UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

(Mark one)

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

For the quarterly period ended July 31, 2005

OR

o		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: 0-21969

Ciena Corporation

(Exact name of registrant as specified in its charter)

Delaware State or other jurisdiction of incorporation or organization)		23-2725311 (I.R.S. Employer Identification No.)

1201 Winterson Road, Linthicum, MD (Address of Principal Executive Offices)		21090 (Zip Code)

(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 þ NO o

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). YES þ NO o

     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES o NO þ

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

Class		Outstanding at August 30, 2005
Common stock, $.01 par value		577,963,967

 

 

CIENA CORPORATION

INDEX

FORM 10-Q

PART I — FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Operations for the quarters and nine months ended July 31, 2004 and July 31, 2005			3
Consolidated Balance Sheets at October 31, 2004 and July 31, 2005			4
Consolidated Statements of Cash Flows for the nine months ended July 31, 2004 and July 31, 2005			5
Notes to Consolidated Financial Statements			6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			15
Item 3. Quantitative and Qualitative Disclosures About Market Risk			38
Item 4. Controls and Procedures			39
PART II — OTHER INFORMATION
Item 1. Legal Proceedings			39
Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities			40
Item 3. Defaults Upon Senior Securities			40
Item 4. Submission of Matters to a Vote of Security Holders			41
Item 5. Other Information			41
Item 6. Exhibits			41
Signatures			42

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

CIENA CORPORATION

CONSOLIDATED STATEMENT OF OPERATIONS
(in thousands, except per share data)
(unaudited)

		Quarter Ended July 31,								Nine Months Ended July 31,
		2004				2005				2004				2005
Revenues:
Products		$	64,340			$	97,448			$	181,436			$	271,366
Services			11,249				13,032				35,266				37,708
Total revenue			75,589				110,480				216,702				309,074
Costs:
Products			48,069				62,756				138,918				189,447
Services			8,723				10,095				30,212				30,601
Total cost of goods sold			56,792				72,851				169,130				220,048
Gross profit			18,797				37,629				47,572				89,026
Operating expenses:
Research and development			57,762				32,619				151,418				101,036
Selling and marketing			29,468				29,275				80,011				82,440
General and administrative			6,969				9,340				20,052				25,538
Stock compensation costs:
Research and development			1,860				2,195				5,473				4,048
Selling and marketing			1,214				934				2,147				4,257
General and administrative			879				153				1,079				505
Amortization of intangible assets			12,667				9,653				19,458				30,268
In-process research and development			30,200				—				30,200				—
Restructuring costs			13,547				4,355				22,125				15,245
Long-lived asset impairments			7,217				(25	)			7,217				134
Recovery of sale, export, use tax liabilities and payments			(3,457	)			—				(5,388	)			—
Provision for (recovery of) doubtful accounts, net			—				2,604				(2,794	)			2,604
Total operating expenses			158,326				91,103				330,998				266,075
Loss from operations			(139,529	)			(53,474	)			(283,426	)			(177,049	)
Interest and other income, net			4,936				6,765				18,228				19,787
Interest expense			(6,469	)			(6,406	)			(20,326	)			(19,348	)
Gain (loss) on equity investments, net			(200	)			(1,708	)			393				(8,986	)
Gain (loss) on extinguishment of debt			—				3,882				(8,216	)			3,882
Loss before income taxes			(141,262	)			(50,941	)			(293,347	)			(181,714	)
Provision for income taxes			205				86				1,044				1,115
Net loss		$	(141,467	)		$	(51,027	)		$	(294,391	)		$	(182,829	)
Basic and diluted loss per common share and dilutive potential common share		$	(0.25	)		$	(0.09	)		$	(0.58	)		$	(0.32	)
Weighted average basic common and dilutive potential common shares outstanding			566,234				576,331				504,812				573,939

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

CIENA CORPORATION

CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
(unaudited)

		October 31,				July 31,
		2004				2005
ASSETS
Current assets:
Cash and cash equivalents		$	202,623			$	313,569
Short-term investments			753,251				602,888
Accounts receivable, net			45,878				70,622
Inventories, net			47,614				51,447
Prepaid expenses and other			29,906				30,361
Total current assets			1,079,272				1,068,887
Long-term investments			329,704				200,188
Equipment, furniture and fixtures, net			51,252				32,984
Goodwill			408,615				408,615
Other intangible assets, net			208,015				174,845
Other long-term assets			60,196				37,955
Total assets		$	2,137,054			$	1,923,474
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	31,509			$	43,025
Accrued liabilities			76,045				72,541
Restructuring liabilities			16,203				15,201
Unfavorable lease commitments			9,902				8,908
Income taxes payable			3,354				4,093
Deferred revenue			21,566				31,298
Total current liabilities			158,579				175,066
Long-term deferred revenue			16,010				14,379
Long-term restructuring liabilities			65,180				56,722
Long-term unfavorable lease commitments			51,341				43,846
Other long-term obligations			1,522				1,216
Convertible notes payable			690,000				648,752
Total liabilities			982,632				939,981
Commitments and contingencies
Stockholders’ equity:
Preferred stock — par value $0.01; 20,000,000 shares authorized; zero shares issued and outstanding			—				—
Common stock — par value $0.01; 980,000,000 shares authorized; 571,656,659 and 576,908,483 shares issued and outstanding as of October 31, 2004 and July 31, 2005, respectively			5,717				5,769
Additional paid-in capital			5,482,175				5,485,595
Deferred stock compensation			(13,761	)			(2,925	)
Notes receivable from stockholders			(48	)			—
Changes in unrealized gains on investments, net			(2,488	)			(4,744	)
Translation adjustment			(277	)			(477	)
Accumulated deficit			(4,316,896	)			(4,499,725	)
Total stockholders’ equity			1,154,422				983,493
Total liabilities and stockholders’ equity		$	2,137,054			$	1,923,474

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

CIENA CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)

		Nine Months Ended July 31,
		2004				2005
Cash flows from operating activities:
Net loss		$	(294,391	)		$	(182,829	)
Adjustments to reconcile net loss to net cash used in operating activities:
Early extinguishment of debt			8,216				(3,882	)
Amortization of premium on marketable securities			21,893				12,344
Non-cash impairment of long-lived assets			7,217				134
Non-cash (gain) loss on equity investments			(393	)			8,986
Accretion of convertible notes payable			599				—
In-process research and development			30,200				—
Depreciation and amortization of leasehold improvements			52,325				26,803
Stock compensation			8,699				8,810
Amortization of intangibles			22,361				33,169
Provision of doubtful accounts			284				2,604
Provision for inventory excess and obsolescence			3,026				3,396
Provision for warranty and other contractual obligations			7,179				7,546
Other			2,270				2,072
Changes in assets and liabilities:
Accounts receivable			(6,505	)			(27,348	)
Inventories			(114	)			(7,229	)
Prepaid expenses and other			13,533				5,194
Accounts payable and accrued liabilities			(77,793	)			(17,789	)
Income taxes payable			969				739
Deferred revenue and other obligations			3,268				8,101
Net cash used in operating activities			(197,157	)			(119,179	)
Cash flows from investing activities:
Additions to equipment, furniture, fixtures and intellectual property			(18,828	)			(8,935	)
Proceeds from sale of equipment, furniture and fixtures			403				266
Purchases of available for sale securities			(488,832	)			(490,041	)
Maturities of available for sale securities			686,250				755,320
Acquisition of businesses, net of cash acquired			4,864				—
Minority equity investments, net			(5,500	)			4,882
Net cash provided by investing activities			178,357				261,492
Cash flows from financing activities:
Net proceeds from other obligations			72				—
Repayment of convertible notes payable			(49,243	)			(36,913	)
Proceeds from issuance of common stock			13,989				5,498
Repayment of notes receivable from stockholders			47				48
Net cash used in financing activities			(35,135	)			(31,367	)
Net (decrease) increase in cash and cash equivalents			(53,935	)			110,946
Cash and cash equivalents at beginning of period			309,665				202,623
Cash and cash equivalents at end of period		$	255,730			$	313,569

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

CIENA CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(1) INTERIM FINANCIAL STATEMENTS

     The interim financial statements included herein for Ciena Corporation (“Ciena”) have been prepared by Ciena, 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 that Ciena considers necessary for the fair presentation of the results of operations for the interim periods covered and of the financial position of Ciena 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, Ciena 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 Ciena’s audited consolidated financial statements and notes thereto included in Ciena’s annual report on Form 10-K for the fiscal year ended October 31, 2004.

(2) SIGNIFICANT ACCOUNTING POLICIES

Segment Reporting

     Ciena’s operations are organized into the following operating segments for the purpose of making operating decisions and assessing performance: Transport and Switching Group (TSG); Data Networking Group (DNG); Broadband Access Group (BBG); and the Global Network Services Group (GNS).

Goodwill

     As of July 31, 2005, Ciena’s assets included $408.6 million related to goodwill. Because our operations are organized into operating segments, SFAS 142 requires that we assign goodwill to Ciena’s reporting units. Ciena has determined its operating segments and reporting units are the same. In accordance with SFAS 142, Ciena tests each reporting unit’s goodwill for impairment on an annual basis. Ciena annually tests for impairment on the last business day of September each year, and between annual tests if events occur 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 Ciena’s goodwill to its reporting units as of July 31, 2005 (in thousands):

		TSG				DNG				BBG				Total
Balance as of October 31, 2004		$	147,000			$	85,015			$	176,600			$	408,615
Goodwill acquired			—				—				—				—
Purchase adjustments			—				—				—				—
Impairment losses			—				—				—				—
Balance as of July 31, 2005		$	147,000			$	85,015			$	176,600			$	408,615

Impairment or Disposal of Long-lived Assets

     Ciena 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 SFAS 144, “Accounting for the Impairment or Disposal of Long-lived Assets.” During the first nine months of fiscal 2005, Ciena recorded impairment losses of $0.1 million primarily related to excess research and development test equipment classified as held for sale.

Investments

     Ciena’s short-term and long-term investments are classified as available-for-sale and are reported at fair value, with unrealized gains and losses, net of tax, recorded in accumulated other comprehensive income. Realized gains or losses and declines in value determined to be other than temporary, if any, on available-for-sale securities, are reported in other income or expense as incurred.

     Ciena also has certain other minority equity investments in privately held technology companies. These investments are generally carried at cost because Ciena owns less than 20% of the voting equity and does not have the ability to exercise significant influence over any of these companies. These investments are inherently high risk as the market for technologies or products manufactured by these companies are usually early stage at the time of the investment by Ciena and such markets may never materialize or become significant. Ciena could lose its entire investment in some or all of these companies. Ciena monitors these investments for impairment and makes appropriate reductions in carrying values when necessary. During the nine months ended July 31, 2005, Ciena recorded a charge of $9.0 million from a decline in the fair value of certain equity investments that was determined to be other than temporary.

Pro Forma Stock-Based Compensation

     In December 2004, the FASB issued its final standard on accounting for share-based payments, SFAS 123R, “Share-Based Payment,” which addresses the accounting for share-based payment transactions in which an enterprise receives employee services in exchange for equity instruments of the enterprise or liabilities that are based on the fair value of the enterprise’s equity instruments or that may be settled by the issuance of such equity instruments. The statement eliminates the ability to account for share-based compensation transactions using Accounting Principles Board (“APB”) Opinion 25, “Accounting for Stock Issued to Employees,” and requires instead that such transactions be accounted for using a fair-value-based method. SFAS 123R becomes effective in the first quarter of fiscal 2006 for Ciena. SFAS 123R permits early adoption for interim or annual periods for which financial statements or interim reports have not been issued. We expect the adoption of SFAS 123R will have a material effect on our financial position and results of operations but will not affect our net cash flows.

     Ciena 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, “Accounting for Certain Transactions Involving Stock Compensation (an Interpretation of APB Opinion No. 25)” and will implement SFAS 123R beginning the first quarter of fiscal 2006.

     Had (i) compensation cost for Ciena’s stock option plans and employee stock purchase plan been determined based on the Black-Scholes valuation method; and (ii) the fair value at the grant date for awards in the second quarter and first six months of fiscal 2004 and 2005 been determined consistent with the provisions of SFAS 123, “Accounting for Stock Based Compensation” as amended by SFAS 148, “Accounting for Stock Based Compensation-Transition and Disclosure,” Ciena’s net loss and net loss per share for the third quarters and the nine months ended July 31, 2004 and 2005 would have changed by the pro forma amounts indicated below (in thousands, except per share data):

		Quarter Ended July 31,								Nine Months Ended July 31,
		2004				2005				2004				2005
Net loss — as reported		$	(141,467	)		$	(51,027	)		$	(294,391	)		$	(182,829	)
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects			7,220				7,616				29,006				31,648
Add: Stock-based employee compensation expense included in reported net income, net of related tax effects			3,953				3,282				8,699				8,810
Net loss — pro forma		$	(144,734	)		$	(55,361	)		$	(314,698	)		$	(205,667	)
Basic and diluted net loss per share — as reported		$	(0.25	)		$	(0.09	)		$	(0.58	)		$	(0.32	)
Basic and diluted net loss per share — pro forma		$	(0.26	)		$	(0.10	)		$	(0.62	)		$	(0.36	)

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

(3) RESTRUCTURING COSTS

     Ciena has previously taken actions to align its workforce, facilities and operating costs with business opportunities. Prior to the adoption of SFAS 146, “Accounting for Costs Associated with Exit or Disposal Activities,” applicable to 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. Ciena historically has committed to a restructuring plan and has incurred the associated liability concurrently in accordance with the provisions of SFAS 146. The following table displays the activity and balances of the restructuring reserve account for the first nine months of fiscal 2005 (in thousands):

		Workforce				Consolidation of
		reduction				excess facilities				Total
Balance at October 31, 2004		$	1,446			$	79,937			$	81,383
Additional reserve recorded			5,350	(a)			447	(b)			5,797
Adjustments to previous estimates			—				9,448	(c)			9,448
Cash payments			(6,451	)			(18,254	)			(24,705	)
Balance at July 31, 2005		$	345			$	71,578			$	71,923
Current restructuring liabilities		$	345			$	14,856			$	15,201
Non-current restructuring liabilities		$	—			$	56,722			$	56,722

(4) MARKETABLE DEBT AND EQUITY SECURITIES

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

		July 31, 2005
						Gross Unrealized				Gross Unrealized				Estimated Fair
		Amortized Cost				Gains				Losses				Value
Corporate bonds		$	320,379			$	—			$	1,737			$	318,642
Asset-backed obligations			206,215				—				698				205,517
U.S. government obligations			281,219				—				2,302				278,917
Money market funds			313,576				—				7				313,569
		$	1,121,389			$	—			$	4,744			$	1,116,645
Included in cash and cash equivalents			313,576				—				7				313,569
Included in short-term investments			606,241				—				3,353				602,888
Included in long-term investments			201,572				—				1,384				200,188
		$	1,121,389			$	—			$	4,744			$	1,116,645

		October 31, 2004
						Gross Unrealized				Gross Unrealized				Estimated Fair
		Amortized Cost				Gains				Losses				Value
Corporate bonds		$	403,178			$	—			$	1,059			$	402,119
Asset-backed obligations			215,811				—				165				215,646
Commercial paper			17,999				—				4				17,995
U.S. government obligations			448,455				—				1,260				447,195
Money market funds			202,623				—				—				202,623
		$	1,288,066			$	—			$	2,488			$	1,285,578
Included in cash and cash equivalents			202,623				—				—				202,623
Included in short-term investments			754,813				—				1,562				753,251
Included in long-term investments			330,630				—				926				329,704
		$	1,288,066			$	—			$	2,488			$	1,285,578

     The following table summarizes maturities of debt investments (including restricted investments) at July 31, 2005 (in thousands):

		Amortized Cost				Estimated Fair Value
Less than one year		$	606,241			$	602,888
Due in 1-2 years			201,572				200,188
Due in 2-5 years			—				—
		$	807,813			$	803,076

(5) ACCOUNTS RECEIVABLE

     As of July 31, 2005, trade accounts receivable, net of allowance for doubtful accounts, included four customers who accounted for 15.3%, 10.9%, 10.4%, and 10.4% of net trade accounts receivable, respectively. As of October 31, 2004, trade accounts receivable, net of allowance for doubtful accounts, included three customers who accounted for 24.0%, 12.3% and 11.2% of net trade accounts receivable, respectively.

     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 third quarter of fiscal 2005, Ciena recorded a provision for doubtful accounts of $2.6 million relating to one customer. Ciena’s allowance for doubtful accounts as of October 31, 2004 and July 31, 2005 was $1.0 and $3.3 million, respectively.

(6) INVENTORIES

     Inventories are comprised of the following (in thousands):

		October 31, 2004				July 31, 2005
Raw materials		$	19,591			$	21,542
Work-in-process			3,833				3,293
Finished goods			46,123				48,644
			69,547				73,479
Reserve for excess and obsolescence			(21,933	)			(22,032	)
		$	47,614			$	51,447

     Ciena writes down its inventory for estimated obsolescence or unmarketable inventory by 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, 2005, Ciena recorded a provision for excess inventory of $3.4 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, 2005 (in thousands):

		Inventory Reserve
Reserve balance as of October 31, 2004		$	21,933
Provision for excess inventory, net			3,396
Actual inventory scrapped			(3,297	)
Reserve balance as of July 31, 2005		$	22,032

     During the nine months ended July 31, 2004, Ciena recorded a provision for excess inventory 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 and obsolete inventory during the nine months ended July 31, 2004 (in thousands):

		Inventory Reserve
Reserve balance as of October 31, 2003		$	23,093
Provision for excess inventory, net			3,026
Actual inventory scrapped			(4,825	)
Reserve balance as of July 31, 2004		$	21,294

(7) EQUIPMENT, FURNITURE AND FIXTURES

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

		October 31,				July 31,
		2004				2005
Equipment, furniture and fixtures		$	259,809			$	178,008
Leasehold improvements			38,064				33,733
			297,873				211,741
Accumulated depreciation and amortization			(247,336	)			(179,259	)
Construction-in-progress			715				502
		$	51,252			$	32,984

     During fiscal 2005, Ciena abandoned or disposed of certain idle assets that it determined to have no future value. These assets had an aggregate original cost of $94.1 million and a carrying value of $3.8 million. These assets were abandoned before the end of their estimated useful life, and accordingly, Ciena recorded $3.8 million in accelerated depreciation expense during the third quarter of 2005.

     Ciena also recorded an impairment of $0.1 million, primarily related to research and development equipment classified as held for sale in the first nine months of fiscal 2005. The residual carrying value of these assets is insignificant.

(8) OTHER INTANGIBLE ASSETS

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

		October 31, 2004												July 31, 2005
		Gross				Accumulated				Net				Gross				Accumulated				Net
		Intangible				Amortization				Intangible				Intangible				Amortization				Intangible
Existing technology		$	177,704			$	(43,076	)		$	134,628			$	177,704			$	(64,389	)		$	113,315
Patents and licenses			46,670				(13,208	)			33,462				46,670				(17,716	)			28,954
Covenants not to compete, outstanding purchase orders and contracts			54,000				(14,075	)			39,925				54,000				(21,424	)			32,576
		$	278,374			$	(70,359	)		$	208,015			$	278,374			$	(103,529	)		$	174,845

     The aggregate amortization expense of other intangible assets was $22.4 million and $33.2 million for the nine months ended July 31, 2004 and 2005, respectively. The following table represents the expected future amortization of other intangible assets as follows (in thousands):

2005 (remaining three months)		$	10,621
2006			42,483
2007			42,483
2008			41,273
2009			21,054
Thereafter			16,931
		$	174,845

(9) OTHER BALANCE SHEET DETAILS

     Other long-term assets (in thousands):

		October 31,				July 31,
		2004				2005
Maintenance spares inventory, net		$	18,959			$	12,304
Deferred debt issuance costs			9,841				7,117
Investments in privately held companies			21,592				7,722
Other			9,804				10,812
		$	60,196			$	37,955

     Accrued liabilities (in thousands):

		October 31,				July 31,
		2004				2005
Warranty		$	30,189			$	27,215
Accrued compensation, payroll related tax and benefits			23,531				28,689
Accrued interest payable			6,469				—
Other			15,856				16,637
		$	76,045			$	72,541

     The following table summarizes the activity in Ciena’s accrued warranty for the nine months ended July 31, 2004 and 2005 (in thousands):

		Beginning																Balance at end
Nine Months Ended July 31,		Balance				Provisions				Acquisitions				Settlements				of period
2004		$	36,189				7,179				1,000				(12,212	)		$	32,156
2005		$	30,189				7,546				—				(10,520	)		$	27,215

Deferred revenue (in thousands):

		October 31,				July 31,
		2004				2005
Products		$	8,578			$	18,694
Services			28,998				26,983
Total deferred revenue			37,576				45,677
Less current portion			(21,566	)			(31,298	)
Long-term deferred revenue		$	16,010			$	14,379

(10) CONVERTIBLE NOTES PAYABLE

     On February 9, 2001, Ciena completed a public offering of 3.75% convertible notes, in an aggregate principal amount of $690 million, due February 1, 2008. Interest is payable on February 1^st and August 1^st of each year. The notes may be converted into shares of Ciena’s common stock at any time before their maturity or their prior redemption or repurchase by Ciena. The conversion rate is 9.5808 shares per each $1,000 principal amount of notes, subject to adjustment in certain circumstances.

     During the third quarter of fiscal 2005, Ciena purchased $41.2 million of the outstanding 3.75% convertible notes for $36.9 million in open market transactions. Ciena recorded a gain on the extinguishment of debt in the amount of $3.9 million, which consists of the $4.3 million gain from the repurchase of the notes less a write-off of $0.4 million of associated debt issuance costs. Ciena has the option to redeem all or a portion of the notes that have not been previously converted at the following redemption prices (expressed as percentage of principle amount):

		Redemption
Period		Price
Beginning on February 1, 2005 and ending on January 31, 2006			101.607	%
Beginning on February 1, 2006 and ending on January 31, 2007			101.071	%
Beginning on February 1, 2007 and ending on January 31, 2008			100.536	%

     On July 31, 2005, the fair market value of the remaining $648.8 million of 3.75% convertible notes was $578.2 million. The fair value is based on a quoted market price for the notes.

     On December 19, 2003, Ciena purchased the remaining $48.2 million of the outstanding ONI Systems Corp. 5.0% convertible subordinated notes. Ciena 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.

(11) LOSS PER SHARE CALCULATION

     Basic EPS is computed using the weighted average number of common shares outstanding (excluding restricted stock subject to repurchase). Diluted EPS is computed by combining shares outstanding for purposes of basic EPS with shares underlying stock options, warrants, restricted stock, restricted stock units and Ciena’s 3.75% convertible notes determined using the treasury stock method.

     Weighted average number of common shares underlying stock options, warrants, restricted stock, restricted stock units, and Ciena’s 3.75% convertible notes totaled (i) approximately 57.5 million and 63.6 million during the third quarter of fiscal 2004 and 2005, respectively, and (ii) approximately 42.3 million and 65.7 million during the first nine months of fiscal 2004 and 2005, respectively. These shares were not included in the computation of diluted EPS as the effect would be anti-dilutive.

(12) COMPREHENSIVE LOSS

     The components of comprehensive loss for the quarters and nine months ended July 31, 2004 and 2005 were as follows (in thousands):

		Quarter Ended July 31,								Nine Months Ended July 31,
		2004				2005				2004				2005
Net loss		$	(141,467	)		$	(51,027	)		$	(294,391	)		$	(182,829	)
Change in unrealized loss on available- for-sale securities, net of tax			(2,702	)			196				(5,906	)			(2,256	)
Change in accumulated translation adjustments			(26	)			(196	)			(102	)			(200	)
Total comprehensive loss		$	(144,195	)		$	(51,027	)		$	(300,399	)		$	(185,285	)

(13) SEGMENT REPORTING

     Ciena’s geographic distribution of revenue for the quarters and nine months ended July 31, 2004 and 2005 were as follows (in thousands, except percentage data):

		Quarter Ended July 31,																Nine Months Ended July 31,
		2004				%*				2005				%*				2004				%*				2005				%*
Domestic		$	61,231				81.0			$	89,357				80.9			$	156,547				72.2			$	248,216				80.3
International			14,358				19.0				21,123				19.1				60,155				27.8				60,858				19.7
Total		$	75,589				100.0			$	110,480				100.0			$	216,702				100.0			$	309,074				100.0

     During the quarters and nine months ended July 31, 2004 and 2005, customers who each accounted for at least 10% of Ciena’s revenue during the respective periods were as follows (in thousands, except percentage data):

		Quarter Ended July 31,																Nine Months Ended July 31,
		2004				%*				2005				%*				2004				%*				2005				%*
Customer A		$	12,458				16.5			$	13,780				12.5			$	40,284				18.6			$	37,882				12.3
Customer B			7,933				10.5				N/A				—				N/A				—				34,395				11.1
Customer C			N/A				—				14,802				13.4				N/A				—				34,739				11.2
Total		$	20,391				27.0			$	28,582				25.9			$	40,284				18.6			$	107,016				34.6

     The table below (in thousands, except percentage data) sets forth our operating segment revenues for the quarters and nine months ended July 31, 2004 and 2005.

		Quarter Ended July 31,																Nine Months Ended July 31,
		2004				%*				2005				%*				2004				%*				2005				%*
Revenues:
TSG		$	42,240				55.9			$	64,641				58.5			$	152,635				70.4			$	182,638				59.0
DNG			7,138				9.4				6,757				6.1				13,839				6.4				28,302				9.2
BBG			14,962				19.8				26,050				23.6				14,962				6.9				60,426				19.6
GNS			11,249				14.9				13,032				11.8				35,266				16.3				37,708				12.2
Consolidated revenue		$	75,589				100.0			$	110,480				100.0			$	216,702				100.0			$	309,074				100.0

     Segment profit (loss) is determined based on internal performance measures used by the Chief Executive Officer to assess the performance of each operating segment in a given period. In connection with that assessment, the Chief Executive Officer excludes the following other non-performance items: corporate selling and marketing; corporate general and administrative costs; stock compensation; amortization of intangibles; in-process research and development; restructuring costs; long-lived asset impairment; recovery of sale, export and use taxes; provisions or recovery of doubtful accounts; accelerated amortization of leaseholds; interest income, interest expense, equity investment gains or losses, gains or losses on extinguishment of debt, and provisions for income taxes.

     The table below (in thousands) sets forth our operating segment profit (loss) and the reconciliation to consolidated net loss for the quarters and nine months ended July 31, 2004 and 2005.

		Quarter Ended July 31,								Nine Months Ended July 31,
		2004				2005				2004				2005
Segment profit (loss):
TSG		$	(29,923	)		$	(2,050	)		$	(94,027	)		$	(28,343	)
DNG			(2,197	)			(2,103	)			(9,490	)			429
BBG			(141	)			3,221				(374	)			(820	)
GNS			1,709				2,264				3,589				5,179
Total segment profit (loss)		$	(30,552	)		$	1,332			$	(100,302	)		$	(23,555	)
Other non-performance items:
Corporate selling and marketing			(25,377	)			(25,597	)			(69,402	)			(70,895	)
Corporate general and administrative			(6,969	)			(9,340	)			(20,052	)			(25,538	)
Stock compensation costs:
Research and development			(1,860	)			(2,195	)			(5,473	)			(4,048	)
Selling and marketing			(1,214	)			(934	)			(2,147	)			(4,257	)
General and administrative			(879	)			(153	)			(1,079	)			(505	)
Amortization of intangible assets			(12,667	)			(9,653	)			(19,458	)			(30,268	)
In-process research and development			(30,200	)			—				(30,200	)			—
Restructuring costs			(13,547	)			(4,355	)			(22,125	)			(15,245	)
Long-lived asset impairments			(7,217	)			25				(7,217	)			(134	)
Recovery of sale, export, use tax liability and payments			3,457				—				5,388				—
(Provision) benefit for doubtful accounts, net			—				(2,604	)			2,794				(2,604	)
Accelerated amortization of leasehold			(12,504	)			—				(14,153	)			—
Interest and other financial charges, net			(1,733	)			2,533				(9,921	)			(4,665	)
Provision for income taxes			(205	)			(86	)			(1,044	)			(1,115	)
Consolidated net loss		$	(141,467	)		$	(51,027	)		$	(294,391	)		$	(182,829	)

(14) CONTINGENCIES

Litigation

     On October 3, 2000, Stanford University and Litton Systems filed a complaint in the United States District Court for the Central District of California alleging that optical fiber amplifiers incorporated into Ciena’s products infringe U.S. Patent No. 4,859,016 (the “‘016 Patent”). The complaint seeks injunctive relief, royalties and damages. On October 10, 2003, the court stayed the case pending final resolution of matters before the U.S. Patent and Trademark Office (the “PTO”), including a request for and disposition of a reexamination of the ‘016 Patent. On October 16, 2003 and November 2, 2004, the PTO granted reexaminations of the ‘016 Patent, resulting in a continuation of the stay of the case. Ciena believes that it has valid defenses to the lawsuit and intends to defend it vigorously in the event the stay of the case is lifted.

     As a result of our merger with ONI Systems Corp. in June 2002, we became a defendant in a securities class action lawsuit. Beginning in August 2001, a number of substantially identical class action complaints alleging violations of the federal securities laws were filed in the United States District Court for the Southern District of New York. These complaints name ONI, Hugh C. Martin, ONI’s former chairman, president and chief executive officer; Chris A. Davis, ONI’s former executive vice president, chief financial officer and administrative officer; and certain underwriters of ONI’s initial public offering as defendants. The complaints were consolidated into a single action, and a consolidated amended complaint was filed on April 24, 2002. The amended complaint alleges, among other things, that the underwriter defendants violated the securities laws by failing to disclose alleged compensation arrangements (such as undisclosed commissions or stock stabilization practices) in the initial public offering’s registration statement and by engaging in manipulative practices to artificially inflate the price of ONI’s common stock after the initial public offering. The amended complaint also alleges that ONI and the named former officers violated the securities laws on the basis of an alleged failure to disclose the underwriters’ alleged compensation arrangements and manipulative practices. No specific amount of damages has been claimed. Similar complaints have been filed against more than 300 other issuers that have had initial public offerings since 1998, and all of these

actions have been included in a single coordinated proceeding. Mr. Martin and Ms. Davis have been dismissed from the action without prejudice pursuant to a tolling agreement. In July 2004, following mediated settlement negotiations, the plaintiffs, the issuer defendants (including Ciena), and their insurers entered into a settlement agreement, whereby the plaintiffs’ cases against the issuers are to be dismissed. The plaintiffs and issuer defendants subsequently moved the court for preliminary approval of the settlement agreement, which motion was opposed by the underwriter defendants. On February 15, 2005, the district court granted the motion for preliminary approval of the settlement agreement, subject to certain modifications to the proposed bar order, and directed the parties to submit a revised settlement agreement reflecting its opinion. If the parties are able to agree upon the required modifications, and such modifications are acceptable to the court, notice will be given to all class members of the settlement, a “fairness” hearing will be held and, if the court determines that the settlement is fair to the class members, the settlement will be approved.

     On January 18, 2005, Ciena filed a complaint in the United States District Court, Eastern District of Texas, Marshall Division against Nortel Networks, Inc., Nortel Networks Corporation and Nortel Networks Limited (collectively, “Nortel”), which complaint was subsequently amended. Ciena’s amended complaint charges Nortel with infringement of nine patents related to Ciena’s communications networking systems and technology. Ciena seeks to enjoin Nortel’s infringing activities and recover damages caused by such infringement. On March 14, 2005, Nortel filed an answer to Ciena’s complaint and a counterclaim against Ciena, each of which have subsequently been amended. Nortel’s amended counterclaim charges Ciena with infringement of 13 patents related to Nortel’s communications networking systems and technology, including certain of Nortel’s SONET, ATM and VLAN systems and technology. Nortel’s counterclaim seeks injunctive relief and damages. This matter is currently scheduled for trial in June 2006.

     In addition to the matters described above, we are subject to various legal proceedings, claims and litigation arising in the ordinary course of business. While the outcome of these matters is currently not determinable, we do not expect that the ultimate costs to resolve these matters will have a material effect on our results of operations, financial position or cash flows.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

     Some of the statements contained, or incorporated by reference, in this quarterly report discuss future events or expectations, contain projections of results of operations or financial condition or state other “forward-looking” information. These statements are subject to known and unknown risks, uncertainties and other factors that could cause the actual results to differ materially from those contemplated by the statements. Ciena’s “forward-looking” information is based on various factors and was derived using numerous assumptions. In some cases, you can identify these “forward-looking statements” by words like “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of those words and other comparable words. You should be aware that these statements only reflect our current predictions and beliefs. Actual events or results may differ materially. Important factors that could cause our actual results to be materially different from the forward-looking statements are disclosed throughout this report, particularly under the heading “Risk Factors” below. Investors should review these risk factors and the rest of this quarterly report in combination with the more detailed description of our business in our annual report on Form 10-K, which we filed with the Securities and Exchange Commission on December 9, 2004, for a more complete understanding of the risks associated with an investment in Ciena’s common stock. Ciena undertakes no obligation to revise or update any forward-looking statements.

Overview

     Ciena Corporation supplies application-focused communications networking equipment, software and services to communications service providers, cable operators, governments and enterprises. Ciena is a network specialist, focused on optimizing access and edge networks for broadband communication, enhancing enterprise data services and evolving network infrastructure to support new services through automation and convergence. Ciena leverages its core competencies in optical networking, data networking and broadband access to develop and deliver solutions that address its customers’ most important networking problems. Our solutions enable customers to gain a competitive advantage by increasing the functionality of their networks and reducing their costs of transporting data, voice and video.

     In response to dramatic changes in the market for communications networking equipment over the last several years, we have sought to expand our addressable market, diversify our customer base and broaden our networking solutions portfolio. Our strategy has been to build upon our historical expertise in core networking and position

Ciena to take advantage of new market opportunities arising as communications service providers, cable operators, governments and enterprises invest in next-generation equipment. We have sought to achieve these goals through a combination of internal development and acquisitions, and by creating new strategic relationships and distribution arrangements to reach enterprise and government customers. Simultaneous with these efforts, we have sought to align our workforce, facilities and operating expenses with the market opportunities available to us, balancing our research and development investment with cost controls and prudent cash management.

     Our financial results, product development announcements and cost reduction activities during the third quarter of fiscal 2005 reflect the effects of this strategy. Revenue increased to $110.5 million, representing a 6.4% increase from the second quarter of fiscal 2005 and a 46.2% increase from the third quarter of fiscal 2004. Third quarter sequential revenue growth was driven primarily by increased sales of our broadband access products and metro transport and switching products. Third quarter broadband access product revenue primarily consisted of sales of our CNX-5™ Broadband DSL System, which offers communications service providers a simple line card replacement to deploy DSL services from their existing legacy network infrastructure without reducing plain old telephone service (POTS) port density. Our CNX-5 sales are significantly dependent upon the level of customer demand for DSL service offerings from regional bell operating companies (RBOCs) in North America and are affected by changes in DSL promotion and pricing. The mix of products that have driven our revenue growth for the past several quarters has varied and we expect this mix of products to continue to fluctuate on a quarterly basis.

     Our third quarter financial results also reflect our second consecutive quarter of progress in the area of gross margin. Our product gross margin increased sequentially to 35.6% from 28.1% in the second quarter of fiscal 2005. The increase was primarily due to favorable product mix during the quarter, but margins also benefited from product-related cost reductions. We continue to focus on aggressive cost reductions across all product lines.

     During the third quarter, we continued to take steps to reduce our ongoing operating expense. In May, we effected a headcount reduction of 96 employees, most employed in our Kanata, Ontario facility. We also made progress toward establishing a development operation in India, through which we intend to further reduce operating costs and leverage offshore resources. We intend to continue to pursue alternatives to reduce our general and administrative, sales and marketing and research and development costs.

     During the third quarter, we repurchased approximately $41.2 million in principal amount of our outstanding 3.75% convertible notes, due February 1, 2008, in open market transactions. At July 31, 2005, an aggregate principal amount of approximately $648.8 million remained outstanding. We used $36.9 million of our cash to effect these repurchases during the quarter, which resulted in a savings of approximately $4.3 million in outstanding principal on the notes. We intend to continue to evaluate and pursue alternatives that enable us to exercise prudent cash management and achieve cost savings relating to the repayment of our outstanding convertible notes.

     Ciena believes network adaptability is emerging as a key concern for enterprises, and as a competitive differentiator for service providers, as both look to evolve their networks to support and deliver new service offerings. During the third quarter, we announced our FlexSelect™ Architecture, a standards-based, service oriented network architecture that facilitates flexible and adaptable management of network services. We also introduced two new products based on this network vision: the CN 4200™ Advanced Services Platform and CoreStream^® Regional. The CN 4200 is a multi-service transport and aggregation platform that provides “any service on any port at any time” via software programmable hardware that operates down to the port level. It enables cost-effective transition from time division multiplexing (TDM) to service-selectable packet networks. CoreStream Regional is an extension of our CoreStream Agility Optical Transmission System and provides customers with a cost-effective option to provide wavelength division multiplexing (DWDM) to metro and regional core networks with moderate capacity and distance requirements. Both products illustrate our flexible, adaptable, service oriented approach to the development of next generation products as well as our commitment to prudent development efforts that enable us to achieve gross margin improvement and compete more effectively in the global marketplace.

     Fiscal 2005 has witnessed a considerable increase in consolidation activity among U.S. communications service providers. This activity includes proposed mergers between Verizon and MCI, and between SBC and AT&T, all of which have been significant customers during prior periods. Mergers of large carriers will have a major impact in shaping the future of the telecommunications industry, our historical customer base for our products. These mergers also have the effect of further reducing the number of potential communications service provider customers seeking to purchase networking equipment from vendors and continuing to concentrate customer purchasing power. It is too soon to determine the near-term and long-term effects, if any, that these proposed consolidations will have on our business.

     As of July 31, 2005, Ciena had 1,497 employees, a net reduction of 154 employees from the 1,651 employees on October 31, 2004 and a net reduction of 246 employees from the 1,743 employees on July 31, 2004.

Results of Operations

Three months ended July 31, 2004 compared to three months ended July 31, 2005

Revenue, cost of goods sold and gross profit

     Cost of goods sold consists of component costs, direct compensation costs, warranty and other contractual obligations, royalties, license fees, direct technical support costs, cost of excess and obsolete inventory and overhead related to manufacturing, technical support and engineering, furnishing and installation (“EF&I”) operations.

     The table below (in thousands, except percentage data) sets forth the changes in revenue, cost of goods sold and gross profit from the third quarter of fiscal 2004 to the third quarter of fiscal 2005.

		Quarter Ended July 31,
																		Increase
		2004				%*				2005				%*				(decrease)				%**
Revenue:
Products		$	64,340				85.1			$	97,448				88.2			$	33,108				51.5
Services			11,249				14.9				13,032				11.8				1,783				15.9
Total revenue		$	75,589				100.0			$	110,480				100.0			$	34,891				46.2
Costs:
Products			48,069				63.6				62,756				56.8				14,687				30.6
Services			8,723				11.5				10,095				9.1				1,372				15.7
Total cost of goods sold			56,792				75.1				72,851				65.9				16,059				28.3
Gross profit		$	18,797				24.9			$	37,629				34.1			$	18,832				100.2

     The table below (in thousands, except percentage data) sets forth the changes in product revenue, product cost of goods sold and product gross profit from the third quarter of fiscal 2004 to the third quarter of fiscal 2005.

		Quarter Ended July 31,
																		Increase
		2004				%*				2005				%*				(decrease)				%**
Product revenue		$	64,340				100.0			$	97,488				100.0			$	33,148				51.5
Product cost of goods sold			48,069				74.7				62,756				64.4				14,687				30.6
Product gross profit		$	16,271				25.3			$	34,732				35.6			$	18,461				113.5

     The table below (in thousands, except percentage data) sets forth the changes in service revenue, service cost of goods sold and service gross profit (loss) from the third quarter of fiscal 2004 to the third quarter of fiscal 2005.

		Quarter Ended July 31,
																		Increase
		2004				%*				2005				%*				(decrease)				%**
Service revenue		$	11,249				100.0			$	13,032				100.0			$	1,783				15.9
Service cost of goods sold			8,723				77.5				10,095				77.5				1,372				15.7
Service gross profit		$	2,526				22.5			$	2,937				22.5			$	411				16.3

     The table below (in thousands, except percentage data) sets forth the changes in geographic distribution of revenues from the third quarter of fiscal 2004 to the third quarter of fiscal 2005.

		Quarter Ended July 31,
																		Increase
		2004				%*				2005				%*				(decrease)				%**
Domestic		$	61,231				81.0			$	89,357				80.9			$	28,126				45.9
International			14,358				19.0				21,123				19.1				6,765				47.1
Total		$	75,589				100.0			$	110,480				100.0			$	34,891				46.2

     During the third quarter of fiscal 2004 and third quarter of fiscal 2005, certain customers each accounted for at least 10% of our revenues during the respective periods as follows (in thousands, except percentage data):

		Quarter Ended July 31,
		2004				%*				2005				%*
Customer A		$	12,458				16.5			$	13,780				12.5
Customer B			7,933				10.5				N/A				—
Customer C			N/A				—				14,802				13.4
Total		$	20,391				27.0			$	28,582				25.9

Revenue

	•		Product revenue increased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 due to increased sales of our transport and switching products and broadband access systems.
	•		Domestic revenue increased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily due to increased domestic sales of our transport and switching products and broadband access systems.
	•		International revenue decreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily due to decreased international sales of our transport and switching products.

Gross profit

•

Gross profit as a percentage of total revenue and gross profit on products as a percentage of product revenue both increased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 largely due to favorable product mix during the quarter and cost reductions across multiple product lines.

Operating expenses

     The table below (in thousands, except percentage data) sets forth the changes in operating expenses from the third quarter of fiscal 2004 to the third quarter of fiscal 2005.