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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-K

For the fiscal year ended December 31, 2002

OR

For the transition period from        to   

Commission file number 0-25678
_________

MRV COMMUNICATIONS, INC.

20415 Nordhoff Street, Chatsworth, CA 91311
(Address of principal executive offices, Zip Code)

Registrant’s telephone number, including area code: (818) 773-0900

Securities registered under Section 12(b) of the Exchange Act:

Securities registered under Section 12(g) of the Exchange Act:

Common stock, $0.0017 par value

     Indicate by check mark, whether the issuer (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act of 9134 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X]    No [  ]

     Indicate by a check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ]

     Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes [  ]      No [X]

     Aggregate market value of the voting and non-voting common stock held by non-affiliates computed by reference to the price at which the common stock was last sold, or the average bid and asked price of such common stock, as of the last business day of the Registrant’s most recently completed second fiscal quarter - $138,572,756 (As of June 28, 2002).

     Number of shares of common stock outstanding as of February 28, 2003 - 98,932,954.

DOCUMENTS INCORPORATED BY REFERENCE

None.

Table of Contents

MRV Communications, Inc.

Index to Form 10-K

For the fiscal year ended December 31, 2002

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

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PART I

          This Annual Report on Form 10-K for the year ended December 31, 2002, (the “Form 10-K”) contains certain “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements are statements other than historical information or statements of current condition and relate to future events or the future financial performance of the Company. Some forward-looking statements may be identified by use of such terms as “expects,” “anticipates,” “intends,” “estimates,” “believes” and words of similar import. These forward-looking statements relate to plans, objectives and expectations for future operations. In light of these risks and uncertainties, there can be no assurance that the forward-looking information contained in this Form 10-K will in fact transpire or prove to be accurate. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by this introduction.

          In light of the risks and uncertainties inherent in all such projected operational matters, the inclusion of forward-looking statements in this Form 10-K should not be regarded as a representation by the Company or any other person that the objectives or plans of the Company will be achieved or that any of the Company’s operating expectations will be realized. Revenues and results of operations are difficult to forecast and could differ materially from those projected in the forward-looking statements contained in this Form 10-K for the reasons detailed in the “Risk Factors” section of this Form 10-K, beginning on page 8 or elsewhere in this Form 10-K. Readers should not place undue reliance on forward-looking statements, which reflect management’s view only as of the date of this Form 10-K. The Company undertakes no obligation to publicly revise these forward-looking statements to reflect subsequent events or circumstances. Readers should also carefully review the risk factors described in other documents the Company files from time to time with the Securities and Exchange Commission.

ITEM 1. BUSINESS

Overview

          We design, manufacture, sell, distribute, integrate and support network infrastructure equipment, services and optical components. We conduct our business along two principal segments: operating divisions and development stage enterprises. Our principal operating divisions provide equipment used by commercial customers, governments and telecommunications service providers, and include network physical infrastructure products, switches, routers and remote device management products as well as specialized networking products for defense and aerospace applications. We have sales offices in over 20 countries, and our products are sold worldwide, through direct and indirect sales channels. In Europe, we have operations that provide network system design, integration and distribution services that include our products, as well as products manufactured by third-party vendors. We conduct our optical components business through Luminent, Inc. our wholly owned subsidiary. Luminent designs, manufactures and sells optical communications components. These components include fiber optic transceivers, discrete lasers and laser emitting diodes (“LEDs”), as well as components for fiber-to-the-home (“FTTH”) applications.

          Our development stage enterprises develop and manufacture routers for telecommunication carriers, service providers and business enterprise customers.

          We were organized in July 1988 as MRV Technologies, Inc., a California corporation and reincorporated in Delaware in April 1992, at which time we changed our name to MRV Communications, Inc.

Industry Background

          Over the past decade, businesses, governments, educational institutions and other organizations have become increasingly reliant on communications networks and software applications as critical strategic assets. With the proliferation of Internet access to consumer households, communications networks have been expanded to deliver new services providing both internal and external connectivity. Productivity gains obtained by investments in network infrastructure have fueled the growth of the global economy, during most of the decade. Increased demands for capacity in network infrastructure resulted in greater bandwidth requirements and increased deployment of optical components and optical networks.

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          However, the global economic slowdown of the past two years has negatively impacted demand for communications products and services. Unfavorable economic conditions resulted in reduced capital spending by telecommunications carriers and service providers, enterprise customers, and governments. Depressed financial markets affected capital availability and capital formation, especially in the communications equipment sector. Such conditions have prevailed during 2001, 2002 and may continue to prevail during 2003 and thereafter. For information on the impact the global economic slowdown has had on us, please see the our discussion in Item 7, “Management’s Discussion and Analysis of Financial Conditions and Results of Operations – Market Conditions and Current Outlook.” See also the portion of this Form 10-K entitled “Risk Factors”, including but not limited to the risk factor entitled, “Our Business has been Adversely Impacted by the Worldwide Economic Slowdown and Related Uncertainties.”

Products and Services

          We provide integrated, secure network equipment and services to connect data, voice and/or video (both analog and digital), within single buildings, across multiple building private networks and in metropolitan areas. At the access point to the network, we provide standard-based products, including Ethernet connectivity over telephone wires. Access speeds (data rates) vary, scaling up to Gigabits-per-second (“Gbps”), and providing security features such as intrusion control and traffic rate control. Our products aggregate network traffic using standard protocols to interconnect high-speed networks. Additional features enable new services such as virtual private networks (“VPN”) and quality of service (“QoS”). In multiple building private networks and metropolitan networks, where fiber optic cabling is not available, or cannot easily be deployed, we provide point-to-point connectivity using free-space optics technology. These products can be deployed quickly carrying network traffic from building to building without digging up the street to install fiber optic cabling, or can be used in disaster recovery and back-up applications. We also provide wave division multiplexing (“WDM”) technology, to expand the capacity of existing fiber optic infrastructure by enabling simultaneous transmission of information over multiple wavelengths on the same fiber optic strand. In addition, we provide network management systems that allow users and network administrators to control remote network elements, including network equipment, temperature and alarm sensors and power supply.

          Our offerings fall into several product groups. For revenue breakdown by product group, please see Note 16, “Segment Reporting” included in the “Notes to Financial Statements” appearing elsewhere in this Form 10-K:

          Network Physical Infrastructure - Optical Connectivity. Cabling and network transmission equipment constitute the physical infrastructure, which is essential for computer connectivity, telephony systems and video distribution. We provide a broad range of connectivity products for copper-to-fiber media conversion, signal repeating, and fiber-optimization, including WDM systems and free-space optics (“FSO”). Like fiber optic cable, FSO communications systems use laser and LED light to transmit a digital signal between two transceivers. However, unlike fiber, light is transmitted through the air (free-space) instead of through a glass strand.

          We also offer both Dense and Coarse WDM systems (“DWDM” and “CWDM”, respectively). We also provide network access technology for data and voice over standard telephone wire. This includes long range Ethernet, and voice-over-Ethernet products for converged voice and data networks.

          Switches and Routers - Ethernet Connectivity. Switching and routing technologies are essential for computer networking. Switches direct the flow of data traffic between individual computers, servers and other elements on a network and routers direct the flow of data traffic between computer networks. We provide a wide range of switching and routing products that scale from small systems designed for small business applications, to very large, high capacity systems for enterprise and telecommunications carrier applications. In some cases, we also offer switches or routers manufactured by third-party vendors, supplied as part of our network system integration and distribution services.

          Remote Device Management. Our remote presence management products allow network managers to manage, monitor and control, from a central point, the real-time elements such as temperature, humidity, electrical power and the status of other equipment that exist in the network at a remotely located network.

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          We also provide a network management system (“NMS”) with comprehensive management and control for our products as well as other vendors’ products. Our NMS combines complete end-to-end network viewing and performance monitoring with network configuration and fault management including automatic detection and monitoring of devices from other vendors.

          Other Networking Products. We provide networking products for defense and aerospace applications. Applying real-time data acquisition technology allows high-speed, packet-by-packet transaction processing for flight test validation and simulation systems. These products provide in-flight parameter recording systems in military and commercial aircrafts. We also provide ground test systems as well as protocol analyzers and network performance-testing equipment. In addition, we provide networking data test equipment and a multi-service computing platform for wireless cellular telephony.

          Services. Our products perform critical networking tasks and are often used in conjunction with network equipment manufactured by other vendors. We believe that pre and post-sales services ensure high-availability, reduce cost of ownership, support business goals and promote customer loyalty. Accordingly, we provide a broad range of service offerings including pre-sale network design, consultation, and site-surveys. We also provide system integration and on-site installation. Post-sales support includes in-warranty as well as out-of-warranty repair and on-site maintenance. Our services include a choice of technical support services including around-the-clock response.

          Optical Components. We design, manufacture and sell optical communications components, such as fiber optic transceivers. Luminent offers a broad line of solutions, including active and passive components, pluggable transceivers for metropolitan and access applications, and FTTH components. Our offerings in long-wavelength transceivers include a comprehensive set of data rates, power levels, and form factors. Product offerings range from on-board mounted transceivers to small-form-factor-pluggable (“SFP”) transceivers, in both standard and long reach models. Standard network protocols we support include Gigabit Ethernet, SONET/SDH (defined as, “Synchronous Optical Network/Synchronous Digital Hierarchy”), and Fibre Channel.

          Our FTTH product line offers a number of products for multiplexing cable TV video and bi-directional data over single fibers, providing high quality video with high data throughput. These products include passive combiners, bi-directional transceivers, and Triplexer subsystems. Offerings in CWDM include a full 16-wavelength CWDM system implemented in a number of transceiver and discrete laser form factors. In addition, we provide a full set of passive multiplexers and add/drops components.

Sales and Marketing

          We employ various methods, such as public relations, advertising, and trade shows to build awareness of our products as well as establishing our brand name, MRV. We conduct our public relations activities both internally and through relationships with outside agencies. We focus on major public relations activities seeking around new product introductions, corporate partnerships and other events of interest to the market. We supplement our public relations through media advertising programs and attendance at various trade shows throughout the year, both in the United States and internationally.

     Worldwide Sales

          In early 2002, we centralized our sales and marketing functions. The vast majority of the sales forces of formerly independent business units have been unified, and now support our worldwide sales efforts.

          Our worldwide sales and marketing organization, at December 31, 2002, consisted of approximately 350 employees, including sales representatives, technical support and management. We have field sales offices in more than 20 countries and sell our products and services both directly and through channel partners with support from their sales force. Our channel partners include distributors, value-added resellers, and system integrators. We conduct international operations in branch offices located in Argentina, China, Denmark, France, Finland, Germany, Israel, Italy, Japan, Korea, the Netherlands, Norway, Russia, Singapore, South Africa, Switzerland, Sweden, Taiwan and the United Kingdom. Our international field offices are involved in the sales and distribution of our products and provide system installation, technical support, and follow-up services to end users of our products.

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          Additionally, our offices in Denmark, Finland, Italy, France, the Netherlands, Sweden and Switzerland sell and market our products along with other products manufactured by third-party vendors, supplied as part of network system integration and distribution services. These operations provide system design, network integration and post-sales support. These services enhance our ability to penetrate targeted vertical and regional markets. We believe that partnering with successful third-party vendors in certain areas helps to provide growth opportunities beyond the limitations of our product line.

          No single customer accounted for more than 10% of our revenue or accounts receivable in 2002, 2001, or 2000.

     Markets Served

          We primarily serve the following markets:

          Campus Enterprise Market. We provide connectivity products for inter-building and intra-building networking through our optical and free-space optics connectivity equipment (inter-building) and our Ethernet aggregation equipment (intra-building). We also provide data-center management services, and our remote device management products manage large enterprise data centers.

          Telecommunication Carrier and Service Provider Markets. We provide both optical transport and Ethernet aggregation equipment, including switching and routing to telecommunication carriers and service providers, such as cable-TV multi-service operators.

          Vertical and Regional Markets. For certain products, we focus on vertical and regional markets, including health care, financial, defense, aerospace and educational markets. We provide products and services with specific capabilities that address the needs of these markets.

          Optical Components. Our optical components are designed for use by original equipment manufacturers (“OEMs”) or end-users that use our components for optical interfaces on communications equipment. Markets served by these systems vendors include multiple building private networks, or campus networks, as well as metropolitan and access markets including the FTTH market. We also sell components to other optical components vendors.

Competition

          The communications equipment and optical component industries are intensely competitive. We compete directly with a number of established and emerging networking and optical components companies.

          Direct competitors in network physical infrastructure products, switches and routers generally include Adva, Alcatel, Allied Telesyn, Ciena, Cisco Systems, Dell, Enterasys, Extreme Networks, Foundry Networks, Lucent Technologies, Nortel Networks and Riverstone. Our competitors in fiber optic components include Agilent Technologies, Finisar Corporation, Fujitsu, Infineon AG, JDS Uniphase Corp., Lucent Technologies, Sumitomo and Tyco International, Ltd. Many of our competitors have significantly greater financial, technical, marketing, distribution and other resources and larger installed customer bases than we do. Several of these competitors have recently introduced or announced their intentions to introduce new competitive products. Many of the larger companies with which we compete, offer customers a broader product line, which provides a more comprehensive networking solution than we provide. Accordingly, in certain regional markets we have partnered with other vendors in a effort to enhance our overall capability in providing products and services.

	-		The principal competitive factors in the markets in which we compete include:
	-		Product performance, features and price;
	-		A comprehensive range of complementary products and services;
	-		Customer service and technical support;
	-		Timeliness of new products introductions;

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	-		Global presence, including distribution network;
	-		Conformance to standards; and
	-		Brand name.

          Recent consolidation is likely to permit our various competitors to devote significantly greater resources to the development and marketing of new competitive products and the marketing of existing competitive products to their larger installed customer bases. We expect that competition will increase substantially as a result of these and other industry consolidations and alliances, as well as the emergence of new competitors.

Product Development and Engineering

          We believe that in order to maintain our technological competitiveness and to better serve our customers, we must enhance our existing products and continue to develop new products. Accordingly, we focus a significant amount of resources on product development and engineering. In the beginning of 2002, we began consolidating and focusing our product development and engineering. Prior to 2002, our product development and engineering was divided between affiliated startup companies, and our core operating divisions. During 2002, for strategic reasons, including efficiency and increased focus on revenue-generating products, we consolidated product development and engineering efforts from some affiliated startup companies into our operating product divisions. We believe these changes are an important part of the process of responding to the current economic conditions and sharpening our focus on providing solutions for customers.

          We are working on new developments covering the following product areas: active optical components, fiber-optic transport and free-space optics, switching, routing, Ethernet aggregation, remote device management and network management systems.

          Our product development and engineering expenses were $49.4 million, $94.8 million and $74.1 million for the years ended December 31, 2002, 2001 and 2000, respectively.

          Operating divisions. Product development and engineering expenses from our operating divisions were $31.5 million, $49.1 million and $32.6 million for the years ended December 31, 2002, 2001 and 2000, respectively. These expenses include $551,000, $14.0 million and $13.3 million for the years ended December 31, 2002, 2001 and 2000, respectively, of non-cash deferred stock expenses.

          Development stage enterprises. Product development and engineering expenses of the development stage enterprises were $17.8 million, $45.7 million and $41.5 million for the years ended December 31, 2002, 2001 and 2000, respectively.

Manufacturing

          We outsource our board-level assembly and in some occasions, complete turnkey production to independent contract manufacturers for our networking products, which include our switches and routers, remote device management products and networking physical infrastructure equipment. This allows us to react more quickly to market demand, avoid the significant capital investment required to establish automated manufacturing and assembly facilities and concentrate resources on product design and development. Our in-house manufacturing operations primarily perform the functions of materials management, quality assurance, equipment burn-in, as well as inspection and final testing, to ensure quality and reliability. Our, along with our partners’, manufacturing processes and procedures are generally ISO 9000 certified.

          Our optical components are designed and manufactured in our ISO 9000 certified manufacturing and production facilities in California, and Taiwan. We benefit from our in-house vertically integrated opto-electronic fabrication capabilities. This allows us to provide low cost, highly reliable products, and to better respond to customer requirements. Our optical transmission production process involves:

-

Wafer processing for semiconductor laser diode and LED chip manufacturing under stringent quality procedures using advanced wafer fabrication technology;

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	-		High precision electronic and mechanical assembly; and
	-		Final assembly and testing.

          Relevant assembly processes include die attach, wire bond, substrate attachment and fiber coupling. We also conduct tests at various stages of the manufacturing process using commercially available and internally built testing systems that incorporate proprietary procedures. We perform final product tests on all of its products prior to shipment to customers. Many of the key processes used in Luminent’s products are proprietary; and, therefore, many of the key components of its products are designed and produced internally.

     Components

          We utilize a wide variety of components, supplies and products from a substantial number of vendors around the world. Certain of our products rely on a single or limited number of suppliers, although we to locate alternative sources if the need arises. The failure of delivery by our vendors in a timely manner of critical components could adversely affect our business. For a discussion of the risks associated with suppliers, please see the portion of this Form 10-K entitled “Risk Factors,” including but not limited to the risk factor entitled, “We May Lose Sales if Suppliers of Critical Components and Products Fail to Meet Our Needs.”

Intellectual Property

          To date, we have relied principally on a combination of patents, copyrights and trade secrets to protect proprietary technology. Generally, we enter into confidentiality agreements with our employees and key suppliers and otherwise seek to limit access to and distribution of the source code to software and other proprietary information. These steps may not be adequate to prevent misappropriation of our technologies or a third party may independently develop technology similar or superior to any of our possesses.

Development Stage Enterprises

          We hold majority interests in Charlotte’s Networks, Zuma Networks, All Optical Networks, and Optical Crossing as well as minority investments in Dune Networks, Hyperchannel, PhoneDo Networks and RedC Optical Networks. As of December 2002, the majority of our expenses for development stage enterprises were incurred in Charlotte’s Networks. The risks associated with investments in private companies are more fully discussed in the “Risk Factors” section contained in Item 1 of this Form 10-K.

Employees

          As of December 31, 2002, we employed a total of approximately 1,400 full-time employees compared with approximately 2,200 at December 31, 2001. Of these 1,400 employees, approximately 600 are in manufacturing, 280 in product development and engineering and 520 in sales, marketing and general administration. Approximately 950 employees are in locations outside the United States. None of our employees are represented by a union or governed by a collective bargaining agreement, and we believe our employee relationships are satisfactory. We also believe that our long-term success depends in part on our continued ability to recruit and retain qualified personnel. To date, we believe that we have been successful in recruiting qualified employees, but there is no assurance that it will continue to be successful in the future. The risks associated with dependence on qualified personnel are more fully discussed in the “Risk Factors” section contained in Item 1 of this Form 10-K.

Certain Risk Factors That Could Affect Future Results

          From time to time we may make written or oral forward-looking statements. Written forward-looking statements may appear in documents filed with the Securities and Exchange Commission, in press releases, and in reports to stockholders. The Private Securities Reform Act of 1995 contains a safe harbor for forward-looking statements on which the Company relies in making such disclosures. In connection with this “safe harbor” we are hereby identifying important factors that could cause actual results to differ materially from those contained in any forward-looking statements made by or on behalf of the Company. Any such statement is qualified by reference to the following cautionary statements:

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We Incurred Net Losses For The Years Ended December 31, 2002, 2001 And 2000, Primarily As A Result Of The Impairment And Amortization Of Goodwill And Other Intangibles And Deferred Stock Expense From Recent Acquisitions. We Expect To Continue To Incur Net Losses For The Foreseeable Future.

          We reported net losses of $479.8 million, $326.4 million and $153.0 million for the years ended December 31, 2002, 2001 and 2000, respectively. A major contributing factor to the net losses was the cumulative effect of an accounting change and the impairment of goodwill and other intangibles in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 142, the amortization of goodwill and intangibles and deferred stock expense related to our acquisitions during 2000 of Fiber Optic Communications, Jolt, Quantum Optech, AstroTerra and Optronics International during 2000 and the employment arrangements we made in 2000 with Luminent’s former President and Luminent’s Chief Financial Officer. We will continue to record deferred stock expense relating to these acquisitions through 2004. Effective January 1, 2002, we adopted SFAS No. 142, and we no longer amortize goodwill and intangibles with indefinite lives, but instead we measure goodwill and intangibles for impairment at least annually, or when events indicate that impairment exists. We will continue to amortize intangible assets that we determine to have definite lives over their useful lives. As required by SFAS No. 142, we performed the transitional impairment test on goodwill and other intangibles, which consisted of patents and assembled work forces. As a result of the transitional impairment test, we recorded a $296.4 million cumulative effect of an accounting change during 2002. In addition to the transitional impairment test, we reviewed our remaining goodwill and other intangibles as required annually pursuant to SFAS No. 142. As a result of the annual review, we further reduced the carrying amount of goodwill and other intangibles by recording an impairment charge of $72.7 million during 2002. We will perform our annual impairment review as of October 1st each year, commencing with this review. We expect to record impairment charges in the future from time to time as a result of this standard. As a consequence of the current economic environment and potential impairment charges, we do not expect to report net income in the foreseeable future.

Our Business Has Been Adversely Impacted By The Worldwide Economic Slowdown And Related Uncertainties.

          Weaker economic conditions worldwide, particularly in the U.S. and Europe, have contributed to the current technology industry slowdown and impacted our business resulting in:

	-		reduced demand for our products, particularly fiber optic components;
	-		increased risk of excess and obsolete inventories;
	-		increased price competition for our products;
	-		excess manufacturing capacity under current market conditions; and
	-		higher overhead costs, as a percentage of revenues.

          These unfavorable economic conditions and reduced capital spending in the telecommunications industry detrimentally affected sales to service providers, network equipment companies, e-commerce and Internet businesses, and the manufacturing industry in the United States, during 2001 and 2002 and may affect them for 2003 and thereafter. Announcements by industry participants and observers indicate there is a continuing slowdown in industry spending and participants are seeking to reduce existing inventories and we are experiencing these reductions in our business. As a result of these factors, we recorded, during the year ended December 31, 2001, consolidated charges from our subsidiary, Luminent, which included the write-off of inventory, purchase commitments, asset impairment, workforce reduction, restructuring costs and other unusual items. The aggregate charges recorded during the year ended December 31, 2001 were $49.5 million. We did not record similar charges during the year ended December 31, 2002. These charges were the result of the lower demand for Luminent’s products and pricing pressures stemming from the continuing downturn in the communications equipment industry generally and the optical components sector in particular.

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          Additionally, these economic conditions are making it very difficult for us, our customers and our vendors to forecast and plan future business activities. This level of uncertainty severely challenges our ability to operate profitably or to grow our businesses. In particular, it is difficult to develop and implement strategy, sustainable business models and efficient operations, and effectively manage manufacturing and supply chain relationships. We believe that a decrease in business and consumer confidence in the economy and the financial markets will result from current political tensions or the outbreak of war with Iraq. Concerns over accounting practices of service providers and faltering growth prospects among equipment manufactures could delay the economic recovery in the telecommunications industry beyond 2003. In addition, further disruptions of the air transport system such as those resulting from the terrorist attacks of September 11, 2001 in the United States and abroad may negatively impact our ability to deliver products to customers, to visit potential customers, to provide support and service to our existing customers and to obtain components in a timely fashion. If the economic or market conditions continue to languish or further deteriorate, or if the economic downturn is exacerbated as a result of political, economic or military conditions associated with current domestic and world events, our businesses, financial condition and results of operations could be further impaired.

Some Of Our Customers May Not Have The Resources To Pay For Our Products As A Result Of The Current Economic Environment

          With the current economic slowdown, some of our customers are forecasting that their revenue for the foreseeable future will generally be lower than originally anticipated. Some of these customers are experiencing, or are likely to experience, serious cash flow problems and, as a result, find it increasingly difficult to obtain financing, if at all. If some of these customers are not successful in generating sufficient revenue or securing alternate financing arrangements, they may not be able to pay, or may delay payment for, the amounts that they owe us. Furthermore, they may not order as many products from us as originally forecast, or cancel orders with us entirely. The inability of some of our potential customers to pay us for our products may adversely affect our cash flow, the timing of our revenue recognition and the amount of revenue, which may cause our stock price to decline.

Our Markets Are Subject To Rapid Technological Change, And To Compete Effectively, We Must Continually Introduce New Products That Achieve Market Acceptance.

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

	-		changing product specifications and customer requirements;
	-		difficulties in hiring and retaining necessary technical personnel;
	-		difficulties in reallocating engineering resources and overcoming resource limitations;
	-		difficulties with contract manufacturers;
	-		changing market or competitive product requirements; and
	-		unanticipated engineering complexities.

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

Defects In Our Products Resulting From Their Complexity Or Otherwise Could Hurt Our Financial Performance.

          Complex products, such as those we offer, may contain undetected software or hardware errors when we first introduce them or when we release new versions. The occurrence of these errors in the future, and our inability to correct these errors quickly or at all, could result in the delay or loss of market acceptance of our products. It could also result in material warranty expense, diversion of engineering and other resources from our product development efforts and the loss of credibility with, and legal actions by, our customers, system integrators and end users. For instance, during late 2000, we were informed that certain Luminent transceivers sold to Cisco were experiencing field failures. Through discussions with Cisco through September 2001, Luminent’s management agreed to replace the failed units, which we believe resolves this issue. We expect the ultimate replacement of these failed transceivers will cost approximately $3.6 million, which has been fully reserved. As of December 31, 2002, we had a remaining obligation to replace approximately $2.9 million additional transceivers. Any of these or other eventualities resulting from defects in our products could cause our sales to decline and have a material adverse effect on our business, operating results and financial condition.

We Face Risks In Reselling The Products Of Other Companies.

          We have recently begun to distribute the products of other companies. To the extent we succeed in reselling the products of these companies, or products of other vendors with which we may enter into similar arrangements, we may be required by customers to assume warranty and service obligations. While these suppliers have agreed to support us with respect to those obligations, if they should be unable, for any reason, to provide the required support, we may have to expend our own resources on doing so. This risk is amplified by the fact that the equipment has been designed and manufactured by others, and is thus subject to warranty claims whose magnitude we are currently unable to fully evaluate.

Our Operating Results Could Fluctuate Significantly From Quarter To Quarter.

          Our operating results for a particular quarter are extremely difficult to predict. Our revenue and operating results could fluctuate substantially from quarter to quarter and from year to year. This could result from any one or a combination of factors such as:

	-		the cancellation or postponement of orders;
	-		the timing and amount of significant orders from our largest customers;
	-		our success in developing, introducing and shipping product enhancements and new products;
	-		the mix of products we sell;
	-		software, hardware or other errors in the products we sell requiring replacements or increased warranty reserves;
	-		adverse effects to our financial statements resulting from, or necessitated by, past and future acquisitions or deferred stock expense;
	-		our periodic reviews of goodwill and other intangibles that lead to impairment charges;

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	-		new product introductions by our competitors;
	-		pricing actions by our competitors or us;
	-		the timing of delivery and availability of components from suppliers;
	-		political stability in the areas of the world we operate in;
	-		changes in material costs; and
	-		general economic conditions.

          Moreover, the volume and timing of orders we receive during a quarter are difficult to forecast. From time to time, our customers encounter uncertain and changing demand for their products. Customers generally order based on their forecasts. If demand falls below these forecasts or if customers do not control inventories effectively, they may cancel or reschedule shipments previously ordered from us. Our expense levels during any particular period are based, in part, on expectations of future sales. If sales in a particular quarter do not meet expectations, our operating results could be materially adversely affected.

          Our success is dependent, in part, on the overall growth rate of the fiber optic components and networking industry. The Internet or the industries that serve it may not continue to grow and even if it does, we may not achieve increased growth. Our business, operating results or financial condition may be adversely affected by any decreases in industry growth rates. In addition, we can give no assurance that our results in any particular period will fall within the ranges for growth forecast by market researchers.

          Because of these and other factors, you should not rely on quarter-to-quarter comparisons of our results of operations as an indication of our future performance. It is possible that, in future periods, our results of operations may be below the expectations of public market analysts and investors. This failure to meet expectations could cause the trading price of our common stock to decline. Similarly, the failure by our competitors or customers to meet or exceed the results expected by their analysts or investors could have a ripple effect on us and cause our stock price to decline.

Cost Containment And Expense Reductions Are Critical To Achieving Positive Cash Flow From Operations And Profitability

          We are continuing efforts to reduce our expense structure. We believe strict cost containment and expense reductions are essential to achieving positive cash flow from operations in future quarters and returning to profitability, especially since the outlook for future quarters is subject to numerous challenges. Additional measures to contain costs and reduce expenses may be undertaken if revenues and market conditions do not improve. A number of factors could preclude us from successfully bringing costs and expenses in line with our revenues, such as our inability to accurately forecast business activities and further deterioration of our revenues. If we are not able to effectively reduce our costs and achieve an expense structure commensurate with our business activities and revenues, we may have inadequate levels of cash for operations or for capital requirements, which could significantly harm our ability to operate the business.

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The Long Sales Cycles For Our Products May Cause Revenues And Operating Results To Vary From Quarter To Quarter, Which Could Cause Volatility In Our Stock Price.

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

The Prices Of Our Shares May Continue To Be Highly Volatile.

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

	-		actual or anticipated fluctuations in our operating results;
	-		announcements of technological innovations or new product introductions by us or our competitors;
	-		changes of estimates of our future operating results by securities analysts;
	-		developments with respect to patents, copyrights or proprietary rights; and
	-		general market conditions and other factors.

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

Our Stock Price Might Suffer As A Consequence Of Our Investments In Affiliates.

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

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Our Business Is Intensely Competitive And The Evident Trend Of Consolidations In Our Industry Could Make It More So.

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

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

We May Have Difficulty Managing Our Businesses.

          We must continually implement new and enhance existing financial and management information systems and controls and must add and train personnel to operate these systems effectively. Our delay or failure to implement new and enhance existing systems and controls as needed could have a material adverse effect on our results of operations and financial condition in the future. Should we continue to pursue a growth strategy, such a strategy can be expected to place even greater pressure on our existing personnel and compound the need for increased personnel, expanded information systems, and additional financial and administrative control procedures. We can give no assurance that we will be able to successfully manage operations if they continue to expand.

Adjustments To The Size Of Our Operations May Require Us To Incur Unanticipated Costs

          Prior to 2001, we experienced growth and expansion that placed, and may in the future place, a significant strain on our resources. Subsequent to the quarter ended March 31, 2001, we have incurred unanticipated costs to downsize our operations to a level consistent with downward forecasts in sales. Even if we manage the current period of instability effectively, as well as possible expansion in the future, we may make mistakes in restructuring or operating our business such as inaccurate sales forecasting or incorrect material planning. Any of these mistakes may lead to unanticipated fluctuations in our operating results. We may not be able to size our operations in accordance with growth or decline of our business in the future.

Economic Conditions May Require Us To Reduce The Size Of Our Business Further.

          In 2002, we undertook significant reductions in force, some of which were accompanied by dispositions of assets, as part of our effort to reduce the size of our operations to better match the reduced sales of our products and services. Weakness in the global economy generally and the fiber optics and telecommunications equipment markets in particular continue to affect our business substantially. We may be required to undertake further reductions in force. Any such steps would likely result in significant charges from write-downs or write-offs of assets, costs of lease terminations, and expenses resulting from the termination of personnel.

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We Face Risks From Our International Operations.

          International sales have become an increasingly important part of our operations. The following table sets forth the percentage of our total revenues from sales to customers in foreign countries for the three years ended December 31, 2002: