income Taxes
 
The Company uses the asset and liability method of 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 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.
 
As a result of the Company’s increasing profitability in fiscal 2011 and expectations for continued profits going forward, the Company determined that it is more likely than not that future profitability will be sufficient to realize deferred income tax assets. In addition, the Company has determined there will be sufficient California taxable income such that it is more likely than not the California research credits available as of fiscal year 2011 would be realizable in the near future. The Company will continue to assess whether a valuation allowance is necessary for any future California research credits generated. In accordance with Accounting Standards Codification Topic 740, “Income Taxes” (“ASC 740”) and related literature, the Company released a majority of its valuation allowances against its deferred income tax assets in the fourth quarter of fiscal 2011. Net income for fiscal 2011 includes a discrete tax benefit of $72.8 million which was largely attributed to the release of the Company’s valuation allowances and the recording of the associated net deferred tax assets on its balance sheet. The Company continues to maintain $0.2 million valuation allowance against a portion of its foreign net operating loss deferred tax assets.
 
Income tax contingencies are accounted for and may require significant management judgment in estimating final outcomes. Actual results could differ materially from these estimates and could significantly affect the effective tax rate and cash flows in future years. As of July 31, 2011, the Company had $10.9 million of unrecognized tax benefits, and if recognized will have an effect on the Company’s effective tax rate.
 
Comprehensive Income (Loss)
 
Comprehensive income (loss) consists of other comprehensive income (loss) and net income (loss). Other comprehensive income (loss) consists of unrealized investment gains and losses from available-for-sale securities. No other-than temporary impairment has been recorded by the Company during fiscal years 2011, 2010 and 2009.
 
Recent Accounting Pronouncements
 
In May 2011, the FASB issued Accounting Standards Update (“ASU”) No. 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards (“Topic 820”) — Fair Value Measurement (“ASU 2011-04”), to provide a consistent definition of fair value and ensure that the fair value measurement and disclosure requirements are similar between U.S. GAAP and International Financial Reporting Standards. ASU 2011-04 changes certain fair value measurement principles and enhances the disclosure requirements particularly for level 3 fair value measurements (as defined in Note 2 below). ASU 2011-04 is effective for the Company for the third quarter of fiscal 2012 and will be applied prospectively. The Company is currently evaluating the impact of its pending adoption of ASU 2011-04 on its Consolidated Financial Statements.
 
In June 2011, the FASB issued ASU No. 2011-05, Comprehensive Income (“Topic 220”) — Presentation of Comprehensive Income (“ASU 2011-05”), to require an entity to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. ASU 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of equity. ASU 2011-05 is


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
effective for the Company in for the third quarter of fiscal 2012 and will be applied retrospectively. The Company’s adoption of ASU 2011-05 will not have an impact on its consolidated results of operations or financial condition.
 
2.   Acquisitions
 
On September 2, 2010, the Company completed its acquisition of Azalea Networks (“Azalea”) for a total purchase price of $42.0 million. Azalea is a leading supplier of outdoor mesh networks and includes an operations center in Beijing, China which will complement the Company’s existing research and development centers. The results of Azalea’s operations have been included in the Consolidated Financial Statements since the acquisition date. The tangible and intangible assets acquired and liabilities assumed were recorded at fair value on the acquisition date.
 
The purchase price consisted of the following (in thousands, except share and per share data):
 
         
Stock (1,524,517 shares at $18.82 per share)
  $ 28,691  
Cash
    1,808  
Contingent rights
    9,486  
Advance on purchase price
    2,000  
         
Total consideration
  $ 41,985  
         
 
The purchase price was allocated to the assets acquired and liabilities assumed based on management’s estimates of their fair values on the acquisition date. The excess of the purchase consideration over the fair value of the net assets acquired was allocated to goodwill. Goodwill is not being amortized but reviewed annually for impairment, or more frequently if impairment indicators arise. In part, goodwill reflected the competitive advantages the Company expected to realize from Azalea’s standing in the China service provider industry as well as Azalea’s product differentiation.
 
The following table summarizes the estimated purchase price allocation (in thousands, except estimated useful lives). Estimates of liabilities are subject to change, pending the Company’s final review of Azalea’s obligations.
 
         
Cash and cash equivalents
  $ 550  
Accounts receivable
    2,525  
Inventory
    1,794  
Prepaids and other assets
    331  
Property and equipment
    265  
         
Total tangible assets acquired
    5,465  
         
 


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
             
          Estimated
          Useful Lives
 
Amortizable intangible assets:
           
Existing technology
    11,800     5 years
Patents/core technology
    2,300     6 years
Customer contracts
    1,800     6 years
Tradenames/trademarks
    100     1 year
Non-compete agreements
    100     2 years
In-process research and development
    900      
Goodwill
    24,842      
             
Total assets acquired
    47,307      
Liabilities
    (5,322 )    
             
Total liabilities assumed
    (5,322 )    
             
Total
  $ 41,985      
             
 
The purchased intangible assets have a weighted average useful life of 5.2 years from the date of the acquisition.
 
A portion of the purchase price was allocated to developed product technology and in-process research and development (“IPR&D”). They were identified and valued through an analysis of data provided by Azalea concerning developmental products, their stage of development, the time and resources needed to complete them, target markets, their expected income generating ability and associated risks. The Income Approach, which is based on the premise that the value of an asset is the present value of its future earning capacity, was the primary valuation technique employed. A discount rate of 16% was applied to developed product technology and IPR&D. The Company recognizes IPR&D at fair value as of the acquisition date, and subsequently accounts for it as an indefinite-lived intangible asset until completion or abandonment of the associated research and development efforts. IPR&D is tested for impairment during the period it is considered an indefinite-lived asset.
 
Developed product technology, which includes products that are already technologically feasible, is primarily comprised of a portfolio of outdoor mesh routers. Developmental projects that had not reached technological feasibility are recognized as identifiable intangible assets. The principal project at the acquisition date relates to developing multi-radio outdoor mesh routers for the core network for even the largest enterprises. This technology would enable faster internet access for higher throughput performance, covering greater distances for both mesh and video networks. The Company expects to incur an immaterial amount of post-acquisition costs during fiscal 2012. The Company expects to complete all work by the end of fiscal 2012.
 
The Company expensed $0.7 million of acquisition-related costs incurred as general and administrative expenses in the Consolidated Statements of Operations in the period the expense was incurred.
 
Based on its evaluation of the materiality of Azalea’s stand-alone financial statements to the Consolidated Financial Statements of Aruba Networks taken as a whole, the Company determined that the acquisition does not meet the requirements needed to disclose pro forma financial statements for the acquisition.
 
On November 19, 2010, the Company entered into an agreement with Amigopod, pursuant to which Aruba acquired substantially all of the assets of Amigopod. The acquisition was completed on December 3, 2010. The total consideration was $3.0 million and resulted in additional goodwill of $0.6 million.

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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
Contingent Rights Liability
 
Contingent rights were issued to each Azalea shareholder as part of the purchase consideration. For each share received, the Azalea shareholder also received a right to receive an amount of cash equal to the shortfall generated if a share is sold below the target value within the payment period, as specified in the arrangement. For shares not held in escrow, the payment period begins August 1, 2011 and ends on December 31, 2011. For shares held in escrow, the payment period begins April 2, 2012 and ends on May 1, 2012. The rights are subject to forfeiture in certain circumstances.
 
At the acquisition date, the Company recorded a liability for the estimated fair value of the contingent rights of $9.5 million. This liability was estimated using a lattice model and was based on significant inputs not observed in the market and thus represented a Level 3 instrument. 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 inputs included:
 
  •  stock price as of the valuation date;
 
  •  strike price of the contingent right;
 
  •  maximum payoff per share;
 
  •  number of shares held in and outside of escrow;
 
  •  exercise period;
 
  •  historical volatility of the Company’s stock price based on weekly stock price returns; and
 
  •  risk-free rate interpolated from the Constant Maturity Treasury Rate.
 
The change in fair value from the acquisition date to July 31, 2011 was primarily driven by an increase in the Company’s stock price and the approaching settlement date. Gains and losses on the remeasurement of the contingent rights liability are included in other income (expense), net. As the fair value of the contingent rights liability will largely be determined based on the Company’s closing stock price as of future fiscal period-ends, it is not possible to determine a probable range of possible outcomes of the valuation of the contingent rights liability. However, the maximum contingent rights liability will be no more than $13.5 million as defined in the acquisition agreement.
 
The following table represents the change in the contingent rights liability:
 
         
    Level 3
 
    Amount  
    (In thousands)  
 
Balance as of July 31, 2010
  $  
Acquisition date fair value measurement
    9,486  
Adjustments to fair value
    (3,598 )
         
Balance as of July 31, 2011
  $ 5,888  
         


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
3.   Goodwill and Intangible Assets
 
The following table presents details of the Company’s goodwill:
 
         
    Amount  
    (In thousands)  
 
As of July 31, 2010
  $ 7,656  
Goodwill acquired in acquisition
    25,487  
         
As of April 30, 2011
  $ 33,143  
         
 
The following table presents details of the Company’s total purchased intangible assets:
 
                             
    Estimated
  Gross
    Accumulated
    Net
 
    Useful Lives   Value     Amortization     Value  
    (In thousands, except estimated useful lives)  
 
As of July 31, 2011
                           
Existing technology
  4 to 5 years   $ 22,383     $ (10,595 )   $ 11,788  
In-process research and development
  NA     1,020             1,020  
Patents/core technology
  4 to 6 years     6,026       (3,110 )     2,916  
Customer contracts
  6 to 7 years     6,933       (3,137 )     3,796  
Support agreements
  5 to 6 years     2,917       (1,849 )     1,068  
Tradenames/trademarks
  1 to 5 years     750       (529 )     221  
Non-compete agreements
  2 years     812       (758 )     54  
                             
Total
      $ 40,841     $ (19,978 )   $ 20,863  
                             
 
                             
    Estimated
  Gross
    Accumulated
    Net
 
    Useful Lives   Value     Amortization     Value  
    (In thousands, except estimated useful lives)  
 
As of July 31, 2010
                           
Existing technology
  4 years   $ 9,283     $ (5,914 )   $ 3,369  
Patents/core technology
  4 years     3,046       (1,940 )     1,106  
Customer contracts
  6 to 7 years     5,083       (2,020 )     3,063  
Support agreements
  5 to 6 years     2,717       (1,284 )     1,433  
Tradenames/trademarks
  5 years     600       (284 )     316  
Non-compete agreements
  2 years     712       (712 )      
                             
Total
      $ 21,441     $ (12,154 )   $ 9,287  
                             
 
Amortization expense is recorded in the Consolidated Statements of Operations under the following:
 
                         
    Years Ended July 31,  
    2011     2010     2009  
    (In thousands)  
 
Cost of product revenues
  $ 5,852     $ 3,082     $ 3,082  
Cost of professional services and support revenues
    540       540       540  
Sales and marketing
    1,432       1,182       1,315  
                         
Total amortization expense
  $ 7,824     $ 4,804     $ 4,937  
                         


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
 
The estimated future amortization expense of purchased intangible assets as of July 31, 2011 is as follows:
 
         
    Amount  
    (In thousands)  
 
Years ending July 31,
       
2012
  $ 6,519  
2013
    4,791  
2014
    4,083  
2015
    3,310  
Thereafter
    1,140  
         
Total
  $ 19,843  
         
 
4.   Net Income (Loss) Per Common Share
 
Basic net income (loss) per common share is calculated by dividing net income (loss) by the weighted average number of common shares outstanding during the period. Diluted net income (loss) per common share is calculated by giving effect to all potentially dilutive common shares, including stock options and awards, unless the result is anti-dilutive. The following tables set forth the computation of net income (loss) per share:
 
                         
    Years Ended July 31,  
    2011     2010     2009  
    (In thousands, except per share data)  
 
Net income (loss)
  $ 70,688     $ (33,998 )   $ (23,413 )
                         
Weighted-average common shares outstanding — basic
    100,299       89,978       84,612  
Dilutive effect of employee stock plans
    16,818              
                         
Weighted-average common shares outstanding — diluted
    117,117       89,978       84,612  
Net income (loss) per share — basic
  $ 0.70     $ (0.38 )   $ (0.28 )
                         
Net income (loss) per share — diluted
  $ 0.60     $ (0.38 )   $ (0.28 )
                         
 
The following outstanding options and restricted stock awards were excluded from the computation of diluted net income (loss) per common share for the periods presented because including them would have had an anti-dilutive effect
 
                         
    Years Ended July 31,
    2011   2010   2009
    (In thousands)
 
Options to purchase common stock
    1,279       4,072       8,212  
Restricted stock awards
    227       175       860  


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
5.   Short-Term Investments
 
Short-term investments consist of the following:
 
                                 
          Gross
    Gross
       
    Cost
    Unrealized
    Unrealized
    Fair
 
    Basis     Gains     Losses     Value  
    (In thousands)  
 
As of July 31, 2011
                               
Corporate bonds and notes
  $ 41,912     $ 118     $ (10 )   $ 42,020  
U.S. government agency securities
    40,824       33       (7 )     40,850  
U.S. treasury bills
    57,026       72       (5 )     57,093  
Commercial paper
    5,590       2             5,592  
Certificates of deposit
    7,618       12             7,630  
                                 
Total short-term investments
  $ 152,970     $ 237     $ (22 )   $ 153,185  
                                 
 
                                 
          Gross
    Gross
       
    Cost
    Unrealized
    Unrealized
    Fair
 
    Basis     Gains     Losses     Value  
    (In thousands)  
 
As of July 31, 2010
                               
Corporate bonds and notes
  $ 23,802     $ 69     $ (4 )   $ 23,867  
U.S. government agency securities
    80,683       78       (9 )     80,752  
U.S. treasury bills
    12,816       57             12,873  
Commercial paper
    4,495                   4,495  
Certificates of deposit
    2,179       1             2,180  
                                 
Total short-term investments
  $ 123,975     $ 205     $ (13 )   $ 124,167  
                                 
 
The cost basis and fair value of debt securities by contractual maturity are presented below:
 
                 
    Cost
    Fair
 
    Basis     Value  
    (In thousands)  
 
As of July 31, 2011
               
One year or less
  $ 60,255     $ 60,358  
One to two years
    92,715       92,827  
                 
Total short-term investments
  $ 152,970     $ 153,185  
                 
 
                 
    Cost
    Fair
 
    Basis     Value  
    (In thousands)  
 
As of July 31, 2010
               
One year or less
  $ 93,597     $ 93,700  
One to two years
    30,378       30,467  
                 
Total short-term investments
  $ 123,975     $ 124,167  
                 
 
The Company reviews the individual securities in its portfolio to determine whether a decline in a security’s fair value below the amortized cost basis is other than temporary. The Company determined that there were no


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
investments in its portfolio, related to credit losses or otherwise, that were other-than temporarily impaired during fiscal 2011, 2010 or 2009.
 
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  
    Fair
    Unrealized
 
    Value     Loss  
    (In thousands)  
 
As of July 31, 2011
               
Corporate bonds and notes
  $ 6,264     $ (10 )
U.S. government agency securities
    11,576       (7 )
U.S. treasury bill
    10,029       (5 )
                 
    $ 27,869     $ (22 )
                 
 
                 
    Less Than 12 Months  
    Fair
    Unrealized
 
    Value     Loss  
    (In thousands)  
 
As of July 31, 2010
               
Corporate bonds and notes
  $ 7,400     $ (4 )
U.S. government agency securities
    15,245       (9 )
                 
    $ 22,645     $ (13 )
                 
 
There were no short-term investments in a continuous unrealized loss position for more than 12 months as of July 31, 2011 and 2010.
 
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 original maturities at date of purchase of 90 days or less and are stated at cost which approximates fair value.
 
Short-term investments are recorded at fair value, defined 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. 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 securities are valued using quoted market prices for similar instruments, nonbinding market prices that are corroborated by observable market data, or discounted cash flow techniques and include the Company’s investments in corporate bonds and notes, U.S. government agency securities, U.S. treasury bills, 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 short-term investments classified as Level 3 instruments. There were no transfers between different levels during fiscal 2011.


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ARUBA NETWORKS, INC.
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The fair value measurements of the Company’s cash, cash equivalents and short-term investments consisted of the following: