8x8 2007 Annual Report Download - page 32

include a provision that specifies that we must deliver freely tradable shares upon exercise by the warrant holder. Because there
are circumstances, irrespective of likelihood, that may not be within our control that could prevent delivery of registered
shares, EITF 00-19 requires the warrants be recorded as a liability at fair value, with subsequent changes in fair value recorded
as income (loss) in change in fair value of warrant liability. The fair value of the warrant is determined using a Black-Scholes
option pricing model, and is affected by changes in inputs to that model including our stock price, expected stock price
volatility and contractual term.
Income and Other Taxes
As part of the process of preparing our consolidated financial statements we are required to estimate our income taxes in each
of the jurisdictions in which we operate. This process requires us to estimate our actual current tax expense and to assess
temporary differences resulting from book-tax accounting differences for items such as deferred revenue. These differences
result in deferred tax assets and liabilities, which are included within our consolidated balance sheet. We must then assess the
likelihood that our deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery
is not likely, we must establish a valuation allowance. In the event that we determine that we would be able to realize deferred
tax assets in the future in excess of the net recorded amount, an adjustment to the deferred tax asset would increase income in
the period such determination was made.
Significant management judgment is required to determine the valuation allowance recorded against our net deferred tax assets,
which consist of net operating loss and tax credit carry forwards. We have recorded a valuation allowance of approximately
$73 million as of March 31, 2007, due to uncertainties related to our ability to utilize most of our deferred tax assets before
they expire. The valuation allowance is based on our estimates of taxable income by jurisdiction in which we operate and the
period over which our deferred tax assets will be recoverable.
We have received inquiries, demands or audit requests from several states and municipal taxing and 911 agencies seeking
payment of taxes that are applied to or collected from the customers of providers of traditional public switched telephone
network services. We have consistently maintained that these taxes do not apply to its service for a variety of reasons
depending on the statute or rule that establishes such obligations. We have recorded an expense of $841,000 and $531,000 for
the years ended March 31, 2007 and 2006, respectively as our estimate of the increase in probable tax exposure for such
assessments. Our cumulative estimate for probable assessments is $1,570,000 as of March 31, 2007, which is recorded in the
other accrued liabilities line item in the condensed consolidated balance sheets.
Stock-Based Compensation
Effective April 1, 2006, we account for our employee stock options and stock purchase rights under the 1996 Employee Stock
Purchase Plan (“Purchase Plan”) under the provisions of Statement of Financial Accounting Standards No. 123(R), “Share-
Based Payment” (“SFAS 123(R)”), Financial Accounting Standards Board (“FASB”) Technical Bulletin 97-1, “Accounting
under Statement 123 for Certain Employee Stock Purchase Plans with a Look-Back Option” and Securities and Exchange
Commission (“SEC”) Staff Accounting Bulletin (“SAB”), No. 107. Under the provisions of SFAS No. 123(R), share-based
compensation cost is measured at the grant date, based on the estimated fair value of the award, and is recognized as an
expense over the employee’s requisite service period (generally the vesting period of the equity grant), net of estimated
forfeitures. We have adopted the modified prospective transition method as provided by SFAS No. 123(R) and, accordingly,
financial statement amounts for the prior periods have not been restated to reflect the fair value method of expensing share-
based compensation.
Prior to April 1, 2006, we accounted for stock-based awards in accordance with APB 25, whereby the difference between the
exercise price and the fair market value on the date of grant, or the intrinsic value, is recognized as compensation expense.
Under the intrinsic value method of accounting, no compensation expense generally was recognized when the exercise price of
the employee stock option grants equaled the fair market value of the underlying common stock on the date of grant. However,
to the extent awards were granted either below fair market value or were modified which required a re-measurement of
compensation costs, we recorded compensation expense.
Stock-based compensation expense recognized in the Consolidated Statements of Operations for fiscal 2007 included both the
unvested portion of stock-based awards granted prior to April 1, 2006 and stock-based awards granted subsequent to April 1,
2006. Stock options granted in periods prior to fiscal 2007 were measured based on SFAS No. 123 criteria, whereas stock
options granted subsequent to April 1, 2006 were measured based on SFAS No. 123(R) criteria. In conjunction with the
adoption of SFAS No. 123(R), we changed our method of attributing the value of stock-based compensation to expense from
the accelerated multiple-option approach to the straight-line single option method. Compensation expense for all share-based
payment awards granted subsequent to April 1, 2006 has been recognized using the straight-line single-option method. Stock-
based compensation expense included in fiscal 2007 included the impact of estimated forfeitures. SFAS No. 123(R) requires
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