SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark one)

For the quarterly period ended July 31, 2004

OR

For the transition period from..................to.........................

Commission file number: 0-21969

CIENA CORPORATION

(410) 865-8500
(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 is an accelerated filer (as defined in Exchange Act Rule 12b-2). YES (X)  NO (  )

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

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CIENA CORPORATION

INDEX

FORM 10-Q

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Item 1. Financial Statements

CIENA CORPORATION

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

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CIENA CORPORATION

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

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CIENA CORPORATION

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

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CIENA CORPORATION

(1) INTERIM FINANCIAL STATEMENTS

     The interim financial statements included herein for CIENA Corporation (the “Company” or “CIENA”) have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. In the opinion of management, financial statements included in this report reflect all normal recurring adjustments which the Company considers necessary for the fair presentation of the results of operations for the interim periods covered and of the financial position of the Company at the date of the interim balance sheet. Certain information and footnote disclosures normally included in the annual financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. However, the Company believes that the disclosures are adequate to understand the information presented. The operating results for interim periods are not necessarily indicative of the operating results for the entire year. These financial statements should be read in conjunction with the Company’s October 31, 2003 audited consolidated financial statements and notes thereto included in the Company’s annual report on Form 10-K for the fiscal year ended October 31, 2003.

(2) SIGNIFICANT ACCOUNTING POLICIES

Segment Reporting

     In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131 (“SFAS 131”), “Disclosures about Segments of an Enterprise and Related Information.” SFAS 131 establishes annual and interim reporting standards for operating segments of a company. Effective as of the second quarter of fiscal 2004, CIENA reorganized its operations into multiple operating segments for the purpose of making operating decisions and assessing performance. Those operating segments are as follows: Core Networking Group (CNG); Metro and Enterprise Solutions Group (MESG); Data Networking Group (DNG); and the Services Group. During the third quarter of fiscal 2004 the Broadband Access Group (BBG) was organized from the operations of the Company’s May 3, 2004 acquisition of Catena Networks, Inc. and was added as an additional operating segment.

Goodwill

     Effective November 1, 2001, CIENA adopted Statement of Financial Accounting Standard No. 142 (“SFAS 142”), “Goodwill and Other Intangible Assets” and ceased to amortize goodwill. As of July 31, 2004, CIENA’s assets include $780.9 million related to goodwill. Prior to the reorganization of the Company into operating segments, the fair value of CIENA’s goodwill was tested for impairment on an annual basis, and between annual tests if an event occurred or circumstances changed that would, more likely than not, have reduced the fair value of CIENA on an enterprise level, rather than a segment level, below its carrying value. Due to the Company’s reorganization into operating segments, SFAS 142 requires that we assign goodwill to the Company’s reporting units. CIENA, has determined its operating segments and reporting units are the same. In accordance with SFAS 142 CIENA will test each reporting unit’s goodwill for impairment on an annual basis, and between annual tests if an event occurs or circumstances change that would, more likely than not, reduce the fair value of the reporting unit below its carrying value. The following table summarizes the assignment and changes in the carrying amount of the Company’s goodwill to its reporting units as of July 31, 2004 (in thousands):

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Impairment or Disposal of Long-Lived Assets

     The Company accounts for the impairment or disposal of long-lived assets such as equipment, furniture, fixtures, and other intangible assets in accordance with the provisions of Statement of Financial Accounting Standards Board No. 144 (“SFAS 144”), “Accounting for the Impairment or Disposal of Long Lived Assets.” During the third quarter of fiscal 2004 the Company recorded impairment losses of $7.2 million primarily related to excess research and development test equipment classified as held for sale.

Pro Forma Stock-Based Compensation

     The Company has elected to continue to account for its stock-based compensation in accordance with the provisions of APB 25 as interpreted by FASB Interpretation No. 44 (“FIN 44”), “Accounting for Certain Transactions Involving Stock Compensation, an Interpretation of APB Opinion No. 25.”

     Had compensation cost for the Company’s stock option plans and employee stock purchase plan been determined based on the Black-Scholes valuation method and the fair value at the grant date for awards in the third quarter and first nine months of fiscal 2003 and 2004 been determined consistent with the provisions of Statement of Financial Accounting Standard No. 123 (“SFAS 123”), “Accounting for Stock Based Compensation” as amended by Statement of Financial Accounting Standard No. 148 (“SFAS 148”), “Accounting for Stock Based Compensation-Transition and Disclosure,” the Company’s net loss and net loss per share for the third quarter and first nine months of fiscal 2003 and 2004 would have changed by the pro forma amounts indicated below (in thousands, except per share data):

     The above pro forma disclosures are not necessarily representative of the effects on reported net income or loss for future years.

(3) BUSINESS COMBINATIONS

     On May 3, 2004, the Company acquired Catena Networks and Internet Photonics. As a result of these acquisitions, the Company recorded charges for in-process research and development and recorded intangible assets related to existing technology, customer relationships, customer contracts and customer order backlog.

     In-process research and development represents in-process technology that, as of the date of the acquisition, has not reached technological feasibility and has no alternative future use. The value of such technology is determined by estimating the net cash flows from the sale of the products resulting from the completion of the development projects, reduced by the portion of the revenue attributable to developed technology and the percentage of completion of the project. The resulting cash flows are then discounted back to their present values at appropriate discount rates.

     Existing technology represents purchased technology for which development had been completed as of the date of acquisition. This amount is determined using the income approach. This method consisted of estimating future net cash flows attributable to existing technology for a discrete projection period and discounting the net cash flows to their present value. The existing technology will be amortized over its useful life.

     The purchase price for the Company’s acquisitions is based on the average closing price of CIENA’s common stock for the two trading days prior to, the date of, and the two trading days after the announcement of the acquisitions. The announcement date for both the Catena and Internet Photonics acquisitions was February 19, 2004.

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The following table summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of the acquisitions (in thousands):

Catena Networks

     Catena was a privately held corporation headquartered in Ottawa, Ontario. Pursuant to the terms of the acquisition agreement, Catena merged into CIENA, and the outstanding shares of Catena common and preferred stock were exchanged for approximately 67,773,442 shares of CIENA common stock. The aggregate purchase price was $466.1 million, which included CIENA common stock valued at $407.2 million, CIENA options, warrants and restricted stock valued at $53.7 million, and transaction costs of $5.2 million.

     The $73.0 million assigned to existing technology will be amortized over 6.5 years. The $18.0 million assigned to the contracts, customer relationships and purchase orders will be amortized over periods ranging from 3 months to 4.5 years.

     The goodwill allocated to the purchase price was $326.2 million and is not deductible for tax purposes. The operations of Catena were incorporated into the Company’s BBG operating segment, and accordingly the goodwill from this transaction has been assigned to this operating segment.

     The following unaudited pro forma data summarizes the results of operations for the period indicated as if the Catena acquisition had been completed as of the beginning of the periods presented. The unaudited pro forma data gives effect to the combined actual operating results prior to the May 3, 2004 acquisition, adjusted to include the pro forma effect of amortization of intangibles and deferred stock compensation costs. These pro forma amounts do not purport to be indicative of the results that would have actually been obtained if the acquisition occurred as of the beginning of the periods presented or that may be obtained in the future (in thousands, except per share data.)

Internet Photonics

     Internet Photonics was a privately held corporation headquartered in Shrewsbury, New Jersey. Pursuant to the terms of the acquisition agreement, Internet Photonics merged into CIENA, and the outstanding shares of Internet Photonics common and preferred stock were exchanged for approximately 22,623,313 shares of CIENA common stock. The aggregate purchase price was $149.2 million, which included CIENA common stock valued at $139.4 million, CIENA options, warrants and restricted stock valued at $6.1 million, and transaction costs of $3.7 million.

     The $10.0 million assigned to existing technology will be amortized over 6.5 years. The $2.2 million assigned to non-compete agreements will be amortized over 12 months. The $21.1 million assigned to the contracts, customer relationships and purchase orders will be amortized over periods ranging from 3 months to 6.5 years. The $9.4 million assigned to the value of the loan was based upon the present value of the loan at the time of the acquisition. The loan was payable to CIENA and was eliminated during the allocation of the purchase price.

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     The goodwill allocated to the purchase price was $120.6 million and is not deductible for tax purposes. The operations of Internet Photonics were incorporated into the Company’s MESG operating segment, and accordingly the goodwill from this transaction has been assigned to this operating segment. The operations of Internet Photonics are not material to the consolidated financial statements of the Company, and accordingly, separate pro forma financial information has not been presented.

(4) RESTRUCTURING COSTS

     The Company has previously taken actions to align its workforce, facilities and operating costs with business operations. Prior to the adoption of Statement of Financial Accounting Standard No. 146 (“SFAS 146”), “Accounting for Costs Associated with Exit or Disposal Activities,” for transactions initiated after December 31, 2002, CIENA followed the guidance of Emerging Issues Task Force Issue No. 94-3 (“EITF 94-3”), “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring),” for restructuring charges. However, given the manner in which CIENA undertook such restructuring activities, there have been no significant differences in financial reporting. The Company historically has committed to a plan and incurred the liability concurrently – meeting the criteria of both EITF 94-3 and SFAS 146 consistently. The following table displays the activity and balances of the restructuring reserve account for the period ended July 31, 2004 (in thousands):

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     The Company expects to incur additional restructuring costs, accelerated amortization of leasehold costs and asset impairment costs of between $40.0 million and $50.0 million associated with the anticipated September 30, 2004, closing of its San Jose, California facility.

(5) MARKETABLE DEBT AND EQUITY SECURITIES

     Cash, short-term and long-term investments are comprised of the following (in thousands):

The following table summarizes maturities of debt investments (including restricted investments) at July 31, 2004 (in thousands):

(6) ACCOUNTS RECEIVABLE

     As of July 31, 2004, the trade accounts receivable, net of allowance for doubtful accounts, included one customer who accounted for 28.7% of the trade accounts receivable. As of October 31, 2003, the trade accounts receivable, net of allowance for doubtful accounts, included three customers who accounted for 23.6%, 12.5% and 10.1% of the net trade accounts receivable, respectively.

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     CIENA performs ongoing credit evaluations of its customers and generally has not required collateral or other forms of security from its customers. CIENA maintains an allowance for potential losses on a specific identification basis. During the nine months ended July 31, 2004, the Company recovered $3.1 million from a customer, from which payment was previously deemed doubtful due to the customer’s financial condition. The Company also recorded an allowance for doubtful accounts during the first nine months of fiscal 2004 of $0.3 million. CIENA’s allowance for doubtful accounts as of October 31, 2003 and July 31, 2004 was $1.5 and $1.7 million, respectively.

(7) INVENTORIES

     Inventories are comprised of the following (in thousands):

     The Company writes down its inventory for estimated obsolescence or unmarketable inventory equal to the difference between the cost of inventory and the estimated market value based on assumptions about future demand and market conditions. During the nine months ended July 31, 2004, CIENA recorded a provision for inventory reserves of $3.0 million, primarily related to excess inventory due to a change in forecasted sales for certain products. The following is a summary of the change in the reserve for excess inventory and obsolete inventory during the nine months ended July 31, 2004 (in thousands):

     During the nine months ended July 31, 2003, the Company recorded a benefit for excess inventory of $4.2 million, primarily related to the realization of sales from previously reserved excess inventory. The following is a summary of the change in the reserve for excess and obsolete inventory during the nine months ended July 31, 2003 (in thousands):

     Equipment, furniture and fixtures are comprised of the following (in thousands):

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     During the third quarter of fiscal 2004 and the nine months ended July 31, 2004 CIENA recorded $12.5 million and $14.2 million, respectively, in accelerated amortization expense of leasehold improvements related to the planned exit of the Company’s San Jose, California facility. In addition, the Company recorded impairment losses of $7.2 million, primarily related to research and development equipment classified as held for sale in the third quarter of fiscal 2004. The residual carrying value of these assets is insignificant.

(9) OTHER INTANGIBLE ASSETS

     Other intangible assets are comprised of the following (in thousands):

     The aggregate amortization expense of other intangible assets was $5.4 million and $13.6 million for the quarters ended July 31, 2003 and 2004, respectively. The following table represents the expected future amortization of other intangible assets as follows (in thousands):

(10) OTHER BALANCE SHEET DETAILS

Other long-term assets (in thousands):

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Accrued liabilities (in thousands):

     The following table summarizes the activity in the Company’s accrued warranty for the nine months ended July 31, 2003 and 2004 (in thousands):

Deferred revenue (in thousands):

(11) CONVERTIBLE NOTES PAYABLE

     On December 19, 2003, CIENA purchased the remaining $48.2 million of the outstanding of the ONI Systems Corp. convertible subordinated notes. The Company paid $49.2 million for notes with a cumulative accreted book value of $41.0 million, which resulted in a loss on early extinguishment of debt of $8.2 million.

(12) EARNINGS (LOSS) PER SHARE CALCULATION

     Basic EPS is computed using the weighted average number of common shares outstanding. Diluted EPS is computed using the weighted average number of common shares outstanding, stock options and warrants using the treasury stock method. Approximately 35.8 million and 57.5 million options and unvested restricted stock were outstanding during the third quarters of fiscal 2003 and 2004 respectively, but were not included in the computation of diluted EPS as the effect would be anti-dilutive.

     Approximately 37.0 million and 42.3 million options and unvested restricted stock were outstanding during the first nine months of fiscal 2003 and 2004 respectively, but were not included in the computation of diluted EPS as the effect would be anti-dilutive.

(13) COMPREHENSIVE LOSS

     The components of comprehensive loss are as follows (in thousands):

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(14) SEGMENT REPORTING

     Effective as of the second quarter of fiscal 2004, CIENA reorganized its operations into multiple operating segments for the purpose of making operating decisions and assessing performance. Those operating segments are the following: Core Networking Group (CNG); Metro and Enterprise Solutions Group (MESG); Data Networking Group (DNG); and the Services Group. Each operating group includes products for sale to external customers, the related research and development and product line management. CNG incorporates CIENA’s core transport product, core switching product and related LightWorks On-Center management software. MESG incorporates CIENA’s metropolitan transport, metropolitan switching, storage extension, and the related management software. DNG incorporates CIENA’s multiservice networking product lines, related management software and products manufactured by Laurel Networks, Inc., that are resold by CIENA.

     On May 3, 2004, CIENA completed the acquisitions of Catena Networks and Internet Photonics. Internet Photonics was incorporated into MESG, and Catena formed a new operating segment, the Broadband Access Group (BBG).

     CIENA’s geographic distribution of revenue for the quarter and nine months ended July 31, 2003 and 2004 are as follows (in thousands):

     CIENA’s revenue derived from products and services for the quarter and nine months ended July 31, 2003 and 2004 are as follows (in thousands):

     During the quarter and nine months ended July 31, 2003 and 2004, customers who each accounted for at least 10% of CIENA’s revenue during the respective periods are as follows (in thousands):

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     The table below (in thousands, except percentage data) sets forth the changes in our operating segment revenues for the third quarter of fiscal 2003 to the third quarter of fiscal 2004.

     The table below (in thousands, except percentage data) sets forth the changes in our operating segment revenues for the first nine months of fiscal 2003 to the first nine months of fiscal 2004.

     The table below (in thousands, except percentage data) sets forth the changes in our operating segment profit (loss) and the reconciliation to consolidated net loss for the third quarter of fiscal 2003 to the third quarter of fiscal 2004.