Ixia (XXIA) 10-Q 2012 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC  20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended September 30, 2012

OR

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

For the transition period from to 

Commission File Number 000-31523

IXIA

(Exact name of Registrant as specified in its charter)

California	95-4635982
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

26601 West Agoura Road, Calabasas, CA 91302

(Address of principal executive offices, including zip code)

(818) 871-1800

(Registrant’s telephone number, including area code)

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 [X]   No [   ]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§229.405 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 [X]   No [   ]

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

Large accelerated filer   [   ]	Accelerated filer  [X]
Non-accelerated filer (Do not check if a smaller reporting company)  [   ]	Smaller reporting company [   ]

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Common Stock	73,367,848
(Class of Common Stock)	(Outstanding at October 30, 2012)

IXIA

TABLE OF CONTENTS

			Page Number
PART I.	FINANCIAL INFORMATION
	Item 1.	Financial Statements (unaudited)
		Condensed Consolidated Balance Sheets as of September 30, 2012 and December 31, 2011	3
		Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2012 and 2011	4
		Condensed Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2012 and 2011	5
		Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2012 and 2011	6
		Notes to Condensed Consolidated Financial Statements	7
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	19
	Item 3.	Quantitative and Qualitative Disclosures about Market Risk	30
	Item 4.	Controls and Procedures	31
PART II.	OTHER INFORMATION
	Item 1.	Legal Proceedings	32
	Item 1A.	Risk Factors	32
	Item 5.	Other Information	32
	Item 6.	Exhibits	32
SIGNATURES			33

2

PART I.                      FINANCIAL INFORMATION

ITEM 1.                      Financial Statements (unaudited)

IXIA

Condensed Consolidated Balance Sheets

(in thousands)

(unaudited)

	September 30, 2012		December 31, 2011
Assets
Current assets:
Cash and cash equivalents	$	51,188	$	42,729
Short-term investments in marketable securities		20,161		156,684
Accounts receivable, net		102,776		65,357
Inventories		36,209		27,239
Prepaid expenses and other current assets		23,699		12,700
Total current assets		234,033		304,709
Investments in marketable securities		82,928		185,608
Property and equipment, net		28,793		25,060
Intangible assets, net		167,126		46,028
Goodwill		259,236		66,429
Other assets		5,605		6,633
Total assets	$	777,721	$	634,467
Liabilities and Shareholders’ Equity
Current liabilities:
Accounts payable	$	14,590	$	5,005
Accrued expenses		48,568		27,301
Deferred revenues		63,153		40,963
Income taxes payable		2,648		895
Total current liabilities		128,959		74,164
Deferred revenues		13,635		10,092
Other liabilities		12,425		5,849
Convertible senior notes		200,000		200,000
Total liabilities		355,019		290,105
Shareholders’ equity:
Common stock, without par value; 200,000 shares authorized at September 30, 2012 and December 31, 2011; 73,313 and 70,240 shares issued and outstanding as of September 30, 2012 and December 31, 2011, respectively		153,018		132,330
Additional paid-in capital		160,062		145,840
Retained earnings		106,595		63,962
Accumulated other comprehensive income		3,027		2,230
Total shareholders’ equity		422,702		344,362
Total liabilities and shareholders’ equity	$	777,721	$	634,467

The accompanying notes are an integral part of these condensed consolidated financial statements.

3

IXIA

Condensed Consolidated Statements of Operations

(in thousands, except per share data)

(unaudited)

	Three months ended September 30,						Nine months ended September 30,
	2012			2011			2012			2011
Revenues:
Products	$	88,656		$	62,062		$	233,637		$	181,981
Services		20,896			15,209			53,901			42,724
Total revenues		109,552			77,271			287,538			224,705
Costs and operating expenses:(1)
Cost of revenues – products		20,509			14,164			49,511			41,199
Cost of revenues – services		2,735			1,573			7,595			4,682
Research and development		25,763			18,932			69,160			55,996
Sales and marketing		30,633			20,397			79,796			64,525
General and administrative		11,058			9,420			33,664			25,892
Amortization of intangible assets		9,960			4,239			19,363			11,718
Acquisition and other related		4,308			377			8,472			851
Restructuring		2,098			—			2,098			—
Total costs and operating expenses		107,064			69,102			269,659			204,863
Income from operations		2,488			8,169			17,879			19,842
Interest income and other, net		928			1,022			1,640			1,813
Interest expense		(1,800	)		(1,800	)		(5,400	)		(5,400	)
Income before income taxes		1,616			7,391			14,119			16,255
Income tax (benefit) expense		(9,785	)		943			(28,514	)		2,244
Net income	$	11,401		$	6,448		$	42,633		$	14,011
Earnings per share:
Basic	$	0.16		$	0.09		$	0.59		$	0.20
Diluted	$	0.15		$	0.09		$	0.55		$	0.20
Weighted average number of common and common equivalent shares outstanding:
Basic		72,805			69,613			71,659			68,968
Diluted		85,070			70,892			84,061			71,595

(1)Stock-based compensation included in:
Cost of revenues - products	$	85	$	81	$	256	$	329
Cost of revenues - services		33		31		99		125
Research and development		1,332		918		3,556		3,374
Sales and marketing		1,043		679		2,977		2,546
General and administrative		1,671		1,172		5,146		3,614

The accompanying notes are an integral part of these condensed consolidated financial statements.

4

IXIA

Condensed Consolidated Statements of Comprehensive Income

 (in thousands)

(unaudited)

	Three months ended September 30,					Nine months ended September 30,
	2012		2011			2012			2011
Net income	$	11,401	$	6,448		$	42,633		$	14,011
Other comprehensive income
Change in unrealized gains and losses on investments, net of tax		407		(855	)		866			(601	)
Cumulative translation adjustment		96		200			(69	)		226
Total other comprehensive income (loss), net of tax		503		(655	)		797			(375	)
Comprehensive income	$	11,904	$	5,793		$	43,430		$	13,636

The accompanying notes are an integral part of these condensed consolidated financial statements.

5

IXIA

Condensed Consolidated Statements of Cash Flows

(in thousands)

(unaudited)

	Nine months ended September 30,
	2012			2011
Cash flows from operating activities:
Net income	$	42,633		$	14,011
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		11,643			9,858
Amortization of intangible assets		19,363			11,718
Stock-based compensation		12,034			9,988
Deferred income taxes		(36,361	)		(696	)
Tax benefit from stock option transactions		2,188			—
Excess tax benefits from stock-based compensation		(1,939	)		—
Changes in operating assets and liabilities, net of effect of acquisitions:
Accounts receivable, net		(21,024	)		2,271
Inventories		(1,434	)		(1,115	)
Prepaid expenses and other current assets		259			(1,326	)
Other assets		27			694
Accounts payable		7,847			(814	)
Accrued expenses		8,108			(4,927	)
Deferred revenues		12,349			2,035
Income taxes payable and other liabilities		2,566			606
Net cash provided by operating activities		58,259			42,303
Cash flows from investing activities:
Purchases of property and equipment		(12,906	)		(10,891	)
Purchases of available-for-sale securities		(135,616	)		(323,638	)
Proceeds from available-for-sale securities		375,684			266,990
Purchases of other intangible assets		(661	)		(311	)
Payments in connection with acquisitions, net of cash acquired		(298,928	)		(15,823	)
Net cash used in investing activities		(72,427	)		(83,673	)
Cash flows from financing activities:
Proceeds from exercise of stock options and employee stock purchase plan options		20,688			13,704
Excess tax benefits from stock-based compensation		1,939			—
Net cash provided by financing activities		22,627			13,704
Net increase (decrease) in cash and cash equivalents		8,459			(27,666	)
Cash and cash equivalents at beginning of period		42,729			76,082
Cash and cash equivalents at end of period	$	51,188		$	48,416

The accompanying notes are an integral part of these condensed consolidated financial statements.

6

IXIA

Notes to Condensed Consolidated Financial Statements

(unaudited)

1.             Business

We were incorporated on May 27, 1997 as a California corporation. We are a leading provider of converged Internet Protocol (IP) network validation and network visibility solutions. Equipment manufacturers, service providers, enterprises, and government agencies use our solutions to design, verify, and monitor a broad range of Ethernet, Wi-Fi, and 3G/LTE equipment and networks. Our test solutions emulate realistic media-rich traffic and network conditions so that customers can optimize and validate the design, performance, and security of their pre-deployment networks.  Our intelligent network visibility solutions provide clarity into physical and virtual production networks for improved performance, security, resiliency, and application delivery of cloud, data center, and service provider networks. Our product solutions consist of our hardware platforms, such as our chassis, interface cards and appliances, software application tools, and services, including our warranty and maintenance offerings and professional services.

2.             Basis of Presentation

The accompanying condensed consolidated financial statements as of September 30, 2012 and for the three and nine months ended September 30, 2012 and 2011, are unaudited and reflect all adjustments (consisting only of normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of our financial position, operating results and cash flows for the interim periods presented. The results of operations for the current interim period presented is not necessarily indicative of results to be expected for the full year ending December 31, 2012 or any other future period.

These condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) have been condensed or omitted pursuant to such rules and regulations. The condensed consolidated balance sheet as of December 31, 2011 has been derived from our audited financial statements included in the Annual Report on Form 10-K for the year ended December 31, 2011, but does not include all disclosures required by GAAP. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2011.

Certain reclassifications have been made to prior period condensed consolidated financial statements to conform to the current presentation.

3.             Acquisitions

Anue Systems, Inc.

On June 1, 2012, we completed our acquisition of all of the outstanding shares of common stock of Anue Systems, Inc. (“Anue”).  Anue provides solutions to monitor and test complicated networks, including Anue’s Net Tool Optimizer solution that efficiently aggregates and filters network traffic to help optimize network monitoring tool usage.  With this acquisition, we have expanded our addressable market, broadened our product portfolio and grown our customer base.  In addition, we expect to leverage Anue’s existing sales channels and assembled workforce, including its experienced development team.  These factors, among others, contributed to a purchase price in excess of the estimated fair value of Anue’s net identifiable assets acquired (see summary of net assets below), and, as a result, we have recorded goodwill in connection with this transaction.  

The aggregate cash consideration paid totaled $151.9 million and is subject to certain post-closing adjustments including an adjustment based on the final amount of Anue’s closing net working capital.  The acquisition was funded from our existing cash and investments.

7

Acquisition and other related costs, including integration activities, approximated $920,000 and $3.9 million for the three and nine months ended September 30, 2012, respectively.  These acquisition and other related costs have been expensed as incurred, and have been included within the Acquisition and Other Related line item on our condensed consolidated statements of operations.  

The following table summarizes the preliminary allocation of the purchase price to the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition (in thousands):

Cash and cash equivalents	$	3,659
Accounts receivable		11,843
Inventories		4,380
Prepaid and other assets		2,980
Fixed assets, net		1,600
Identifiable intangible assets		74,700
Goodwill		90,456
Total assets acquired		189,618
Accounts payable, accrued expenses and other liabilities		(8,115	)
Deferred revenues		(6,997	)
Deferred tax liability, net		(22,590	)
Net assets acquired	$	151,916

The preliminary purchase price allocation is pending the receipt of certain information, such as the final net working capital computation and the final tax attributes that will be finalized upon the filing of certain pre-acquisition tax returns.

The identifiable intangible assets of $74.7 million consist of $45.0 million of acquired technology, $21.9 million of customer relationships, $4.0 million for the trade name, $2.1 million related to non-compete agreements and $1.7 million of other identifiable intangible assets. The fair values of the identifiable intangible assets have been estimated using the income approach. These intangible assets will be amortized using a straight-line method over their expected useful lives ranging from six months to six years.  The goodwill recorded in connection with this transaction is not deductible for U.S. income tax purposes.

BreakingPoint Systems, Inc.

On August 24, 2012, we completed our acquisition of all of the outstanding shares of common stock of BreakingPoint Systems, Inc. (“BreakingPoint”).  BreakingPoint is a leader in security testing, and its solutions provide global visibility into emerging threats and applications, along with advance insight into the resiliency of an organization’s information technology infrastructure under operationally relevant conditions and malicious attacks. With this acquisition, we have expanded our addressable market, broadened our product portfolio and grown our customer base. In addition, we expect to leverage BreakingPoint’s existing sales channels and assembled workforce, including its experienced product development and sales teams.  These factors, among others, contributed to a purchase price in excess of the estimated fair value of BreakingPoint’s net identifiable assets acquired (see summary of net assets below), and, as a result, we have recorded goodwill in connection with this transaction.  

The aggregate cash consideration paid totaled $164.1 million and is subject to certain post-closing adjustments, including a potential adjustment based on the final amount of BreakingPoint’s closing net working capital.  The acquisition was funded from our existing cash and investments.

Acquisition and other related costs, including integration activities, approximated $3.4 million and $4.5 million for the three and nine months ended September 30, 2012, respectively.  These acquisition and other related costs have been expensed as incurred, and have been included within the Acquisition and Other Related line item on our condensed consolidated statements of operations.  

8

In connection with the acquisition, we may be obligated to pay $3.8 million to certain pre-acquisition employees of BreakingPoint over a weighted average period of less than two years provided they remain employees of Ixia. For the three and nine months ended September 30, 2012, $868,000 has been recorded within the Acquisition and Other Related line item on our condensed consolidated statements of operations.  As of September 30, 2012, no related payments had been made.      

The following table summarizes the preliminary allocation of the purchase price to the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition (in thousands):

Cash and cash equivalents	$	13,417
Accounts receivable		4,552
Inventories		3,156
Prepaid and other assets		796
Fixed assets, net		936
Identifiable intangible assets		65,100
Goodwill		102,351
Total assets acquired		190,308
Accounts payable, accrued expenses and other liabilities		(7,103	)
Deferred revenues		(6,387	)
Deferred tax liability, net		(12,729	)
Net assets acquired	$	164,089

The preliminary purchase price allocation is pending the receipt of certain information, such as the final net working capital computation and the final tax attributes that will be determined upon the filing of certain pre-acquisition tax returns.

The identifiable intangible assets of $65.1 million consist of $21.7 million of acquired technology, $20.9 million of customer relationships, $16.8 million of service agreements, $2.9 million for the trade name, $2.2 million related to non-compete agreements and $600,000 of other identifiable intangible assets. The fair values of the identifiable intangible assets have been estimated using the income approach. These intangible assets will be amortized using a straight-line method over their expected useful lives ranging from two weeks to six years.  The goodwill recorded in connection with this transaction is not deductible for U.S. income tax purposes.

Pro Forma and Post Acquisition Results

The following table summarizes the pro forma total revenues and net income of the combined entities, including Ixia, had the acquisitions of Anue and BreakingPoint occurred on January 1, 2011 (in thousands):

	Three Months Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Total revenues	$	114,054	$	93,929	$	340,138	$	266,526
Net income		742		2,052		8,075		17,799

9

The pro forma combined results in the table above have been prepared for comparative purposes only and include acquisition related adjustments for, among others items, reductions in revenues related to the estimated fair value adjustment to deferred revenues, certain acquisition related costs, amortization of identifiable intangible assets, and the related income tax effects for these adjustments (including to record the $22.6 million and $12.7 million partial releases of our valuation allowance in the first quarter of 2011 rather than in the second and third quarters of 2012, respectively, for the above pro forma presentation). Post-acquisition results for Anue and BreakingPoint’s operations have been included in our consolidated financial statements, which include revenues of $20.8 million and $24.6 million for the three and nine months ended September 30, 2012, respectively, and a loss before income taxes of approximately $2.7 million and $3.5 million, for the three and nine months ended September 30, 2012, respectively.  The pro forma combined results, as well as those of Anue and BreakingPoint included in the Company’s results subsequent to the acquisition date, do not purport to be indicative of the results of operations which would have resulted had the acquisition been effective at the beginning of the applicable periods noted above, or the future results of operations of the combined entity.

4.             Restructuring

During the third quarter of 2012, our management approved, committed to and initiated a plan to restructure our operations following our recent acquisition of BreakingPoint Systems, Inc. (“BreakingPoint”).  The BreakingPoint restructuring included a net reduction in force of approximately 29 positions (primarily impacting our research and development team in Melbourne, Australia). We recognized restructuring costs of approximately $2.1 million primarily related to one-time employee termination benefits consisting of severance and other related costs in the third quarter of 2012, which was recorded to the Restructuring line item within our condensed consolidated statement of operations. We anticipate additional costs to be incurred during the fourth quarter of 2012, including costs related to the closure of our office in Melbourne, Australia.

Activity related to our restructuring plan is as follows (in thousands):

Accrual at July 1, 2012	$	—
Charges		2,098
Payments		—
Non-cash items		(294	)
Accrual at September 30, 2012	$	1,804

5.             Convertible Senior Notes

On December 7, 2010, we issued $200.0 million in aggregate principal amount of 3.00% Convertible Senior Notes due December 15, 2015 unless earlier repurchased or converted (the “Notes”). The interest is payable semi-annually on June 15 and December 15 of each year, beginning on June 15, 2011. During the second quarter of 2012, we made interest payments of $3.0 million.

As of September 30, 2012, the estimated fair value of our Notes was approximately $218.5 million. The fair values of the Notes were estimated using market prices of the Notes, which are based on Level 2 inputs.

10

6.             Selected Balance Sheet Data

Inventories

Inventories consist of the following (in thousands):

	September 30, 2012		December 31, 2011
Raw materials	$	5,435	$	3,764
Work in process		11,181		6,871
Finished goods		19,593		16,604
	$	36,209	$	27,239

Accrued Expenses

As of September 30, 2012 and December 31, 2011, accrued bonuses totaled $10.4 million and $6.3 million, respectively.

7.             Shareholders’ Equity

Other Comprehensive Income

The tax impact of unrealized gains and losses was $0 for the three and nine months ended September 30, 2012. The tax impact of unrealized gains and losses was a benefit of $544,000 and $382,000 for the three and nine months ended September 30 2011, respectively.

Stock Buyback Program

On October 22, 2012, our Board of Directors authorized the repurchase of up to $25 million of our common stock from time to time during the next 12 months on the open market or in privately negotiated transactions. The timing of repurchases and the actual number of shares repurchased will depend on a variety of factors, including our stock price, regulatory requirements, and market conditions. We may terminate the repurchase program at any time.

11

8.             Earnings Per Share

The following table sets forth the computation of basic and diluted earnings per share for the three and nine months ended September 30, 2012 and 2011 (in thousands, except per share data):

	Three months ended September 30,				Nine months ended September 30,
	2012		2011		2012		2011
Basic presentation:
Numerator for basic earnings per share:
Net income	$	11,401	$	6,448	$	42,633	$	14,011
Denominator for basic earnings per share:
Weighted average common shares outstanding		72,805		69,613		71,659		68,968
Basic earnings per share	$	0.16	$	0.09	$	0.59	$	0.20
Diluted presentation:
Numerator for diluted earnings per share:
Net income	$	11,401	$	6,448	$	42,633	$	14,011
Interest expense on convertible senior notes, net of tax		1,100		—		3,299		—
Net income used for diluted earnings per share	$	12,501	$	6,448	$	45,932	$	14,011
Denominator for dilutive earnings per share:
Weighted average common shares outstanding		72,805		69,613		71,659		68,968
Effect of dilutive securities:
Stock options and other share-based awards		1,975		1,279		2,112		2,627
Convertible senior notes		10,290		—		10,290		—
Dilutive potential common shares		85,070		70,892		84,061		71,595
Diluted earnings per share	$	0.15	$	0.09	$	0.55	$	0.20

The diluted earnings per share computation for the three and nine months ended September 30, 2012 excludes the weighted average number of shares underlying our employee stock options and other share-based awards of 2.2 million shares and 1.8 million shares, respectively, which were anti-dilutive because, in general, the exercise price of these awards exceeded the average closing sales price per share of our common stock during the applicable period.

The diluted earnings per share computation for the three and nine months ended September 30, 2011 excludes (i) the weighted average number of shares underlying our outstanding convertible senior notes of 10.3 million shares as such shares are considered anti-dilutive because the related interest expense on a per common share “if converted” basis exceeds basic earnings per share and (ii) the weighted average number of shares underlying our employee stock options and other share-based awards of 3.2 million shares and 1.0 million shares, respectively, which were anti-dilutive because, in general, the exercise price of these awards exceeded the average closing sales price per share of our common stock during the applicable period.

12

9.             Concentrations

Significant Customers

The following customers accounted for more than 10% of total revenue for the three and nine months ended September 30, 2012 and 2011, in the case of Customer A, and for the three months ended September 30, 2012, in the case of Customer B (in thousands, except percentages):

	Three months ended September 30,						Nine months ended September 30,
	2012			2011			2012			2011
Customer A
Amount of total revenues	$	13,116		$	8,560		$	42,490		$	30,309
As a percentage of total revenues		12.0	%		11.1	%		14.8	%		13.5	%
Customer B
Amount of total revenues	$	12,292		$	3,860		$	15,230		$	8,561
As a percentage of total revenues		11.2	%		5.0	%		5.3	%		3.8	%

As of September 30, 2012 and December 31, 2011, customers A, B and C had receivable balances as follows (in thousands, except percentages):

	September 30, 2012			December 31, 2011
Customer A
Amount of total receivables	$	11,213		$	8,029
As a percentage of total receivables		10.9	%		12.3	%
Customer B
Amount of total receivables	$	13,043		$	1,719
As a percentage of total receivables		12.7	%		2.6	%
Customer C
Amount of total receivables	$	8,687		$	6,508
As a percentage of total receivables		8.5	%		10.0	%

International Data

For the three and nine months ended September 30, 2012 and 2011, total international revenues based on customer location consisted of the following (in thousands, except percentages):

	Three months ended September 30,						Nine months ended September 30,
	2012			2011			2012			2011
Amount of total international revenues	$	41,491		$	37,448		$	123,874		$	113,916
As a percentage of total revenues		37.9	%		48.5	%		43.1	%		50.7	%

For the three and nine months ended September 30, 2012 and 2011, total revenues from product shipments to Japan were as follows (in thousands, except percentages):

	Three months ended September 30,						Nine months ended September 30,
	2012			2011			2012			2011
Amount of total revenues	$	8,581		$	9,813		$	33,549		$	21,683
As a percentage of total revenues		7.8	%		12.7	%		11.7	%		9.7	%

13

Property, Plant and Equipment

As of September 30, 2012 and December 31, 2011, our property and equipment were geographically located as follows (in thousands):

	September 30, 2012		December 31, 2011
United States	$	12,420	$	10,834
India		6,562		4,294
Romania		4,309		3,562
Other		5,502		6,370
	$	28,793	$	25,060

10.           Fair Value Measurements

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction between market participants at the measurement date.  The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. We categorize each of our fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. This hierarchy prioritizes the inputs into three broad levels as follows:

Level 1.	Observable inputs such as quoted prices in active markets;
Level 2.	Inputs, other than the quoted prices in active markets, that are observable either directly or indirectly; and
Level 3.	Unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.

14

Financial assets carried at fair value as of September 30, 2012 and December 31, 2011 are classified in the table below in one of the three categories described above (in thousands):

	September 30, 2012								December 31, 2011
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Cash equivalents:
Money market funds	$	1,899	$	1,899	$	—	$	—	$	701	$	701	$	—	$	—
U.S. Treasury, government and agency debt securities		—		—		—		—		—		—		—		—
Short-term investments:
U.S. Treasury, government and agency debt securities		14,119		—		14,119		—		84,285		—		84,285		—
Corporate debt securities		6,042		—		6,042		—		72,399		—		72,399		—
Long-term investments:
U.S. Treasury, government and agency debt securities		46,334		—		46,334		—		75,197		—		75,197		—
Corporate debt securities		33,452		—		33,452		—		107,637		—		107,637		—
Auction rate securities		3,142		—		—		3,142		2,774		—		—		2,774
Total financial assets	$	104,988	$	1,899	$	99,947	$	3,142	$	342,993	$	701	$	339,518	$	2,774

To estimate the fair value of our money market funds, U.S. treasury, government and agency debt securities and corporate debt securities, we use the estimated fair value per our investment brokerage/custodial statements.  To the extent deemed necessary, we may also obtain non-binding market quotes to corroborate the estimated fair values reflected in our investment brokerage/custodial statements.

As of September 30, 2012, we held $3.1 million of auction rate securities which we classify as Level 3 because they are valued using valuation models with unobservable marketable inputs. Given the disruption in the auction process, there is no longer an actively quoted market price for these securities. Accordingly, we utilized models to estimate the fair values of these auction rate securities based on, certain unobservable inputs and other items, including: (i) the underlying structure of each security; (ii) the present value of future principal, interest and/or dividend payments discounted at the appropriate rate considering the market rate and conditions; (iii) consideration of the probabilities of default, auction failure, or repurchase at par for each period; and (iv) credit quality and estimates of the recovery rates in the event of default for each security. These estimated fair values could change significantly based on, among other events: (i) a further deterioration in market conditions for these securities; (ii) further declines in the credit quality of our auction rate securities or of the issuers of our auction rate securities; or (iii) a cessation of dividend payments or default on interest or principal payments by the issuer of the securities. Significant increases or decreases in any of these unobservable inputs in isolation may result in a significantly lower or higher fair value measurement.

There were no transfers of assets between levels within the fair value hierarchy for the nine-month period ended September 30, 2012.

15

The following table summarizes the activity for the three and nine months ended September 30, 2012 and 2011 for our auction rate securities where fair value measurements are estimated utilizing Level 3 inputs (in thousands):

	Three months ended September 30,					Nine months ended September 30,
	2012		2011			2012		2011
Beginning balance	$	2,835	$	4,646		$	2,774	$	5,251
Unrealized (loss) gain recorded in other comprehensive income		307		(703	)		368		(631	)
Realized gain recorded in earnings		—		48			—		121
Settlements		—		(808	)		—		(1,558	)
Ending balance	$	3,142	$	3,183		$	3,142	$	3,183

There were no unrealized losses recorded in earnings for Level 3 assets still held at September 30, 2012.

11.           Commitments and Contingencies

Lease Commitments

Effective June 1, 2012, we entered into a fourth amendment to our office lease agreement (the “Amended Lease”) related to our corporate headquarters located in Calabasas, California. The Amended Lease extends the original lease, as amended, by ten years, with no extension options.  The original lease, as amended, was set to expire on May 31, 2013.  The future minimum commitments per the terms of the Amended Lease for the extended period commencing on June 1, 2013 are set forth in the following table (in thousands):

	Year Ending December 31,
2013	$	869
2014		1,764
2015		1,817
2016		1,872
2017		1,928
Thereafter		12,997
	$	21,247

Litigation

Tucana Telecom NV vs. Catapult.  On May 22, 2007, the Antwerp Court of Appeals heard an appeal by Tucana Telecom NV, a Belgian company, of the previous dismissal by the Antwerp Commercial Court of an action by Tucana against Catapult.  Ixia acquired Catapult Communications Corporation (“Catapult”) on June 23, 2009.  Tucana had sought damages of 10.4 million Euros for the alleged improper termination in 2002 by Catapult of Tucana’s distribution agreement with Catapult. On June 19, 2007, the Antwerp Court of Appeals confirmed the Commercial Court’s dismissal of Tucana’s action and assessed the costs of the appeal against Tucana. On July 22, 2008, Catapult was notified by its Belgian counsel that Tucana had appealed the judgment of the Antwerp Court of Appeals to the Belgian Supreme Court.  In a decision dated January 14, 2010, the Belgium Supreme Court set aside the decision of the Antwerp Court of Appeals and remanded the matter for trial to the Ghent Court of Appeals.  On March 11, 2011, Tucana served Catapult with a writ scheduling an introductory hearing before the Ghent Court of Appeals for June 22, 2011. Catapult’s counsel was informed that Tucana now asserts that it is entitled to total damages in the amount of approximately 9.5 million Euros plus interest.  At the introductory hearing on June 22, 2011, the Court set a summary hearing for October 12, 2011 to consider (i) whether the issue of the Court’s jurisdiction can be examined separately from and prior to the merits of the case; and (ii) if yes, whether the Court has jurisdiction following the remand from the Supreme Court. On October 26, 2011, the Ghent Court of Appeals issued an interim ruling that the jurisdiction issue would not be examined separately from and prior to a hearing on the merits of the case. Accordingly, it adopted a procedural calendar which, taking into account the substantial case backlog at the Court, provides for an oral hearing to be held on March 26, 2014.

16

Catapult believes that it properly terminated any contract it had with Tucana and that Tucana is not entitled to any damages in this matter. Catapult has defended the action vigorously to date and will continue to do so.  Catapult may be able to seek indemnification from Tekelec for any damages assessed against Catapult in this matter under the terms of the Asset Purchase Agreement that Catapult entered into with Tekelec, although there is no assurance that such indemnification would be available. It is not possible to determine the amount of any loss that might be incurred in this matter.

Catapult vs. Tucana Telecom NV.  In June 2010, Catapult filed a complaint against Tucana in the Superior Court of the State of California, County of Los Angeles, seeking declaratory and injunctive relief and damages for breach of the distribution agreement.  Catapult filed its First Amended Complaint on September 8, 2010 to address a statute of limitations issue raised by Tucana’s initial response. Catapult seeks a declaration that the distribution agreement is a valid and enforceable agreement, and that the distribution agreement’s mandatory forum selection and choice of law provisions are enforceable and require that the litigation of any dispute involving the agreement be brought in a court located in the County of Los Angeles. Catapult also seeks an order permanently enjoining Tucana from prosecuting any claims arising out of Tucana’s distribution relationship with Catapult in any judicial forum outside the County of Los Angeles. Catapult also seeks compensatory damages of not less than $200,000 for damages suffered by Catapult arising out of Tucana’s breach of the distribution agreement. Tucana filed a demurrer to the First Amended Complaint on October 12, 2010 seeking dismissal of the action based on the statute of limitations and the doctrine of laches. Catapult filed its opposition to the demurrer on November 23, 2010.  The hearing on the demurrer was held on March 24, 2011. The Superior Court overruled the demurrer in its entirety, and on April 4, 2011, Tucana filed an answer to the complaint generally denying Catapult’s allegations and alleging certain affirmative defenses. The parties thereafter engaged in discovery and attended a private mediation on May 18, 2011 in Los Angeles which did not resolve the case. On June 17, 2011, Tucana filed a motion for summary judgment seeking dismissal of the entire action on the grounds of judicial estoppel based on statements made in the Belgian proceeding by Catapult’s previous Belgian counsel, a motion which Catapult vigorously opposed.  The Court conducted a hearing on that motion on December 19, 2011 and issued an order granting Tucana’s motion. Based on that order, on January 12, 2012, the Court entered judgment in favor of Tucana and has entered an order awarding Tucana its attorneys’ fees and costs in the total amount of approximately $116,000. On February 23, 2012, Catapult timely filed its Notice of Appeal from the Judgment based on the Court’s errors in granting summary judgment.  Although the briefing schedule for the appeal has not yet been determined, Catapult anticipates that the appeal should be resolved in advance of the March 26, 2014 hearing date in the Belgian proceeding.   

The Belgian and California litigation matters involving Tucana Telecom NV (“Tucana”), a former distributor of Catapult Communications Corporation, our wholly owned subsidiary (“Catapult”), and Catapult were amicably resolved pursuant to a confidential Settlement Agreement and Mutual General Release dated June 15, 2012 (the “Settlement Agreement”). Pursuant to the Settlement Agreement, Catapult dismissed its appeal in the California litigation on September 18, 2012, and Tucana submitted its Full Acknowledgment of Satisfaction of Judgment on September 27, 2012, bringing the California litigation to a conclusion.  In addition, on October 3, 2012, the Ghent Court of Appeals entered a judgment enacting the joint withdrawal of claim submitted by Catapult and Tucana, thereby terminating the Belgian litigation.

On June 15, 2012, Catapult issued a demand for indemnification to Tekelec pursuant to the Asset Purchase Agreement between Tekelec and Catapult dated July 15, 2002 (the “APA”) under which Catapult had succeeded to Tekelec’s relationship with Tucana.  Catapult has demanded indemnification for the full amount of Catapult’s costs, including attorneys’ fees and expenses, incurred in defending against and resolving Tucana’s claims.

Because Catapult’s demand for indemnification was not resolved within the 30-day period provided for by the APA, on July 16, 2012, Catapult demanded arbitration of its indemnification claim against Tekelec. As a result, the parties have initiated the arbitration process, and a hearing before three arbitrators on Catapult’s indemnity claim is scheduled to begin in Los Angeles on January 14, 2013.  Catapult intends to vigorously prosecute its claim against Tekelec in accordance with the terms of the APA.

17

We are not aware of any pending legal proceedings other than the matters mentioned above that, individually or in the aggregate, could have a material adverse effect on our business, results of operations, cash flows or financial position.  We may in the future be a party to litigation arising in the ordinary course of business, including claims that we allegedly infringe upon third party patents or other intellectual property rights.  Such claims, even if without merit, could result in the expenditure of significant financial and managerial resources.

12.           Income Taxes

Income tax benefit was $9.8 million, or an effective rate of (605.5%), for the third quarter of 2012 and $28.5 million, or an effective rate of (202.0%), for the first nine months of 2012. The most significant reason for the difference in the computed effective rate when compared to the statutory tax rates was the partial releases of our valuation allowance during the periods.

During the three months ended September 30, 2012, we released $12.7 million of our valuation allowance previously established against our U.S. deferred tax assets. The $12.7 million release was the result of a net deferred tax liability recorded as part of the BreakingPoint acquisition. During the three months ended June 30, 2012, we released $22.6 million of our valuation allowance previously established against our U.S. deferred tax assets. The $22.6 million release was the result of a net deferred tax liability recorded as part of the Anue acquisition.   While we continue to maintain a valuation allowance against our remaining U.S. deferred tax assets, the release of the remaining valuation allowance, or a portion thereof, will have a favorable impact on our effective tax rate.  We will continue to monitor the need for a valuation allowance each reporting period.

13.           Recent Accounting Pronouncements

In May 2011, the Financial Accounting Standards Board (“FASB”) issued amended disclosure guidance related to Common Fair Value Measurement. These amendments, effective for the interim and annual periods beginning on or after December 15, 2011 (early adoption is prohibited), result in common definition of fair value and common requirements for measurement of and disclosure requirements between U.S. GAAP and IFRS. Additional disclosure requirements in this amended guidance include information regarding: (1) Level 3 fair value measurements; (2) an entity’s use of a nonfinancial asset that is different from the asset’s highest and best use; (3) financial instruments not measured at fair value but for which disclosure of fair value is required; and (4) the disclosure of all transfers between Level 1 and Level 2 of the fair value hierarchy. We adopted this new guidance in the first quarter of 2012 on a prospective basis. There was no impact to our consolidated financial results as the adoption of this new amended guidance related only to additional disclosures around Level 3 fair value measurements. See Note 10 for additional information.

In June 2011, the FASB issued disclosure guidance related to the presentation of the Statement of Comprehensive Income. This guidance eliminated the then current option to report other comprehensive income and its components in the statement of changes in equity.  Under this guidance, we are required to present either a single continuous statement of comprehensive income or a consolidated statement of operations immediately followed by a statement of comprehensive income. Although this guidance changes the presentation of comprehensive income, there are no changes to the components that are recognized in net income or other comprehensive income under the previous guidance. We adopted this guidance in the first quarter of 2012 on a retrospective basis. There was no impact to our consolidated financial results as the adoption of this guidance related only to changes in financial statement presentation. FASB’s recent proposal on the requirement to show reclassifications from accumulated other comprehensive income in a single footnote with amounts reclassified by component and the financial statement line items affected has not yet been finalized. Upon finalization, the effective date is expected to be for fiscal years beginning after December 15, 2012. We do not expect the adoption of this new proposed guidance to have a material impact on our consolidated financial position, results of operations and cash flows.

In September 2011, the FASB issued updated guidance on the periodic testing of goodwill for impairment. This guidance allows companies to assess qualitative factors to determine if it is more likely than not that goodwill will be impaired and whether it is necessary to perform the two-step goodwill impairment test required under current accounting standards. This guidance is effective for fiscal years beginning after December 15, 2011. We adopted this new guidance in the fourth quarter of 2011 on a prospective basis. The adoption of this new guidance did not have an impact on our consolidated financial position, results of operations and cash flows.

18

ITEM 2              MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion contains forward-looking statements that involve risks and uncertainties.  Our actual results could differ materially from those anticipated in these forward-looking statements as a result of many factors. The results of operations for the three and nine months ended September 30, 2012 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2012, or for any other future period. The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and the notes thereto included in Item 1 of this Quarterly Report and in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2011 (“2011 Form 10-K”), including the “Risk Factors” section and the consolidated financial statements and notes included therein.

BUSINESS OVERVIEW

We were incorporated on May 27, 1997 as a California corporation. We are a leading provider of converged Internet Protocol (IP) network validation and network visibility solutions. Equipment manufacturers, service providers, enterprises, and government agencies use our solutions to design, verify, and monitor a broad range of Ethernet, Wi-Fi, and 3G/LTE equipment and networks. Our test solutions emulate realistic media-rich traffic and network conditions so that customers can optimize and validate the design, performance, and security of their pre-deployment networks. Our intelligent network visibility solutions provide clarity into physical and virtual production networks for improved performance, security, resiliency, and application delivery of cloud, data center, and service provider networks. Our product solutions consist of our hardware platforms, such as our chassis, interface cards and appliances, software application tools, and services, including our warranty and maintenance offerings and professional services.

Acquisition of BreakingPoint Systems, Inc. On August 24, 2012, we completed our acquisition of all of the outstanding shares of common stock of BreakingPoint Systems, Inc. (“BreakingPoint”). The aggregate cash consideration paid totaled $164.1 million, or $150.7 million net of BreakingPoint’s existing cash and investment balances at the time of the acquisition, and is subject to certain post-closing adjustments, including a potential adjustment based on the final amount of BreakingPoint’s closing net working capital.  The acquisition was funded from our existing cash and investments. BreakingPoint is a leader in security testing, and its solutions provide global visibility into emerging threats and applications, along with advance insight into the resiliency of an organization’s information technology infrastructure under operationally relevant conditions and malicious attacks. With this acquisition, we have expanded our addressable market, broadened our product portfolio and grown our customer base. In addition, we expect to leverage BreakingPoint’s existing sales channels and assembled workforce, including its experienced product development and sales teams. The results of operations of BreakingPoint have been included in our consolidated statements of operations and cash flows since the date of the acquisition. See Note 3 to the Consolidated Financial Statements included in this Form 10-Q.

Acquisition of Anue Systems, Inc.  On June 1, 2012, we completed our acquisition of all of the outstanding shares of common stock of Anue Systems, Inc. (“Anue”). The aggregate consideration paid totaled $151.9 million, or $148.3 million net of Anue’s existing cash and investment balances at the time of the acquisition, and is subject to certain adjustments including an adjustment based on the final amount of Anue’s net working capital on the closing date. The acquisition was funded from our existing cash and investments. Anue provides solutions to monitor and test complicated networks, including Anue’s Net Tool Optimizer solution that efficiently aggregates and filters network traffic to help optimize network monitoring tool usage. With this acquisition, we have expanded our addressable market, broadened our product portfolio and grown our customer base. In addition, we expect to leverage Anue’s existing sales channels and assembled workforce, including its experienced product development team. The results of operations of Anue have been included in our consolidated statements of operations and cash flows since the date of the acquisition. See Note 3 to the Consolidated Financial Statements included in this Form 10-Q.

19

Acquisition of VeriWave, Inc. On July 18, 2011, we completed our acquisition of all of the outstanding stock of VeriWave, Inc. (“VeriWave”). The purchase price for VeriWave totaled $15.8 million, or $15.6 million net of VeriWave’s existing cash and investment balances at the time of the acquisition. The acquisition was funded from our existing cash and cash equivalents. VeriWave’s test solutions validate wireless networks, devices, and applications by benchmarking and measuring speed, quality, interoperability, compliance, and other pivotal aspects of mobile performance. The results of operations of VeriWave have been included in our consolidated statements of operations and cash flows since the date of the acquisition.

Revenues.Our revenues are principally derived from the sale and support of our test systems. Product revenues primarily consist of sales of our hardware and software products.  Our hardware products primarily relate to our traffic generation and analysis hardware platform consisting of a multi-slot chassis and interface cards.  Our primary hardware platform is enabled by our operating system software that is essential to the functionality of the hardware platform. Our software products consist of a comprehensive suite of technology-specific test applications.  Our software products are typically installed on and work with our hardware products to further enhance the core functionality of the overall test system, although some of our software products can be operated independently from our hardware products.

Our service revenues primarily consist of post contract customer support and maintenance (“PCS”) related to the initial period of service provided with the purchase of our software or software-related (i.e., our operating system software) products and separately purchased extended PCS contracts.  PCS on our software and software-related products includes unspecified when and if available software upgrades and customer technical support services.  Service revenues also include separately purchased extended hardware warranty support, implied PCS and hardware warranty support, training and other professional services.
 

For the nine months ended September 30, 2012, sales of our Ethernet interface cards, including our 1 Gigabit Ethernet, 10 Gigabit Ethernet and 40/100 Gigabit Ethernet interface cards represented the majority of our total revenues. Over the longer term, while we expect the sale of our Ethernet interface cards to represent a significant amount of our revenues going forward, we expect to see some decline as a percentage of total revenues as the sales of our network visibility solutions, and other appliances increase. Sales to our largest customer, Cisco Systems, accounted for approximately $13.1 million, or 12.0%, and $42.5 million, or 14.8%, of our total revenues for the three and nine months ended September 30, 2012, respectively, and $8.6 million, or 11.1%, and $30.3 million, or 13.5%, of our total revenues for the three and nine months ended September 30, 2011, respectively. Sales to AT&T were approximately $12.3 million, or 11.2%, and $15.2 million, or 5.3%, of our total revenues for the three and nine months ended September 30, 2012, respectively, and $3.9 million, or 5.0%, and $8.6 million, or 3.8%, of our total revenues for the three and nine months ended September 30, 2011, respectively. To date, we have generated the majority of our revenues from sales to network and telecommunication equipment manufacturers. While we expect that we will continue to have some customer concentration with network and telecommunication equipment manufacturers for the foreseeable future, we expect to see some decline as a percentage of total revenues as we continue to sell our products to a wider variety and increasing number of customers. To the extent that we develop a broader and more diverse customer base, our reliance on any one customer or customer type should diminish. We also expect that our 2012 acquisitions of Anue and BreakingPoint (the “2012 Acquisitions”) will further diversify our customer base. From a geographic perspective, we generated revenues from shipments to international locations of $41.5 million, or 37.9%, and $123.9 million, or 43.1%, of our total revenues for the three and nine months ended September 30, 2012, respectively, compared to $37.4 million, or 48.5%, and $113.9 million, or 50.7%, of our total revenues for the three and nine months ended September 30, 2011, respectively. The decline in the percentage of our revenue from shipments to international locations was primarily due to our 2012 Acquisitions, which have a higher concentration of revenue in the United States as compared to Ixia. Over the next 12 months, we expect to leverage and expand our international sales force to sell our products related to our 2012 Acquisitions, and as a result, we expect to increase our percentage of revenue from shipments to international locations. Total revenues from product shipments to Japan, were $8.6 million, or 7.8%, and $33.5 million, or 11.7%, for the three and nine months ended September 30, 2012, respectively, compared with $9.8 million, or 12.7%, and $21.7 million, or 9.7%, for the three and nine months ended September 30, 2011, respectively.

20

Stock-Based Compensation. For the three and nine months ended September 30, 2012, stock-based compensation expense was $4.2 million and $12.0 million, respectively. Stock-based compensation for the three and nine months ended September 30, 2011 was $2.9 million and $10.0 million, respectively. The increase in stock-based compensation expense in the three and nine months ended September 30, 2012 as compared to the same periods in 2011 was primarily due to (i) an increase in the number of participants in our employee stock purchase plan, (ii) the incremental impact of the share-based awards granted to the employees of Anue following the Anue acquisition, and (iii) the partial recognition during the 2012 periods of expense for certain performance-based awards which had no comparable cost in 2011 (i.e., In the comparable 2011 periods, these performance-based awards were previously not expected to be earned). The aggregate amount of gross unrecognized stock-based compensation to be expensed in the years 2012 through 2016 related to unvested share-based awards as of September 30, 2012 was approximately $17.8 million. In October 2012, we granted annual share-based awards to our employees as well as awards to BreakingPoint employees following the BreakingPoint acquisition, which increased our aggregate balance of gross unearned stock-based compensation by an estimated $15.5 million. To the extent that we grant additional share-based awards, future expense may increase by the additional unearned compensation resulting from those grants. We anticipate that we will continue to grant additional share-based awards in the future as part of our long-term incentive compensation programs. The impact of future grants cannot be estimated at this time because it will depend on a number of factors, including the amount of share-based awards granted and the then current fair values of such awards for accounting purposes.

Cost of Revenues.  Our cost of revenues related to the sale of our hardware and software products includes materials, payments to third-party contract manufacturers, royalties, and salaries and other expenses related to our manufacturing and supply operations, technical support and professional service personnel. We outsource the majority of our manufacturing operations, and we conduct supply chain management, quality assurance, documentation control, shipping and some final assembly and testing at our facilities in Calabasas, California, Austin, Texas and Penang, Malaysia. Accordingly, a significant portion of our cost of revenues related to our products consists of payments to our contract manufacturers. Cost of revenues related to the provision of services includes salaries and other expenses associated with technical support services, professional services and the warranty cost of hardware that is replaced or repaired during the warranty coverage period. Cost of revenues does not include the amortization of purchased technology related to our acquisitions of certain businesses, product lines and technologies of $7.0 million and $13.3 million for the three and nine months ended September 30, 2012, respectively, and $2.9 million and $7.9 million for the three and nine months ended September 30, 2011, respectively, which are included within our Amortization of Intangible Assets line item on our condensed consolidated statements of operations.

Our cost of revenues as a percentage of total revenues is primarily affected by the following factors:

·     our pricing policies and those of our competitors;

·     the pricing we are able to obtain from our component suppliers and contract manufacturers;

·     the mix of customers and sales channels through which our products are sold;

·     the mix of our products sold, such as the mix of software versus hardware product sales;

·     new product introductions by us and by our competitors;

·     demand for and quality of our products; and

·     shipment volume.

In the near term, although we anticipate that our cost of revenues as a percentage of total revenues will remain relatively flat, we expect to continue to experience pricing pressure on larger transactions and from larger customers as a result of competition.

21

Operating Expenses.  Our operating expenses are generally recognized when incurred and consist of research and development, sales and marketing, general and administrative, amortization of intangible assets, acquisition and other related costs and restructuring expenses. In dollar terms, we expect total operating expenses, excluding stock-based compensation expense discussed above and amortization of intangible assets, acquisition and other related, and restructuring costs discussed below, to increase for the remainder of 2012 due primarily to the recently completed acquisition of BreakingPoint.

· Research and development expenses consist primarily of salaries and other personnel costs related to the design, development, testing and enhancement of our products. We expense our research and development costs as they are incurred. We also capitalize and depreciate over a five-year period costs of our products used for internal purposes.

· Sales and marketing expenses consist primarily of compensation and related costs for personnel engaged in direct sales, sales support and marketing functions, as well as promotional and advertising expenditures. We also capitalize and depreciate over a two-year period costs of our products used for sales and marketing activities, including product demonstrations for potential customers.

· General and administrative expenses consist primarily of salaries and related expenses for certain executive, finance, legal, human resources, information technology and administrative personnel, as well as professional fees (e.g., legal and accounting), facility costs related to our corporate headquarters, insurance costs and other general corporate expenses.

· Amortization of intangible assets consists of the purchase price of various intangible assets over their estimated useful lives. We evaluate our identifiable definite-lived intangible assets and other long-lived assets for impairment when events or changes in circumstances indicate that a potential impairment may exist. An impairment charge would be recorded to the extent that the carrying value of the intangible asset exceeds its undiscounted cash flows and its estimated fair value in the period that the impairment circumstances occurred. We also evaluate the recoverability of our goodwill on an annual basis or if events or changes in circumstances indicate that an impairment in the value of goodwill recorded on our balance sheet may exist. Impairment losses are recorded to the extent that the carrying value of the goodwill exceeds its estimated fair value. The future amortization expense of acquired intangible assets depends on a number of factors, including the extent to which we acquire additional businesses, technologies or product lines or are required to record impairment charges related to our acquired intangible assets.

· Acquisition and other related costs are expensed as incurred and consist primarily of transaction and integration related costs such as success-based banking fees, professional fees for legal, accounting, tax, due diligence, valuation and other related services, change in control payments, amortization of deferred consideration, consulting fees, required regulatory costs, certain employee, facility and infrastructure transition costs, and other related expenses. We expect our acquisition and other related expenses to fluctuate over time based on the timing of our acquisitions and related integration activities.

· Restructuring expenses consist primarily of employee severance costs and other related charges. We expect to incur additional restructuring expenses in the fourth quarter of 2012 primarily consisting of facility-related charges for the closure of our Melbourne, Australia office. See Note 4 to the Consolidated Financial Statements included in this Form 10-Q.

Interest Income and Other, Net represents interest on cash and a variety of securities, including money market funds, U.S. government and government agency debt securities, corporate debt securities and auction rate securities, realized gains/losses on the sale of investment securities, certain foreign currency gains and losses, and other non-operating items.

Interest Expense consists of interest due to the holders of our 3.00% convertible senior notes issued in December 2010, as well as the amortization of the associated debt issuance costs.  See Note 5 to the Consolidated Financial Statements included in this Form 10-Q.

Income Tax is determined based on the amount of earnings and enacted federal, state and foreign tax rates, adjusted for allowable credits and deductions, and for other effects of equity compensation plans. Our income tax provision may be significantly affected by changes to our estimates for tax in jurisdictions in which we operate and other estimates utilized in determining the global effective tax rate. Actual results may also differ from our estimates based on changes in economic conditions. Such changes could have a substantial impact on the income tax provision. Our income tax provision could also be significantly impacted by estimates surrounding our uncertain tax positions and the recording of valuation allowances against certain deferred tax assets and changes to these valuation allowances in future periods. We reevaluate the judgments surrounding our estimates and make adjustments as appropriate each reporting period.

22

During the three months ended September 30, 2012 and June 30, 2012, we released $12.7 million and $22.6 million, respectively, of our valuation allowance previously established against our U.S. deferred tax assets. The partial releases were the result of a net deferred tax liability recorded as part of both the Anue and BreakingPoint acquisitions. While we continue to maintain a valuation allowance against our remaining U.S. deferred tax assets, the release of the remaining valuation allowance, or a portion thereof, will have a favorable impact on our effective tax rate. We will continue to monitor the need for a valuation allowance each reporting period, and at this time, it is uncertain when such a release may occur.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

Management’s discussion and analysis of financial condition and results of operations is based upon our Consolidated Financial Statements included in our Form 10-Q which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates and judgments, including those related to revenue recognition, allowance for doubtful accounts, write-downs for obsolete inventory, income taxes, acquisition purchase price allocation, impairments of long-lived assets and marketable securities, stock-based compensation, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. None of these accounting policies and estimates have significantly changed since our Annual Report on Form 10-K for the year ended December 31, 2011. Critical accounting policies and estimates are more fully described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the 2011 Form 10-K. Actual results may differ from these estimates under different assumptions or conditions.

23

RESULTS OF OPERATIONS

The following table sets forth certain statement of operations data as a percentage of total revenues for the periods indicated:

	Three months ended						Nine months ended
	September 30,						September 30,
	2012			2011			2012			2011
Revenues:
Products		80.9	%		80.3	%		81.3	%		81.0	%
Services		19.1			19.7			18.7			19.0
Total revenues		100.0			100.0			100.0			100.0
Costs and operating expenses:(1)
Cost of revenues - products		18.7			18.3			17.2			18.3
Cost of revenues - services		2.5			2.0			2.6			2.1
Research and development		23.5			24.5			24.1			24.9
Sales and marketing		28.0			26.4			27.9			28.8
General and administrative		10.1			12.2			11.7			11.5
Amortization of intangible assets		9.1			5.5			6.7			5.2
Acquisition and other related		3.9			0.5			2.9			0.4
Restructuring		1.9			—			0.7			—
Total costs and operating expenses		97.7			89.4			93.8			91.2
Income from operations		2.3			10.6			6.2			8.8
Interest income and other, net		0.8			1.2			0.6			0.8
Interest expense		(1.6	)		(2.3	)		(1.9	)		(2.4	)
Income before income taxes		1.5			9.5			4.9			7.2
Income tax (benefit) expense		(8.9	)		1.2			(9.9	)		1.0
Net income		10.4	%		8.3	%		14.8	%		6.2	%
(1) Stock-based compensation included in:
Cost of revenues - products		0.1	%		0.1	%		0.1	%		0.1	%
Cost of revenues - services		0.0			0.0			0.0			0.1
Research and development		1.2			1.2			1.2			1.5
Sales and marketing		1.0			0.9			1.0			1.1
General and administrative		1.5			1.5			1.8			1.6

Comparison of Three and Nine Months Ended September 30, 2012 and 2011

As a result of our acquisitions of Anue Systems, Inc. (“Anue”) on June 1, 2012 and BreakingPoint Systems, Inc. (“BreakingPoint) on August 24, 2012 (the “2012 Acquisitions”), our 2012 consolidated results of operations include the financial results of these acquisitions from their respective acquisition dates. To assist the readers of our financial statements in reviewing our year-over-year consolidated operating results, we have estimated the impacts of these acquisitions for the applicable periods in the related statement of operations sections below.

Revenues.  In the third quarter of 2012, total revenues increased 41.8% to $109.6 million from the $77.3 million recorded in the third quarter of 2011. As a result of our 2012 Acquisitions, the third quarter of 2012 included revenues of $20.8 million related to the 2012 acquisitions. Excluding the revenues from our 2012 Acquisitions, revenues increased to $88.8 million in the third quarter of 2012 primarily due to a $14.7 million increase in shipments of our hardware products (primarily our 10 and 40/100 Gigabit Ethernet interface cards and IxVeriwave products), partially offset by decreases in shipments of our software products (primarily our IxCatapult software).

24

In the first nine months of 2012, total revenues increased 28.0% to $287.5 million from $224.7 million recorded in the same period of 2011. Excluding revenues of $24.6 million related to the 2012 Acquisitions, revenues increased to $262.9 million in the first nine months of 2012 primarily due to a $32.0 million increase in shipments of our hardware products (primarily our 10 and 40/100 Gigabit Ethernet interface cards and our IxVeriwave products).

Cost of Revenues.  As a percentage of total revenues, our total cost of revenues increased to 21.2% in the third quarter of 2012 from 20.3% in the third quarter of 2011. Excluding the impact of our 2012 Acquisitions, our cost of revenues as a percentage of total revenues in the third quarter of 2012 increased to 22.8%. This increase was primarily due to increases in personnel-related costs attributable to professional services and technical support.  As a percentage of total revenues, our total cost of revenues decreased to 19.8% in the first nine months of 2012 from 20.4% in the first nine months of 2011. Excluding the impact of our 2012 Acquisitions, our cost of revenues as a percentage of total revenues for the first nine months of 2012 was also 20.4%.

Research and Development Expenses.  In the third quarter of 2012, research and development expenses increased 36.1% to $25.8 million from $18.9 million in the third quarter of 2011. As a result of our 2012 Acquisitions, our research and development expenditures in the third quarter of 2012 included approximately $4.6 million related to the research and development activities of the acquired operations.  Excluding the incremental research and development costs related to the 2012 Acquisitions, research and development expenses in the third quarter of 2012 were $21.2 million compared to $18.9 million in the third quarter of 2011. This increase was primarily due to an increase in compensation and related employee costs of $1.4 million as a result of additional investments in our product development teams in the United States and Romania, and higher stock-based compensation expense of $414,000.

Research and development expenses for the first nine months of 2012 increased 23.5% to $69.2 million from $56.0 million in the same period of 2011. As a result of our 2012 Acquisitions, our research and development expenditures in the first nine months of 2012 included approximately $5.5 million related to the research and development activities of the acquired operations. Excluding the incremental research and development costs related to the 2012 Acquisitions, research and development expenses for the first nine months of 2012 were $63.7 million compared to $56.0 million for the first nine months of 2011. This increase was primarily due to an increase in compensation and related employee costs of $7.5 million that was primarily a result of (i) additional investments in our product development teams, including the Wi-Fi development team added as part of our acquisition of VeriWave in July 2011 and our teams in the United States, Romania and India, and (ii) higher bonus expense as we expect our 2012 performance to exceed that of 2011 when compared to the applicable annual company-wide objectives. This increase was partially offset by a one-time charge of $900,000 incurred in the first quarter of 2011 to terminate and settle a product development contract.

Sales and Marketing Expenses.  In the third quarter of 2012, sales and marketing expenses increased 50.2% to $30.6 million from $20.4 million in the third quarter of 2011. As a result of our 2012 Acquisitions, our sales and marketing expenditures in the third quarter of 2012 included approximately $6.8 million related to the sales and marketing activities of Anue and BreakingPoint.  Excluding the incremental sales and marketing costs related to the 2012 Acquisitions, sales and marketing expenses in the third quarter of 2012 were $23.8 million compared to $20.4 million in the third quarter of 2011. This increase was primarily due to an increase in compensation and related employee costs, including travel, of $2.1 million and higher stock-based compensation expense of $363,000. The net increase in compensation and related employee costs was primarily due to higher sales commissions as revenue levels increased in the third quarter of 2012 over the same period in the prior year and higher salaries due, in part, to annual merit increases in 2012.

Sales and marketing expenses for the first nine months of 2012 increased 23.7% to $79.8 million from $64.5 million in the same period of 2011. As a result of our 2012 Acquisitions, our sales and marketing expenditures in the first nine months of 2012 included approximately $8.2 million related to the sales and marketing activities of Anue and BreakingPoint. Excluding the incremental sales and marketing costs related to the 2012 Acquisitions, sales and marketing expenses for the first nine months of 2012 were $71.6 million compared to $64.5 million for the first nine months of 2011. This increase was primarily due to an increase in compensation and related employee costs, including travel, of $5.3 million, higher depreciation expense of $839,000 primarily related to an increase in the number of our demonstration units in the field, and higher stock-based compensation expense of $432,000. The increase in compensation and related employee costs was primarily due to higher sales commissions as revenue levels increased in the first nine months of 2012 over the same period in the prior year, and higher salaries due, in part, to annual merit increases in 2012.

25

General and Administrative Expenses.  In the third quarter of 2012, general and administrative expenses increased 17.4% to $11.1 million from $9.4 million in the third quarter of 2011. As a result of our 2012 Acquisitions, our general and administrative expenses in the third quarter of 2012 included approximately $1.1 million related to the general and administrative activities of Anue and BreakingPoint. Excluding the incremental general and administrative costs related to the 2012 Acquisitions, general and administrative expenses in the third quarter of 2012 were $10.0 million compared to $9.4 million in the third quarter of 2011. This increase was primarily due to an increase in compensation and related employee costs of $575,000 and higher stock-based compensation expense of $498,000, partially offset by lower litigation and other legal fees. The net increase in compensation and related employee costs was primarily due to higher bonus expense as we expect our 2012 performance to exceed that of 2011 when compared to the applicable annual company-wide objectives.

For the first nine months of 2012, general and administrative expenses increased 30.0% to $33.7 million from $25.9 million in the same period of 2011. As a result of our 2012 Acquisitions, our general and administrative expenses in the first nine months of 2012 included approximately $1.4 million related to the general and administrative activities of Anue and BreakingPoint. Our general and administrative expenditures in the first nine months of 2012 included one-time charges of $1.7 million incurred in the first quarter of 2012 in connection with the departure of our former CEO and $401,000 incurred in the second quarter of 2012 to settle a legal matter. Excluding these one-time charges and the incremental general and administrative costs related to the 2012 Acquisitions, general and administrative expenses for the first nine months of 2012 were $30.2 million compared to $25.9 million for the first nine months of 2011. This increase was primarily due to an increase in compensation and related employee costs of $1.9 million, higher stock-based compensation expense of $1.5 million, and higher information technology infrastructure and services costs, offset by lower litigation and other legal fees of $531,000. The net increase in compensation and related employee costs was due, in part, to higher bonus expense in the 2012 period as we expect our 2012 performance to exceed that of 2011 when compared to the applicable annual company-wide objectives.

 

Amortization of Intangible Assets.  In the third quarter of 2012, amortization of intangible assets increased to $10.0 million from $4.2 million in the third quarter of 2011. In the first nine months of 2012, amortization of intangible assets increased to $19.4 million from the $11.7 million recorded in the first nine months of 2011. These increases were primarily due to the incremental amortization of intangibles related to our acquisitions of VeriWave in July 2011, Anue in June 2012 and BreakingPoint in August 2012.

Acquisition and Other Related Expenses.Acquisition and other related expenses for the three and nine months ended September 30, 2012 were $4.3 million and $8.5 million, respectively, and related to our acquisitions of Anue and BreakingPoint. Acquisition and other related expenses for the three and nine months ended September 30, 2011 were $377,000 and $851,000, respectively, and related to our acquisition of VeriWave. Acquisition and other related costs primarily consisted of transaction and integration related costs such as success-based banking fees, professional fees for legal, accounting and tax services, integration related consulting fees, amortization of deferred consideration payable to certain pre-acquisition employees of BreakingPoint, certain employee, facility and infrastructure costs, and other acquisition-related costs.

Restructuring.  There were no restructuring expenses incurred in 2011. Restructuring expenses for each of the three and nine months ended September 30, 2012 were $2.1 million and primarily related to one-time employee termination benefits consisting of severance and other related costs. During the third quarter of 2012, our management approved, committed to and initiated a plan to restructure our operations following our recent acquisition of BreakingPoint. The BreakingPoint restructuring included a net reduction in force of approximately 29 positions (primarily impacting our research and development team in Melbourne, Australia). We expect that the BreakingPoint restructuring will produce cost savings of $7.0 million to $8.0 million on an annualized basis. However, we expect that this will be offset as we make additional investments in certain new or existing initiatives. See Note 4 to the Consolidated Financial Statements included in this Form 10-Q.

Interest Income and Other, Net.  Interest income and other, net decreased to $928,000 in the third quarter of 2012 from the $1.0 million recorded in the third quarter of 2011. Interest income and other, net decreased to $1.6 million in the first nine months of 2012 from the $1.8 million recorded in the first nine months of 2011.

26

Interest Expense.Interest expense, including the amortization of debt issuance costs, was $1.8 million for the third quarter of each of 2012 and 2011, and $5.4 million for each of the nine months ended September 30, 2012 and the nine months ended September 30, 2011.  Interest expense relates to our convertible senior notes, which were issued in December 2010. For additional information, see Note 5 to Consolidated Financial Statements included in this Form 10-Q.

Income Tax. Income tax benefit was $9.8 million, or an effective rate of (605.5%), for the third quarter of 2012 as compared to an income tax expense of $943,000, or an effective rate of 12.8%, for the third quarter of 2011. The overall decrease in the effective rate for the third quarter of 2012 as compared to the same period in 2011 was primarily due to the tax benefit realized from the $12.7 million partial release of our valuation allowance (previously established against our U.S. net deferred tax assets) resulting from the net deferred tax liabilities recorded as part of the BreakingPoint acquisition.  See Note 12 to the Consolidated Financial Statements included in this Form 10-Q.

Income tax benefit was $28.5 million, or an effective rate of (202.0%), for the first nine months of 2012 as compared to an income tax expense of $2.2 million, or an effective rate of 13.8%, for the first nine months of 2011.  The overall decrease in the effective rate for the first nine months of 2012 as compared to the same period in 2011 was primarily due to the income tax benefit realized from the partial releases of the Company’s valuation allowance for the Anue and BreakingPoint acquisitions. The 2011 effective tax rates differs from (i.e., are lower than) our federal statutory tax rate primarily due to our foreign earnings being taxed at lower rates than in the U.S.

Our effective tax rate also differs from the federal statutory rate due to state taxes, significant permanent differences and adjustments to our valuation allowance. Significant permanent differences arise due to research and development credits, foreign tax rate benefits, and stock-based compensation expense that are not expected to generate a tax deduction, such as stock-based compensation expenses on grants to foreign employees, offset by tax benefits from disqualifying dispositions.

Realization of our deferred tax assets is dependent primarily on the generation of future taxable income. In considering the need for a valuation allowance we consider our historical, as well as future, projected taxable income along with other objectively verifiable evidence. 

27

LIQUIDITY AND CAPITAL RESOURCES

We have funded our operations with our cash balances generated primarily from operations and proceeds from our initial public offering, our convertible debt offering and exercises of share-based awards. Our cash, cash equivalents and short- and long-term investments, when viewed as a whole, decreased to $154.3 million as of September 30, 2012 from $385.0 million as of December 31, 2011 primarily due to the cash and investments used in the acquisitions of Anue in the second quarter of 2012 of $148.3 million and BreakingPoint in the third quarter of 2012, which used cash and investments of $150.7 million, and capital expenditures of $12.9 million. These amounts were partially offset by the $58.3 million in net cash provided by our operating activities and $20.7 million of cash generated from the exercises of share-based option awards.

Of our total cash, cash equivalents and short- and long-term investments, $21.7 million and $26.9 million was held outside of the United States in various foreign subsidiaries as of September 30, 2012 and December 31, 2011, respectively. Under current tax laws and regulations, if our cash, cash equivalents or investments associated with the subsidiaries’ undistributed earnings were to be repatriated in the form of dividends or deemed distributions, we would be subject to additional U.S. income taxes and foreign withholding taxes. However, barring unforeseen circumstances, we consider these funds permanently invested in our foreign operations and do not intend to repatriate them. We had no exposure to European sovereign debt as of September 30, 2012. 

The following table sets forth our summary cash flows for the nine months ended September 30, 2012 and 2011 (in thousands):

	Nine Months Ended September 30,
	2012			2011
Net cash provided by operating activities	$	58,259		$	42,303
Net cash used in investing activities		(72,427	)		(83,673	)
Net cash provided by financing activities		22,627			13,704

Cash Flows from Operating Activities

Net cash provided by operating activities was $58.3 million in the first nine months of 2012 and $42.3 million in the same period of 2011. This increase in cash flow generated from operations was primarily due to an $11.3 million increase related to net working capital changes in the first nine months of 2012 over the first nine months of 2011. The working capital changes were principally due to the timing of payments of accounts payable and accrued liabilities, such as the 2011 year-end bonuses of approximately $5.7 million paid in 2012 compared to the 2010 year-end bonuses of approximately $9.3 million paid in 2011, partially offset by the increase in our accounts receivable balances in the first nine months of 2012 when compared to the same period in 2011 (due primarily to our higher sales,as well as the higher percentage of our third quarter sales occurring in the last month of the quarter (i.e., September 2012) in 2012 as compared to 2011).

Cash Flows from Investing Activities

Net cash used in investing activities was $72.4 million and $83.7 million for the first nine months of 2012 and 2011, respectively.  Excluding marketable security purchases and proceeds, net cash used in investing activities was $312.5 million and $27.0 million for the first nine months of 2012 and 2011, respectively. The increase in net cash used in the first nine months of 2012 was primarily due to the acquisitions of Anue in the second quarter of 2012 and BreakingPoint in the third quarter of 2012, which resulted in cash paid, net of cash acquired, of $148.3 million and $150.7 million, respectively.

28

Cash Flows from Financing Activities

Net cash provided by financing activities was $22.6 million and $13.7 million for the first nine months of 2012 and 2011, respectively. This increase in cash provided by financing activities was primarily due to a $7.0 million increase in proceeds from the exercises of share-based awards for the first nine months of 2012 when compared to the first nine months of 2011.

We believe that our existing balances of cash and cash equivalents, investments and cash flows expected to be generated from our operations will be sufficient to satisfy our operating requirements for at least the next 12 months. Nonetheless, we may seek additional sources of capital as necessary or appropriate to fund acquisitions or to otherwise finance our growth or operations; however, there can be no assurance that such funds, if needed, will be available on favorable terms, if at all. Our access to the capital markets to raise funds, through the sale of equity or debt securities, is subject to various factors, including the conditions in the U.S. capital markets, our financial condition, and the timely filing of our periodic reports with the Commission. In addition, our $200 million convertible senior notes have various default provisions, which could accelerate repayment and adversely impact our liquidity.

29

SAFE HARBOR UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995

Statements that are not historical facts in this Management’s Discussion and Analysis of Financial Condition and Results of Operations and other sections of this Quarterly Report on Form 10-Q may be deemed to be forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and are subject to the safe harbor created by that Section.  Words such as "may," "will," "should," "could," "would," "expect," "plan," "anticipate," "believe," "estimate," "project," "predict," "potential," and variations of these words and similar expressions are intended to identify forward-looking statements. These statements reflect our current views with respect to future events and are based on assumptions and are subject to risks and uncertainties. These risks, uncertainties and other factors may cause our future results, performances or achievements to be materially different from those expressed or implied by our forward-looking statements and include, among other things: anticipated benefits and synergies of our recent acquisitions of Anue Systems, Inc. and BreakingPoint Systems, Inc. will not be realized, changes in the global economy, competition, consistency of orders from significant customers, our success in developing and producing new products, market acceptance of our products, war, terrorism, political unrest, natural disasters and other circumstances that could, among other consequences, reduce the demand for our products, disrupt our supply chain and/or impact the delivery of our products. The factors that may cause future results to differ materially from our current expectations also include, without limitation, the risks identified in our Annual Report on Form 10-K for the year ended December 31, 2011, and in our other filings with the Securities and Exchange Commission.

ITEM 3.                QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

For quantitative and qualitative disclosures about market risk, see Item 7A, “Quantitative and Qualitative Disclosures about Market Risk,” included in our 2011 Form 10-K. Our exposures to market risk have not changed materially since December 31, 2011 other than as discussed in Note 10 “Fair Value Measurements” included in this Form 10-Q.

30

ITEM 4.                CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

As required by Rule 13a-15(b) under the Exchange Act, we have carried out an evaluation, under the supervision and with the participation of the Company’s management, including our Chief Executive Officer and our Chief Financial Officer, of the effectiveness, as of the end of the period covered by this report (i.e., as of September 30, 2012), of the design and operation of our “disclosure controls and procedures” as defined in Rule 13a-15(e) promulgated by the Commission under the Exchange Act.  Based upon that evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures, as of the end of such period, were adequate and effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms and to ensure that such information is accumulated and communicated to our management, including our Chief Executive Officer and our Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

On June 1, 2012 and August 24, 2012, we acquired Anue Systems, Inc. (“Anue”) and BreakingPoint Systems, Inc. (“BreakingPoint”), respectively. Both Anue and BreakingPoint operate under their own sets of systems and internal controls, and we are currently maintaining those systems and much of that control environment until we are able to complete our assessment of their systems and controls and incorporate their processes into our own systems and control environment. We have excluded Anue’s and BreakingPoint’s operations in evaluating the Company’s internal control over financial reporting for purposes of this Form 10-Q. We plan to exclude Anue’s and BreakingPoint’s operations from the scope of our annual report on internal control over financial reporting for the period ending December 31, 2012, as permitted by the Securities and Exchange Commission in guidance relating to recent acquisitions.

Changes in Internal Control over Financial Reporting

There have not been any changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter ended September 30, 2012 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Inherent Limitations on Effectiveness of Controls

Our management, including our Chief Executive Officer and our Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting are or will be capable of preventing or detecting all errors and all fraud.  Any control, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control will be met.  The design of controls must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs.  Further, because of the inherent limitations in all controls, no evaluation of controls can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, within the Company have been detected or will be detected.  These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake.  Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.

31

PART II.                OTHER INFORMATION

ITEM 1.                  Legal Proceedings

Discussion of legal matters is incorporated by reference from Part  I, Item 1, Note 11, “Commitments and Contingencies,” included in this Form 10-Q , and should be considered an integral part of  this Part  II, Item 1, “Legal Proceedings.”

ITEM 1A.              Risk Factors

Information regarding risk factors appears in Part I, “Item 1A. Risk Factors,” in our Annual Report on Form 10-K for the year ended December 31, 2011 and in certain of our other filings with the Securities and Exchange Commission.  There have been no material changes to our risk factors previously disclosed in the 2011 Form 10-K.

ITEM 5.                Other Information

Our policy governing transactions in our securities by our directors, officers and employees permits such persons to adopt stock trading plans pursuant to Rule 10b5-1 promulgated by the Securities and Exchange Commission under the Exchange Act.  Our directors, officers and employees may from time to time establish such stock trading plans.  We do not undertake any obligation to disclose, or to update or revise any disclosure regarding, any such plans and specifically do not undertake to disclose the adoption, amendment, termination or expiration of any such plans.

ITEM 6.                Exhibits

See the Exhibit Index following the signature page to this Quarterly Report on Form 10-Q for a list of exhibits filed or furnished with or incorporated by reference as part of this report, which Exhibit Index is incorporated herein by reference.

32

SIGNATURES

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

			IXIA
Date:	November ­8, 2012	By:	/s/       Victor Alston
			Victor Alston President and Chief Executive Officer

Date:	November 8, 2012	By:	/s/       Thomas B. Miller
			Thomas B. Miller Chief Financial Officer

33

EXHIBIT INDEX

Exhibit No.	Description
10.1	Fourth Amendment to Office Lease dated as of June 1, 2012 and entered into on July 2, 2012, between MS LPC Malibu Property Holdings, LLC and the Company (1)
31.1*	Certification of Chief Executive O fficer of Ixia pursuant to Rule 13a-14(a) under the Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2*	Certification of Chief Financial Officer of Ixia pursuant to Rule 13a-14(a) under the Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1*	Certifications of Chief Executive Officer and Chief Financial Officer of Ixia pursuant to Rule 13a-14(b) under the Exchange Act and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS**	XBRL Instance Document
101.SCH**	XBRL Taxonomy Extension Schema Document
101.CAL**	XBRL Taxonomy Calculation Linkbase Document
101.DEF**	XBRL Taxonomy Extension Definition Document
101.LAB**	XBRL Taxonomy Label Linkbase Document
101.PRE**	XBRL Taxonomy Presentation Linkbase Document

* Filed herewith.

(1) Incorporated by reference to Exhibit 10.1 to Ixia’s Current Report on Form 8-K (File No. 000-31523), as filed with the Securities and Exchange Commission on July 10, 2012.

** The following financial information in the Registrant’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2012, is formatted in Extensible Business Reporting Language (XBRL) and electronically submitted herewith: (i) unaudited condensed consolidated balance sheets as of September 30, 2012 and December 31, 2011, (ii) unaudited condensed consolidated statements of operations for the three and nine months ended September 30, 2012 and 2011, (iii) unaudited condensed consolidated statements of comprehensive income for the three and nine months ended September 30, 2012 and 2011, (iv) unaudited condensed consolidated statements of cash flows for the nine months ended September 30, 2012 and 2011, and (v) notes to unaudited condensed consolidated financial statements.  In accordance with Rule 406T of Regulation S-T, such electronically submitted information shall not be deemed to be “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, and shall not be part of any registration statement or other document filed under the Securities Act or the Exchange Act, except as shall be expressly set forth by specific reference in such filing.

34