The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and related notes thereto included elsewhere in this report. In addition to historical information, the discussion in this report contains forward-looking statements that involve risks and uncertainties. Actual results could differ materially from those anticipated by these forward-looking statements due to factors including, but not limited to, those factors set forth under Part I, Item 1A "Risk Factors" and elsewhere in this report.

Overview

We design, develop and market devices that make it possible to access, manage, control and configure electronic devices over the Internet and other networks. We are a leader in providing innovative networking solutions. We were initially formed as "Lantronix," a California corporation, in June 1989. We reincorporated as "Lantronix, Inc.," a Delaware corporation in May 2000. Our products are sold to distributors, OEMs, VARs, and systems integrators, as well as directly to end users.

Fiscal Year 2009 Financial Highlights and Other Information

A summary of the key factors and significant events which impacted our financial performance during the fiscal year ended June 30, 2009 are as follows:

? Net revenues were $49.1 million for the fiscal year ended June 30, 2009, a decrease of $8.5 million, or 14.7%, compared to $57.6 million for the fiscal year ended June 30, 2008. The overall decrease in net revenues was a direct result of the economic downturn. The decrease was primarily the result of a $5.0 million, or 11.2%, decrease in our device enablement product lines, a $1.3 million, or 15.0%, decrease in our device management product lines and a $2.1 million, or 53.7%, decrease in our non-core product lines.

? Gross profit as a percentage of net revenues was 52.2% for the fiscal year ended June 30, 2009 compared to 50.5% for the fiscal year ended June 30, 2008. The increase in gross profit margin percentage was primarily attributable to lower product costs, lower inventory reserve costs and lower royalty costs.

? Loss from operations was $614,000, or 1.2% of net revenues, for the fiscal year ended June 30, 2009 compared to $2.6 million, or 4.5% of net revenues, for the fiscal year ended June 30, 2008. Loss from operations for the fiscal years ended June 30, 2009 and 2008 included restructuring charges of $806,000 and $757,000, respectively.

? Net loss was $780,000, or $0.01 per basic and diluted share, for the fiscal year ended June 30, 2009, compared to $2.5 million, or $0.04 per basic and diluted share, for the fiscal year ended June 30, 2008. Net loss for the fiscal years ended June 30, 2009 and 2008 included a restructurings charge of $806,000 and $757,000, respectively.

? Cash and cash equivalents were $9.1 million as of June 30, 2009 compared to $7.4 million as of June 30, 2008.

? Net accounts receivable were $1.9 million as of June 30, 2009 compared to $4.2 million as of June 30, 2008. Annual days sales outstanding ("DSO") in receivables were 22 days for the fiscal year ended June 30, 2009 as compared to 24 days for the fiscal year ended June 30, 2008. Our accounts receivable and DSO are primarily affected by the timing of shipments within a quarter, our collections performance and the fact that a significant portion of our revenues are recognized on a sell-through basis (upon shipment from distributor inventories rather than as goods are shipped to distributors).

? Net inventories were $6.5 million as of June 30, 2009 compared to $8.0 million as of June 30, 2008. Annual inventory turns were 3.2 for the fiscal year ended June 30, 2009 as compared to 3.0 for the fiscal year ended June 30, 2008.

Recent Accounting Pronouncements

Recent accounting pronouncements issued by the FASB (including its Emerging Issues Task Force), the American Institute of Certified Public Accountants and the SEC did not or are not believed by us to have a material impact on our present or future consolidated financial statements.

Critical Accounting Policies and Estimates

The preparation of financial statements and related disclosures in accordance with accounting principles generally accepted in the U.S. requires us to make judgments, estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net revenues and expenses during the reporting period. We regularly evaluate our estimates and assumptions related to net revenues, allowances for doubtful accounts, sales returns and allowances, inventory valuation, valuation of deferred income taxes, goodwill and purchased intangible asset valuations, warranty reserves, restructuring costs, litigation and other contingencies. We base our estimates and assumptions on historical experience and on various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. To the extent there are material differences between our estimates and the actual results, our future results of operations will be affected.

We believe the following critical accounting policies require us to make significant judgments and estimates in the preparation of our consolidated financial statements:

Revenue Recognition

We do not recognize revenue until all of the following criteria are met:
persuasive evidence of an arrangement exists; delivery has occurred or services have been rendered; our price to the buyer is fixed or determinable; and collectability is reasonably assured. A significant portion of our sales are made to distributors under agreements which contain a limited right to return unsold product and price protection provisions. Therefore, the recognition of net revenues and related cost of revenues from sales to distributors are deferred until the distributor resells the product. Net revenues from certain smaller distributors for which point-of-sale information is not available, is recognized approximately 30 to 45 days after the shipment date. This estimate approximates the timing of the sale of the product by the distributor to the end user.

When product revenues are recognized, we establish an estimated allowance for future product returns based on historical returns experience; when price reductions are approved, we establish an estimated liability for price protection payable on inventories owned by product resellers. Should actual product returns or pricing adjustments exceed our estimates, additional reductions to revenues would result.

Our products typically carry a one- or two-year warranty. Although we engage in extensive product quality programs and processes, our warranty obligation is affected by product failure rates, use of materials or service delivery costs that differ from our estimates. As a result, additional warranty reserves could be required, which could reduce gross margins. Additionally, we sell extended warranty services, which extend the warranty period for an additional one to three years, depending upon the product. Warranty net revenues are recognized ratably over the warranty service period.

Allowance for Doubtful Accounts

We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. Our allowance for doubtful accounts is based on our assessment of the collectability of specific customer accounts, the aging of accounts receivable, our history of bad debts and the general condition of the industry. If a major customer's credit worthiness deteriorates, or our customers' actual defaults exceed our historical experience, our estimates could change and impact our reported results.

We also maintain a reserve for uncertainties relative to the collection of officer notes receivable. Factors considered in determining the level of this reserve include the value of the collateral securing the notes, our ability to effectively enforce collection rights and the ability of the former officers and Lantronix director to honor their obligations.

Inventory Valuation

Our policy is to value inventories at the lower of cost or market on a part-by-part basis. This policy requires us to make estimates regarding the market value of our inventories, including an assessment of excess and obsolete inventories. We determine excess and obsolete inventories based on an estimate of the future sales demand for our products within a specified time horizon, generally three to twelve months. The estimates we use for demand are also used for near-term capacity planning and inventory purchasing and are consistent with our revenue forecasts. In addition, specific reserves are recorded to cover risks in the area of end of life products, inventory located at our contract manufacturers, deferred inventory in our sales channel and warranty replacement stock.

If our sales forecast is less than the inventory we have on hand at the end of an accounting period, we may be required to take excess and obsolete inventory charges, which will decrease gross margin and net operating results for that period.

Valuation of Deferred Income Taxes

We have recorded a valuation allowance to reduce our net deferred tax assets to zero, primarily due to historical net operating losses and uncertainty of generating future taxable income. We consider estimated future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for a valuation allowance. If we determine that it is more likely than not that we will realize a deferred tax asset, which currently has a valuation allowance, we would be required to reverse the valuation allowance that would be reflected as an income tax benefit at that time.

Goodwill and Purchased Intangible Assets

The purchase method of accounting for acquisitions requires extensive use of accounting estimates and judgments to allocate the purchase price to the fair value of the net tangible and intangible assets acquired, including in-process research and development. The amounts and useful lives assigned to intangible assets impact future amortization. If the assumptions and estimates used to allocate the purchase price are not correct, purchase price adjustments or future asset impairment charges could be required.

We perform goodwill impairment tests on an annual basis, and more frequently if events occur or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. Goodwill impairment testing requires us to compare the fair value of each reporting unit to its carrying amount, including goodwill, and record an impairment charge if the carrying amount of a reporting unit exceeds its estimated fair value. The determination of a reporting unit's fair value requires significant judgment and is based on management's best estimate, which generally considers the unit's expected future earnings. If actual results are not consistent with our assumptions and judgments used in estimating fair value, we may be exposed to additional goodwill impairment losses. As of June 30, 2009, we have $9.5 million of goodwill reflected in our consolidated balance sheet.

We evaluate purchased intangible assets when indicators of impairment, such as reductions in demand or significant economic slowdowns, are present. Reviews are performed to determine whether the carrying values of these assets are impaired based on a comparison to the undiscounted expected future cash flows. If the comparison indicates that there is impairment, the expected future cash flows using a discount rate based upon our weighted average cost of capital is used to estimate the fair value of the assets. Impairment is based on the excess of the carrying amount over the fair value of those assets. Significant management judgment is required in the forecast of future operating results that is used in the preparation of expected discounted cash flows. It is reasonably possible that the estimates of anticipated future net revenues, the remaining estimated economic lives of the products and technologies, or both, could differ from those used to assess the recoverability of our purchased intangible assets. In the event they are lower, additional impairment charges or shortened useful lives of certain purchased intangible assets could be required. As of June 30, 2009, we have approximately $265,000 of purchased intangible assets reflected in our consolidated balance sheet.

Results of Operations

Fiscal Years Ended June 30, 2009 and 2008

Net Revenues by Product Line

The following table presents net revenues by product line:

                                  Years Ended June 30,
                                 % of Net                   % of Net              Change
                      2009        Revenue        2008        Revenue         $             %
                                         (In thousands, except percentages)
Device enablement   $ 39,955         81.3%     $ 44,993         78.1%     $ (5,038 )     (11.2%)
Device management      7,387         15.0%        8,694         15.1%       (1,307 )     (15.0%)
Device networking     47,342         96.3%       53,687         93.2%       (6,345 )     (11.8%)
Non-core               1,805          3.7%        3,899          6.8%       (2,094 )     (53.7%)
Net revenue         $ 49,147        100.0%     $ 57,586        100.0%     $ (8,439 )     (14.7%)

The decrease in net revenue for the fiscal year ended June 30, 2009 compared to the fiscal year ended June 30, 2008 was the result of a decrease in net revenue across all major product lines and regions. The decrease in our device enablement product line was due to a decrease in our embedded device enablement products, and more specifically, our ASIC, WiPort, Micro and XPort product families, offset by an increase in our MatchPort product family and a decrease in our external device enablement products, more specifically, our UDS, XPress and MSS product families offset by an increase in our WiBox product family. The decrease in our device management product line was the result of a decrease in our SLC, SCS and SLS product families offset by an increase in our SLB product family. We are no longer investing in the development of our non-core product lines and expect net revenue related to these products to continue to decline in the future as we focus our investment on our device networking product lines.

Net Revenues by Geographic Region

The following table presents net revenues by geographic region:

                             Years Ended June 30,
                            % of Net                   % of Net              Change
                 2009        Revenue        2008        Revenue         $             %
                                    (In thousands, except percentages)
Americas       $ 28,154         57.3%     $ 33,167         57.6%     $ (5,013 )     (15.1%)
EMEA             14,068         28.6%       16,644         28.9%       (2,576 )     (15.5%)
Asia Pacific      6,925         14.1%        7,775         13.5%         (850 )     (10.9%)
Net revenue    $ 49,147        100.0%     $ 57,586        100.0%     $ (8,439 )     (14.7%)

All major geographic regions contributed to the decrease in net revenues for the fiscal year ended June 30, 2009 compared to the fiscal year ended June 30, 2008. The decrease in the Americas region was primarily due to the decrease in our non-core product lines in addition to a decrease in our device enablement product lines, and more specifically, the Micro, ASIC, UDS, EDS, MSS and XPress product families offset by an increase in our WiBox product family, as well as our device management product lines, and more specifically, the SLC, SLS and SCS product families offset by an increase in our SLB product family. The decrease in our EMEA region was primarily due to a decrease in our non-core product lines and our device enablement product lines, and more specifically, the ASIC, WiPort and UDS product families offset by an increase in our MatchPort product family. The decrease in our Asia Pacific region was due to a decrease in our non-core product lines and our device management product lines, and more specifically, the SLC product family.

Net Revenues by Significant Customer

The following table presents net revenues by significant customer and a related
party as a percentage of net revenues:

                           Years Ended June 30,
                           2009            2008

Top five customers (1)         38%             38%
Ingram Micro                   11%              8%
Tech Data                       8%             13%
Related parties                 2%              2%

(1) Includes Ingram Micro and Tech Data.

Two international customers, transtec AG and barix AG, are related parties due to common ownership by our largest stockholder and Lantronix director, Bernhard Bruscha.

Gross Profit

Gross profit represents net revenues less cost of revenues. Cost of revenues consisted primarily of the cost of raw material components, subcontract labor assembly from contract manufacturers, manufacturing overhead, amortization of purchased intangible assets, establishing or relieving inventory reserves for excess and obsolete products or raw materials, warranty costs, royalties and share-based compensation.

The following table presents gross profit:

                              Years Ended June 30,
                             % of Net                    % of Net              Change
                 2009        Revenues        2008        Revenues         $             %
                                     (In thousands, except percentages)

The increase in gross profit margin percentage for the fiscal year ended June 30, 2009 compared to the fiscal year ended June 30, 2008 was primarily attributable to lower product costs, lower inventory reserve costs, and lower royalty costs.

Selling, General and Administrative

Selling, general and administrative expenses consisted of personnel-related
expenses including salaries and commissions, share-based compensation, facility
expenses, information technology, trade show expenses, advertising and
professional legal and accounting fees offset by reimbursement of legal fees
from insurance proceeds.

The following table presents selling, general and administrative expenses:

                                     Years Ended June 30,
                                      % of Net                % of Net            Change
                           2009       Revenue      2008       Revenue        $             %
                                            (In thousands, except percentages)
Personnel-related
expenses                 $  10,372               $  13,663               $  (3,291 )      (24.1%)
Professional fees &
outside services             2,237                   2,569                    (332 )      (12.9%)
Advertising and
marketing                    2,358                   2,959                    (601 )      (20.3%)
Facilities                   1,375                   1,600                    (225 )      (14.1%)
Share-based
compensation                 1,315                     847                     468          55.3%
Depreciation                   564                     368                     196          53.3%
Bad debt expense               (12 )                    71                     (83 )     (116.9%)
Other                        1,308                   1,815                    (507 )      (27.9%)
Selling, general and
administrative           $  19,517       39.7%   $  23,892       41.5%   $  (4,375 )      (18.3%)

In order of significance, the increase in selling, general and administrative expense for the fiscal year ended June 30, 2009 compared to the fiscal year ended June 30, 2008 was primarily due to: (i) decreased personnel-related expenses as a result of the restructuring activities and a company-wide furlough program that was taken during the third and fourth fiscal quarters of 2009 in response to the economic downturn; (ii) decreased advertising and marketing expenses as a result of more focused spending and (iii) decreased professional fees & outside services due to cost cutting measures; offset by (iv) increased share-based compensation as a result of restricted stock grants related to the fiscal 2009 share-based compensation plans.

Research and Development

Research and development expenses consisted of personnel-related expenses including share-based compensation, as well as expenditures to third-party vendors for research and development activities.

The following table presents research and development expenses:

                                     Years Ended June 30,
                                     % of Net                % of Net            Change
                          2009       Revenue       2008       Revenue        $             %
                                           (In thousands, except percentages)
Personnel-related
expenses                $   3,869                $   5,102               $  (1,233 )     (24.2%)
Facilities                    954                      876                      78          8.9%
Professional fees &
outside services              217                      209                       8          3.8%
Share-based
compensation                  488                      341                     147         43.1%
Depreciation                   71                       57                      14         24.6%
Other                         289                      359                     (70 )     (19.5%)
Research and
development             $   5,888        12.0%   $   6,944       12.1%   $  (1,056 )     (15.2%)

The decrease in research and development expenses for the fiscal year ended June 30, 2009 compared to the fiscal year ended June 30, 2008 was mainly due to decreased personnel-related expenses as a result of the restructuring activities and a company-wide furlough program that was taken during the third and fourth fiscal quarters of 2009 in response to the economic downturn, offset by increased share-based compensation as a result of restricted stock grants related to the fiscal 2009 share-based compensation plans.

Restructuring Charges

The following table presents restructuring charges:

                                    Years Ended June 30,
                                   % of Net                 % of Net          Change
                        2009       Revenues      2008       Revenues       $         %
                                       (In thousands, except percentages)

During the fourth fiscal quarter ended June 30, 2008, we implemented a restructuring plan to optimize our organization to better leverage existing customer and partner relationships to drive revenue growth and profitability. As part of the restructuring plan, 10 employees from the senior-level ranks of the sales, marketing, operations and engineering groups were terminated. During the first fiscal quarter ended September 30, 2008, we implemented a second restructuring plan. As part of the second restructuring plan, an additional 29 employees from all ranks and across all functional groups of the Company were terminated. During the second fiscal quarter ended December 31, 2008, we incurred additional restructuring charges related to the termination of a senior-level employee and the closure of a sales office in France. During the third fiscal quarter ended March 31, 2009, we recognized a restructuring recovery of $23,000 for unused termination benefits and estimated payroll taxes. During the fourth fiscal quarter ended June 30, 2009, we recognized a restructuring charge of $108,000 related to the consolidation of our corporate headquarters.

Interest Expense, Net

The following table presents interest expense, net:

                                    Years Ended June 30,
                                   % of Net                 % of Net           Change
                         2009      Revenues       2008      Revenues        $          %
                                        (In thousands, except percentages)

The increase in interest expense, net, is primarily due to interest expense related to the addition of the term loan that was entered into during the first fiscal quarter of 2009.

Other Income, Net

The following table presents other income, net:

                                Years Ended June 30,
                               % of Net                 % of Net             Change
                    2009       Revenues      2008       Revenues        $            %
                                      (In thousands, except percentages)

Other income, net, for the fiscal year ended June 30, 2008 was primarily related to $104,000 of income recognized on the sale of marketable securities.

Provision (Benefit) for Income Taxes

On July 1, 2007, we adopted Financial Accounting Standards Board Interpretation No. 48, "Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109" ("FIN 48"). In connection with the adoption of FIN 48, we recognized an adjustment of approximately $226,000 to the beginning balance of accumulated deficit on our consolidated balance sheet. Our continuing practice is to recognize interest and/or penalties related to income tax matters in income tax expense. As of June 30, 2009, we had recorded $163,000 of uncertain tax positions including approximately $85,000 of accrued interest and penalties related to these uncertain tax positions.

At June 30, 2009, our fiscal 2002 through fiscal 2008 tax years remain open to examination by the Federal and state taxing authorities. However, we have net operating losses ("NOLs") beginning in fiscal 2001 which would cause the statute of limitations to remain open for the year in which the NOL was incurred.

The following table presents our effective tax rate based upon our income tax provision:

Years Ended June 30, 2009 2008

Effective tax rate 0.1% 4.5%

We utilize the liability method of accounting for income taxes as set forth in Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes." The tax benefit is the result of a reduction in estimated foreign taxes and penalties. The federal statutory rate was 34% for all periods. The difference between our effective tax rate and the federal statutory rate . . .