Netgear 2008 Annual Report Download - page 42

Table of Contents
2007 Cost of Revenue and Gross Margin Compared to 2006 Cost of Revenue and Gross Margin
Cost of revenue increased $105.3 million, or 27.7%, to $485.2 million for the year ended December 31, 2007, from $379.9 million for the
year ended December 31, 2006. Our gross margin decreased to 33.3% for the year ended December 31, 2007, from 33.8% for the year ended
December 31, 2006.
The decrease in gross margin percentage was primarily attributable to higher warranty costs associated with end-user warranty returns as
well as amortization expense related to certain intangible assets acquired in connection with the Infrant acquisition. We amortized an additional
$3.1 million in intangibles related to our recent acquisitions in the year ended December 31, 2007 as compared to the year ended December 31,
2006. We also sold through the entire $3.5 million in inventory acquired from Infrant, which was recorded at fair value under purchase
accounting guidelines. Of this $3.5 million, $1.3 million represented a charge for the step-up to fair value in connection with the acquisition
purchase accounting. We also experienced increased sales of products carrying lower gross margins to service providers.
These negative margin impacts were partially mitigated by certain gross margin improvements. Our gross margin was impacted by our
sales incentives that are recorded as a reduction in revenue which grew at a relatively slower rate than overall net revenue. We experienced
decreased price protection claims, as well as relatively lower inbound freight during the year, as we were able to continue to shift the mix of
inbound shipments from our suppliers from more costly air freight to lower cost sea freight due to better supply chain planning.
Additionally, stock-based compensation expense increased $203,000 to $633,000 for the year ended December 31, 2007, from $430,000
for the year ended December 31, 2006.
Operating Expenses
Research and Development Expense
Research and development expenses consist primarily of personnel expenses, payments to suppliers for design services, safety and
regulatory testing, product certification expenditures to qualify our products for sale into specific markets, prototypes and other consulting fees.
Research and development expenses are recognized as they are incurred. We have invested in building our research and development
organization to enhance our ability to introduce innovative and easy to use products. In the future, we believe that research and development
expenses will increase in absolute dollars as we expand into new networking product technologies and broaden our core competencies.
2008 Research and Development Expense Compared to 2007 Research and Development Expense
Research and development expenses increased $5.7 million, or 20.3%, to $33.8 million for the year ended December 31, 2008, from $28.1
million for the year ended December 31, 2007. The increase was primarily due to increased salary, related payroll and other employee expenses
of $3.6 million primarily due to incremental headcount expenses related to the acquisition of Infrant in May 2007, which was partially offset by a
decrease in employee performance compensation of $1.7 million. Employee headcount increased by 37% to 158 employees as of December 31,
2008 as compared to 115 employees as of December 31, 2007, primarily due to new employees obtained from the acquisition of certain assets of
CP Secure International Holding Limited (“CP Secure”) in December 2008. The increase in research and development expense was also due to
an increase in
40
Year Ended December 31,
2008
Percentage
Change 2007
Percentage
Change 2006
(In thousands, except percentage data)
Research and development expense
$
33,773
20.3
%
$
28,070
52.2
%
$
18,443
Percentage of net revenue
4.5
%
3.9
%
3.2
%