Computer Network Technology 10Q 2002 Q3 Quarterly report

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)


[X]		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED
		October 31, 2001 OR
[ ]		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: 0-13994

COMPUTER NETWORK TECHNOLOGY CORPORATION

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)


Minnesota		41-1356476

(State of Incorporation)		(I.R.S. Employer Identification No.)

6000 Nathan Lane North, Minneapolis, Minnesota 55442

(Address of principal executive offices) (Zip Code)

Telephone Number: (763) 268-6000

(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 the filing requirements for at least the past 90 days. Yes [X] No [ ]

As of December 1, 2001, the registrant had 30,011,183 shares of $.01 par value common stock issued and outstanding.

TABLE OF CONTENTS


		CONSOLIDATED STATEMENTS OF OPERATIONS
		CONSOLIDATED BALANCE SHEETS
		CONSOLIDATED STATEMENTS OF CASH FLOWS
		NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
	ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
PART II. OTHER INFORMATION
	Item 1-5. None
	Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
Statement Re: Computation of Net Income

COMPUTER NETWORK TECHNOLOGY CORPORATION

INDEX


		Page

PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements (unaudited)
	Consolidated Statements of Operations for the three and nine months ended October 31, 2001 and 2000.	3
	Consolidated Balance Sheets as of October 31, 2001 and January 31, 2001.	4
	Consolidated Statements of Cash Flows for the nine months ended October 31, 2001 and 2000.	5
	Notes to Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	10
PART II.	OTHER INFORMATION	18
Item 1-5.	None
Item 6.	Exhibits and Reports on Form 8-K	18
SIGNATURES		19

COMPUTER NETWORK TECHNOLOGY CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)


				Three months ended October 31,						Nine months ended October 31,

				2001			2000			2001			2000

Revenue:
		Product sales		$	40,392		$	33,239		$	84,111		$	92,279
		Service fees			14,970			12,959			42,247			36,867

			Total revenue		55,362			46,198			126,358			129,146

Cost of revenue:
		Cost of product sales			23,471			14,190			48,488			38,597
		Cost of service fees			9,864			7,802			28,818			21,920

��			Total cost of revenue		33,335			21,992			77,306			60,517

Gross profit					22,027			24,206			49,052			68,629

Operating expenses:
		Sales and marketing			14,040			10,690			36,789			30,741
		Engineering and development			6,023			5,267			17,441			16,742
		General and administrative			2,290			2,020			7,227			6,329
		Abandoned facility			—			(287	)		—			(287	)
		Restructuring charge			—			—			996			—

			Total operating expenses		22,353			17,690			62,453			53,525

Income (loss) from operations					(326	)		6,516			(13,401	)		15,104

Other income (expense):
		Interest income			1,501			859			4,966			1,526
		Interest expense			(86	)		(71	)		(214	)		(246	)
		Loss on sale and write-down of webMethods stock			—			—			(10,283	)		—
		Other			(195	)		(57	)		(309	)		(328	)

			Other income (expense)		1,220			731			(5,840	)		952

Income (loss) from continuing operations before income taxes					894			7,247			(19,241	)		16,056

Provision (benefit) for income taxes					295			2,392			(6,041	)		5,299

Income (loss) from continuing operations					599			4,855			(13,200	)		10,757

Discontinued operations:
		Loss from discontinued operations, net of tax			—			(1,150	)		—			(3,169	)
		Gain on sale of IntelliFrame, net of tax			—			—			12,620			—
		Gain (loss) on sale of Propelis Software, net of tax			1,799			—			(4,398	)		—

					1,799			(1,150	)		8,222			(3,169	)

	Net income (loss)			$	2,398		$	3,705		$	(4,978	)	$	7,588

Basic income (loss) per share:
	Continuing operations			$	.02		$	.19		$	(.44	)	$	.44

	Discontinued operations			$	.06		$	(.05	)	$	.28		$	(.13	)

	Net income (loss)			$	.08		$	.15		$	(.17	)	$	.31

	Shares				29,923			25,248			29,806			24,432

Diluted income (loss) per share:
	Continuing operations			$	.02		$	.17		$	(.44	)	$	.40

	Discontinued operations			$	.06		$	(.04	)	$	.28		$	(.12	)

	Net income (loss)			$	.08		$	.13		$	(.17	)	$	.28

	Shares				31,195			27,858			29,806			26,735

See accompanying Notes to Consolidated Financial Statements.3

COMPUTER NETWORK TECHNOLOGY CORPORATION
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)


			October 31,			January 31,
			2001			2001

ASSETS
Current assets:
	Cash and cash equivalents		$	33,923		$	39,444
	Marketable securities			83,225			111,033
	Receivables, net			45,507			43,613
	Inventories			38,588			22,447
	Net current assets of discontinued operations			—			5,430
	Deferred tax asset			11,845			11,415
	Other current assets			1,901			2,226

		Total current assets		214,989			235,608

Property and equipment, net				23,296			25,215
Field support spares, net				4,608			4,446
Deferred tax asset				14,159			—
Goodwill and other intangibles, net				3,794			1,200
Other assets				1,430			2,154

			$	262,276		$	268,623

LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
	Accounts payable		$	16,981		$	20,293
	Accrued liabilities			20,764			15,780
	Deferred revenue			12,132			15,489
	Current installments of obligations under capital lease			1,405			1,421

		Total current liabilities		51,282			52,983

Deferred tax liability				586			586
Obligations under capital lease, less current installments				800			1,952

		Total liabilities		52,668			55,521

Shareholders’ equity:
	Undesignated preferred stock, authorized 965 shares; none issued and outstanding			—			—
	Series A Junior participating preferred stock, authorized 40 shares; none issued & outstanding			—			—
	Common stock, $.01 par value; authorized 100,000 shares, issued and outstanding 29,922 at October 31, 2001 and 29,656 at January 31, 2001			299			297
	Additional paid-in capital			197,614			195,910
	Unearned compensation			(1,369	)		(1,304	)
	Retained earnings			14,187			19,165
	Accumulated other comprehensive income-
		Foreign currency translation		(1,123	)		(966	)

		Total shareholders’ equity		209,608			213,102

			$	262,276		$	268,623

See accompanying Notes to Consolidated Financial Statements.

COMPUTER NETWORK TECHNOLOGY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)


				Nine months ended
				October 31

				2001			2000

Operating Activities:
	Net income (loss)			$	(4,978	)	$	7,588
	Discontinued operations				(8,222	)		3,169
	Depreciation and amortization				11,636			8,222
	Compensation expense				436			242
	Loss on sale and write-down of webMethods stock				10,283			—
	Changes in operating assets and liabilities:
		Receivables			8,368			(7,353	)
		Inventories			(11,695	)		207
		Other current assets			662			(95	)
		Accounts payable			(22,139	)		6,028
		Accrued liabilities			(6,814	)		11,269
		Deferred revenue			(3,424	)		2,516

		Net cash provided by (used in) continuing operations			(25,887	)		31,793
		Net cash used in discontinued operations			(8,830	)		(2,611	)

			Cash provided by (used in) operating activities		(34,717	)		29,182

Investing Activities:
	Additions to property and equipment				(4,176	)		(10,108	)
	Additions to field support spares				(2,284	)		(1,390	)
	Acquisition of Articulent, net of cash acquired				(10,891	)		—
	Net proceeds from the sale of IntelliFrame				5,800			—
	Proceeds from the sale of Propelis Software, Inc.				6,000			—
	Proceeds from the sale of webMethods stock				6,281			—
	Net purchase and redemption of marketable securities				27,808			(69,891	)
	Other assets				779			(1,126	)
	Discontinued operations — additions to long-term assets				—			(158	)

			Cash provided by (used in) investing activities		29,317			(82,673	)

Financing Activities:
	Proceeds from issuance of common stock				1,782			—
	Repayments of obligations under capital leases				(1,168	)		(858	)
	Proceeds from issuance of common stock				—			114,119
	Repurchase of common stock				(687	)		—

			Cash provided by (used in) financing activities		(73	)		113,261

Effects of exchange rate changes					(48	)		(426	)

Net increase (decrease) in cash and cash equivalents					(5,521	)		59,344
Cash and cash equivalents — beginning of period					39,444			7,974

Cash and cash equivalents — end of period				$	33,923		$	67,318

See accompanying Notes to Consolidated Financial Statements.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS)

(1) BASIS OF PRESENTATION

The accompanying consolidated financial statements have been prepared in accordance with instructions to Form 10-Q and do not include all of the information and notes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. These consolidated financial statements should be read in conjunction with the consolidated financial statements and accompanying notes included in the Company’s Annual Report on Form 10-K for the fiscal year ended January 31, 2001 as filed with the Securities and Exchange Commission.

(2) DISCONTINUED OPERATIONS

Propelis Software, Inc., formerly known as the Enterprise Integration Solutions Division developed and sold EAI software that automates the integration of computer software applications, and business workflow processes. The Company previously determined to divest Propelis Software Inc. and focus on its core storage networking and storage solutions businesses. Accordingly, Propelis Software, Inc. has been accounted for as discontinued operations in the accompanying financial statements.

During the first quarter of 2001, the Company completed the sale of IntelliFrame, which was affiliated with Propelis Software, Inc, including the technology underlying the Propelis BPm^TM product, to webMethods for $8.8 million in cash and 273,542 shares of webMethods stock. The sale resulted in an after tax gain of $12.6 million in the first quarter of 2001.

In the first quarter of 2001, the Company accrued $9.3 million for the estimated future operating losses of Propelis Software, Inc. through the potential date of divestiture, resulting in an after tax loss of $6.2 million.

On August 23, 2001 the Company sold substantially all of the remaining assets and liabilities of Propelis Software, Inc. to Jacada LTD. for $6.0 million in cash, plus a warrant to purchase 350,000 ordinary shares of Jacada LTD. stock at a price of $3.26 per share. The final sales price is subject to adjustment based on the closing balance sheet of Propelis. The transaction resulted in an after tax gain of $1.8 million in the third quarter of 2001.

(3) MARKETABLE SECURITIES

During the first quarter of 2001, the Company sold 232,511 shares of webMethods stock received from the sale of IntelliFrame for approximately $6.3 million, resulting in a pre-tax loss of approximately $8.7 million. The Company also wrote-down the carrying value of the remaining 41,031 shares of webMethods stock that it still owns, resulting in a pre-tax loss of approximately $1.5 million.

The Company’s remaining investments in marketable securities primarily consist of bank certificates of deposit, U.S. government and agency securities and commercial paper. Excluding the sale of webMethods stock noted above, the Company did not realize any gains or losses from the sale of marketable securities during the nine months ended October 31, 2001.

(4) INVENTORIES

Inventories, stated at the lower of cost (first-in, first-out method) or market, consist of:


	October 31,		January 31,
	2001		2001

Components and subassemblies	$	26,623	$	15,218
Work in process		3,907		2,813
Finished goods		8,058		4,416

	$	38,588	$	22,447

(5) COMPREHENSIVE INCOME (LOSS)

Comprehensive income (loss) consists of the following:


	Nine months ended October 31,

	2001			2000

Net income (loss)	$	(4,978	)	$	7,588
Foreign currency translation adjustment, net of tax effect of $0		(157	)		(825	)

Total comprehensive income (loss)	$	(5,135	)	$	6,763

(6) SEGMENT INCOME

The Company has two reportable segments consisting of its Networking Solutions business unit and Storage Solutions business unit. The Networking Solutions business unit consists of our storage and channel networking products and related services. The Storage Solutions business consists of our SAN services and the storage management business we acquired from Articulent in April of 2001. The Company’s two reportable segments are strategic business units that offer different products and services. They are managed separately because each business requires different market strategies. The Company evaluates performance based on operating profit or loss before special charges and income taxes.


		Three months ended October 31,					Nine months ended October 31,

		2001			2000		2001			2000

Revenue:
	Networking Solutions	$	38,884		$	42,188	$	94,064		$	119,697
	Storage Solutions		16,478			4,010		32,294			9,449

		$	55,362		$	46,198	$	126,358		$	129,146

Operating Profit (Loss):
	Networking Solutions	$	1,009		$	5,912	$	(4,159	)	$	14,687
	Storage Solutions		(1,335	)		317		(5,921	)		130
	Special charges		—			287		(3,321	)		287

		$	(326	)	$	6,516	$	(13,401	)	$	15,104

(7) ACQUISITION OF ARTICULENT

On April 3, 2001 the Company acquired all of the outstanding stock of Articulent Inc., a privately held, leading provider of storage solutions and services for $12.4 million in cash, plus the assumption of approximately $24 million of liabilities and the acquisition of approximately $19.3 million of tangible assets. The agreement includes a potential $10 million incentive payout based upon meeting certain revenue and earnings milestones over the twelve months following the acquisition. The acquisition was accounted for as a purchase and the consolidated financial statements of the Company include the results of Articulent since April 3, 2001. The purchase price was allocated to the fair value of the assets and liabilities acquired as follows:


Purchase Price:
	Cash paid	$	12,360

Fair Values of Assets Acquired and Liabilities Assumed:
	Cash	$	624
	Accounts receivable		10,287
	Inventory		4,446
	Fixed assets		3,393
	Goodwill		14,314
	Deferred taxes		3,107
	Other assets		583
	Accounts payable		(18,302	)
	Accrued expenses		(2,324	)
	Note payable		(3,768	)

	Total Purchase Consideration	$	12,360

The following table presents the consolidated results of operations of the Company for the nine months ended October 31, 2001 on an unaudited pro forma basis as if the acquisition of Articulent took place as the beginning of the year:


Total revenue	$	134,075
Net loss	$	(7,044	)
Net loss per share	$	(.24	)

The unaudited pro-forma results are for comparative purposes only and do not necessarily reflect the results that would have been recorded had the acquisition occurred at the beginning of the period presented or the results which might occur in the future.

(8) NEW ACCOUNTING PRONOUNCEMENT

In July 2001, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141 “Business Combinations,” and SFAS No. 142 “Goodwill and Other Intangibles Assets,” which change the accounting for business combinations and goodwill. SFAS No. 141 requires that the purchase method of accounting be used for business combinations initiated after June 30, 2001. Use of the pooling-of-interests methods is prohibited. SFAS No. 142 changes the accounting of goodwill from an amortization method to an impairment-only approach. Amortization for goodwill, including goodwill recorded in past business combinations, will therefore cease upon adoption of SFAS No. 142.

The Company will adopt SFAS No. 142 on February 1, 2002. The Company is in the process of evaluating whether it will have any transitional impairment losses which would be required to be recognized as a cumulative effect of change in accounting principle. For the nine months ended October 31, 2001, the Company had goodwill amortization of $423,000, which under SFAS No. 141 it would not have after February 1, 2002.

In August 2001, the Financial Accounting Standards Board approved SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 144 addresses the financial accounting and reporting for the impairment or disposal of long-lived assets and supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of.” However, this statement retains the fundamental provisions of SFAS No. 121 for (a) recognition and measurement of the impairment of long-lived assets to be held and used and (b) measurement of long-lived assets to be disposed of by sale.

SFAS No. 144 also supersedes the accounting and reporting provisions of APB Opinion No. 30, “Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions” for the disposal of a segment of a business. However, this Statement retains the requirement of APB No. 30 to report discontinued operations separately from continuing operations and extends that reporting to a component of an entity that either has been disposed of or is classified as held for sale. This statement also amends ARB No. 51, “Consolidated Financial Statements” to eliminate the exception to consolidation for a temporarily controlled subsidiary. The Company is required and plans to adopt the provisions of SFAS No. 144 in the first quarter of fiscal 2002.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS

Overview

We are a leading provider of hardware and software products and related services in the rapidly growing storage networking and solutions market. We focus primarily on helping our clients design, develop, deploy and manage storage networks and solutions.

The current global economic slowdown makes it difficult to predict the demand for our products as we cannot forecast the length, duration and impact of the slowdown. Slower growth throughout the economy has caused our customers to reevaluate their capital spending plans, and to defer previously planned projects for information technology infrastructure. However, we believe the need for storage networking solutions is significant and will continue to increase. The effects of the September 11, 2001 terrorist attacks in the United States have not had a material impact to date on our operating results or financial position.

Due to the slowdown in customer spending for information technology infrastructure, we took cost reduction actions that reduced our quarterly expense run rate at the end of April 2001, including:

	•		a 10 percent workforce reduction

	•		a wage freeze for all employees

	•		a 10 percent pay cut for executive management

	•		a 5 percent pay cut for other employees; and

	•		significant reductions in discretionary spending.

The reduction in demand for our products and services also resulted in the following charges in the first quarter of 2001:

	•		$2.0 million to write-down slow moving inventory

	•		$325,000 for the write-off of our Filespeed product; and

	•		$996,000 for restructuring, principally severance.

Sale and Write-down of webMethods Stock

During the first quarter of 2001, the Company sold 232,511 shares of webMethods stock received from the sale of Intelliframe for approximately $6.3 million, resulting in a pre-tax loss of approximately $8.7 million. The Company also wrote-down the carrying value of the remaining 41,031 shares of webMethods stock that it still owns, resulting in a pre-tax loss of approximately $1.5 million.

Acquisition of Articulent

On April 3, 2001 we acquired all of the outstanding stock of Articulent Inc., a privately held, leading provider of storage solutions and services for $12.4 million in cash, plus the assumption of approximately $24 million of liabilities and the acquisition of approximately $19.3 million of tangible assets. The agreement includes a potential $10 million incentive payout based upon meeting certain revenue and earnings milestones over the twelve months following the acquisition. The acquisition further strengthens our storage services organization, which provides companies with the expertise to manage information enterprise-wide.

Discontinued Operations — Divestiture of Propelis Software, Inc.

During the first quarter of 2001, we completed the sale of IntelliFrame, which was affiliated with Propelis Software, Inc, including the technology underlying the Propelis BPm^TM product, to webMethods for $8.8 million in cash and 273,542 shares of webMethods stock. The sale resulted in an after tax gain of $12.6 million in the first quarter of 2001.

In the first quarter of 2001, we accrued $9.3 million for the estimated future operating losses of Propelis Software, Inc. through the potential date of divestiture, resulting in an after tax loss of $6.2 million.

For additional information regarding Propelis Software, Inc., see note 2, “Discontinued Operations” to the consolidated financial statements included in this Form 10-Q. Certain general and administrative, facility and information technology infrastructure costs that had previously been allocated to and reported in the operating results of Propelis Software, Inc. have been reallocated and reported in the results for continuing operations.

Results of Continuing Operations

The following table sets forth financial data for our continuing operations for the periods indicated as a percentage of total revenue except for gross profit, which is expressed as a percentage of the related revenue.

The segment operating information for the three and nine months ended October 31, 2001 and 2000 is for illustrative purposes only and has been adjusted to eliminate the effects of special items and other charges recognized during the first quarter of 2001, including a $2.0 million write-down of inventory, a $325,000 write-off of our Filespeed product and a $1.0 million restructuring charge. It also eliminates the effects of a $287,000 accrual reversal for an abandoned facility in the third quarter of 2000.


Networking										Storage Solutions

Three months ended					Nine months ended					Three months ended				Nine months ended
October 31,					October 31,					October 31,				October 31,

2001			2000		2001		2000			2001		2000		2001		2000

									Revenue:
	71.4	%	74.8	%	64.4	%	74.5	%	Product sales	76.6	%	42.4	%	69.2	%	25.2	%
	28.6		25.2		35.6		25.5		Service fees	23.4		57.6		30.8		74.8

	100.0		100.0		100.0		100.0		Total revenue	100.0		100.0		100.0		100.0

									Gross profit:
	53.3		57.7		54.9		58.2		Product sales	16.9		49.1		20.1		57.3
	51.7		45.1		47.1		44.9		Service fees	(16.6	)	15.2		(27.0	)	19.8

	52.8		54.6		52.1		54.8		Total gross profit	9.0		29.6		7.4		32.0

									Operating expenses:
	30.4		23.3		33.3		23.3		Sales and marketing	13.5		21.7		17.0		30.6
									Engineering and
	14.5		12.5		18.1		14.0		development	2.2		0.0		1.1		0.0
									General and
	5.3		4.8		7.0		5.2		administrative	1.4		0.0		2.1		0.0

									Total operating
	50.2		40.6		58.4		42.5		expenses	17.1		21.7		20.2		30.6

									Income (loss)
	2.6	%	14.0	%	(6.3	)%	12.3	%	from operations	(8.1	)%	7.9	%	(12.8	)%	1.4	%

Revenue

Networking Solutions:

Our networking solutions business generated revenues of $38.9 million and $94.1 million for the three and nine months ended October 31, 2001, respectively, decreases of 8% and 21%, respectively, from $42.2 million and $119.7 million for the three and nine months ended October 31, 2000. Storage networking product revenues for the three and nine months ended October 31, 2001 totaled $21.3 million and $45.1 million, respectively, down 8% and 24%, respectively, from $23.2 million and $59.3 million for the three and nine months ended October 31, 2000. Approximately $800,000 of storage networking product revenue for the three months ended October 31, 2001 resulted from the sale of our new UltraNet Edge product. Channel networking product revenues for the three and nine months ended October 31, 2001 totaled $6.5 million and $15.4 million, respectively, down 23% and 49%, respectively, from $8.4 million and $30.0 million for the three and nine months ended October 31, 2000. The decrease in revenue from sales of both storage and channel networking products resulted from the global slow down in capital spending for information technology equipment by our customers.

Service revenues associated with our networking business for the three and nine months ended October 31, 2001 totaled $11.1 million and $33.5 million, respectively, increases of 4% and 10%, respectively, from $10.6 million and $30.5 million for the three and nine months ended October 31, 2000. The increases in both periods are due to the larger installed base of customers using our networking products.

Storage Solutions:

Our storage solutions business, consisting of our SAN services and the storage solutions and services business we acquired from Articulent in April of 2001, generated revenue for the three and nine months ended October 31, 2001 of $16.5 million and $32.3 million, respectively, increases of 311% and 242%, respectively, from $4.0 million and $9.4 million for the three and nine months ended October 31, 2000. Articulent accounted for a significant portion of the increase.

General:

Revenue generated from the sale of products and services outside the United States for the three and nine months ended October 31, 2001 totaled $12.0 million and $32.0 million, respectively, decreases of 26% and 19%, respectively, from the three and nine months ended October 31, 2000. The reduction was attributable to the global slow down in capital spending for information technology equipment by our customers.

No single customer accounted for more than 10% of our revenue during the three and nine months ended October 31, 2001. Price discounting had a small impact on our product revenue during these periods.

During the nine months ended October 31, 2001, approximately 27%, 8%, and 17% of our product revenue was derived from businesses in the financial services, telecommunications and information outsourcing industries, respectively.

We expect continued quarter-to-quarter fluctuations in revenue in both domestic and international markets. The timing of sizable orders, because of their relative impact on total quarterly sales, may contribute to such fluctuations. The level of product sales reported by us in any given period will continue to be affected by the receipt and fulfillment of sizable new orders in both domestic and international markets.

Gross Profit Margin

Networking:

Excluding the $2.0 million write-down of slow moving inventory and the $325,000 write-off of our Filespeed product in the first quarter of 2001, gross product margins from the sale of networking products for the three and nine months ended October 31, 2001 were 53% and 55%, respectively, down from 58% for both the three and nine months ended October 31, 2000. The decline in gross margin percentage was due to the continued movement in sales mix toward our UltraNet products which carry a lower margin than our older Channelink products, and higher levels of sales discounts.

Gross service margins for our networking business improved in the three and nine months ended October 31, 2001 to 52% and 47%, respectively, from 45% for both the three and nine months ended October 31, 2000. The improvement was due to the steadily increasing base of customers contracting for services and the cost reduction actions that were taken in April 2001.

Storage Solutions:

Gross product margins for our storage solutions business for the three and nine months ended October 31, 2001 was 17% and 20%, respectively, compared to 49% and 57%, respectively, for the three and nine months ended October 31,2000. The decline in gross margin percentages was primarily due to the expansion in solution offerings resulting from the acquisition of Articulent in April 2001. Historically, the product solutions offered by Articulent have generated gross margins in the 15% to 25% range.

Gross service margins for our storage solutions business for the three and nine months ended October 31, 2001 were a negative 17% and 27%, respectively, compared to a positive 15% and 20%, respectively, for the three and nine months ended October 31, 2000. The decline in gross margin percentage and negative gross margins in 2001 is due to the fixed cost structure of the services business and low levels of service revenue. The service costs for the solutions business, mainly people, tend to be fixed in nature. We expect to generate a gross profit in the future as business volumes pick up.

Operating Expenses

Networking:

Sales and marketing expense for the three and nine months ended October 31, 2001 totaled $11.8 million and $31.3 million, respectively, increases of 17% and 12%, respectively, from $9.8 million and $27.8 million for the three and nine months ended October 31, 2000. Since the beginning of 2001, we have increased our sales force by over 25% and have added additional sales management to increase revenue and grow our business.

Engineering and development expense for the three and nine months ended October 31, 2001 totaled $5.7 million and $17.1 million, respectively, increases of 7% and 2%, respectively, from $5.3 million and $16.7 million for the three and nine months ended October 31, 2000. The increases were primarily due to continued development of our UltraNet® family of products, particularly the UltraNet Edge product, which generated $800,000 of revenue in the three months ended October 31, 2001.

Storage Solutions:

Sales, marketing, engineering and development expense for the three and nine months ended October 31, 2001 totaled $2.6 million and $5.9 million, respectively, increases of 198% and 102%, respectively, from $869,000 and $2.9 million for the three and nine months ended October 31, 2000. The increase in both periods was primarily due to the incremental costs associated with the acquisition of Articulent in April 2001.

General and administrative:

General and administrative expenses for the three and nine months ended October 31, 2001 totaled $2.3 million and $7.3 million, respectively, up 13% and 14%, respectively, from $2.0 and $6.3 million for the three and nine months ended October 31, 2000. The increase in expense for the three and nine months ended October 31, 2001 when compared to the same periods of 2000 was primarily due to the acquisition of Articulent, including charges for goodwill amortization for the three and nine months ended October 31, 2001 of $157,000 and $423,000, respectively.

Other:

Excluding the $10.3 million loss from the sale and write-down of webMethods stock in the first quarter of 2001, other income for the three and nine months ended October 31, 2001 totaled $1.2 million and $4.4 million, respectively, up from $731,000 and $952,000 for the three and nine months ended October 31, 2001, respectively. We raised $110 million from a common stock offering in October 2000, resulting in higher balances of cash and marketable securities available for investment and more interest income for the three and nine months ended October 31, 2001. Pending further use of the offering proceeds for general corporate purposes or complementary acquisitions, the funds are invested in investment grade, interest-bearing securities.

We recorded a provision for income taxes for the nine months ended October 31, 2001 at an effective income tax rate of 31%, compared to 33% for the nine months ended October 31, 2000. The $10.3 million loss on the sale and write-down of the webMethods stock in the first quarter of 2001 was taxed at an effective tax rate of 30%. Excluding this item, our effective tax rate for the nine months ended October 31, 2001 would have been 33%. Our effective tax rate for the three months ended October 31, 2001 and 2000 was 33%. Based on an assessment of our taxable earnings history and prospective future taxable income, we have determined it to be more likely than not that our net deferred tax asset will be realized in future periods. We may be required to provide a valuation allowance for this asset in the future if we do not generate sufficient taxable income as planned.

Liquidity and Capital Resources

We have historically financed our operations through the public and private sale of equity securities, bank borrowings under lines of credit, capital and operating leases and cash generated by operations.

Cash, cash equivalents and marketable securities at October 31, 2001 totaled $117.1 million, a decrease of $33.3 million since January 31, 2001. The decrease in cash and cash equivalents is primarily due to the acquisition of Articulent, payments to reduce Articulent’s outstanding liabilities at the time of acquisition and higher levels of inventory at October 31, 2001.

Expenditures for capital equipment and field support spares have been, and will likely continue to be, a significant capital requirement. We believe that our current balances of cash, cash equivalents and marketable securities, when combined with anticipated cash flows from operations, will be adequate to fund our operating plans and meet our current anticipated aggregate capital requirements, at least through the next year.

We believe that inflation has not had a material impact on our operations or liquidity to date.

Market Risk

We have no derivative financial instruments in our cash and cash equivalents. We mainly invest our cash and cash equivalents in investment grade, highly liquid investments, consisting of money market instruments, bank certificates of deposits, U.S. government and agency securities and commercial paper.

At October 31, 2001, our marketable securities included a $100,000 investment in a Standard and Poors 500 stock price index fund and a $105,000 investment in a NASDAQ 100 index tracking stock. These investments were purchased to directly offset any investment gains or losses owed to participants under our executive deferred compensation plan which has been established for selected key employees.

We are exposed to market risks related to fluctuations in foreign exchange rates because some sales transactions, and the assets and liabilities of our foreign subsidiaries, are denominated in foreign currencies, primarily French francs, the euro and British pounds sterling. As of October 31, 2001, we had open forward exchange contracts totaling 1.3 million British pounds sterling that settle at various times through February of 2002.

Forward Looking Statements

This Form 10-Q and other documents we have filed with the Securities and Exchange Commission contain forward-looking statements, which may include statements about our:

	•		anticipated receipt of orders and their impact on quarterly sales;

	•		business strategy;

	•		expectations regarding future revenue levels, gross margins, expenses, operating margins and earnings per share;

	•		timing of and plans for the introduction or phase-out of products or services;

	•		enhancements of existing products or services;

	•		plans for hiring or reducing personnel;

	•		entering into strategic partnerships;

	•		ability to integrate Articulent, Inc. with our existing businesses;

	•		other plans, objectives, expectations and intentions contained in this Form 10-Q that are not historical facts.

When used in this Form 10-Q, the words “may,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “intend,” “potential” or “continue” and similar expressions are generally intended to identify forward-looking statements. These forward-looking statements involve risks and uncertainties. Actual results could differ materially from those expressed or implied by these forward-looking statements as a result of certain risk factors, including but not limited to (i) competitive factors, including pricing pressures; ii) variability in quarterly sales; (iii) economic trends generally and in various geographic markets; (iv) relationships with our strategic partners; (v) technological change affecting our products; (vi) our ability to integrate Articulent Inc. with our existing businesses, and, (vii) other events and other important factors, including those discussed under cautionary statements in Exhibit 99 to our Form 10-K filing with the Securities and Exchange Commission for the year ended January 31, 2001. We assume no obligation to update any forward-looking statements. These statements are only predictions. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. The forward looking statements speak as of the date hereof. Unless otherwise required by applicable securities laws, we disclaim any intention or obligation to update or revise any forward looking statements, whether as a result of new information, future events or otherwise.

PART II. OTHER INFORMATION

Item 1-5. None

Item 6. Exhibits and Reports on Form 8-K


	(a) Exhibits filed herewith.


3A.		Second Restated Articles of Incorporation of the Company. (Incorporated by reference to Exhibits 3 (i)-1 and 3(i)-2 to current report on Form 8-K dated May 25, 1999.)
3B.		By-laws of the Company (Incorporated by reference to Exhibit 3 (ii)-1 to current report on Form 8-K dated May 25, 1999.)
4.1		Rights Agreement between the Company and Chase Mellon Shareholder Services, L.L.C., as Rights Agent including the form of Rights Certificate and the Summary of Rights to Purchase Preferred Shares and First Amendment of Rights Agreement dated November 21, 2000. (Incorporated by reference to Exhibit 1 to Form 8-A dated July 29, 1998 and Exhibit 1 to Form 8-A/A dated November 27, 2000.)
4.2		Form of Common Stock Certificate. (Incorporated by reference to Exhibit 4.2 to Form S-3 Registration Statement No. 333-80841.)
11.		Statement Re: Computation of Net Income (Loss) per Basic and Diluted Share.


	(b) Reports on Form 8-K


	No reports on Form 8-K were filed during the quarter ended October 31, 2001.

SIGNATURES

Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned duly authorized officers.

COMPUTER NETWORK TECHNOLOGY CORPORATION
(Registrant)


Date: December 13, 2001	By:	/s/ Gregory T. Barnum Gregory T. Barnum Chief Financial Officer (Principal financial officer)

	By:	/s/ Jeffrey A. Bertelsen Jeffrey A. Bertelsen Corporate Controller and Treasurer (Principal accounting officer)

EXHIBIT INDEX


Item		Description

3A.		Second Restated Articles of Incorporation of the Company. (Incorporated by reference to Exhibit 3(i)-1 and 3(i)-2 to current report on Form 8-K dated May 25, 1999.)
3B.		By-laws of the Company (Incorporated by reference to Exhibit 3(ii)-1 to current report on Form 8-K dated May 25, 1999.)
4.1		Rights Agreement between the Company and Chase Mellon Shareholder Services, L.L.C., as Rights Agent including the form of Rights Certificate and the Summary of Rights to Purchase Preferred Shares and First Amendment of Rights Agreement dated November 21, 2000. (Incorporated by reference to Exhibit 1 to Form 8-A dated July 29, 1998 and Exhibit 1 to Form 8-A/A dated November 27, 2000.)
4.2		Form of Common Stock Certificate. (Incorporated by reference to Exhibit 4.2 Form S-3 Registration Statement No. 333-80841.)
11.		Statement Re: Computation of Net Income (loss) per Basic and Diluted Share Electronically Filed

Positive
Negative
Uncertain
Constraining
Legalese
Litigious
Readability	8th grade Good

Computer Network Technology (CMNT) Inactive 10-Q2002 Q3 Quarterly report

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