Ciena (CIEN) 10-Q 2005 Q3 Quarterly report

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

(Mark one)

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

For the quarterly period ended July 31, 2005

OR

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

For the transition period from          to          

Commission file number: 0-21969

Ciena Corporation

(Exact name of registrant as specified in its charter)

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

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

(410) 865-8500

(Registrant’s telephone number, including area code)

     Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YESþ NOo

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). YESþ NOo

     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YESo NOþ

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

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

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CIENA CORPORATION

INDEX

FORM 10-Q

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

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PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

CIENA CORPORATION

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

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

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

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CIENA CORPORATION

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

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

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

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CIENA CORPORATION

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

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

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

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CIENA CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(1) INTERIM FINANCIAL STATEMENTS

     The interim financial statements included herein for Ciena Corporation (“Ciena”) have been prepared by Ciena, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. In the opinion of management, financial statements included in this report reflect all normal recurring adjustments that Ciena considers necessary for the fair presentation of the results of operations for the interim periods covered and of the financial position of Ciena at the date of the interim balance sheet. Certain information and footnote disclosures normally included in the annual financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. However, Ciena believes that the disclosures are adequate to understand the information presented. The operating results for interim periods are not necessarily indicative of the operating results for the entire year. These financial statements should be read in conjunction with Ciena’s audited consolidated financial statements and notes thereto included in Ciena’s annual report on Form 10-K for the fiscal year ended October 31, 2004.

(2) SIGNIFICANT ACCOUNTING POLICIES

Segment Reporting

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

Goodwill

     As of July 31, 2005, Ciena’s assets included $408.6 million related to goodwill. Because our operations are organized into operating segments, SFAS 142 requires that we assign goodwill to Ciena’s reporting units. Ciena has determined its operating segments and reporting units are the same. In accordance with SFAS 142, Ciena tests each reporting unit’s goodwill for impairment on an annual basis. Ciena annually tests for impairment on the last business day of September each year, and between annual tests if events occur or circumstances change that would, more likely than not, reduce the fair value of the reporting unit below its carrying value. The following table summarizes the assignment and changes in the carrying amount of Ciena’s goodwill to its reporting units as of July 31, 2005 (in thousands):

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

Impairment or Disposal of Long-lived Assets

     Ciena accounts for the impairment or disposal of long-lived assets such as equipment, furniture, fixtures, and other intangible assets in accordance with the provisions of SFAS 144, “Accounting for the Impairment or Disposal of Long-lived Assets.” During the first nine months of fiscal 2005, Ciena recorded impairment losses of $0.1 million primarily related to excess research and development test equipment classified as held for sale.

Investments

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

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

Pro Forma Stock-Based Compensation

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

     Ciena has elected to continue to account for its stock-based compensation in accordance with the provisions of APB 25 as interpreted by FASB Interpretation No. 44, “Accounting for Certain Transactions Involving Stock Compensation (an Interpretation of APB Opinion No. 25)” and will implement SFAS 123R beginning the first quarter of fiscal 2006.

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

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

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

(3) RESTRUCTURING COSTS

     Ciena has previously taken actions to align its workforce, facilities and operating costs with business opportunities. Prior to the adoption of SFAS 146, “Accounting for Costs Associated with Exit or Disposal Activities,” applicable to transactions initiated after December 31, 2002, Ciena followed the guidance of Emerging Issues Task Force Issue No. 94-3 (“EITF 94-3”), “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring),” for restructuring charges. However, given the manner in which Ciena undertook such restructuring activities, there have been no significant

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differences in financial reporting. Ciena historically has committed to a restructuring plan and has incurred the associated liability concurrently in accordance with the provisions of SFAS 146. The following table displays the activity and balances of the restructuring reserve account for the first nine months of fiscal 2005 (in thousands):

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

(a)	During the first quarter of fiscal 2005, Ciena recorded a charge of approximately $1.0 million related to a workforce reduction of approximately 21 employees. During the second quarter of fiscal 2005, Ciena recorded a charge of approximately $2.1 million related to a workforce reduction of approximately 53 employees. During the third quarter of fiscal 2005, Ciena recorded a charge of approximately $2.3 million related to a workforce reduction of approximately 96 employees.
(b)	During the first and second quarter of fiscal 2005, Ciena incurred a charge of approximately $0.3 million related to certain other costs associated with the closure of its San Jose, CA facility on September 30, 2004. During the third quarter of fiscal 2005, Ciena recorded a charge of approximately $0.1 million related to the closure of one of its Kanata, Canada facilities.
(c)	During the first quarter of fiscal 2005, Ciena reversed a charge of $0.1 million related to an adjustment to vacated facility cost estimates. During the second quarter of fiscal 2005, Ciena recorded a charge of approximately $7.6 million related to a decrease in estimated future sublease payments for previously restructured facilities. During the third quarter of fiscal 2005, Ciena recorded a charge of approximately $1.9 million related to a decrease in estimated future sublease payments for previously restructured facilities. These adjustments to previously restructured facilities are due to the continued excess supply of commercial property.

(4) MARKETABLE DEBT AND EQUITY SECURITIES

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

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

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

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

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

(5) ACCOUNTS RECEIVABLE

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

     Ciena performs ongoing credit evaluations of its customers and generally has not required collateral or other forms of security from its customers. Ciena maintains an allowance for potential losses on a specific identification basis. During the third quarter of fiscal 2005, Ciena recorded a provision for doubtful accounts of $2.6 million relating to one customer. Ciena’s allowance for doubtful accounts as of October 31, 2004 and July 31, 2005 was $1.0 and $3.3 million, respectively.

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(6) INVENTORIES

     Inventories are comprised of the following (in thousands):

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

     Ciena writes down its inventory for estimated obsolescence or unmarketable inventory by the difference between the cost of inventory and the estimated market value based on assumptions about future demand and market conditions. During the nine months ended July 31, 2005, Ciena recorded a provision for excess inventory of $3.4 million, primarily related to excess inventory due to a change in forecasted sales for certain products. The following is a summary of the change in the reserve for excess inventory and obsolete inventory during the nine months ended July 31, 2005 (in thousands):

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

     During the nine months ended July 31, 2004, Ciena recorded a provision for excess inventory of $3.0 million, primarily related to excess inventory due to a change in forecasted sales for certain products. The following is a summary of the change in the reserve for excess and obsolete inventory during the nine months ended July 31, 2004 (in thousands):

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

(7) EQUIPMENT, FURNITURE AND FIXTURES

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

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

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

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

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(8) OTHER INTANGIBLE ASSETS

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

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

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

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

(9) OTHER BALANCE SHEET DETAILS

     Other long-term assets (in thousands):

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

     Accrued liabilities (in thousands):

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

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

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

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Deferred revenue (in thousands):

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

(10) CONVERTIBLE NOTES PAYABLE

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

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

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

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

     On December 19, 2003, Ciena purchased the remaining $48.2 million of the outstanding ONI Systems Corp. 5.0% convertible subordinated notes. Ciena paid $49.2 million for notes with a cumulative accreted book value of $41.0 million, which resulted in a loss on early extinguishment of debt of $8.2 million.

(11) LOSS PER SHARE CALCULATION

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

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

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(12) COMPREHENSIVE LOSS

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

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

(13) SEGMENT REPORTING

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

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

* Denotes % of total revenue

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

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

N/A Denotes recognized less than 10% of total revenue for the period
*	Denotes % of total revenue

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

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

* Denotes % of total revenue

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

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

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

(14) CONTINGENCIES

Litigation

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

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

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

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

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

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

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

Overview

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

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

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

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

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

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

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

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

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

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

Results of Operations

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

Revenue, cost of goods sold and gross profit

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

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

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

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

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

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

*	Denotes % of product revenue
**	Denotes % change from 2004 to 2005

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

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

*	Denotes % of service revenue
**	Denotes % change from 2004 to 2005

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

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

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

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

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

N/A  Denotes revenue recognized less than 10% of total revenue for the period
*	Denotes % of total revenue

Revenue

• Product revenueincreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 due to increased sales of our transport and switching products and broadband access systems.

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

• International revenuedecreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily due to decreased international sales of our transport and switching products.

Gross profit

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

Operating expenses

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

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	Quarter Ended July 31,
												Increase
	2004			%*			2005			%*		(decrease)			%**
Research and development	$	57,762			76.4		$	32,619			29.5	$	(25,143	)		(43.5	)
Selling and marketing		29,468			39.0			29,275			26.5		(193	)		(0.7	)
General and administrative		6,969			9.2			9,340			8.5		2,371			34.0
Stock compensation costs:
Research and development		1,860			2.5			2,195			2.0		335			18.0
Selling and marketing		1,214			1.6			934			0.8		(280	)		(23.1	)
General and administrative		879			1.2			153			0.1		(726	)		(82.6	)
Amortization of intangible assets		12,667			16.8			9,653			8.7		(3,014	)		(23.8	)
In-process research and development		30,200			40.0			—			—		(30,200	)		(100.0	)
Restructuring costs		13,547			17.9			4,355			3.9		(9,192	)		(67.9	)
Long-lived asset impairments		7,217			9.5			(25	)		—		(7,242	)		(100.3	)
Recovery of sale, export, use tax liabilities and payments		(3,457	)		(4.6	)		—			—		3,457			(100.0	)
Provision for doubtful accounts, net		—			—			2,604			2.4		2,604			100.0
Total operating expenses	$	158,326			209.5		$	91,103			82.4	$	(67,223	)		(42.5	)

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

• Research and development expensedecreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 due to reductions in accelerated leasehold amortization, employee-related costs, consulting fees, depreciation expense and facility-related costs. Research and development expense during the third quarter of fiscal 2004 includes $12.5 million of accelerated leasehold amortization due to the closing of our San Jose, CA facility in September 2004. Research and development expense during the third quarter of 2005 includes $1.5 million of accelerated depreciation related to our decision to abandon or dispose of certain idle assets determined to have no future value.

• Selling and marketing expensedecreased slightly from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 due to reductions in employee-related costs offset by increases in depreciation expense and tradeshow and marketing activities. Selling and marketing expense during the third quarter of 2005 includes $2.0 million of accelerated depreciation related to our decision to abandon or dispose of certain idle assets determined to have no future value.

• General and administrative expenseincreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily due to increases in consulting expense related to Sarbanes-Oxley compliance, expenses related to legal services, and information system costs partially offset by a decrease in employee-related costs.

• Stock compensation costsdecreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 due to a reduction in staffing levels, which resulted in a lower level of unvested stock options and restricted stock. As of July 31, 2005, the balance of deferred stock compensation, presented as a reduction of stockholders’ equity, was $2.9 million. With the adoption of SFAS 123R, we expect our reported stock compensation cost will materially increase beginning in the first quarter of fiscal 2006.

• Amortization of intangible assets costsdecreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily because of intangible assets, such as non-compete agreements and purchase commitments, were fully amortized in previous periods.

• In-process research and development (IPR&D) costs represents the estimated value of purchased in-process technology that had not reached technological feasibility and had no alternative future use at the time of the acquisition. In the third quarter of fiscal 2004 we recorded $25.0 million and $5.2 million of IPR&D from our Catena and Internet Photonics acquisitions, respectively.

• Restructuring costsincurred during the third quarter of 2005 were related to work force reductions of 96 employees and adjustments to previously restructured facilities due to the continued excess supply of commercial property. These workforce reductions were taken as part of our efforts to reduce our costs. We expect to incur additional restructuring costs in future periods.

19

• Long-lived assets impairmentsfor the third quarter of fiscal 2004 were primarily related to the impairment of research and development equipment, which was classified as held for sale. During the third quarter of 2005, we recorded a credit because we sold some of this equipment for an amount in excess of its carrying value.

• Recovery of sales, export, use tax liabilities and paymentsduring the first nine months of fiscal 2004 was due to the resolution of a use tax audit related to assets acquired from ONI.

• Provision for doubtful accounts, netduring the third quarter of fiscal 2005 was $2.6 million. We maintain an allowance for potential losses on a specific identification basis. During the third quarter of fiscal 2005, we recorded a provision for doubtful accounts of $2.6 million relating to one customer.

Other items

     The table below (in thousands, except percentage data) sets forth the changes in other items from the third quarter of fiscal 2004 to the third quarter of fiscal 2005:

	Quarter Ended July 31,
									Increase
	2004		%*		2005		%*		(decrease)			%**
Interest and other income, net	$	4,936		6.5	$	6,765		6.1	$	1,829			37.1
Interest expense	$	6,469		8.6	$	6,406		5.8	$	(63	)		(1.0	)
Loss on equity investments, net	$	200		0.3	$	1,708		1.5	$	1,508			754.0
Gain on extinguishment of debt	$	—		0.0	$	3,882		3.5	$	3,882			100.0
Provision for income taxes	$	205		0.3	$	86		0.1	$	(119	)		(58.0	)

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

• Interest and other income, netincreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily due to higher rates of return on our investments partially offset by the impact of lower cash and investment balances.

• Interest expensedecreased slightly from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 due to the decrease in our debt obligations between the two periods resulting from our purchase of $41.2 million of the Ciena 3.75% convertible notes during the third quarter of fiscal 2005.

• Loss on equity investments, netreflects losses due to declines in the value of our investments in privately held technology companies that were determined to be other than temporary in the third quarters of fiscal 2004 and 2005.

• Gain on extinguishment of debtreflects the purchase of $41.2 million of our outstanding 3.75% convertible notes for $36.9 million. We recorded a gain in the amount of $3.9, which consists of the $4.3 million gain from the repurchase of the notes less a write-off of $0.4 million of associated debt issuance costs.

• Provision for income taxesfor the third quarter of fiscal 2004 and the third quarter of fiscal 2005 was primarily attributable to foreign tax related to our foreign operations. We did not record a tax benefit for Ciena’s domestic losses during either period. We will continue to maintain a valuation allowance against certain deferred tax assets until sufficient evidence exists to support its reversal.

Nine months ended July 31, 2004 compared to nine months ended July 31, 2005

Revenue, cost of goods sold and gross profit

     The table below (in thousands, except percentage data) sets forth the changes in revenue, cost of goods sold and gross profit for the nine months ended July 31, 2004 and 2005:

20

	Nine Months Ended July 31,
									Increase
	2004		%*		2005		%*		(decrease)		%**
Revenue:
Products	$	181,436		83.7	$	271,366		87.8	$	89,930		49.6
Services		35,266		16.3		37,708		12.2		2,442		6.9
Total Revenue	$	216,702		100.0	$	309,074		100.0	$	92,372		42.6
Costs:
Products		138,918		64.1		189,447		61.3		50,529		36.4
Services		30,212		13.9		30,601		9.9		389		1.3
Total cost of goods sold		169,130		78.0		220,048		71.2		50,918		30.1
Gross profit	$	47,572		22.0	$	89,026		28.8	$	41,454		87.1

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

     The table below (in thousands, except percentage data) sets forth the changes in product revenue, product cost of goods sold and product gross profit for the nine months ended July 31, 2004 and 2005:

	Nine Months Ended July 31,
	2004		%*		2005		%*		Increase (decrease)		%**
Product revenue	$	181,436		100.0	$	271,366		100.0	$	89,930		49.6
Product cost of goods sold		138,918		76.6		189,447		69.8		50,529		36.4
Product gross profit	$	42,518		23.4	$	81,919		30.2	$	39,401		92.7

*	Denotes % of product revenue
**	Denotes % change from 2004 to 2005

     The table below (in thousands, except percentage data) sets forth the changes in service revenue, service cost of goods sold and service gross profit for the nine months ended July 31, 2004 and 2005:

	Nine Months Ended July 31,
									Increase
	2004		%*		2005		%*		(decrease)		%**
Service revenue	$	35,266		100.0	$	37,708		100.0	$	2,442		6.9
Service cost of goods sold		30,212		85.7		30,601		81.2		389		1.3
Service gross profit	$	5,054		14.3	$	7,107		18.8	$	2,053		40.6

*	Denotes % of service revenue
**	Denotes % change from 2004 to 2005

     The table below (in thousands, except percentage data) sets forth the changes in geographic distribution of revenues for the nine months ended July 31, 2004 and 2005:

	Nine Months Ended July 31,
									Increase
	2004		%*		2005		%*		(decrease)		%**
Domestic	$	156,547		72.2	$	248,216		80.3	$	91,669		58.6
International		60,155		27.8		60,858		19.7		703		1.2
Total	$	216,702		100.0	$	309,074		100.0	$	92,372		42.6

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

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     During for the nine months ended July 31, 2004 and 2005, certain customers each accounted for at least 10% of our revenues during the respective periods as follows (in thousands, except percentage data):

	Nine Months Ended July 31,
	2004		%*		2005		%*
Customer A	$	40,284		18.6	$	37,882		12.3
Customer B		N/A		—		34,395		11.1
Customer C		N/A		—		34,739		11.2
Total	$	40,284		18.6	$	107,016		34.6

N/A	Denotes revenue recognized less than 10% of total revenue for the period
*	Denotes % of total revenue

Revenue

• Product revenueincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to sales of broadband access systems obtained from our May 2004 acquisition of Catena Networks, and increased sales of our data networking products and transport and switching products. As a result of the timing of our acquisition of Catena and IPI, product revenue for 2004 reflects only one quarter of revenue from these acquired products.

• Service revenueincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to an increase in the sale of training and managed services.

• Domestic revenueincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 primarily due to sales of broadband access systems obtained from our May 2004 acquisition of Catena Networks, and increased domestic sales of our data networking products and transport and switching products.

• International revenuedecreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 primarily due to decreased international sales of our core optical switches.

Gross profit

• Gross profit as a percentage of revenue and gross profit on products as a percentage of product revenueboth increased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 largely due to favorable product mix and product cost reductions.

• Gross profit on services as a percentage of services revenueincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 largely due to reduced service overhead costs.

Operating expenses

     The table below (in thousands, except percentage data) sets forth the changes in operating expenses for the nine months ended July 31, 2004 to the nine months ended July 31, 2005.

22

	Nine Months Ended July 31,
											Increase
	2004			%*			2005		%*		(decrease)			%**
Research and development	$	151,418			69.9		$	101,036		32.7	$	(50,382	)		(33.3	)
Selling and marketing		80,011			36.9			82,440		26.7		2,429			3.0
General and administrative		20,052			9.3			25,538		8.3		5,486			27.4
Stock compensation costs:
Research and development		5,473			2.5			4,048		1.3		(1,425	)		(26.0	)
Selling and marketing		2,147			1.0			4,257		1.4		2,110			98.3
General and administrative		1,079			0.5			505		0.2		(574	)		(53.2	)
Amortization of intangible assets		19,458			9.0			30,268		9.8		10,810			55.6
In-process research and development		30,200			13.9			—		—		(30,200	)		(100.0	)
Restructuring costs		22,125			10.2			15,245		4.9		(6,880	)		(31.1	)
Long-lived asset impairments		7,217			3.3			134		—		(7,083	)		(98.1	)
Recovery of sales, export, use tax liabilities and payments		(5,388	)		(2.5	)		—		—		5,388			(100.0	)
Provision for (recovery of) doubtful accounts, net		(2,794	)		(1.3	)		2,604		0.8		5,398			(193.2	)
Total operating expenses	$	330,998			152.7		$	266,075		86.1	$	(64,923	)		(19.6	)

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

• Research and development expensedecreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to reductions in accelerated leasehold amortization, depreciation expense, employee-related costs, consulting expense, facility related costs and prototype material expense. For the nine months ended July 31, 2004, research and development expenses includes $14.2 million of accelerated leasehold amortization due to the closing of our San Jose, CA facility in September 2004.

• Selling and marketing expenseincreased slightly from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to higher costs related to tradeshow and marketing activities and increased travel expenditures, partially offset by reductions in depreciation expense.

• General and administrative expenseincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 primarily due to increases in consulting expense related to Sarbanes-Oxley compliance, expenses related to legal services, and information system costs.

• Stock compensation costsdecreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to the reduction in staffing levels, which resulted in a lower level of unvested stock options and restricted stock. As of July 31, 2005, the balance of deferred stock compensation, presented as a reduction of stockholders’ equity, was $2.9 million. With the adoption of SFAS 123R, we expect our reported stock compensation cost will materially increase beginning in our first quarter of fiscal 2006.

• Amortization of intangible assets costsincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to higher amounts of purchased intangible assets, such as developed technology and customer relationships resulting from our acquisitions of Catena Networks and Internet Photonics in May 2004.

• In-process research and development (IPR&D) costsrepresents the estimated value of purchased in-process technology that had not reached technological feasibility and had no alternative future use at the time of the acquisition. In the third quarter of fiscal 2004 we recorded $25.0 million and $5.2 million of IPR&D from our Catena and Internet Photonics acquisitions, respectively.

• Restructuring costsincurred during the first nine months of fiscal 2005 were related to work force reductions of approximately 170 employees and an adjustment to previously restructured facilities due to the continued excess supply of commercial property. These workforce reductions were taken as part of our efforts to reduce our costs. We expect to incur additional restructuring costs during future periods.

• Long-lived assets impairment chargesfor the first nine months of fiscal 2005 were primarily related to the impairment of research and development equipment, which was classified as held for sale.

• Recovery of sales, export, use tax liabilities and paymentsduring the first nine months of fiscal 2004 was due to the resolution of a use tax audit related to assets acquired from ONI.

23

• Provision for (recovery of) doubtful accounts, netduring the first nine months of fiscal 2004 was related primarily to the payment of an amount due from a customer, from which payment was previously deemed doubtful due to the customer’s financial condition. Ciena maintains an allowance for potential losses on a specific identification basis. During the third quarter of fiscal 2005, Ciena recorded a provision for doubtful accounts of $2.6 million relating to one customer.

Other items

     The table below (in thousands, except percentage data) sets forth the changes in other items for the nine months ended July 31, 2004 to the nine months ended July 31, 2005.

	Nine Months Ended July 31,
													Increase
	2004			%*			2005			%*			(decrease)			%**
Interest and other income, net	$	18,228			8.4		$	19,787			6.4		$	1,559			8.6
Interest expense	$	20,326			9.4		$	19,348			6.3		$	(978	)		(4.8	)
Gain (loss) on equity investments, net	$	393			0.2		$	(8,986	)		(2.9	)	$	(9,379	)		(2,386.5	)
Gain (loss) on extinguishment of debt	$	(8,216	)		(3.8	)	$	3,882			1.3		$	12,098			(147.2	)
Provision for income taxes	$	1,044			0.5		$	1,115			0.4		$	71			6.8

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

• Interest and other income, netincreased slightly from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 primarily because of higher rates of return on investments.

• Interest expensedecreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to the decrease in our debt obligations between the two periods resulting from our repurchase of the remaining outstanding ONI 5.0% convertible subordinated notes during fiscal 2004 and $41.2 million in principal amount of our 3.75% convertible notes during the third quarter of fiscal 2005.

• Gain (loss) on equity investments, netduring the first nine months of fiscal 2004 includes a cash payment of $1.6 million received for an investment in a private company that had been previously written down to a value of $1.0 million partially offset by a $0.2 million write-down of an investment. The resulting $0.4 million was recorded as a gain on equity investments. During the first nine months of fiscal 2005, we recorded a $9.0 million loss due to a decline in value of our investments in privately held technology companies that was determined to be other than temporary.

• Gain (loss) on extinguishment of debtduring the first nine months of fiscal 2004 resulted from our repurchase of the ONI 5.0% convertible subordinated notes. During the third quarter of fiscal 2005, we purchased $41.2 million of our 3.75% outstanding convertible notes for $36.9 million. We recorded a gain on the extinguishment of debt in the amount of $3.9 million, which consists of the $4.3 million gain from the repurchase of the notes less a write-off of $0.4 million of associated debt issuance costs.

• Provision for income taxesfor the first nine months of fiscal 2004 and the first nine months of fiscal 2005 was primarily attributable to foreign tax related to our foreign operations. We did not record a tax benefit for our domestic losses during either period. We will continue to maintain a valuation allowance against certain deferred tax assets until sufficient evidence exists to support its reversal.

Summary of Operating Segments

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

     The table below (in thousands, except percentage data) sets forth the changes in our operating segment revenues from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 for our four operating segments: Transport and Switching Group (TSG); Data Networking Group (DNG); Broadband Access Group (BBG); and the Global Networking Services Group (GNS).

24

	Quarter Ended July 31,
									Increase
	2004		%*		2005		%*		(decrease)			%**
Revenues:
TSG	$	42,240		55.9	$	64,641		58.5	$	22,401			53.0
DNG		7,138		9.4		6,757		6.1		(381	)		(5.3	)
BBG		14,962		19.8		26,050		23.6		11,088			74.1
GNS		11,249		14.9		13,032		11.8		1,783			15.9
Consolidated revenue	$	75,589		100.0	$	110,480		100.0	$	34,891			46.2

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

• TSG revenueincreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily due to increased sales of core optical switches and our long-haul transport products.

• BBG revenueincreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily due to increased sales our CNX-5™ Broadband DSL System.

• GNS revenueincreased from the third quarter of 2004 to the third quarter of 2005 primarily due to increased sales of training and managed services.

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

     The table below (in thousands, except percentage data) sets forth the changes in our segment profit (loss) and the reconciliation to consolidated net loss for the third quarter of fiscal 2004 to the third quarter of fiscal 2005.

25

	Quarter Ended July 31,
							Increase
	2004			2005			(decrease)			%**
Segment profit (loss):
TSG	$	(29,923	)	$	(2,050	)	$	27,873			(93.1	)
DNG		(2,197	)		(2,103	)		94			(4.3	)
BBG		(141	)		3,221			3,362			(2,384.4	)
GNS		1,709			2,264			555			32.5
Total segment profit (loss)	$	(30,552	)	$	1,332		$	31,884			(104.4	)
Other non-performance items:
Corporate selling and marketing		(25,377	)		(25,597	)		(220	)		0.9
Corporate general and administrative		(6,969	)		(9,340	)		(2,371	)		34.0
Stock compensation costs:
Research and development		(1,860	)		(2,195	)		(335	)		18.0
Selling and marketing		(1,214	)		(934	)		280			(23.1	)
General and administrative		(879	)		(153	)		726			(82.6	)
Amortization of intangible assets		(12,667	)		(9,653	)		3,014			(23.8	)
In-process research and development		(30,200	)		—			30,200			(100.0	)
Restructuring costs		(13,547	)		(4,355	)		9,192			(67.9	)
Long-lived asset impairments		(7,217	)		25			7,242			(100.3	)
Recovery of sale, export, use tax liability and payments		3,457			—			(3,457	)		(100.0	)
Provision for doubtful accounts, net		—			(2,604	)		(2,604	)		(100.0	)
Accelerated amortization of leasehold		(12,504	)		—			12,504			(100.0	)
Interest and other financial charges, net		(1,733	)		2,533			4,266			(246.2	)
Provision for income taxes		(205	)		(86	)		119			(58.0	)
Consolidated net loss	$	(141,467	)	$	(51,027	)	$	90,440			(63.9	)

** Denotes % change from 2004 to 2005

• TSG segment lossdecreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 primarily due to increased revenue, increased gross profit and lower research and development costs.

• BBG segment profit increased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 due to increased revenue and lower research and development costs.

• GNS segment profitincreased from the third quarter of fiscal 2004 to the third quarter of fiscal 2005 due to increased revenue.

Nine months ended July 31, 2004 compared to nine months ended July 31, 2005

     The table below (in thousands, except percentage data) sets forth the changes in our operating segment revenues for the nine months ended July 31, 2004 to the nine months ended July 31, 2005 for our four operating segments

	Nine Months Ended July 31,
									Increase
	2004		%*		2005		%*		(decrease)		%**
Revenues:
TSG	$	152,635		70.4	$	182,638		59.0	$	30,003		19.7
DNG		13,839		6.4		28,302		9.2		14,463		104.5
BBG		14,962		6.9		60,426		19.6		45,464		303.9
GNS		35,266		16.3		37,708		12.2		2,442		6.9
Consolidated revenue	$	216,702		100.0	$	309,074		100.0	$	92,372		42.6

*	Denotes % of total revenue
**	Denotes % change from 2004 to 2005

26

• TSG revenueincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to increased sales of long haul transport products and sales of our optical Ethernet transport products obtained from our May 2004 acquisition of Internet Photonics. As a result of the timing of this acquisition, nine month segment revenue for 2004 only reflects one quarter of revenue from these acquired products.

• DNG revenueincreased from the first nine months of 2004 to the first nine months of fiscal 2005 due to increased sales of multiservice edge switching products, primarily in support of new service aggregation and broadband deployments at Verizon during the first fiscal quarter of 2005.

• BBG revenueincreased for the first nine months of 2004 to the first nine months of fiscal 2005 due to increased sales of CNX-5™ Broadband DSL Systems from our May 2004 acquisition of Catena Networks. As a result of the timing of this acquisition, nine month segment revenue for 2004 only reflects one quarter of revenue from these acquired products.

• GNS revenueincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to an increase in sales of training and managed services.

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

	Nine Months Ended July 31,
							Increase
	2004			2005			(decrease)				%**
Segment profit (loss):
TSG	$	(94,027	)	$	(28,343	)	$	65,684				(69.9	)
DNG		(9,490	)		429			9,919				(104.5	)
BBG		(374	)		(820	)		(446	)			119.3
GNS		3,589			5,179			1,590				44.3
Total segment loss	$	(100,302	)	$	(23,555	)	$	76,747				(76.5	)
Other non-performance items:
Corporate selling and marketing		(69,402	)		(70,895	)		(1,493	)			2.2
Corporate general and administrative		(20,052	)		(25,538	)		(5,486	)			27.4
Stock compensation costs:
Research and development		(5,473	)		(4,048	)		1,425				(26.0	)
Selling and marketing		(2,147	)		(4,257	)		(2,110	)			98.3
General and administrative		(1,079	)		(505	)		574		��		(53.2	)
Amortization of intangible assets		(19,458	)		(30,268	)		(10,810	)			55.6
In-process research and development		(30,200	)		—			30,200				(100.0	)
Restructuring costs		(22,125	)		(15,245	)		6,880				(31.1	)
Long-lived asset impairments		(7,217	)		(134	)		7,083				(98.1	)
Recovery of sale, export, use tax liability and payments		5,388			—			(5,388	)			(100.0	)
(Provision for) benefit for doubtful accounts, net		2,794			(2,604	)		(5,398	)			(193.2	)
Accelerated amortization of leasehold		(14,153	)		—			14,153				(100.0	)
Interest and other financial charges, net		(9,921	)		(4,665	)		5,256				(53.0	)
Provision for income taxes		(1,044	)		(1,115	)		(71	)			6.8
Consolidated net loss	$	(294,391	)	$	(182,829	)	$	111,562				(37.9	)

** Denotes % change from 2004 to 2005

• TSG segment lossdecreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 primarily due to increased revenue, increased gross profit and lower research and development costs.

• DNG segment profitincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to increased in revenue, increased gross profit and lower research and development costs.

• BBG segment lossincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to the increased research and development cost partially offset by increased sales of CNX-5™ Broadband DSL Systems. BBG activity consists of the acquired operations of Catena Networks, which was

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	acquired in May 2004. As a result of the timing of this acquisition, nine month segment loss for 2004 primarily reflects one quarter of segment operating activities.
•	GNS segment profitincreased from the first nine months of fiscal 2004 to the first nine months of fiscal 2005 due to reduced service overhead costs.

Liquidity and Capital Resources

     Ciena’s principal source of liquidity is its cash and cash equivalents, and short-term and long-term investments. At July 31, 2005, we had $313.6 million in cash and cash equivalents, and $803.1 million in short-term and long-term investments. Our investment portfolio consists primarily of fixed-income securities, with maturities of two years or less, diversified among industries and individual issuers. Our investments are generally liquid, investment grade securities.

     Ciena’s operating activities consumed $197.2 million and $119.2 million net cash during the first nine months of fiscal 2004 and 2005, respectively. The primary reason for operating cash consumption was the net loss incurred during the periods.

     Our investing activities provided net cash of $178.4 million and $261.5 million during the first nine months of fiscal 2004 and 2005, respectively. Investment activities included the net redemption of $197.4 million and $265.3 million of short and long-term investments during the first nine months of fiscal 2004 and fiscal 2005, respectively.

     Cash used in financing activities was $35.1 million and $31.4 million during the first nine months of fiscal 2004 and 2005 respectively. The primary use of cash in financing activities during the first nine months of fiscal 2004 was related to the purchase of the remaining $48.2 million in outstanding ONI 5.0% convertible subordinated notes. We paid $49.2 million for the notes and fees related to the purchase. During the first nine months of fiscal 2004, we received $14.0 million from the exercise of employee options and the sale of stock pursuant to the employee stock purchase plan. The primary use of cash in financing activities during the first nine months of fiscal 2005 was related to our open market purchase of $41.2 million in principal amount of our outstanding 3.75% convertible notes, due February 1, 2008, for $36.9 million in cash. At July 31, 2005, an aggregate principal amount of approximately $648.8 million remained outstanding. We intend to continue to evaluate and pursue alternatives that enable us to exercise prudent cash management and achieve cost savings relating to the repayment of our outstanding convertible notes. During the first nine months of fiscal 2005, we received $5.5 million from the exercise of employee options and the sale of stock pursuant to the employee stock purchase plan.

     Based on past performance and current expectations, we believe that our cash and cash equivalents, short-term investments, and cash generated from operations will satisfy our working capital needs, capital expenditures, investment requirements, commitments, and other liquidity requirements associated with our existing operations through at least the next 12 months.

Contractual Obligations

     The following is a summary of our future minimum payments under contractual obligations as of July 31, 2005 (in thousands):

			Less than one		One to three		Three to five
	Total		year		years		years		Thereafter
Convertible notes (1)	$	709,572	$	24,328	$	24,328	$	660,916	$	—
Operating leases		188,502		36,512		60,587		49,615		41,788
Purchase obligations (2)		68,559		68,559		—		—		—
Total	$	966,633	$	129,399	$	84,915	$	710,531	$	41,788

(1)	Our 3.75% convertible notes have an aggregate principal amount of $648.8 million, due February 1, 2008. Interest is payable on February 1st and August 1st of each year.
(2)	Purchase commitments related to amounts we are obligated to pay to our contract manufacturers and component suppliers for inventory.

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     Some of our commercial commitments, including some of the future minimum payments set forth above, are secured by standby letters of credit. The following is a summary of our commercial commitments secured by standby letters of credit by commitment expiration date, as of July 31, 2005 (in thousands):

			Less than one		One to		Three to
	Total		year		three years		five years		Thereafter
Standby letters of credit	$	13,298	$	13,048	$	250	$	—	$	—

Off-Balance Sheet Arrangements

     Ciena does not engage in any off-balance sheet financing arrangements. In particular, we do not have any interest in so-called limited purpose entities, which include special purpose entities (SPEs) and structured finance entities.

Critical Accounting Policies and Estimates

     The preparation of consolidated financial statements requires Ciena to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we reevaluate our estimates, including those related to bad debts, inventories, investments, intangible assets, goodwill, income taxes, warranty obligations, restructuring, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Among other things, these estimates form the basis for judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. During the third quarter of fiscal 2005, reevaluation of certain estimates led to the effects described below.

Revenue Recognition

     Ciena’s products and services include hardware, software, and professional services. We recognize revenue when there is persuasive evidence of an arrangement with the customer, we have fulfilled our obligations under the arrangement, the price is fixed or determinable and collectibility is reasonably assured. The third and fourth criteria may require us to make significant judgments or estimates.

Reserve for Inventory Obsolescence

     Ciena writes down inventory that has become obsolete or unmarketable by an amount equal to the difference between the cost of inventory and the estimated market value based on assumptions about future demand and market conditions. During the first nine months of fiscal 2005, we recorded a charge of $3.4 million primarily related to excess inventory due to a change in forecasted sales for certain products. If actual market conditions differ from those we have assumed, we may be required to take additional inventory write-downs or benefits.

Restructuring

     As part of its restructuring costs, Ciena provides for the estimated cost of the net lease expense for facilities that are no longer being used. The provision is equal to the fair value of the minimum future lease payments offset by the fair value of the estimated sublease payments. Due to the continued excess supply of commercial properties in certain markets where our unused facilities are located, we have reduced our estimate of the total future sublease payments we will receive. As a result, we recorded an additional restructuring cost of $15.2 million in the first nine months of fiscal 2005. As of July 31, 2005, Ciena’s accrued restructuring liability related to net lease expense and other related charges was $71.6 million. The total minimum lease payments for these restructured facilities are $95.3 million. These lease payments will be made over the remaining lives of our leases, which range from one month to twelve years. If actual market conditions are less favorable than those we have projected, we may be required to recognize additional restructuring costs associated with these facilities.

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Goodwill

     At July 31, 2005, Ciena’s consolidated balance sheet included $408.6 million in goodwill. Due to Ciena’s reorganization into operating segments, SFAS 142 requires that we assign goodwill to Ciena’s reporting units. Ciena has determined its operating segments and reporting units are the same. In accordance with SFAS 142 Ciena tests each reporting unit’s goodwill for impairment on an annual basis, and between annual tests if an event occurs or circumstances change that would, more likely than not, reduce the fair value of the reporting unit below its carrying value. Based on the operating results, forecasts, and business factors with the segments, Ciena recorded an impairment loss of $371.7 million in the fourth quarter of fiscal 2004. If actual market conditions differ or forecasts change at the time of our annual assessment in fiscal 2005 or in periods prior to our annual assessment, we may be required to record additional goodwill impairment charges.

Intangible Assets

     As of July 31, 2005, Ciena’s consolidated balance sheet included $174.8 million in other intangible assets, net. We account for the impairment or disposal of long-lived assets such as equipment, furniture, fixtures, and other intangible assets in accordance with the provisions of SFAS 144. In accordance with SFAS 144, Ciena tests each intangible asset for impairment whenever events or changes in circumstances indicate that the asset’s carrying amount may not be recoverable. Management does not believe that events or changes in circumstances have occurred during the first nine months of fiscal 2005 that would indicate that our intangible asset carrying amounts may not be recoverable. If actual market conditions differ or forecasts change, we may be required to record impairment charges in future periods.

Investments

     As of July 31, 2005 Ciena’s investments in privately held technology companies was $7.7 million. These investments are generally carried at cost as Ciena owns less than 20% of the voting equity and does not have the ability to exercise significant influence over any of these companies. These investments are inherently high risk as the market for technologies or products manufactured by these companies are usually early stage at the time of the investment by Ciena and such markets may never materialize or become significant. Ciena could lose its entire investment in some or all of these companies. Ciena monitors these investments for impairment and makes appropriate reductions in carrying values when necessary. Ciena recorded a net charge of $9.0 million during the first nine months of fiscal 2005, from a decline in the fair values of certain equity investments that were determined to be other than temporary. If actual market conditions differ, Ciena may be required to record an additional charge in future periods.

Deferred Tax Valuation Allowance

     As of July 31, 2005, Ciena has recorded a valuation allowance of $1.1 billion against our gross deferred tax assets of $1.1 billion. We calculated the valuation allowance in accordance with the provisions of SFAS 109, “Accounting for Income Taxes,” which requires an assessment of both positive and negative evidence when measuring the need for a valuation allowance. Positive evidence, such as operating results during the most recent three-year period, is given more weight because, due to our current lack of visibility, there is a greater degree of uncertainty that we will achieve the level of future profitability needed to record the deferred assets. Our results over the most recent three-year period were heavily affected by our recent business restructuring activities. Our cumulative loss in the most recent three-year period represents sufficient negative evidence to require a valuation allowance under the provisions of SFAS 109. We intend to maintain a valuation allowance until sufficient positive evidence exists to support its reversal.

Risk Factors

     Investing in our securities involves a high degree of risk. In addition to the other information contained in this report, you should consider the following risk factors before investing in our securities.

Our business and results of operations could continue to be adversely affected by conditions in the communications industry.

     The last few years have seen substantial changes in the communications industry. Many of our customers and potential customers, including communications service providers that have historically provided a significant portion of our sales, have confronted static or declining revenue. Many existing or potential customers have experienced significant financial distress or withdrawn from segments of the business, and some have gone out of business. These factors have adversely affected our revenue and operating results.

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     This year, several large communications service providers have announced merger transactions. These include proposed mergers between Verizon and MCI, and between SBC and AT&T, all of which have been significant customers during prior periods. These mergers will have a major impact on the future of the telecommunications industry. They will increase concentration of purchasing power among a few large service providers and may result in delays in, or the curtailment of, investments in communications networks, as a result of changes in strategy, network overlap or cost reduction efforts.

     The impact of the market factors above may continue to affect our business and results of operations, in several meaningful ways:

• capital expenditures by many of our customers may be flat or reduced;

• we will continue to have only limited ability to forecast the volume and product mix of our sales; and

• managing our expenditures and inventory will be difficult in light of the uncertainties surrounding our business.

     Any one or a combination of these factors could have a material adverse impact on our business, financial condition and results of operations.

We face intense competition that could hurt our sales and profitability.

     The markets in which we compete for sales of networking equipment, software and services are extremely competitive, particularly the market for sales to communications service providers. Competition in these markets is based on price, functionality, manufacturing capability, installation, services, scalability and the ability of products and services to meet customers’ network requirements. A small number of very large companies have historically dominated the communications networking equipment industry. Our industry has also increasingly experienced competition from low-cost producers in Asia. Many of our competitors have substantially greater financial, technical and marketing resources, greater manufacturing capacity and better established relationships with incumbent carriers and other potential customers than Ciena. As a result of increased merger activity among communication service providers, there has been speculation of consolidation among networking equipment providers, which, if it occurred, could cause some competitors to grow even larger and more powerful.

     We also compete with a number of smaller companies that provide significant competition for a specific product or market. These competitors often base their products on the latest available technologies. Due to the narrower focus of their efforts, these competitors may achieve commercial availability of their products more quickly and may be more attractive to customers.

     Increased competition in our markets has resulted in aggressive business tactics, including:

• intense price competition;

• discounting resulting from sales of used equipment or inventory that a competitor has written down or written off;

• early announcements of competing products and extensive marketing efforts;

• “one-stop shopping” options;

• competitors offering to repurchase Ciena equipment from existing customers;

• customer financing assistance;

• marketing and advertising assistance; and

• intellectual property assertions and disputes.

     The tactics described above can be particularly effective in an increasingly concentrated base of potential customers such as communications service providers. Our inability to compete successfully in our markets would harm our business, financial condition and results of operations.

We expect gross margin to fluctuate, and our product gross margins may be adversely affected by a number of factors.

     Our gross margin fluctuates from period to period and our product gross margins may continue to be adversely affected by numerous factors, including:

• increased price competition, including competition from low-cost producers in Asia;

• the mix in any period of higher and lower margin products and services;

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• charges for excess or obsolete inventory;

• changes in the price or availability of components for our products;

• our ability to reduce product manufacturing costs;

• introduction of new products, with initial sales at relatively small volumes with resulting higher production costs; and

• increased service, installation, warranty or repair costs.

We expect product gross margin to continue to fluctuate on a quarterly basis. Fluctuations in product gross margin may make it difficult to manage our business and attain profitability.

Our revenue and operating results can fluctuate unpredictably from quarter to quarter.

     Current market conditions cause our revenue to fluctuate and make it difficult to make reliable estimates of future revenue. Fluctuations in our revenue can lead to even greater fluctuations in our operating results. Our budgeted expense levels depend in part on our expectations of long-term future revenue. Any substantial adjustment to expenses to account for lower levels of revenue is difficult and takes time. Consequently, if our revenue declines, our levels of inventory, operating expense and general overhead would be high relative to revenue, resulting in additional operating losses.

     Other factors contribute to fluctuations in our revenue and operating results, including:

• fluctuations in demand for our products and the timing and size of customer orders;

• changes in customers’ requirements, including changes or cancellations to orders from customers;

• satisfaction of contractual customer acceptance criteria and related revenue recognition issues;

• the introduction of new products by us or our competitors;

• readiness of customer sites for installation;

• manufacturing and shipment delays and deferrals;

• actual events, outcomes and amounts that differ from our assumptions and estimates used in our determination of the value of certain assets (including goodwill and other intangible assets), liabilities and other items reflected in our financial statements;

• changes in accounting rules, including recording expenses associated with equity based compensation awards; and

• changes in general economic conditions as well as those specific to our market segments.

Failure to establish and maintain effective internal controls over financial reporting could have a material adverse effect on our business, operating results and stock price.

     Beginning with our annual report for our fiscal year ended October 31, 2005, Section 404 of the Sarbanes-Oxley Act of 2002 will require us to include a report by our management on our internal controls over financial reporting. Such report must contain an assessment by management of the effectiveness of our internal controls over financial reporting as of the end of our fiscal year and a statement as to whether or not such internal controls are effective. Such report must also contain a statement that our independent registered public accounting firm has issued an attestation report on management’s assessment of such internal controls.

     In order to achieve timely compliance with Section 404, in fiscal 2004 we began a process to document and evaluate our internal controls over financial reporting. Our efforts to comply with Section 404 have resulted in, and are likely to continue to result in, significant costs, the commitment of time and operational resources and the diversion of management’s attention. If our management identifies one or more material weaknesses in our internal controls over financial reporting, we will be unable to assert that these controls are effective. If we are unable to assert that our internal controls over financial reporting are effective as of October 31, 2005 (or if our independent registered public accounting firm is unable to attest that our management’s report is fairly stated or they are unable to express an opinion on our management’s assessment of the effectiveness of internal controls over financial reporting or on the effectiveness of our internal controls over financial reporting), our business may be harmed. Market perception of our financial condition and the trading price of our stock may be adversely affected and customer perception of our business may suffer.

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Our business and results of operations are affected by the competitive pressures faced by our existing and potential communications service provider customers.

     Traditional communications service providers are under increasing competitive pressure from providers within their industry and other participants that offer, or seek to offer, overlapping or similar services. These pressures are likely to continue to cause communications service providers to seek to minimize the costs of the equipment that they buy. These competitive pressures may result in pricing becoming a more important factor in customer purchasing decisions. Increased focus on pricing may favor low-cost communications equipment vendors in Asia and larger competitors that can spread the effect of price discounts across a broader offering of products and services and across a larger customer base. These pressures may harm our competitive position and adversely affect our business and results of operations.

We may not be successful in selling our products into new markets and developing and managing new sales channels.

     As we have expanded our product portfolio, we have entered and begun to sell our products in new markets and to a broader customer base, including enterprises, cable operators, and federal, state and local governments. To succeed in these new markets, we believe we must develop and manage new sales channels and distribution arrangements. Because we have only limited experience in developing and managing such channels, it is uncertain to what extent we will be successful. In addition, sales to federal, state and local governments require compliance with complex procurement regulations with which we have little experience. We may be unable to increase our sales to government contractors if we determine that we cannot comply with applicable regulations. Our failure to comply with regulations for existing contracts could result in civil, criminal or administrative proceedings involving fines and suspension or debarment from federal government contracts. Failure to succeed in these new markets will adversely affect our ability to grow our customer base and revenues.

If we do not maintain and expand our sales with large communications service providers, our revenues and results of operations will suffer.

     Our future success will depend on our ability to maintain and expand our sales to existing and new communications service provider customers, particularly overseas. Many of our competitors have long-standing relationships with such customers, which can pose significant obstacles to our sales efforts. In addition, sales to large communications service providers typically involve lengthy sales cycles, protracted or difficult contract negotiations and extensive product testing and network certification. Communications service providers may insist upon terms and conditions, including terms that negatively affect pricing, payment and the timing of revenue recognition, that we deem too onerous or not in Ciena’s best interest. As a result of the obstacles above, we may incur substantial expenses and devote time and resources to potential relationships that never materialize or meet our expectations. Our revenues and results of operations will suffer if we are unable to expand our business with and sales to large communications service providers.

Product performance problems could damage our business reputation and limit our sales prospects.

     The development and production of new products with high technology content is complicated and often involves problems with software, components and manufacturing methods. Modifying our products to enable customers to integrate them into a new type of network architecture entails similar risks. If significant reliability, quality, or network monitoring problems develop as a result of our product development, manufacturing or integration, a number of negative effects on our business could result, including:

• increased costs associated with fixing software or hardware defects, including service and warranty expenses;

• payment of liquidated damages for performance failures;

• high inventory obsolescence expense;

• delays in collecting accounts receivable;

• reduced orders from existing or potential customers; and

• damage to our reputation.

     Because we outsource the manufacturing of many of our products to electronic manufacturing service or “EMS” providers and expect to increasingly rely upon direct order fulfillment, through which our manufacturers will test our products on our behalf and deliver them directly to customers, we may be subject to product performance problems as a result of the acts or omissions of these third parties.

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We must continue to make substantial investments in product development in order to keep pace with technological advances and succeed in existing and new markets for our products.

     In order to be successful, we must balance our initiatives to reduce our operating costs against the need to keep pace with technological advances. The market for communications networking equipment, software and services is characterized by rapid technological change, frequent introductions of new products, and recurring changes in customer requirements. To succeed, we must continue to develop new products and new features for existing products that meet customer requirements and market demand. In addition, we must be able to identify and gain access to new technologies as our market segments evolve. Because our market segments are constantly evolving, we may allocate development resources toward products or technologies for which market demand is lower than anticipated. Managing our efforts to keep pace with new technologies and reduce operating expense is difficult and there is no assurance that we will be successful.

We may be required to take further write-downs of goodwill.

     As of July 31, 2005, we had $408.6 million of goodwill on our balance sheet. This amount primarily represents the remaining excess of the total purchase price of our acquisitions over the fair value of the net assets acquired. At July 31, 2005, goodwill represented approximately 21.2% of our total assets. During the fourth quarter of 2004, we incurred a goodwill impairment charge of approximately $371.7 million. If we are required to record additional impairment charges related to goodwill and other intangible assets, such charges would have the effect of decreasing our earnings or increasing our losses in such period. If we are required to take a substantial impairment charge, our earnings per share or net loss per share would be materially adversely affected in such period.

We may not be successful in enhancing and upgrading our products.

     Because our products are based on complex technology, we can experience unanticipated delays in developing, improving, manufacturing or deploying them. At any given time, various enhancements to our products are in the development phase and are not yet ready for commercial manufacturing or deployment. The maturing process from laboratory prototype to customer trials, and subsequently to general availability, involves a number of steps, including:

• completion of product development;

• the qualification and sourcing of critical components;

• validation of manufacturing methods and processes;

• extensive quality assurance and reliability testing, and staffing of testing infrastructure;

• validation of software; and

• establishment of systems integration and systems test validation requirements.

     Each of these steps, in turn, presents serious risks of failure, rework or delay, any one of which could decrease the speed and scope of product introduction and marketplace acceptance of the product. Specialized application specific integrated circuits (“ASICs”) and intensive software testing and validation are key to the timely introduction of enhancements to several of our products, and schedule delays are common in the final validation phase, as well as in the manufacture of specialized ASICs. In addition, unexpected intellectual property disputes, failure of critical design elements, and a host of other execution risks may delay or even prevent the introduction of these products. If we do not develop and successfully introduce products in a timely manner, our business, financial condition and results of operations would be harmed.

We may incur significant costs and our competitive position may suffer as a result of our efforts to protect and enforce our intellectual property rights or respond to claims of infringement from others.

     Despite efforts to protect our proprietary rights, unauthorized parties may attempt to copy or otherwise obtain and use our products or technology. This is likely to become an increasingly important issue as we expand our operations and product development into countries that provide a lower level of intellectual property protection. Monitoring unauthorized use of our products is difficult, and we cannot be certain that the steps that we are taking will prevent unauthorized use of our technology. If competitors are able to use our technology, our ability to compete effectively could be harmed.

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     In recent years, we have filed suit to enforce our intellectual property rights and have been subject to several claims of patent infringement, including our pending patent litigation with Nortel Networks. We may become involved in additional disputes in the future. Such lawsuits can be costly, may significantly divert the time and attention of our personnel and may result in counterclaims of infringement. In some cases, we have been required us to pay the patent holders substantial sums or enter into license agreements requiring ongoing royalty payments in order to resolve these matters. The frequency of assertions of patent infringement is increasing as patent holders use such actions as a competitive tactic as well as to seek alternative sources of revenue. If we are sued for infringement and are unsuccessful in defending the suit, we could be subject to significant damages, and our business and results of operations could be adversely affected.

We may be required to write off significant amounts of inventory.

     Historically, we have placed the majority of our orders to manufacture components or complete assemblies for many of our products only when we have firm orders from our customers. Because this practice can result in delays in the delivery of products to customers, we are increasingly ordering equipment and components from our suppliers based on forecasts of customer demand across all of our products. We believe this change is necessary in response to increased customer insistence upon shortened delivery terms. This change in our inventory purchases exposes us to the risk that our customers will not order those products for which we have forecasted sales, or will purchase fewer than the number of products we have forecasted. In such event, we may be required to write off, or write down inventory, potentially resulting in an accounting charge that could materially affect our results of operations for the quarter in which such charge occurs.

We must manage our relationships with electronic manufacturing service (EMS) providers in order to ensure that our product requirements are met timely and effectively.

     We rely on EMS providers to perform the majority of the manufacturing operations for our products and components, and are increasingly utilizing overseas suppliers, particularly in Asia. The qualification of these providers is an expensive and time-consuming process, and these manufacturers build product for other companies, including our competitors. In addition, we do not have contracts in place with some of these providers. We may not be able to effectively manage our relationships with our EMS providers, particularly overseas. We cannot be certain that our EMS providers will be able to fill our orders in a timely manner. If we underestimate our future product requirements, the EMS providers may not have enough product to meet our customer requirements, and this could result in delays in the shipment of our products which could harm our business. If we overestimate product requirements, we may have to write off excess inventory. In addition, because EMS providers are subject to many of the same risks as equipment vendors serving the communications industry, many EMS providers have experienced their own financial difficulties, which may affect their ability to obtain components and to timely deliver products to Ciena or to end users through direct order fulfillment.

     We are constantly reviewing our manufacturing capability, including the work of our EMS providers, to ensure that our production requirements are met in terms of cost, capacity, quality and reliability. From time to time, we may decide to transfer the manufacturing of a product from one EMS provider to another, to better meet our production needs. It is possible that we may not effectively manage this transition or the new contract manufacturer may not perform as well as expected and, as a result, we may not be able to fill orders in a timely manner, which could harm our business.

Our failure to manage our service delivery partners effectively could adversely impact our financial results and relationship with customers.

     We rely on a number of service delivery partners, both domestic and international, to complement our global service and support resources. The certification of these partners incurs costs and is time-consuming, and these partners service products for other companies, including our competitors. We may not be able to effectively manage our relationships with our partners and we cannot be certain that they will be able to deliver our services in the manner or time required. If our service partners are unsuccessful in delivering services:

• our services revenue may be adversely affected;

• our relationship with customers could suffer; and

• we may suffer delays in recognizing revenues in cases where revenue recognition is dependent upon product installation, testing and acceptance.

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We depend on a limited number of suppliers, and for some items we do not have a substitute supplier.

     We depend on a limited number of suppliers for components of our products, as well as for equipment used to manufacture and test our products. Our products include several high-performance components for which reliable, high-volume suppliers are particularly limited. Some key optical and electronic components we use in our products are currently available only from sole or limited sources, and in some cases, that source also is a competitor. The loss of a source of key components could require us to re-engineer products that use those components, which would increase our costs. Delays in component availability or delivery, or component performance problems, could result in delayed deployment of our products and our inability to recognize revenue. These delays could also harm our business reputation, customer relationships and our results of operations.

Our international operations could expose us to additional risk and result in increased operating expense.

     We market, sell and service our products globally. We have established offices around the world, including in North America, Europe, Latin America and the Asia Pacific region. In addition, we are increasingly relying upon overseas suppliers, particularly in Asia, to manufacture our products and components. We expect that our international activities will be dynamic over the foreseeable future as we enter some new markets and withdraw from or reduce operations in others in order to match our resources with revenue opportunities. These changes to our international operations will require significant management attention and financial resources. In some countries, our success will depend in part on our ability to form relationships with local partners. Our inability to identify appropriate partners or reach mutually satisfactory arrangements for international sales of our products could impact our ability to maintain or increase international market demand for our products.

     International operations are subject to inherent risks, and our future results could be adversely affected by a number of factors, including:

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

• difficulties and costs of staffing and managing foreign operations;

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

• unexpected changes in regulatory requirements;

• certification requirements;

• reduced protection for intellectual property rights in some countries;

• potentially adverse tax consequences;

• political and economic instability;

• trade protection measures and other regulatory requirements;

• effects of changes in currency exchange rates;

• service provider and government spending patterns; and

• natural disasters and epidemics.

Our efforts to offshore certain resources and operations to India may not be successful and may expose us to unanticipated costs or liabilities.

     In order to reduce ongoing operating expenses and maximize our resources, we have begun to execute our plan to establish a development operation in India. We have limited experience in offshoring our business functions and there is no assurance that our plan will enable us to achieve meaningful cost reductions or greater resource efficiency. Further, offshoring to India involves significant risks, including:

• misappropriation of intellectual property or confidential information, including information that is proprietary to Ciena, its customers and other third parties;

• heightened exposure to changes in the economic, security and political conditions of India;

• currency exchange and tax risks associated with offshore operations; and

• development efforts that do not meet our requirements because of language, cultural or other differences associated with international operations, resulting in errors or delays.

     Difficulties resulting from the factors above and other risks associated with offshoring could impair our development efforts, harm our competitive position and damage our reputation with existing and potential customers. These factors could be disruptive to our business and may cause us to incur substantial unanticipated costs or expose us to unforeseen liabilities.

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The steps that we are taking to restructure and reduce the size of our operations could disrupt our business.

     We regularly review our operations to ensure that our business resources are aligned with market opportunities. We have taken several steps, including reductions in force, dispositions of assets and office closures, and internal reorganization of our sales and engineering functions to reduce the size and cost of our operations and to better match our resources with our market opportunities. During the next six to twelve months we expect to take additional steps to reduce our operating expenses. These efforts could be disruptive to our business. Reductions to headcount and other cost cutting measures may result in the loss of technical expertise that could adversely affect our research and development efforts and ability to meet product development schedules. These decisions often result in the recording of accounting charges, such as inventory and technology-related write-offs, workforce reduction costs, charges relating to consolidation of excess facilities, or claims from resellers or users of discontinued products. If we are required to take a substantial charge, our earnings per share or net loss per share would be adversely affected in such period. If we cannot manage our cost reduction and restructuring efforts effectively, our business, results of operations and financial condition could be harmed.

We may be required to assume warranty, service and other unexpected obligations in connection with our resale of complementary products of other companies.

     We have entered into agreements with strategic partners that permit us to distribute the products of other companies. As part of our strategy to diversify our product portfolio and customer base, we may enter into additional resale agreements in the future. To the extent we succeed in reselling the products of these companies, we may be required by customers to assume certain warranty and service obligations. While our suppliers often agree to support us with respect to these obligations, we may be required to extend greater protection in order to effect a sale. Moreover, our suppliers are relatively small companies with limited financial resources. If they are unable to provide the required support, we may have to expend our own resources to do so. This risk is amplified because the equipment that we are selling has been designed and manufactured by other third parties and may be subject to warranty claims, the magnitude of which we are unable to evaluate fully.

Our exposure to the credit risks of our customers may make it difficult to collect receivables and could adversely affect our operating results and financial condition.

     Industry and economic conditions have weakened the financial position of some of our customers. To sell to some of these customers, we may be required to take risks of uncollectible accounts. While we monitor these situations carefully and attempt to take appropriate measures to protect ourselves, it is possible that we may have to write down or write off doubtful accounts. Such write-downs or write-offs would negatively affect our operating results for the period in which they occur, and, if large, could have a material adverse effect on our operating results and financial condition.

If we are unable to attract and retain qualified personnel, we may be unable to manage our business effectively.

     If we are unable to retain and motivate our existing employees and attract qualified personnel to fill key positions, we may be unable to effectively develop our existing products, increase sales and effect our strategic repositioning. Because we generally do not have employment contracts with our employees, we must rely upon providing competitive compensation packages and a dynamic work environment to retain and motivate employees. In response to the decline in our revenue and weakness in the communications networking equipment market, we have paid our employees significantly reduced or no bonuses since the end of fiscal 2001. Because our compensation packages include equity-based incentives, pressure on our stock price could affect our ability to continue to offer competitive compensation packages to our employees. In addition to these compensation issues, we must continue to motivate employees to execute our strategies and achieve our goals, which may be difficult due to morale challenges posed by the workforce reductions and uncertainty in our industry.

     If we lose members of our management team or other key personnel, it may be difficult to replace them. It may also be difficult to effectively execute our strategy of positioning Ciena to benefit from opportunities in new markets. Competition for highly skilled technical and other personnel with experience in our industry can be intense. As a result, we may not be successful in identifying, recruiting and hiring qualified engineers and other key personnel.

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Our strategy of pursuing strategic acquisitions and investments may expose us to increased costs and unexpected liabilities.

     Our business strategy includes acquiring or making strategic investments in other companies to increase our portfolio of products and services, expand the markets we address, diversify our customer base and acquire or accelerate the development of new or improved products. To do so, we may use cash, issue equity that would dilute our current stockholders’ ownership, incur debt or assume indebtedness. Strategic investments and acquisitions involve numerous risks, including:

• difficulties in integrating the operations, technologies and products of the acquired companies;

• diversion of management’s attention;

• potential difficulties in completing projects of the acquired company and costs related to in-process research and development;

• the potential loss of key employees of the acquired company;

• subsequent amortization expenses related to intangible assets and charges associated with impairment of goodwill;

• dependence on unfamiliar or relatively small supply partners; and

• exposure to unanticipated liabilities, including intellectual property infringement claims.

     As a result of these and other risks, any acquisitions or strategic investments may not reap the intended benefits and may ultimately have a negative impact on our business, results of operation and financial condition.

We may be adversely affected by fluctuations in currency exchange rates.

     Historically, our primary exposure to currency exchange rates has been related to non-dollar denominated operating expenses in Europe, Asia and Canada where we sell primarily in U.S. dollars. As we increase our international sales and utilization of international suppliers, we may decide to transact business in currencies other than the U.S. dollar. As a result, we would be subject to the impact of foreign exchange translation on our financial statements. For those countries outside the United States where we have significant sales, a devaluation in the local currency would result in reduced revenue and operating profit and reduce the value of our local inventory presented in our financial statements. In addition, fluctuations in foreign currency exchange rates may make our products more expensive for customers to purchase or increase our operating costs, thereby adversely affecting our competitiveness. To date, we have not significantly hedged against foreign currency fluctuations; however, we may pursue hedging alternatives in the future. Although exposure to currency fluctuations to date has not had an adverse effect on our business, there can be no assurance that exchange rate fluctuations in the future will not have a material adverse effect on our revenue from international sales and, consequently, our business, operating results and financial condition.

Our stock price is volatile.

     Our common stock price has experienced substantial volatility in the past, and is likely to remain volatile in the future. Volatility can arise as a result of a number of the factors discussed in this “Risk Factors” section, as well as divergence between our actual or anticipated financial results and published expectations of analysts, and announcements that we, our competitors, or our customers may make.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

     The following discussion about Ciena’s market risk disclosures involves forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements. Ciena is exposed to market risk related to changes in interest rates and foreign currency exchange rates. Ciena does not use derivative financial instruments for speculative or trading purposes.

     Interest Rate Sensitivity.Ciena maintains a short-term and long-term investment portfolio. These available-for-sale securities are subject to interest rate risk and will fall in value if market interest rates increase. If market interest rates were to increase immediately and uniformly by 10% from levels at July 31, 2005, the fair value of the portfolio would decline by approximately $53.4 million.

     Foreign Currency Exchange Risk.As a global concern, Ciena faces exposure to adverse movements in foreign currency exchange rates. These exposures may change over time as business practices evolve and if our exposure

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increases, adverse movement in foreign currency exchange rates could have a material adverse impact on Ciena’s financial results. Historically Ciena’s primary exposures have been related to non-dollar denominated operating expenses in Canada, Europe and Asia where Ciena sells primarily in U.S. dollars. Ciena is prepared to hedge against fluctuations in foreign currency if this exposure becomes material. As of July 31, 2005, the assets and liabilities of Ciena related to non-dollar denominated currencies were not material. Therefore, we do not expect an increase or decrease of 10% in the foreign exchange rate would have a material impact on Ciena’s financial position.

Item 4. Controls and Procedures

     Ciena’s management, with the participation of Ciena’s Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures and have concluded that, as of the end of the period covered by this report, they were effective.

     There was no change in Ciena’s internal control over financial reporting during Ciena’s last fiscal quarter that materially affected, or is reasonably likely to materially affect, Ciena’s internal control over financial reporting.

PART II — OTHER INFORMATION

Item 1. Legal Proceedings

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

     As a result of our merger with ONI Systems Corp. in June 2002, we became a defendant in a securities class action lawsuit. Beginning in August 2001, a number of substantially identical class action complaints alleging violations of the federal securities laws were filed in the United States District Court for the Southern District of New York. These complaints name ONI, Hugh C. Martin, ONI’s former chairman, president and chief executive officer; Chris A. Davis, ONI’s former executive vice president, chief financial officer and administrative officer; and certain underwriters of ONI’s initial public offering as defendants. The complaints were consolidated into a single action, and a consolidated amended complaint was filed on April 24, 2002. The amended complaint alleges, among other things, that the underwriter defendants violated the securities laws by failing to disclose alleged compensation arrangements (such as undisclosed commissions or stock stabilization practices) in the initial public offering’s registration statement and by engaging in manipulative practices to artificially inflate the price of ONI’s common stock after the initial public offering. The amended complaint also alleges that ONI and the named former officers violated the securities laws on the basis of an alleged failure to disclose the underwriters’ alleged compensation arrangements and manipulative practices. No specific amount of damages has been claimed. Similar complaints have been filed against more than 300 other issuers that have had initial public offerings since 1998, and all of these actions have been included in a single coordinated proceeding. Mr. Martin and Ms. Davis have been dismissed from the action without prejudice pursuant to a tolling agreement. In July 2004, following mediated settlement negotiations, the plaintiffs, the issuer defendants (including Ciena), and their insurers entered into a settlement agreement, whereby the plaintiffs’ cases against the issuers are to be dismissed. The plaintiffs and issuer defendants subsequently moved the court for preliminary approval of the settlement agreement, which motion was opposed by the underwriter defendants. On February 15, 2005, the district court granted the motion for preliminary approval of the settlement agreement, subject to certain modifications to the proposed bar order, and directed the parties to submit a revised settlement agreement reflecting its opinion. If the parties are able to agree upon the required modifications, and such modifications are acceptable to the court, notice will be given to all class members of the settlement, a “fairness” hearing will be held and, if the court determines that the settlement is fair to the class members, the settlement will be approved.

     On January 18, 2005, Ciena filed a complaint in the United States District Court, Eastern District of Texas, Marshall Division against Nortel Networks, Inc., Nortel Networks Corporation and Nortel Networks Limited (collectively, “Nortel”), which complaint was subsequently amended. Ciena’s amended complaint charges Nortel with infringement of nine patents related to Ciena’s communications networking systems and technology. Ciena seeks to enjoin Nortel’s infringing activities and recover damages caused by such infringement. On March 14, 2005, Nortel filed an answer to Ciena’s complaint and a counterclaim against Ciena, each of which have subsequently been

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amended. Nortel’s amended counterclaim charges Ciena with infringement of 13 patents related to Nortel’s communications networking systems and technology, including certain of Nortel’s SONET, ATM and VLAN systems and technology. Nortel’s counterclaim seeks injunctive relief and damages. This matter is currently scheduled for trial in June 2006.

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

Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities

(a)–(d) Not applicable

(e) The following table provides information with respect to any purchase made by or on behalf of Ciena, or any “affiliated purchaser” as defined in 17 C.F.R. § 240.10b-18(a)(3), of shares of any class of equity securities registered by Ciena pursuant to Section 12 of the Securities Exchange Act of 1934, as amended:

	(a)		(b)		(c)		(d)
							Maximum
							number (or
					Total number of		appropriate
					shares purchased		dollar value) of
					as part of		shares that may
					publicly		yet be purchased
	Total number of		Average price		announced plans		under the plans
Period	shares purchased		paid per share		or programs (1)		or programs
May 1, 2005 through May 28, 2005		11,605	$	0.02		11,605		*
May 29, 2005 through June 25, 2005		—		—		—		*
June 26, 2005 through July 30, 2005		7,165	$	0.00		7,165		*
Total		18,770	$	0.01		18,770		*

*	Not applicable. See description of repurchase activity below.
(1)	As initially disclosed in our Form 10-Q for the first quarter of fiscal 2005, Ciena does not repurchase its shares in open market transactions. The repurchase activity in the table above consists solely of Ciena’s repurchase of outstanding shares in private transactions with certain former employees. Pursuant to the terms of equity compensation plans and certain award agreements that Ciena assumed in connection with its acquisitions of WaveSmith Networks and Catena Networks, employees may exercise stock options or restricted stock prior to vesting. Under these plans, upon the employee’s termination of employment, Ciena is granted the right to repurchase the shares issued, to the extent that the option or restricted stock has not vested, at the grantee’s exercise price.
	Ciena believes it is in the best interest of its stockholders, and it is corporate practice, to repurchase shares subject to these award agreements if the closing price of such shares on the Nasdaq Stock Market is greater than the grantee’s exercise price during the 30 day period following separation or termination of employment. At the end of our third quarter of fiscal 2005, 121,268 outstanding shares remained subject to repurchase pursuant to the terms above. This number of shares subject to Ciena repurchase will (i) increase, to extent that holders of equity awards under these plans exercise any options or restricted stock that have not yet vested, and (ii) decrease, as such awards vest pursuant to their terms and Ciena’s repurchase rights lapse.

Item 3. Defaults Upon Senior Securities

     Not applicable.

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Item 4. Submission of matters to a Vote of Security Holders

     Not applicable.

Item 5. Other Information

     Not applicable.

Item 6. Exhibits

Exhibit	Description
31.1	Certification of Chief Executive Officer Pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934 as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2	Certification of Chief Financial Officer Pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934 as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1	Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2	Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

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SIGNATURES

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

	CIENA CORPORATION
Date: September 1, 2005	By:	/s/ Gary B. Smith
		Gary B. Smith
		President, Chief Executive Officer and Director (Duly Authorized Officer)

Date: September 1, 2005	By:	/s/ Joseph R. Chinnici
		Joseph R. Chinnici
		Senior Vice President, Finance and Chief Financial Officer (Principal Finance Officer)

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