MRV Communications 10Q/A 2001 Q2 Quarterly report (amended)

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q/A
(Amendment No. 1)

[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2001

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT.

FOR THE TRANSITION PERIOD FROM _______________ TO ______________

COMMISSION FILE NUMBER 0-25678

MRV COMMUNICATIONS, INC.

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)


DELAWARE		06-1340090




(STATE OF OTHER JURISDICTION		(IRS EMPLOYER




OF INCORPORATION OR ORGANIZATION)		IDENTIFICATION NO.)

20415 NORDHOFF STREET, CHATSWORTH, CA 91311
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
ISSUER’S TELEPHONE NUMBER, INCLUDING AREA CODE: (818) 773-0900

Check whether the issuer: (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes [X] No [ ]

As of July 30, 2001, there were 77,361,627 shares of Common Stock, $.0017 par value per share, outstanding.

TABLE OF CONTENTS


		Condensed Consolidated Balance Sheets
		CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
		Condensed Consolidated Statements Of Cash Flows
		Notes To Condensed Consolidated Financial Statements
	ITEM 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations
Signature

EXPLANATORY NOTE

This Amendment No. 1 on Form 10-Q/A to the Quarterly Report on Form 10-Q of MRV Communications, Inc. filed on May 15, 2001 amends Item 1 for the purpose of among other things amending certain disclosures in response to comments received from the Securities and Exchange Commission.

The amendment to Item 1 were as follows. The Consolidated Balance Sheet has been revised due to reclassifications to conform the presentation. Disclosures included in Note 3 Loss Per Share, Note 4, Comprehensive Income, Note 8 Segment Reporting and Geographical Information, Note 9 Restructuring and Other One-time Charges, and Note 10 Interest Rate Swap have been amended. Note 5 Cash and Cash Equivalents, Restricted Cash and Short-Term Investments, Note 13 Certain Relationships and Note 14 Reclassifications have been added. The previously reported Note 12 Supplemental Unaudited Pro Forma Data has been removed. The “Overview” section of “Management’s Discussion and Analysis of Financial Condition and Results of Operations” has been revised relating the disclosure of surrounding Optical Access, Luminent’s distribution and goodwill and other intangibles. In addition, the “Results of Operations” section for the three and six months ended June 30, 2001 and 2000 has been restated in its entirety to discuss the results of operations for operating entities and development stage enterprises separately. A new “Market Risks” section has been added, replacing the “Effects of Inflation” and “Quantitative and Qualitative Disclosure about Market Risks” sections previously reported. Other than these amendments, Item 1 remains in the same form as initially filed.

MRV COMMUNICATIONS, INC.
Form 10-Q, June 30, 2001
Index


		PAGE NUMBER

PART I	Financial Information

Item 1:	Financial Statements:

	Condensed Consolidated Balance Sheets as of June 30, 2001 (unaudited) and December 31, 2000 (audited)	3

	Condensed Consolidated Statements of Operations (unaudited) for the Six and Three Months ended June 30, 2001 and 2000	4

	Condensed Consolidated Statements of Cash Flows (unaudited) for the Six Months ended June 30, 2001 and 2000	5

	Notes to Condensed Consolidated Financial Statements (unaudited)	6

Item 2:	Management’s Discussion and Analysis of Financial Condition and Results of Operations	10

	SIGNATURE	28

As used in this Report, “we, “us”, “our”, “MRV” or the “Company” refer to MRV Communications, Inc. and its consolidated subsidiaries.

MRV Communications, Inc.

Condensed Consolidated Balance Sheets
(In thousands, except par values)


				June 30,			December 31,
				2001			2000
				(unaudited)			(audited)

ASSETS




CURRENT ASSETS:




	Cash and cash equivalents			$	174,887		$	210,080




	Restricted cash				52,907			56,181




	Short-term investments				2,797			17,766




	Accounts receivable				59,731			62,713




	Inventories				72,123			77,005




	Deferred income taxes				34,307			31,227




	Other current assets				26,812			22,750

			Total current assets		423,564			477,722




PROPERTY AND EQUIPMENT — At cost, net of depreciation and amortization					75,291			72,269




OTHER ASSETS:




	Goodwill and intangibles				475,496			504,027




	Deferred income taxes				7,797			6,209




	Investments				28,164			31,734




	Other non-current assets				12,835			5,660

				$	1,023,147		$	1,097,621

LIABILITIES AND STOCKHOLDERS’ EQUITY




CURRENT LIABILITIES:




	Current maturities of capital lease obligations and long-term debt			$	2,642		$	2,937




	Accounts payable				68,644			56,088




	Accrued liabilities				31,867			34,894




	Short-term debt				12,976			9,104




	Deferred revenue				1,663			1,470




	Income taxes payable				—			6,477




	Other current liabilities				2,379			—

			Total current liabilities		120,171			110,970




LONG-TERM LIABILITIES:




	Convertible debentures				89,646			89,646




	Capital lease obligations, net of current portion				566			621




	Long-term debt				60,399			60,257




	Other long-term liabilities				4,571			3,980

					155,182			154,504





MINORITY INTEREST					39,868			50,592





STOCKHOLDERS’ EQUITY:




	Preferred stock, $0.01 par value:




		Authorized — 1,000 shares; no shares issued or outstanding			—			—




	Common stock, $0.0017 par value:




		Authorized — 160,000 shares




		Issued — 77,317 shares in 2001 and 73,327 in 2000




		Outstanding — 77,269 shares in 2001 and 73,279 in 2000			132			126




	Additional paid-in capital				1,097,915			1,060,650




	Accumulated deficit				(319,761	)		(171,330	)




	Deferred stock compensation, net				(60,041	)		(100,862	)




	Treasury stock, 48 shares at cost in 2001 and 2000				(133	)		(133	)




	Accumulated other comprehensive loss				(10,186	)		(6,896	)

			Total stockholders’ equity	$	707,926		$	781,555

				$	1,023,147		$	1,097,621

See accompanying notes

MRV Communications, Inc.

Condensed Consolidated Statements of Operations
(In thousands, except per share data)


		Six Months Ended						Three Months Ended

		June 30,			June 30,			June 30,			June 30,
		2001			2000			2001			2000
		(Unaudited)			(Unaudited)			(Unaudited)			(Unaudited)

REVENUES, net		$	189,634		$	139,007		$	89,530		$	73,935

COSTS AND EXPENSES:




	Cost of goods sold		155,156			88,529			88,765			45,793




	Research and development expenses		50,787			26,649			25,782			14,758




	Selling, general and administrative expenses		82,123			41,481			43,711			26,467




	Amortization of goodwill and intangibles from acquisitions		57,167			13,069			29,028			12,055

	Operating loss		(155,599	)		(30,721	)		(97,756	)		(25,138	)




	Other expense, net		(2,893	)		(1,678	)		(2,373	)		(1,190	)




	Provision (credit) for income taxes		(3,622	)		883			(939	)		1,377




	Minority interest		(6,439	)		332			(5,051	)		45

NET LOSS		$	(148,431	)	$	(33,614	)	$	(94,139	)	$	(27,750	)

NET LOSS PER SHARE — BASIC AND DILUTED		$	(1.97	)	$	(0.56	)	$	(1.24	)	$	(0.44	)

SHARES USED IN PER-SHARE CALCULATION — BASIC AND DILUTED			75,245			59,839			76,111			62,754

See accompanying notes

MRV Communications, Inc.

Condensed Consolidated Statements of Cash Flows
(In thousands)


			Six Months Ended

			June 30,			June 30,
			2001			2000

CASH FLOWS FROM OPERATING ACTIVITIES:

		Net cash used in operating activities	$	(43,529	)	$	(5,039	)

CASH FLOWS FROM INVESTING ACTIVITIES:




	Purchases of property and equipment			(26,580	)		(2,588	)




	Investments in unconsolidated partner companies			—			(10,785	)




	Purchases of minority interest in consolidated subsidiaries and short-term investments			(59,521	)		(9,096	)




	Proceeds from sale or maturity of investments			71,150			12,216




	Cash used in acquisitions and equity purchases, net of cash received			—			(45,391	)

		Net cash used in investing activities		(14,951	)		(55,644	)

CASH FLOWS FROM FINANCING ACTIVITIES:




	Proceeds from line of credit			—			68,510




	Net proceeds from issuance of common stock			20,534			6,001




	Borrowings on long-term debt			373			—




	Payments on short-term debt			(92	)		—




	Borrowings on short-term debt			3,587			—




	Principal payments on capital lease obligations			(204	)		(493	)

		Net cash provided by financing activities		24,198			74,018

EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS				(911	)		(2,458	)

NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS				(35,193	)		10,877

CASH AND CASH EQUIVALENTS, beginning of period				210,080			34,330

CASH AND CASH EQUIVALENTS, end of period			$	174,887		$	45,207

See accompanying notes

MRV Communications, Inc.
Notes To Condensed Consolidated Financial Statements

1. General

The accompanying condensed consolidated financial statements have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading. It is suggested that these condensed financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s latest annual report on Form 10-K.

In the opinion of the Company, these unaudited statements contain all adjustments (consisting only of normal recurring adjustments) necessary to present fairly the financial position of MRV Communications and Subsidiaries as of June 30, 2001, and the results of their operations and their cash flows for the six and three months then ended.

2. Business Combinations

No material business combinations took place during the six and three months ended June 30, 2001. See our latest annual report on Form 10-K and management’s discussion and analysis of financial conditions and results of operations in this 10-Q. The following unaudited pro forma financial information presents the combined results of operations with the acquisitions as if the acquisitions had occurred as of January 1, 2000, giving effect to certain adjustments, including amortization of goodwill and other intangibles and deferred stock compensation charges. The unaudited pro forma share data assumes the shares issued in connection with these acquisitions were outstanding as of January 1, 2000. (in thousands, except per share amounts; unaudited)


	Six Months Ended June 30,						Three Months Ended June 30,

	2001			2000				2001			2000

Pro forma revenue	$	189,634		$	146,065			$	89,530		$	75,026




Pro forma net loss		(148,431	)		(33,087	)			(94,139	)		(27,398	)




Pro forma basic and diluted net loss per share	$	(1.97	)	$	(0.55	)		$	(1.24	)	$	(0.44	)

3. Loss Per Share

Basic loss per common share are computed using the weighted average number of common shares outstanding during the period. Diluted loss per common share include the incremental shares issuable upon the assumed exercise of stock options and conversion of the convertible debentures. The effect of the assumed conversion of $89.6 million convertible debentures has not been included, as it would be anti-dilutive. The dilutive effect of MRV’s 10.6 million stock options outstanding and 889,000 warrants outstanding have not been included in the loss per share computation as their effect would be anti-dilutive.

4. Comprehensive Income

On January 1, 1998, the Company adopted SFAS No. 130, “Reporting Comprehensive Income.” For year-end financial statements, SFAS No. 130 requires that net income (loss) and all other non-owner changes in equity be displayed in a financial statement with the same prominence as other consolidated financial statements. In addition, the standard requires companies to display the components of comprehensive income as follows (in thousands).


	Six Months Ended June 30,						Three Months Ended June 30,

	2001			2000				2001			2000

Net loss	$	(148,431	)	$	(33,614	)		$	(94,139	)	$	(27,750	)




Foreign currency translation		(911	)		(2,458	)			(1,898	)		(2,691	)




Unrealized gain (loss) on interest rate swap		(2,379	)		—				167			—

Comprehensive loss	$	(151,721	)	$	(36,072	)		$	(95,870	)	$	(30,441	)

5. Cash and Cash Equivalents, Restricted Cash and Short-Term Investments

MRV considers all highly liquid investments with an original maturity of 90 days or less to be cash equivalents. Investments with maturities of less than one year are considered short-term. In connection with MRV’s interest rate swap and its long-term debt (see Note 10, Interest Rate Swap), $52.9 million in cash has been restricted until the term loan and the swap expire in 2003. Furthermore, MRV maintains cash balances and investments in highly qualified financial institutions. At various times such amounts are in excess of insured limits. As of June 30, 2001 and December 31, 2000, cash, cash equivalents and short-term investments of $93.1 million and $132.9 million, respectively, were held by MRV’s publicly traded subsidiary, Luminent.

6. Inventories

Inventories are stated at the lower of cost or market and consist of materials, labor and overhead. Cost is determined by the first in, first out method. Inventories consist of the following as of June 30, 2001 and December 31, 2000 (in thousands):


	June 30,		Dec 31,
	2001		2000

Raw materials	$	28,033	$	36,278




Work-in process		24,249		17,721




Finished goods		19,841		23,006

	$	72,123	$	77,005

7. Stock Distribution

On May 26, 2000, the Company completed a two-for-one stock split. The effect of this stock split has been reflected in the accompanying condensed consolidated financial statements for all periods presented.

8. Segment Reporting and Geographical Information

The Company operates under a business model that creates and manages start-up companies and independent business units. These companies fall into two segments: operating entities and development stage enterprises. Segment information is therefore being provided on this basis.

Development stage enterprises that the Company has created or invested in focus on core routing, network transportation, switching and IP services, and fiber optic components and systems. The primary activities of development stage entities have been to develop solutions and technologies of which significant revenues have yet to be earned. Operating entities of the Company design, manufacture and distribute optical components, optical subsystems, optical networking solutions and Internet infrastructure products.

The accounting policies of the segments are the same as those described in the summary of significant accounting polices in our latest annual report on Form 10-K. The Company evaluates segment performance based on revenues, operating income (loss) and total assets of each segment. As such, there are no separately identifiable segment assets nor are there any separately identifiable statements of operations data below operating income.

Business Segment Net Revenues for the six and three months ended June 30, 2001 and 2000 (in thousands):


		Six Months Ended June 30,				Three Months Ended June 30,

		2001		2000		2001		2000

Operating entities		$	189,634	$	139,007	$	89,530	$	73,935




Development stage enterprises			—		—		—		—

	Total revenues	$	189,634	$	139,007	$	89,530	$	73,935

There were no inter-segment sales in the six and three months ended June 30, 2001 and 2000.

Net revenues by product group for the six months ended June 30, 2001 and 2000 (in thousands):


	Six Months Ended June 30,

	2001		2000

Optical passive components	$	22,842	$	9,273




Optical active components		67,907		36,498




Switches and routers		39,895		41,042




Remote device management		12,904		11,386




Network physical infrastructure equipment		28,598		27,451




Services		9,448		10,028




Other		8,040		3,329

Total Revenues	$	189,634	$	139,007

Business Segment Loss for the six and three months ended June 30, 2001 and 2000 (in thousands):


		Six Months Ended June 30,						Three Months Ended June 30,

		2001			2000			2001			2000

Operating loss




	Operating entities	$	(127,358	)	$	(17,439	)	$	(83,494	)	$	(17,687	)




	Development stage enterprises		(28,241	)		(13,282	)		(14,262	)		(7,451	)




Other income (expense)




	Interest expense related to convertible debentures		(2,250	)		(2,250	)		(1,125	)		(1,125	)




	Other income, net		2,401			2,009			545			886




	Development stage enterprises		(3,044	)		(1,437	)		(1,793	)		(951	)

Loss before provision (credit) for income taxes and minority interest		$	(158,492	)	$	(32,399	)	$	(100,129	)	$	(26,328	)

For the six months ended and as of June 30, 2001, the Company had no single customer that accounted for more than 10 percent of revenues or accounts receivable. The Company does not track customer revenues by region for each individual reporting segment. A summary of external revenue by region follows (in thousands).


		Six Months Ended June 30,				Three Months Ended June 30,

		2001		2000		2001		2000

United States		$	69,578	$	55,032	$	27,675	$	28,113




Asia Pacific			26,454		18,171		11,634		14,084




European			89,750		62,543		48,432		30,050




Other			3,852		3,261		1,789		1,688

	Total net sales	$	189,634	$	139,007	$	89,530	$	73,935

Loss before provision (credit) for income taxes (in thousands):


		Six Months Ended June 30,						Three Months Ended June 30,

		2001			2000			2001			2000

United States		$	(82,818	)	$	(25,756	)	$	(53,335	)	$	(22,224	)




Foreign			(69,235	)		(6,975	)		(41,743	)		(4,149	)

	Loss before provision (credit) for income taxes	$	(152,053	)	$	(32,731	)	$	(95,078	)	$	(26,373	)

9. Restructuring and Other One-time Charges

In the second quarter of 2001, Luminent recorded restructuring charges totaling $14.5 million. Costs for restructuring activities are limited to either incremental costs that directly result from the restructuring activities and provide no future revenue-generating benefit, or costs incurred under contractual obligations that existed before the restructuring plan and will continue with either no future revenue-generating benefit or become a penalty incurred for termination of the obligation.

Employee severance costs and related benefits of $1.1 million are related to approximately 150 layoffs during the three months ended June 30, 2001 and will result in additional layoffs of approximately 450 personnel, bringing Luminent’s total workforce to approximately 1,200 employees. As of June 30, 2001, the employee severance reserve balance has been reduced by cash payments of approximately $196,000 resulting in an ending reserve balance of $876,000. Affected employees came from all divisions and areas of Luminent. The majority of affected employees were in the manufacturing group.

In addition to the costs associated with employee severance, Luminent identified a number of assets, including leased facilities and equipment that are no longer required due to current market conditions, operations and expected growth rates. The net facility costs related to closed and abandoned facilities of approximately $1.1 million for the three months ended June 30, 2001, are primarily related to net future obligations under operating leases. In connection with these closed and abandoned facilities, Luminent has recorded asset impairment charges of $8.9 million in selling, general and administrative for the three months ended June 30, 2001, consisting of leasehold improvements and certain manufacturing equipment to write-down the value of this equipment. Due to the specialized nature of these assets, Luminent has determined that these assets have minimal or no future benefit and has recorded a provision reflecting the net book value relating to these assets. Luminent expects to complete disposal of this equipment early in 2002. Purchase commitments of $2.4 million, recorded in cost of sales, for the three months ended June 30, 2001 are to cancel or renegotiate outstanding contracts for materials and capital assets that are no longer required due to Luminent’s significantly reduced orders for optical components and sales projections over the next twelve months.

As of June 30, 2001, the provision has been reduced by cash payments of $196,000 for the three months ended June 30, 2001 and non-cash related charges of $8.9 million for the three months ended September 30, 2001, resulting in an ending balance of $5.4 million. Luminent expects to utilize the remaining balance by the end of the second quarter of 2002. Luminent expects that it will spend approximately $5.6 million through the next four quarters to carry out the plan, which will be paid through cash and cash equivalents and through operating cash flows. Luminent expects to begin to realize savings related to the workforce reductions in late 2001 with estimated ongoing quarterly net savings of $2.4 million. In addition, Luminent will realize reduced depreciation charges of approximately $384,000 per quarter through December 2004 and $163,000 per quarter through December 2005 for facility costs. These savings are expected to be realized as reductions in cost of sales, research and development and selling, general and administrative expenses.

A summary of the restructuring costs consists of the following (in thousands):


						Remaining
		Provision		Utilized		Balance

Exit Costs




	Asset impairment	$	8,904	$	8,904	$	—




	Closed and abandoned facilities		1,108		—		1,108




	Other commitments		2,402		—		2,402




	Other		991		—		991

			13,405		8,904		4,501




Employee severance costs			1,072		196		876

		$	14,477	$	9,100	$	5,377

As a result of the significant negative economic and industry trends impacting Luminent’s expected sales over the next twelve months, Luminent also recorded a one-time $26.1 million charge to write-down the remaining book value of certain inventory related to certain transceivers, duplexors, and triplexors that are previous generation products to its realizable value during the three months ended June 30, 2001. The inventory charge was recorded in cost of sales. Also included in one-time charges is a $598,000 charge to bad debt recorded in selling, general and administrative expenses during the three months ended June 30, 2001 to reflect customer bankruptcies that have resulted from the severe market downturn.

In addition, as part of Luminent’s review of the impairment of certain long-lived assets, Luminent’s management performed an assessment of the carrying amount of goodwill recorded in connection with its various acquisitions. This assessment, based on the undiscounted future cash flows, determined that no write-down of goodwill was required for the three months ended June 30, 2001.

A summary of the restructuring costs by line item for the six months ended June 30, 2001 consist of the following:


		Six Months Ended
		June 30,
		2001





Cost of sales			$	3,168,000




Selling, general and administrative				10,792,000




Research and development				501,000




Other income, net				16,000

	Total restructuring costs			14,477,000

10. Interest Rate Swap

MRV entered into an interest rate swap in the second quarter of 2000 to effectively change the interest rate characteristics of its $50.0 million variable-rate term loan presented in Long-Term Debt, with the objective of fixing its overall borrowing costs. The swap was entered into concurrently with the issuance of the related debt. The notional amount, interest payment and maturity dates of the swap match the principal, interest payment and maturity dates of the related debt. Accordingly, any market risk or opportunity associated with this swap is offset by the opposite market impact on the related debt. The interest rate swap is considered to be 100 percent effective and is therefore recorded using the short-cut method. The swap is designated as a cash flow hedge and changes in fair value of the debt are generally offset by changes in fair value of the related security, resulting in negligible net impact. The gain or loss from the change in fair value of the interest rate swap as well as the offsetting change in the hedged fair value of the long-term debt are recognized in Other Comprehensive Income. Prior to the adoption of SFAS 133, the interest rate swap related to this long-term debt was not recognized in the balance sheet, nor were the changes in the market value of the debt. The net settlements of the swap are included in interest expense. For the six months ended June 30, 2001, the Company recorded an unrealized loss on its interest rate swap of $2.4 million included in Other Comprehensive Income. The Company recorded an unrealized gain of $167,000 on its interest rate swap included in Other Comprehensive Income. At June 30, 2001, the interest rate swap had a fair value of $2.4 million included in Other Current Liabilities.

11. Recent Accounting Pronouncements

In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, “Accounting for Derivative Investments and Hedging Activities,” as amended by SFAS No. 137 and SFAS No. 138. The Company adopted the statement in January 2001 and the adoption of this statement did not have a material impact on the Company’s financial position or results of operations.

In December 1999, the Securities and Exchange Commissions (SEC) issued Staff Accounting Bulletin (SAB) No. 101, “Revenue Recognition.” SAB No. 101 provides additional guidance on the recognition, presentation and disclosure of revenue in financial statements. The Company has reviewed this bulletin and believes that its current revenue recognition policy is consistent with the guidance of SAB No. 101.

In March 2000, the FASB issued interpretation No. 44 (FIN 44), “Accounting for Certain Transactions involving Stock Compensation, an interpretation of APB Opinion No. 25.” FIN 44 clarifies the application of APB No. 25 for certain issues, including the definition of an employee, the treatment of the acceleration of stock options and the accounting treatment for options assumed in business combinations. FIN 44 became effective on July 1, 2000, but is applicable for certain transactions dating back to December 1998. The adoption of FIN 44 did not have a significant impact on MRV’s financial position or results of operations.

The FASB recently approved two statements: SFAS No. 141, “Business Combinations” and SFAS No. 142, “Goodwill and Other Intangible Assets,” which provide guidance on the accounting for business combinations, requires all future business combinations to be accounted for using the purchase method, discontinues amortization of goodwill, defines when and how intangible assets are amortized, and requires an annual impairment test for goodwill. We plan to adopt these statements effective January 1, 2002. We are currently reviewing these standards to determine the impact on our result of operation and financial position. The most significant anticipated effect on our financial statement on adoption would be discontinuing goodwill amortization and the possible recording of a goodwill impairment loss measured as of the date of adoption.

13. Certain Relationships

Prior to Luminent's separation from MRV, the companies entered into various agreements providing for MRV to supply transitional services and support to Luminent. As of June 30, 2001, Luminent had incurred $5.7 million in estimated income tax liability due to MRV. Luminent has repaid approximately $4.7 million of this obligation through offsetting amounts due from MRV on or before June 30, 2001. As of June 30, 2000, Luminent has recorded a total of $195,000 from MRV for corporate allocations and other operation related matters. Luminent repaid this amount to MRV through operating cash and offsetting amounts due from MRV on or before June 30, 2000. Although the fees provided for in the agreements are intended to represent fair market value of these services, MRV and Luminent cannot assure that these fees necessarily reflect the costs of providing these services from unrelated third parties. However, MRV believes that providing these services to Luminent provided an efficient means of obtaining them. In connection with the Merger, these agreements will be terminated.

14. Reclassifications

Certain prior year amounts have been reclassified to conform with the current year presentation.


ITEM 2:		Management’s Discussion and Analysis of Financial Condition and Results of Operations

YOU SHOULD READ THE FOLLOWING DISCUSSION OF OUR FINANCIAL CONDITION AND RESULTS OF OPERATIONS TOGETHER WITH THE CONDENSED FINANCIAL STATEMENTS AND THE NOTES TO CONDENSED FINANCIAL STATEMENTS INCLUDED ELSEWHERE IN THIS FORM 10-Q. THIS DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS BASED ON OUR CURRENT EXPECTATIONS, ASSUMPTIONS, ESTIMATES AND PROJECTIONS ABOUT US AND OUR INDUSTRY. THESE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND UNCERTAINTIES. OUR ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF CERTAIN FACTORS, AS MORE FULLY DESCRIBED IN THE “FORWARD LOOKING STATEMENTS” SECTION AND THE “CERTAIN RISK FACTORS THAT COULD AFFECT FUTURE RESULTS” SECTION OF THIS FORM 10-Q. WE UNDERTAKE NO OBLIGATION TO UPDATE ANY FORWARD-LOOKING STATEMENTS FOR ANY REASON, EVEN IF NEW INFORMATION BECOMES AVAILABLE OR OTHER EVENTS OCCUR IN THE FUTURE.

OVERVIEW

We create, acquire, finance and operate companies, and through them, design, develop, manufacture and market products, which enable high-speed broadband communications. We concentrate on companies and products devoted to optical components and network infrastructure systems. We have leveraged our early experience in fiber optic technology into a number of well-focused operating units specializing in advanced fiber optic components, switching, routing, transaction management and wireless optical transmission systems which we have created, financed or acquired.

During 2000, we completed several strategic acquisitions. These acquisitions were made to expand our product offering, enhance our technological expertise and expand our manufacturing capabilities. These acquisitions are summarized in item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations — General” in our Annual Report on Form 10-K for the year ended December 31, 2000. We plan to continue to pursue and seek out future acquisitions that provide synergies with existing product offerings and technology or allow us to penetrate into new markets and grow our business model.

Goodwill and other intangibles from these acquisitions totaled $463.9 million as of June 30, 2001. For the six and three months ended June 30, 2001, we recorded amortization of goodwill and other intangibles from these acquisitions of $57.2 million and $29.0 million, respectively. We expect to record amortization charges of goodwill and other intangibles for these acquisitions of approximately $29.0 million per quarter until December 31, 2001. At January 1, 2002, we intend to implement SFAS No. 142, “Goodwill and Other Intangible Assets.” (see Recently Issued Accounting Standards).

In connection with these acquisitions, a portion of the purchase prices paid represented deferred stock compensation relating to options to purchase our common stock. The fair values of these options were $105.2 million and have been recorded as deferred stock compensation. Deferred stock compensation amortization expenses for the six and three months ended June 30, 2001 relating to these stock options were approximately $33.8 million and $14.8 million, respectively, compared with $7.3 million in both the three and six month periods ending June 30, 2000. We expect to incur approximately $78.8 million of total deferred stock compensation, which will be fully amortized by 2004. Deferred stock compensation is being amortized using the graded method using an estimated employment period of four years.

In July 2000, our subsidiary, Luminent, entered into employment agreements with its President and Chief Executive Officer and its Vice President of Finance and Chief Financial Officer. The agreements provide for annual salaries, performance bonuses and combinations of stock options to purchase shares of our common stock and Luminent’s common stock. The stock options were granted to Luminent’s executives at exercise prices below market value, resulting in deferred stock compensation. Deferred stock compensation from these stock option grants reported for the six and three months ended June 30, 2001 were $13.0 million and $5.8 million, respectively, and we will incur additional deferred stock compensation of approximately $25.0 million through 2004.

On October 6, 2000, our wholly-owned subsidiary, Optical Access, filed a registration statement with the Securities and Exchange Commission for the initial public offering of its common stock. This offering has not been completed and, based on current market conditions, we do not expect it to be completed in the foreseeable future, if ever. Accordingly, on November 16, 2001, Optical Access submitted an application to the SEC to withdraw its registration statement. Due to the postponement of the transaction, we expensed all costs ($1.1 million) of this offering in the quarter ended June 30, 2001. Optical Access designs, manufactures and markets an optical wireless solution that delivers high-speed communications traffic to the portion of the communications network commonly known as the last mile, which extends from the end user to the service provider’s central office.

We reported a net loss of $148.4 million and $94.1 million for the six and three months ended June 30, 2001 respectively. A significant portion of the net loss was due to the amortization of goodwill and other intangibles and deferred stock compensation related to our recent acquisitions and Luminent’s employment arrangements with its President and Chief Financial Officer. We will continue to record amortization of goodwill and other intangibles until December 31, 2001, and deferred stock compensation through 2004 relating to these acquisitions and Luminent's employment arrangements with its executives. As a consequence of these charges, we do not expect to report net income in the foreseeable future. See the discussion of the impact on the amortization of goodwill and other intangibles due to the adoption of SFAS 142 as of January 1, 2002 (see Recently Issued Accounting Standards).

On November 10, 2000, Luminent, our publicly owned subsidiary, completed the initial public offering of its common stock, selling 12.0 million shares at $12.00 per share for net proceeds of approximately $132.3 million. Luminent designs, manufactures and sells a comprehensive line of fiber optic components that enable communications equipment manufacturers to provide optical networking equipment for the rapidly growing metropolitan and access segments of the communications networks.

While we had planned to distribute all of our shares of Luminent common stock to our stockholders, unfavorable business and economic conditions in the fiber optic, data networking and telecommunications industries and the resulting adverse effects on the market prices of our common stock and that of Luminent has caused us to determine to abandon the distribution and merge Luminent into MRV Merger Sub, our wholly-owned subsidiary, thereby eliminating public ownership of Luminent.

In the second quarter of 2001, the management of Luminent, our publicly traded subsidiary, approved and implemented a restructuring plan and other actions in order to adjust operations and administration as a result of the dramatic slowdown in the communications equipment industry generally and the optical components sector in particular. Major actions comprising Luminent’s restructuring activities primarily involve the reduction of facilities in the U.S. and in Taiwan, the reduction of workforce, the abandonment of certain assets, and the cancellation and termination of purchase commitments. These actions are expected to realign Luminent’s business based on current and near term growth rates. All of these actions are scheduled for completion by the second quarter of 2002.

In the second quarter of 2001, Luminent recorded restructuring charges totaling $14.5 million. Costs for restructuring activities are limited to either incremental costs that directly result from the restructuring activities and provide no future revenue generating benefit, or costs incurred under contractual obligations that existed before the restructuring plan and will continue with either no future revenue-generating benefit or become a penalty incurred for termination of the obligation.

As of June 30, 2001, the provision has been reduced by cash payments of $196,000 for the three months ended June 30, 2001 and non-cash related charges of $8.9 million for the three months ended June 30, 2001, resulting in an ending balance of $5.4 million. Luminent expects to utilize the remaining balance by the end of the second quarter of 2002. Luminent expects that it will spend approximately $5.6 million through the next four quarters to carry out the plan, which will be paid through cash and cash equivalents and through operating cash flows. Luminent expects to begin to realize savings related to the workforce reductions in late 2001 with estimated ongoing quarterly net savings of $2.4 million. In addition, Luminent will realize reduced depreciation charges of approximately $384,000 per quarter through December 2004 and $163,000 per quarter through December 2005 for facility costs. These savings are expected to be realized as reductions in cost of sales, research and development and selling, general and administrative expenses.

A summary of the restructuring costs consist of the following (in thousands):


						Remaining
		Provision		Utilized		Balance

Exit Costs




	Asset impairment	$	8,904	$	8,904	$	—




	Closed and abandoned facilities		1,108		—		1,108




	Other commitments		2,402		—		2,402




	Other		991		—		991

			13,405		8,904		4,501




Employee severance costs			1,072		196		876

		$	14,477	$	9,100	$	5,377

A summary of the restructuring costs by line item for the six months ended June 30, 2001 consist of the following:


		Six Months Ended
		June 30,
		2001





Cost of sales			$	3,168,000




Selling, general and administrative				10,792,000




Research and development				501,000




Other income, net				16,000

	Total restructuring costs			14,477,000

As a result of the significant negative economic and industry trends impacting Luminent’s expected sales over the next twelve months, Luminent also recorded a one-time $26.1 million charge to write-down the remaining book value of certain inventory related to transceivers, duplexors, and triplexors that are previous generation products to its realizable value during the three months ended June 30, 2001. The inventory charge was recorded in cost of sales. Also included in one-time charges is a $598,000 charge to bad debt recorded in selling, general and administrative expenses during the three months ended June 30, 2001 to reflect customer bankruptcies that have resulted from the severe market downturn.

In addition, as part of Luminent’s review of the impairment of certain long-lived assets, Luminent’s management performed an assessment, at the business unit level, of the carrying amount of goodwill recorded in connection with its various acquisitions. This assessment, based on the undiscounted future cash flows, determined that no write-down of goodwill was required for the nine months ended June 30, 2001. However, we will review goodwill for impairment in connection with the implementation of FAS 142 at January 1, 2002 (see Recently Issued Accounting Standards).

MARKET CONDITIONS AND CURRENT OUTLOOK

Macroeconomic factors, such as an economic slowdown in the U.S. and abroad, have detrimentally impacted demand for optical components. The unfavorable economic conditions and reduced capital spending has detrimentally affected sales to service providers, network equipment companies, e-commerce and Internet businesses, and the manufacturing industry in the United States during the last six months, and appear to continue to affect these industries in the third quarter of 2001 and may continue to affect them for the remainder of 2001 and thereafter. Announcements by industry participants and observers indicate there is a slowdown in industry spending and participants are seeking to reduce existing inventories.

As a result of the current slowdown in the communications industry we have recorded in our consolidated results for the three and six months ended June 30, 2001, charges relating to Luminent's write-down of inventory, purchase commitments, asset impairment, workforce reduction, restructuring costs and other non-recurring items. These charges, totaling $41.2 million, resulted from the lower demand for Luminent’s products and pricing pressures stemming from the continuing downturn in the communications equipment industry generally and the optical components sector in particular. These charges include the write-down of inventory of $26.1 million, asset impairment of $8.9 million, and other restructuring and non-recurring items related to the recent market conditions of $6.2 million.

RESULTS OF OPERATIONS

The following table sets forth certain operating data as a percentage of total net sales for the six and three months ended June 30, 2001 and 2000.


		Six Months Ended						Three Months Ended

		June 30,			June 30,			June 30,			June 30,
		2001			2000			2001			2000
		(Unaudited)			(Unaudited)			(Unaudited)			(Unaudited)

REVENUES, net			100	%		100	%		100	%		100	%

COSTS AND EXPENSES:




	Cost of goods sold		82			64			99			62




	Research and development expenses		27			19			29			20




	Selling, general and administrative expenses		43			30			49			36




	Amortization of goodwill and intangibles from acquisitions		30			9			32			16

	Operating loss		(82	)		(22	)		(109	)		(34	)




	Other expense, net		(2	)		(1	)		(3	)		(2	)




	Provision (credit) for income taxes		(2	)		1			(1	)		2




	Minority interest		(3	)		0			(6	)		0

NET LOSS			(78	)%		(24	)%		(105	)%		(38	)%

THREE AND SIX MONTHS ENDED JUNE 30, 2001 AND 2000

The following management discussion and analysis refers to and analyzes our results of operations into two segments as defined by our management. These two segments are Operating Entities and Development Stage Enterprises including all startups activities.

Revenues, Net.

We generally recognize product revenue, net of sales discounts and allowances, when persuasive evidence of an arrangement exists, delivery has occurred and all significant contractual obligations have been satisfied, the fee is fixed or determinable and collection is considered probable. Products are generally shipped “FOB shipping point’’ with no rights of return. Sales with contingencies such as rights of return, rotation rights, conditional acceptance provisions and price protection are rare and insignificant and are deferred until the contingencies have been satisfied or the contingent period has lapsed. We generally warrant our products against defects in materials and workmanship for one year. The estimated costs of warranty obligations and sales returns and other allowances are recognized at the time of revenue recognition based on contract terms and prior claims experience. Our major revenue-generating products consist of: optical passive and active components; switches and routers; remote device management; and network physical infrastructure equipment. Revenue generated through the sales of services and systems support has been insignificant in relation to our consolidated revenues.

Operating Entities.Revenue for the three and six months ended June 30, 2001 were $89.5 million and $189.6 million, respectively, compared to net sales of $73.9 million and $139.0 million for the three and six months ended June 30, 2000, respectively. The change represented an increase of $15.6 million or 21.1% for the three months ended June 30, 2001 and an increase of $50.6 million or 36.4% for the six months ended June 30, 2001 over the three and six month periods ended June 30, 2000. Revenue generated through our recent acquisitions for the three and six months ended June 30, 2001 were $19.3 million and $41.6 million, respectively. Revenue from our existing business for the three and six months ended June 30, 2001 were $80.9 million and $148.0 million, respectively, compared to $65.0 and $139.0 million for the three and six months ended June 30, 2000, respectively. This revenue increase for the three and six months ended June 30, 2001, was primarily a result of increases in optical passive and active component revenue of 103% or $15.3 million and 14% or $6.3 million, respectively.

Development Stage Enterprises.No significant revenues were generated by these entities for the three and nine months ended June 30, 2001 and 2000.

Gross Profit.

Gross profit is equal to our revenues less our cost of goods sold. Our cost of goods sold includes materials, direct labor and overhead. Cost of inventory is determined by the first-in, first-out method.

Operating Entities.Gross profit for the three and six months ended June 30, 2001 was $765,000 and $34.5 million, compared to gross profits of $28.1 million and $50.5 million during the three and six months ended June 30, 2000. The changes represented a decrease of $27.4 million or approximately 97.3% for the three months ended June 30, 2001 over the three months ended June 30, 2000 and a decrease of $16.0 million or approximately 31.7% for the six months ended June 30, 2001 over the six months ended June 30, 2000.

Our gross margins (defined as gross profit as a percentage of revenues) are generally affected by price changes over the life of the products and the overall mix of products sold. Higher gross margins are generally expected from new products and improved production efficiencies as a result of increased utilization. Conversely, prices for existing products generally will continue to decrease over their respective life cycles. Our gross margin decreased to 0.9% and 18.2% for the three and six months ended June 30, 2001 compared to gross margins of 38.1% and 36.3% in the three and six months periods ended June 30, 2000. The decrease in gross margin was partially attributed to a write-off of inventory and other market-related one-time charges of $29.3 million taken by Luminent during the three and six months ended June 30, 2001. The decrease in our gross margins was also partially attributable to increased deferred stock compensation expense of $2.4 million and $2.7 million for the three and six months ended June 30, 2001, respectively, compared to the same period in 2000. Prior to deferred stock compensation amortization expense of $2.4 million for the three months ended June 30,2001 and prior to Luminent’s restructuring, inventory write-downs and other market related charges of $29.3 million and deferred stock compensation amortization expense of $4.2 million for the six months ending June 30, 2001, gross margin would have been 3.5% and 35.9%, respectively, for the three and six months ended June 30, 2001, compared to 38.1% and 37.4% for the three and six months ended June 30, 2000.

Development Stage Enterprises.No significant gross profits were produced by these entities for the three and six months ended June 30, 2001 and 2000.

Research and Development Expenses (R&D).

R&D expenses increased 74.7 %, to $25.8 million for the three months and 90.6% to $50.8 million for six months ended June 30, 2001, over the same three and six month periods in 2000.

Operating Entities.R&D expenses were $13.8 million or 15.4% of revenues for the three months and $27.9 million or 14.7% for the six months ended June 30, 2001, as compared to $7.3 million or 9.9% of revenues for the three months and $13.4 million or 9.6% of revenues for the six months ended June 30, 2000. This represents an increase of $6.5 million or 88.9% for the three months and $14.5 million or 108.6% for the six months period ended June 30, 2001 compared to the same periods in 2000. Excluding deferred stock compensation amortization expense of $3.6 million and Luminent's charges of $501,000 for the three months ended June 30, 2001, R&D expenses would have increased 33% from $7.3 million to $9.7 million from the three months ended June 30, 2000. Excluding deferred stock compensation amortization expense of $3.6 million and $9.8 million for the six months ended June 30, 2000 and 2001, respectively, and $501,000 of charges relating to Luminent recorded in the six months ended June 30, 2001, R&D expenses would have increased 90.1% from $9.2 million to $17.5 million from the six months ended June 30, 2000.

Development Stage Enterprises.R&D expenses were $12.0 million or 13.4% of revenues for the three months and $22.9 million or 12.1% for the six months ended June 30, 2001, as compared to $7.5 million or 10.1% of revenues for the three months and $13.3 million or 9.6% of revenues for the six months ended June 30, 2000. This represents an increase of $4.5 million or 60.8% for the three months and $9.6 million or 72.5% for the six months period ended June 30, 2001 compared to the same periods in 2000. The growth in R&D expense demonstrates our commitment to product development and continuing technological advancement. The increase in R&D expenses of consolidated development stage enterprises is due to the acceleration in the growth of those enterprises consistent with their objectives of bringing new products to market.

Selling, General and Administrative (SG&A).

SG&A expenses increased 65.2% to $43.7 million for the three months and 98.0% to $82.1 million for the six months ended June 30, 2001 over the same three and six month periods in 2000. SG&A expenses were 48.8% of net sales for the three months and 43.2% of net sales for the six months ended June 30, 2001, respectively. Prior to deferred stock compensation expenses of $12.6 million for the three months and Luminent’s restructuring and other charges of $11.4 million and deferred stock compensation expenses of $19.8 million for the six months ended June 30, 2001 and deferred stock compensation expenses of $1.8 million for the six months ended June 30, 2000, SG&A would have increased 17.7% to $31.1 million for the three months, and 28.3% to $50.9 million for the six months ended June 30, 2001, respectively. As a percentage of sales, SG&A prior to Luminent’s restructuring and other charges and deferred stock compensation expenses would have been 34.8% and 26.8% in the three and six month periods ended June 30, 2001, respectively, compared to 35.8% and 28.5% of net sales in the three and six months periods ended June 30, 2000, respectively. These increases principally resulted from our recent acquisitions.

Operating Entities.SG&A expenses increased 56.5% to $41.4 million for the three months and 85.1% to $76.8 million for the six months ended June 30, 2001, over the same three and six month periods in 2000. SG&A expenses were 46.3% of net sales for the three months and 40.5% of net sales for the six months ended June 30, 2001, respectively. Prior to deferred stock compensation expenses of $12.6 million for the three months and Luminent’s restructuring and other charges of $11.4 million and deferred stock compensation expenses of $19.8 million for the six months ended June 30, 2001 and deferred stock compensation expenses of $1.8 million for the six months ended June 30, 2000, SG&A would have increased 9.1% to $28.9 million for the three months, and 14.8% to $45.5 million for the six months ended June 30, 2001, respectively. As a percentage of sales, SG&A prior to Luminent’s restructuring and other charges and deferred stock compensation expenses would have been 32.2% and 24% in the three and six month periods ended June 30, 2001, respectively, compared to 35.8% and 28.5% of net sales in the three and six months periods ended June 30, 2000, respectively.

Development Stage Enterprises.The development stage enterprises did not report SG&A expenses during the three and six months ended June 30, 2000 as their activities primarily involved the development of products such as optical components, subsystems and networks and products for the infrastructure of the Internet. During 2001, these companies began to develop their own administrative capabilities and reported $2.3 and $5.3 million for the three and six months ended June 30, 2001, respectively.

Amortization of Goodwill and Other Intangibles from Acquisitions.

Operating Entities.Amortization of goodwill and other intangibles increased to $29.0 million for the three months and to $57.2 million for the six months ended June 30, 2001, from $12.1 million and $13.1 million in the corresponding periods ending June 30, 2000. The increase in these costs was affected by our recent acquisitions. We expect to incur additional amortization of goodwill and other intangibles resulting from these acquisitions totaling approximately $29.0 million each quarter (see Recently Issued Accounting Standards). Furthermore, as we continue to engage in strategic acquisitions, additional goodwill and intangibles may be recorded.

Development Stage Enterprises.No amortization of goodwill was recorded in any of the development stage enterprises for the three and six months ended June 30, 2001 and 2000.

Other Expense, Net.

In June 1998, we issued $100.0 million principal amount of 5% convertible subordinated debentures due in 2003. The debentures were offered in a 144A private placement to qualified institutional investors at the stated amount, less a selling discount of 3%. In late 1998, we repurchased $10.0 million principal amount of the Notes at a discount from the stated amount. We incurred $2.3 million and $1.1 million in interest expense relating to the Notes during the three and six months ended June 30, 2001, as well as during the three and six months ended June 30, 2000.

The increase in other expenses, net, is primarily attributed to the costs of our unconsolidated development stage enterprises of $1.8 million for the three months and $3.0 million for the six months ended June 30, 2001, as compared to $1.4 million and $1.0 million in the comparable periods in 2000. The remaining components of other expense, net, are primarily interest income recognized from short-term and long-term investments.

Provision (Credit) for Income Taxes.

The credits for income taxes for the three and six months ended June 30, 2001 were $939,000 and $3.6 million, respectively, compared to tax provisions of $1.4 million and $883,000, in the three and six months ended June 30, 2000, respectively. The decrease in the provision for income taxes in 2001 over 2000 was primarily attributable to a larger loss for tax purposes in 2001. Our income tax expense fluctuates primarily due to the tax jurisdictions where we currently have operating facilities and varying tax rates in those jurisdictions.

Liquidity and Capital Resources

Cash and cash equivalents were $174.9 million at June 30, 2001, compared to $210.1 million at December 31, 2000. As of June 30, 2001, we had working capital of $305.8 million, compared with $366.8 million as of December 31, 2000. The ratio of current assets to current liabilities at June 30, 2001 was 3.6 to 1, compared to 4.3 to 1 at December 31, 2000. These decreases are primarily attributable to operating losses and capital expenditures.

Cash used in operating activities was $43.5 million for the six months ended June 30, 2001, compared to cash used in operating activities of $5.0 million for the six months ended June 30, 2000. Cash used in operating activities was primarily impacted by our net loss, partially offset by the amortization of goodwill and amortization of deferred stock compensation.

Cash used in investing activities was $15.0 million for the six months ended June 30, 2001, compared to cash used in investing activities of $55.6 million for the six months ended June 30, 2000. We spent approximately $26.6 million on the purchase of property and equipment for business expansion and increased manufacturing capacity. We received cash of $71.2 million from the sale or maturity of investments.

Cash provided by financing activities was primarily generated through the issuance of common stock and through short-term borrowings during the six months ended June 30, 2001 and from proceeds from line of credit as well as through short-term borrowings during the six months ended June 30, 2000.

In June 1998, we issued $100.0 million principal amount of 5% convertible subordinated debentures due 2003 in a private placement raising net proceeds of $96.4 million. The debentures are convertible into our common stock at a conversion price of $13.52 per share (equivalent to a conversion rate of approximately 73.94 shares per $1,000 principal amount of notes), representing an initial conversion premium of 24%, for a total of approximately 7.4 million shares of our common stock. The debentures bear interest at 5% per annum, which is payable semi-annually on June 15 and December 15 of each year. The debentures have a five-year term and are callable by us since June 15, 2001. The premiums payable to call the debentures are 102% of the outstanding principal amount during the 12 months ending June 14, 2002 and 101% during the 12 months ending June 14, 2003, plus accrued interest through the date of redemption.

On November 10, 2000, Luminent completed the initial public offering of its common stock, selling 12.0 million shares at $12.00 per share and raising net proceeds of approximately $132.3 million.

We believe that our cash flows from operations will be sufficient to satisfy our working capital, capital expenditure and research and development requirements for at least the next 12 months. However, we may require or choose to obtain additional debt or equity financing in order to finance acquisitions or other investments in our business. We will continue to devote resources for expansion and other business requirements. Our future capital requirements will depend on many factors, including acquisitions, our rate of revenue growth, the timing and extent of spending to support development of new products and expansion of sales and marketing, the timing of new product introductions and enhancements to existing products and market acceptance of our products.

Market Risks

Market risk represents the risk of loss that may impact our Consolidated Financial Statements through adverse changes in financial market prices and rates and inflation. Our market risk exposure results primarily from fluctuations in interest rates and foreign exchange rates. We manage our exposure to these market risks through our regular operating and financing activities and have not historically hedged these risks through the use of derivative financial instruments. The term “hedge” is used to mean a strategy designed to manage risks of volatility in prices or interest and foreign exchange rate movements on certain assets, liabilities or anticipated transactions and creates a relationship in which gains or losses on derivative instruments are expected to counter-balance the losses or gains on the assets, liabilities or anticipated transactions exposed to such market risks.

Interest Rates. We are exposed to interest rate fluctuations on our investments, short-term borrowings and long-term obligations. Our cash and short-term investments are subject to limited interest rate risk, and are primarily maintained in money market funds and bank deposits. Our variable-rate short-term borrowings are also subject to limited interest rate risk due to their short-term maturities. Our long-term obligations were entered into with fixed and variable interest rates. In connection with our $50.0 million variable-rate term loan due in 2003, we entered into a specific hedge, an interest rate swap, to modify the interest characteristics of this instrument. The interest rate swap was used to reduce our costs of financing and the fluctuations in the aggregate interest expense. The notional amount, interest payment and maturity dates of the swap match the principal, interest payment and maturity dates of the related debt. Accordingly, any market risk or opportunity associated with this swap is offset by the opposite market impact on the related debt. To date, we have not entered into any other derivative instruments, however, as we continue to monitor our risk profile, we may enter into additional hedging instruments in the future.

Foreign Exchange Rates. We operate on an international basis with a portion of our revenues and expenses being incurred in currencies other than the U.S. dollar. Fluctuations in the value of these foreign currencies in which we conduct our business relative to the U.S. dollar will cause U.S. dollar translation of such currencies to vary from one period to another. We cannot predict the effect of exchange rate fluctuations upon future operating results. However, because we have expenses and revenues in each of the principal functional currencies, the exposure to our financial results to currency fluctuations is reduced. We have not historically attempted to reduce our currency risks through hedging instruments; however, we may do so in the future.

Inflation. We believe that the relatively moderate rate of inflation in the United States over the past few years has not had a significant impact on our sales or operating results or on the prices of raw materials. However, in view of our recent expansion of operations in Taiwan, Israel and other countries, which have experienced substantial inflation, there can be no assurance that inflation will not have a material adverse effect on our operating results in the future.

Recently Issued Accounting Standards

In June 1998 and June 1999, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, “Accounting for Derivative Investments and Hedging Activities,” and SFAS No. 137, which delayed the effective date of SFAS No. 133. In June 2000, the FASB issued SFAS No. 138, which provides additional guidance for the application of SFAS No. 133 for certain transactions. We adopted this statement in January 2001 and the adoption of this statement did not have a material impact on our financial position or results of operations.

In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 101 (SAB 101), “Revenue Recognition in Financial Statements,” and related interpretations. SAB 101 summarized certain of the Securities and Exchange Commission’s views in applying accounting principles generally accepted in the United States to revenue recognition in financial statements. We have applied the provisions of SAB 101 in the consolidated financial statements. The adoption of SAB 101 did not have a material impact on our financial condition or results of operations.

The FASB recently approved two statements: SFAS No. 141, “Business Combinations” and SFAS No. 142, “Goodwill and Other Intangible Assets,” which provide guidance on the accounting for business combinations, requires all future business combinations to be accounted for using the purchase method, discontinues amortization of goodwill, defines when and how goodwill and other intangible assets are amortized, and requires an annual impairment test for goodwill. We plan to adopt those statements effective January 1, 2002. We are currently reviewing these standards to determine the impact on our results of operation and financial position. The most significant anticipated effect on our financial statements on adoption would be discontinuing goodwill amortization and the possible recording of a goodwill impairment loss measured as of the date of adoption.

Certain Risk Factors That Could Affect Future Results

From time to time we may make written or oral forward-looking statements. Written forward-looking statements may appear in documents filed with the Securities and Exchange Commission, in press releases, and in reports to stockholders.

The Private Securities Reform Act of 1995 contains a safe harbor for forward-looking statements on which the Company relies in making such disclosures. In connection with this “safe harbor” we are hereby identifying important factors that could cause actual results to differ materially from those contained in any forward-looking statements made by or on behalf of the Company. Any such statement is qualified by reference to the following cautionary statements:

WE INCURRED A NET LOSS IN THE YEAR ENDED DECEMBER 31, 2000 AND DURING THE SIX MONTH PERIOD ENDING JUNE 30, 2001, PRIMARILY AS A RESULT OF THE AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES AND DEFERRED COMPENSATION CHARGES FROM RECENT ACQUISITIONS. WE EXPECT TO CONTINUE TO INCUR NET LOSSES FOR THE FORESEEABLE FUTURE.

We reported a net loss of $153.0 million for the year ended December 31, 2000 and $148.4 million for the six months ended June 30, 2001. A major contributing factor to the net losses was the amortization of goodwill and other intangibles and deferred stock compensation related to our acquisitions of Fiber Optic Communications, Jolt, Quantum Optech, AstroTerra and Optronics and Luminent’s employment arrangements with its President and Chief Financial Officer. We will continue to record amortization of goodwill and other intangibles and deferred stock compensation relating to these acquisitions and Luminent’s employment arrangements with its executives. Effective January 1, 2002, with the adoption of SFAS 142, we will stop amortization of goodwill, however, we may be required to record an impairment charge (see Recently Issued Accounting Standards). As a consequence of these charges, we do not expect to report net income in the foreseeable future.

OUR MARKETS ARE SUBJECT TO RAPID TECHNOLOGICAL CHANGE, AND TO COMPETE EFFECTIVELY, WE MUST CONTINUALLY INTRODUCE NEW PRODUCTS THAT ACHIEVE MARKET ACCEPTANCE.

The markets for our products are characterized by rapid technological change, frequent new product introductions, changes in customer requirements and evolving industry standards. We expect that new technologies will emerge as competition and the need for higher and more cost effective transmission capacity, or bandwidth, increases. Our future performance will depend on the successful development, introduction and market acceptance of new and enhanced products that address these changes as well as current and potential customer requirements. The introduction of new and enhanced products may cause our customers to defer or cancel orders for existing products. We have in the past experienced delays in product development and such delays may occur in the future. Therefore, to the extent customers defer or cancel orders in the expectation of a new product release or there is any delay in development or introduction of our new products or enhancements of our products, our operating results would suffer. We also may not be able to develop the underlying core technologies necessary to create new products and enhancements, or to license these technologies from third parties. Product development delays may result from numerous factors, including:

•		changing product specifications and customer requirements;

•		difficulties in hiring and retaining necessary technical personnel;

•		difficulties in reallocating engineering resources and overcoming resource limitations;

•		difficulties with contract manufacturers;

•		changing market or competitive product requirements; and

•		unanticipated engineering complexities.

The development of new, technologically advanced products is a complex and uncertain process requiring high levels of innovation and highly skilled engineering and development personnel, as well as the accurate anticipation of technological and market trends. In order to compete, we must be able to deliver products to customers that are highly reliable, operate with its existing equipment, lower the customer’s costs of acquisition, installation and maintenance, and provide an overall cost-effective solution. We cannot assure you that we will be able to identify, develop, manufacture, market or support new or enhanced products successfully, if at all, or on a timely basis. Further, we cannot assure you that our new products will gain market acceptance or that we will be able to respond effectively to product announcements by competitors, technological changes or emerging industry standards. Any failure to respond to technological changes would significantly harm our business.

DEFECTS IN OUR PRODUCTS RESULTING FROM THEIR COMPLEXITY OR OTHERWISE COULD HURT OUR FINANCIAL PERFORMANCE.

Complex products, such as those our companies and we offer, may contain undetected software or hardware errors when we first introduce them or when we release new versions. The occurrence of such errors in the future, and our inability to correct such errors quickly or at all, could result in the delay or loss of market acceptance of our products. It could also result in material warranty expense, diversion of engineering and other resources from our product development efforts and the loss of credibility with our customers, system integrators and end users. Any of these or other eventualities resulting from defects in our products could have a material adverse effect on our business, operating results and financial condition.

OUR GROWTH RATE MAY BE LOWER THAN HISTORICAL LEVELS AND OUR RESULTS COULD FLUCTUATE SIGNIFICANTLY FROM QUARTER TO QUARTER.

Our revenues may grow at a slower rate in the future than we have experienced in previous periods and, on a quarter-to-quarter basis, our growth in revenue may be significantly lower than our historical quarterly growth rates. Our operating results for a particular quarter are extremely difficult to predict. Our revenue and operating results could fluctuate substantially from quarter to quarter and from year to year. This could result from any one or a combination of factors such as

•		the cancellation or postponement of orders,

•		the timing and amount of significant orders from our largest customers,

•		our success in developing, introducing and shipping product enhancements and new products,

•		the mix of products we sell,

•		adverse effects to our financial statements resulting from, or necessitated by, past and future acquisitions or deferred compensation charges,

•		new product introductions by our competitors,

•		pricing actions by our competitors or us,

•		the timing of delivery and availability of components from suppliers,

•		changes in material costs, and

•		general economic conditions.

Moreover, the volume and timing of orders we receive during a quarter are difficult to forecast. From time to time, our customers encounter uncertain and changing demand for their products. Customers generally order based on their forecasts. If demand falls below such forecasts or if customers do not control inventories effectively, they may cancel or reschedule shipments previously ordered from us. Our expense levels during any particular period are based, in part, on expectations of future sales. If sales in a particular quarter do not meet expectations, our operating results could be materially adversely affected. We can give no assurance that these factors or others, such as those discussed below regarding the risks we face from our international operations or the risks discussed immediately below, would not cause future fluctuations in operating results. Further, there can be no assurance that we will be able to continue profitable operations.

THE LONG SALES CYCLES FOR OUR PRODUCTS MAY CAUSE REVENUES AND OPERATING RESULTS TO VARY FROM QUARTER TO QUARTER, WHICH COULD CAUSE VOLATILITY IN OUR STOCK PRICE.

The timing of our revenue is difficult to predict because of the length and variability of the sales and implementation cycles for our products. We do not recognize revenue until a product has been shipped to a customer, all significant vendor obligations have been performed and collection is considered probable. Customers often view the purchase of our products as a significant and strategic decision. As a result, customers typically expend significant effort in evaluating, testing and qualifying our products and our manufacturing process. This customer evaluation and qualification process frequently results in a lengthy initial sales cycle of, depending on the products, many months or more. In addition, some of our customers require that our products be subjected to lifetime and reliability testing, which also can take months or more. While our customers are evaluating our products and before they place an order with us, we may incur substantial sales and marketing and research and development expenses to customize our products to the customer’s needs. We may also expend significant management efforts, increase manufacturing capacity and order long lead-time components or materials prior to receiving an order. Even after this evaluation process, a potential customer may not purchase our products. Even after acceptance of orders, our customers often change the scheduled delivery dates of their orders. Because of the evolving nature of the optical networking and network infrastructure markets, we cannot predict the length of these sales, development or delivery cycles. As a result, these long sales cycles may cause our net sales and operating results to vary significantly and unexpectedly from quarter-to-quarter, which could cause volatility in our stock price.

MACROECONOMIC FACTORS HAVE NEGATIVELY IMPACTED OUR BUSINESS PLAN.

Macroeconomic factors, such as an economic slowdown in the U.S. and abroad, have detrimentally impacted demand for communication products, thereby resulting in reduced demand for optical components in general. If recent trends continue, these factors could negatively affect our ability to execute our business plan, including with respect to the distribution of Luminent shares to our shareholders.

The unfavorable economic conditions and reduced capital spending detrimentally affected sales to service providers, network equipment companies, e-commerce and Internet businesses, and the manufacturing industry in the United States, during the last six months, and appear to continue to affect these industries in the third quarter of 2001 and may affect them beyond the third quarter. Announcements by industry participants and observers indicate there is a slowdown in industry spending and participants are seeking to reduce existing inventories and we are experiencing such reductions in our business. This has resulted in lower demand for our products and pressures to reduce prices. As a result of these factors, we have recorded in the second quarter consolidated one-time charges from our subsidiary, Luminent, which include the write-off of inventory, purchase commitments, asset impairment, workforce reduction, restructuring costs and other non-recurring items. The aggregate one-time charges recorded during the second quarter were $41.2 million. These charge are the result of the lower demand for Luminent's products and pricing pressures stemming from the continuing downturn in the communications equipment industry generally and the optical components sector in particular. If the economic conditions in the United States continue or worsen generally or in the fiber optics and networking equipment businesses particularly, or if a wider or global economic slowdown occurs, we may experience a longer-term material adverse impact on our business, operating results, and financial condition.

THE PRICES OF OUR SHARES MAY CONTINUE TO BE HIGHLY VOLATILE.

Historically, the market price of our shares has been extremely volatile. The market price of our common stock is likely to continue to be highly volatile and could be significantly affected by factors such as

•		actual or anticipated fluctuations in our operating results,

•		announcements of technological innovations or new product introductions by us or our competitors,

•		changes of estimates of our future operating results by securities analysts,

•		developments with respect to patents, copyrights or proprietary rights, and

•		general market conditions and other factors.

In addition, the stock market has experienced extreme price and volume fluctuations that have particularly affected the market prices for the common stocks of technology companies in particular, and that have been unrelated to the operating performance of these companies. These factors, as well as general economic and political conditions, may materially adversely affect the market price of our common stock in the future. Similarly, the failure by our competitors or customers to meet or exceed the results expected by their analysts or investors could have a ripple effect on us and cause our stock price to decline. Additionally, volatility or a lack of positive performance in our stock price may adversely affect our ability to retain key employees, all of whom have been granted stock options.

OUR STOCK PRICE MIGHT SUFFER AS A CONSEQUENCE OF OUR INVESTMENTS IN AFFILIATES.

We have created several start-up companies and formed independent business units in the optical technology and Internet infrastructure areas. We account for these investments in affiliates according to the equity or cost methods as required by accounting principles generally accepted in the United States. The market value of these investments may vary materially from the amounts shown as a result of business events specific to these entities or their competitors or market conditions. Actual or perceived changes in the market value of these investments could have a material impact on our share price and in addition could contribute significantly to volatility of our share price.

FLUCTUATIONS IN THE PRICE OF THE COMMON STOCK OF OUR PUBLICLY TRADED SUBSIDIARY, LUMINENT, INC., MAY AFFECT THE PRICE OF OUR COMMON STOCK.

The stock of our subsidiary, Luminent began trading publicly in November 2000. We own approximately 92% of Luminent. On July 30, 2001, our equity interest in Luminent had a market value of approximately $440.6 million (based on Luminent’s closing price of $3.06 per share on that date and our ownership of 144 million shares of Luminent’s common stock), which is significant with respect to our market value of approximately $464.2 million (based on a closing price of $6.00 per share of our common stock and 77,361,627 shares of our common stock outstanding on that date). Fluctuations in the price of Luminent’s common stock are likely to affect the price of our common stock. The market price of Luminent’s common stock has been highly volatile and subject to fluctuations unrelated or disproportionate to its operating performance.

OUR BUSINESS STRATEGY MAY NOT BE SUCCESSFUL IF VALUATIONS OF OPTICAL TECHNOLOGY AND NETWORKING INFRASTRUCTURE COMPANIES CONTINUE TO DECLINE.

Our strategy involves creating value for our stockholders and the owners of our subsidiaries and partner companies by helping our subsidiaries and partner companies grow and access the public and private capital markets. Therefore, our success is dependent on acceptance by the public and private capital markets of optical technology and networking infrastructure companies in general and of initial public offerings of those companies in particular. If the capital markets for networking infrastructure companies or the market for initial public offerings of those companies remains weak for an extended period of time, our subsidiaries and partner companies may not be able to complete initial public offerings and thus the value we hope to create for our stockholders may not be realized.

OUR BUSINESS IS INTENSELY COMPETITIVE AND THE EVIDENT TREND OF CONSOLIDATIONS IN OUR INDUSTRY COULD MAKE IT MORE SO.

The markets for fiber optic components and networking products are intensely competitive and subject to frequent product introductions with improved price/performance characteristics, rapid technological change and the continual emergence of new industry standards. We compete and will compete with numerous types of companies including companies that have been established for many years and have considerably greater financial, marketing, technical, human and other resources, as well as greater name recognition and a larger installed customer base, than we do. This may give such competitors certain advantages, including the ability to negotiate lower prices on raw materials and components than those available to us. In addition, many of our large competitors offer customers broader product lines, which provide more comprehensive solutions than our current offerings. We expect that other companies will also enter markets in which we compete. Increased competition could result in significant price competition, reduced profit margins or loss of market share. We can give no assurance that we will be able to compete successfully with existing or future competitors or that the competitive pressures we face will not materially and adversely affect our business, operating results and financial condition. In particular, we expect that prices on many of our products will continue to decrease in the future and that the pace and magnitude of such price decreases may have an adverse impact on our results of operations or financial condition.

There has been a trend toward industry consolidation for several years. We expect this trend toward industry consolidation to continue as companies attempt to strengthen or hold their market positions in an evolving industry. We believe that industry consolidation may provide stronger competitors that are better able to compete. This could have a material adverse effect on our business, operating results and financial condition.

WE MAY HAVE DIFFICULTY MANAGING OUR GROWTH.

We have grown rapidly in recent years, with revenues increasing from $88.8 million for the year ended December 31, 1996, to $319.4 million for the year ended December 31, 2000. Our growth, both internally and through the acquisitions we have made has placed a significant strain on our financial and management personnel and information systems and controls. As a consequence, we must continually implement new and enhance existing financial and management information systems and controls and must add and train personnel to operate such systems effectively. Our delay or failure to implement new and enhance existing systems and controls as needed could have a material adverse effect on our results of operations and financial condition in the future. Our intention to continue to pursue a growth strategy can be expected to place even greater pressure on our existing personnel and to compound the need for increased personnel, expanded information systems, and additional financial and administrative control procedures. We can give no assurance that we will be able to successfully manage operations if they continue to expand.

WE FACE RISKS FROM OUR INTERNATIONAL OPERATIONS.

International sales have become an increasingly important segment of our operations. The following table sets forth the percentage of our total net revenues from sales to customers in foreign countries for the periods indicated below:


										Six months ended
	Year ended December 31									June 30

	1998			1999			2000			2000			2001

Percent of total revenue from foreign sales		59	%		58	%		63	%		60	%		63	%

We have companies and offices in, and conduct a significant portion of our operations in and from, Israel. We are, therefore, directly influenced by the political and economic conditions affecting Israel. Any major hostilities involving Israel, the interruption or curtailment of trade between Israel and its trading partners or a substantial downturn in the economic or financial condition of Israel could have a material adverse effect on our operations. In addition, the recent acquisition of operations in Taiwan and People’s Republic of China has increased both the administrative complications we must manage and our exposure to political, economic and other conditions affecting Taiwan and People’s Republic of China. Currently there is significant political tension between Taiwan and People’s Republic of China, which could lead to hostilities.

Risks we face due to international sales and the use of overseas manufacturing include:

•		greater difficulty in accounts receivable collection and longer collection periods;

•		the impact of recessions in economies outside the United States;

•		unexpected changes in regulatory requirements;

•		seasonal reductions in business activities in some parts of the world, such as during the summer months in Europe or in the winter months in Asia when the Chinese New Year is celebrated;

•		certification requirements;

•		potentially adverse tax consequences;

•		unanticipated cost increases;

•		unavailability or late delivery of equipment;

•		trade restrictions;

•		limited protection of intellectual property rights;

•		unforeseen environmental or engineering problems; and

•		personnel recruitment delays.

Our sales are currently denominated in U.S. dollars and to date our business has not been significantly affected by currency fluctuations or inflation. However, as we conduct business in several different countries, fluctuations in currency exchange rates could cause our products to become relatively more expensive in particular countries, leading to a reduction in sales in that country. In addition, inflation or fluctuations in currency exchange rates in such countries could increase our expenses. The Single European Currency (Euro) was introduced on January 1, 1999 with complete transition to this new currency required by January 2002. We have made and expect to continue to make changes to our internal systems in order to accommodate doing business in the Euro. Any delays in our ability to be Euro-compliant could have an adverse impact on our results of operations or financial condition. Due to numerous uncertainties, we cannot reasonably estimate at this time the effects a common currency will have on pricing within the European Union and the resulting impact, if any, on our financial condition or results of operations.

To date, we have not hedged against currency exchange risks. In the future, we may engage in foreign currency denominated sales or pay material amounts of expenses in foreign currencies and, in such event, may experience gains and losses due to currency fluctuations. Our operating results could be adversely affected by such fluctuations or as a result of inflation in particular countries where material expenses are incurred.

THE SLOWDOWN IN GROWTH RATES IN OUR INDUSTRY COULD ADVERSELY AFFECT OUR GROWTH.

Our success is dependent, in part, on the overall growth rate of the fiber optic components and networking industry. We can give no assurance that the Internet or the industries that serve it will continue to grow or that we will achieve higher growth rates. Our business, operating results or financial condition may be adversely affected by any decrease in industry growth rates. In addition, we can give no assurance that our results in any particular period will fall within the ranges for growth forecast by market researchers.

WE DEPEND ON THIRD-PARTY CONTRACT MANUFACTURERS FOR NEEDED COMPONENTS AND THEREFORE COULD FACE DELAYS HARMING OUR SALES.

We outsource the board-level assembly, test and quality control of material, components, subassemblies and systems relating to our networking products to third-party contract manufacturers. Though there are a large number of contract manufacturers that we can use for outsourcing, we have elected to use a limited number of vendors for a significant portion of our board assembly requirements in order to foster consistency in quality of the products and to achieve economies of scale. These independent third-party manufacturers also provide the same services to other companies. Risks associated with the use of independent manufacturers include unavailability of or delays in obtaining adequate supplies of products and reduced control of manufacturing quality and production costs. If our contract manufacturers failed to deliver needed components timely, we could face difficulty in obtaining adequate supplies of products from other sources in the near term. We can give no assurance that our third party manufacturers will provide us with adequate supplies of quality products on a timely basis, or at all. While we could outsource with other vendors, a change in vendors may require significant lead-time and may result in shipment delays and expenses. Our inability to obtain such products on a timely basis, the loss of a vendor or a change in the terms and conditions of the outsourcing would have a material adverse effect on our business, operating results and financial condition.

WE MAY LOSE SALES IF SUPPLIERS OF OTHER CRITICAL COMPONENTS FAIL TO MEET OUR NEEDS.

Our companies currently purchase several key components used in the manufacture of our products from single or limited sources. We depend on these sources to meet our needs. Moreover, we depend on the quality of the products supplied to us over which we have limited control. We have encountered shortages and delays in obtaining components in the past and expect to encounter shortages and delays in the future. If we cannot supply products due to a lack of components, or are unable to redesign products with other components in a timely manner, our business will be significantly harmed. We have no long-term or short-term contracts for any of our components. As a result, a supplier can discontinue supplying components to us without penalty. If a supplier discontinued supplying a component, our business may be harmed by the resulting product manufacturing and delivery delays.

OUR INABILITY TO ACHIEVE ADEQUATE PRODUCTION YIELDS FOR CERTAIN COMPONENTS WE MANUFACTURE INTERNALLY COULD RESULT IN A LOSS OF SALES AND CUSTOMERS.

We rely heavily on our own production capability for critical semiconductor lasers and light emitting diodes used in our products. Because we manufacture these and other key components at our own facilities and such components are not readily available from other sources, any interruption of our manufacturing processes could have a material adverse effect on our operations. Furthermore, we have a limited number of employees dedicated to the operation and maintenance of our wafer fabrication equipment, the loss of any of whom could result in our inability to effectively operate and service such equipment. Wafer fabrication is sensitive to many factors, including variations and impurities in the raw materials, the fabrication process, performance of the manufacturing equipment, defects in the masks used to print circuits on the wafer and the level of contaminants in the manufacturing environment. We can give no assurance that we will be able to maintain acceptable production yields and avoid product shipment delays. In the event adequate production yields are not achieved, resulting in product shipment delays, our business, operating results and financial condition could be materially adversely affected.

FUTURE HARM COULD RESULT FROM ADDITIONAL ACQUISITIONS.

An important element of our strategy is to review acquisition prospects that would complement our existing companies and products, augment our market coverage and distribution ability or enhance our technological capabilities.

Future acquisitions could have a material adverse effect on our business, financial condition and results of operations because of the

•		possible charges to operations for purchased technology and restructuring similar to those incurred in connection with our acquisition of Xyplex in 1998;

•		potentially dilutive issuances of equity securities;

•		incurrence of debt and contingent liabilities;

•		incurrence of amortization expenses related to goodwill and other intangible assets and deferred compensation charges similar to those arising with the acquisitions of Fiber Optic Communications, Optronics, Quantum Optech, Jolt and Astroterra in 2000;

•		difficulties assimilating the acquired operations, technologies and products;

•		diversion of management’s attention to other business concerns;

•		risks of entering markets in which we have no or limited prior experience;

•		potential loss of key employees of acquired organizations; and

•		difficulties in honoring commitments made to customers by management of the acquired entity prior to the acquisition.

We can give no assurance as to whether we can successfully integrate the companies, products, technologies or personnel of any business that we might acquire in the future.

WE CANNOT PREDICT THE IMPACT OF RECENT ACTIONS AND COMMENTS BY THE SEC.

Actions and comments from the SEC have indicated they are reviewing the current valuation methodology of in-process research and development related to business combinations. We believe we are in compliance with all of the existing rules and related guidance as applicable to our business operations. However, the SEC may change these rules or issue new guidance applicable to our business in the future. There can be no assurance that the SEC will not seek to reduce the amount of in-process research and development previously expensed by us. This would result in the restatement of our previously filed financial statements and could have a material adverse effect on our operating results and financial condition for periods subsequent to the acquisitions.

IF WE FAIL TO ADEQUATELY PROTECT OUR INTELLECTUAL PROPERTY, WE MAY NOT BE ABLE TO COMPETE.

We rely on a combination of trade secret laws and restrictions on disclosure and patents, copyrights and trademarks to protect our intellectual property rights. We cannot assure you that our pending patent applications will be approved, that any patents that may be issued will protect our intellectual property or that third parties will not challenge any issued patents. Other parties may independently develop similar or competing technology or design around any patents that may be issued to us. We cannot be certain that the steps we have taken will prevent the misappropriation of our intellectual property, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States. Any such litigation, regardless of outcome, could be expensive and time consuming, and adverse determinations in any such litigation could seriously harm our business.

WE COULD BECOME SUBJECT TO LITIGATION REGARDING INTELLECTUAL PROPERTY RIGHTS, WHICH COULD BE COSTLY AND SUBJECT US TO SIGNIFICANT LIABILITY.

From time to time, third parties, including our competitors, may assert patent, copyright and other intellectual property rights to technologies that are important to us. We expect we will increasingly be subject to license offers and infringement claims as the number of products and competitors in our market grows and the functioning of products overlaps. In this regard, in March 1999, we received a written notice from Lemelson Foundation Partnership in which Lemelson claimed to have patent rights in our vision and automatic identification operations, which are widely used in the manufacture of electronic assemblies. In April 1999, we received a written notice from Rockwell International Corporation in which Rockwell claimed to have patent rights in certain technology related to our metal organic chemical vapor deposition, or MOCVD, processes. In October 1999, we received written notice from Lucent Technologies, Inc. in which Lucent claimed we have violated certain of Lucent’s patents falling into the general category of communications technology, with a focus on networking functionality. In October 1999, we received a written notice from Ortel Corporation, which has since been acquired by Lucent, in which Ortel claimed to have patent rights in certain technology related to our photodiode module products. In July 2000, we received written notice from Nortel Networks which claimed we violated Nortel’s patent relating to technology associated with local area networks. In May 2001, we received written notice from IBM which claims that several of our optical components and Internet infrastructure products make use of inventions covered by certain patents claimed by IBM. We are evaluating the patents noted in the letters. Others’ patents, including Lemelson’s, Rockwell’s, Lucent’s, Ortel’s, Nortel’s and IBM’s, may be determined to be valid, or some of our products may ultimately be determined to infringe the Lemelson, Rockwell, Lucent, Ortel, Nortel or IBM patents, or those of other companies.

Lemelson, Rockwell, Lucent, Ortel, Nortel or IBM, or other companies may pursue litigation with respect to these or other claims. The results of any litigation are inherently uncertain. In the event of an adverse result in any litigation with respect to intellectual property rights relevant to our products that could arise in the future, we could be required to obtain licenses to the infringing technology, to pay substantial damages under applicable law, to cease the manufacture, use and sale of infringing products or to expend significant resources to develop non-infringing technology. Licenses may not be available from third parties, including Lemelson, Rockwell, Lucent, Ortel, Nortel or IBM, either on commercially reasonable terms or at all. In addition, litigation frequently involves substantial expenditures and can require significant management attention, even if we ultimately prevail. Accordingly, any infringement claim or litigation against us could significantly harm our business, operating results and financial condition.

In the future, we may initiate claims or litigation against third parties for infringement of our proprietary rights to protect these rights or to determine the scope and validity of our proprietary rights or the proprietary rights of competitors. These claims could result in costly litigation and the diversion of our technical and management personnel.

NECESSARY LICENSES OF THIRD-PARTY TECHNOLOGY MAY NOT BE AVAILABLE TO US OR MAY BE VERY EXPENSIVE, WHICH COULD ADVERSELY AFFECT OUR ABILITY TO MANUFACTURE AND SELL OUR PRODUCTS.

From time to time we may be required to license technology from third parties to develop new products or product enhancements. We cannot assure you that third-party licenses will be available to us on commercially reasonable terms, if at all. The inability to obtain any third-party license required to develop new products and product enhancements could require us to obtain substitute technology of lower quality or performance standards or at greater cost, either of which could seriously harm our ability to manufacture and sell our products.

WE ARE DEPENDENT ON CERTAIN MEMBERS OF OUR SENIOR MANAGEMENT.

We are substantially dependent upon Dr. Shlomo Margalit, our Chairman of the Board of Directors and Chief Technical Officer, and Mr. Noam Lotan, our President and Chief Executive Officer. The loss of the services of either of these officers could have a material adverse effect on us. We have entered into employment agreements with Dr. Margalit and Mr. Lotan and are the beneficiary of key man life insurance policies in the amounts of $1.0 million each on their lives. However, we can give no assurance that the proceeds from these policies will be sufficient to compensate us in the event of the death of either of these individuals, and the policies are not applicable in the event that either of them becomes disabled or is otherwise unable to render services to us.

OUR BUSINESS REQUIRES US TO ATTRACT AND RETAIN QUALIFIED PERSONNEL.

Our ability to develop, manufacture and market our products, run our companies and our ability to compete with our current and future competitors depends, and will depend, in large part, on our ability to attract and retain qualified personnel. Competition for executives and qualified personnel in the networking and fiber optics industries is intense, and we will be required to compete for such personnel with companies having substantially greater financial and other resources than we do. To attract executives, we have had to enter into compensation arrangements, like those with Dr. William R. Spivey, the President and Chief Executive of Luminent, that have resulted in substantial deferred compensation charges and adversely affected our results of operations. We may enter into similar arrangements in the future to attract qualified executives. If we should be unable to attract and retain qualified personnel, our business could be materially adversely affected. We can give no assurance that we will be able to attract and retain qualified personnel.

WE MAY INCUR SIGNIFICANT COSTS TO AVOID INVESTMENT COMPANY STATUS AND MAY SUFFER ADVERSE CONSEQUENCES IF DEEMED TO BE AN INVESTMENT COMPANY.

We may incur significant costs to avoid investment company status and may suffer other adverse consequences if deemed to be an investment company under the Investment Company Act of 1940. The Investment Company Act of 1940 requires registration for companies that are engaged primarily in the business of investing, reinvesting, owning, holding or trading in securities. A company may be deemed to be an investment company if it owns “investment securities” with a value exceeding 40% of the value of its total assets (excluding government securities and cash items) on an unconsolidated basis, unless an exemption or safe harbor applies. Securities issued by companies other than majority-owned subsidiaries are generally counted as investment securities for purposes of the Investment Company Act. Investment companies are subject to registration under, and compliance with, the Investment Company Act unless a particular exclusion or safe harbor provision applies. If we were to be deemed an investment company, we would become subject to the requirements of the Investment Company Act. As a consequence, we would be prohibited from engaging in business or issuing our securities as we have in the past and might be subject to civil and criminal penalties for noncompliance. In addition, certain of our contracts might be voidable.

Registration as an investment company would subject us to restrictions that are inconsistent with our fundamental business strategy of equity growth through creating, acquiring, building and operating optical components and network infrastructure companies. Although our investment securities currently comprise substantially less than 40% of our total assets, fluctuations in the value of these securities or of our other assets may cause this limit to be exceeded. In that case, unless an exclusion or safe harbor was available to us, we would have to attempt to reduce our investment securities as a percentage of our total assets. This reduction can be attempted in a number of ways, including the disposition of investment securities and the acquisition of non-investment security assets. If we were required to sell investment securities, we may sell them sooner than we otherwise would. These sales may be at depressed prices and we may never realize anticipated benefits from, or may incur losses on, these investments. We may be unable to sell some investments due to contractual or legal restrictions or the inability to locate a suitable buyer. Moreover, we may incur tax liabilities when we sell assets. We may also be unable to purchase additional investment securities that may be important to our operating strategy. If we decide to acquire non-investment security assets, we may not be able to identify and acquire suitable assets and businesses or the terms on which we are able to acquire such assets may be unfavorable.

Signature

Pursuant to the requirements of the Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant certifies that it has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized on December 27, 2001.

MRV COMMUNICATIONS, INC

By: /s/ Noam Lotan

Noam Lotan
President and Chief Financial Officer

By: /s/ Shay Gonen

Shay Gonen
Interim Chief Financial Officer

MRV Communications (MRVC) Inactive 10-Q/A2001 Q2 Quarterly report (amended)

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