e10vq

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 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 August 1, 2009


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: 000-25601

Brocade Communications Systems, Inc.

(Exact name of registrant as specified in its charter)


Delaware (State or other jurisdiction of incorporation or organization)		77-0409517 (I.R.S. Employer Identification No.)

1745 Technology Drive
San Jose, CA 95110
(408) 333-8000
(Address, including zip code, of registrant’s
principal executive offices and registrant’s
telephone number, including area code)

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

Yes þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):


þ Large accelerated filer		o Accelerated filer		o Non-accelerated filer (Do not check if a smaller reporting company)		o Smaller reporting company

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

Yes o No þ

The number of shares outstanding of the registrant’s common stock as of August 24, 2009 was 418,813,605 shares.

Forward-Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements regarding future events and our future results. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including, but not limited to, statements regarding future revenues, margins, expenses, tax provisions, earnings, cash flows, benefit obligations, debt repayments or other financial items; any statements of the plans, strategies and objectives of management for future operations; any statements concerning expected development, performance or market share relating to products or services; any statements regarding future economic conditions or performance; any statements regarding pending litigation, including claims or disputes; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing. Words such as “expects,” “anticipates,” “assumes,” “targets,” “goals,” “projects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “continues,” “may,” variations of such words and similar expressions are intended to identify such forward-looking statements. These statements are based on current expectations, estimates, forecasts and projections about the industries in which we operate, and the beliefs and assumptions of our management. Readers are cautioned that these forward-looking statements are only predictions and are subject to risks, uncertainties and assumptions that are difficult to predict, including those identified below under “Part II — Other Information, Item 1A. Risk Factors” and elsewhere herein. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements. Further, we undertake no obligation to revise or update any forward-looking statements for any reason.

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

BROCADE COMMUNICATIONS SYSTEMS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)


	Three Months Ended						Nine Months Ended
	August 1,			July 26,			August 1,			July 26,
	2009			2008			2009			2008
	(In thousands, except per share amounts)
Net revenues
Product	$	402,483		$	301,804		$	1,183,117		$	895,333
Service		90,797			63,892			248,054			173,107

Total net revenues		493,280			365,696			1,431,171			1,068,440
Cost of revenues
Product		185,347			111,072			535,912			345,476
Service		47,488			41,419			132,606			107,728

Total cost of revenues		232,835			152,491			668,518			453,204

Gross margin
Product		217,136			190,732			647,205			549,857
Service		43,309			22,473			115,448			65,379

Total gross margin		260,445			213,205			762,653			615,236
Operating expenses:
Research and development		94,718			65,368			259,464			184,704
Sales and marketing		103,640			70,039			281,703			203,200
General and administrative		23,070			17,577			62,753			43,260
Legal fees associated with indemnification obligations and other related costs, net		(561	)		7,951			38,553			22,399
Provision for class action lawsuit		—			—			—			160,000
Amortization of intangible assets		17,052			7,846			51,666			23,664
Acquisition and integration costs		1,450			—			4,794			—
Restructuring costs and facilities lease loss benefits, net		—			—			2,329			(477	)
In-process research and development		—			—			26,900			—
Goodwill and acquisition-related intangible assets impairment		—			—			53,306			—

Total operating expenses		239,369			168,781			781,468			636,750

Income (loss) from operations		21,076			44,424			(18,815	)		(21,514	)
Interest and other income (loss), net		809			8,872			(2,912	)		27,663
Interest expense		(22,845	)		(1,103	)		(70,600	)		(4,384	)
Loss on sale of investments, net		(52	)		(36	)		(576	)		(6,985	)

Income (loss) before provision for (benefit from) income taxes		(1,012	)		52,157			(92,903	)		(5,220	)
Income tax provision (benefit)		20,021			31,891			17,280			(136,709	)

Net income (loss)	$	(21,033	)	$	20,266		$	(110,183	)	$	131,489

Net income (loss) per share — basic	$	(0.05	)	$	0.05		$	(0.28	)	$	0.35

Net income (loss) per share — diluted	$	(0.05	)	$	0.05		$	(0.28	)	$	0.34

Shares used in per share calculation — basic		406,916			371,345			390,087			376,455

Shares used in per share calculation — diluted		406,916			392,586			390,087			396,445

See accompanying notes to condensed consolidated financial statements.

BROCADE COMMUNICATIONS SYSTEMS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)


	August 1,			October 25,
	2009			2008
	(In thousands, except par value)
Assets
Current assets:
Cash and cash equivalents	$	244,179		$	453,884
Short-term investments		5,731			152,741

Total cash, cash equivalents and short-term investments		249,910			606,625
Accounts receivable, net of allowances of $12,816 and $5,044 at August 1, 2009 and October 25, 2008, respectively		301,787			158,935
Inventories		55,674			21,362
Deferred tax assets		86,690			104,705
Prepaid expenses and other current assets		75,723			49,931

Total current assets		769,784			941,558
Long-term marketable equity securities		—			177,380
Long-term investments		—			36,120
Restricted cash		—			1,075,079
Property and equipment, net		409,914			313,379
Goodwill		1,668,102			268,977
Intangible assets, net		505,822			220,567
Non-current deferred tax assets		179,792			227,795
Other assets		29,790			37,793

Total assets	$	3,563,204		$	3,298,648

Liabilities and Stockholders’ Equity
Current liabilities:
Accounts payable	$	150,616		$	167,660
Accrued employee compensation		112,193			107,994
Deferred revenue		170,695			103,372
Current liabilities associated with facilities lease losses		13,435			13,422
Liability associated with class action lawsuit		—			160,000
Revolving credit facility		14,050			—
Current portion of long-term debt		41,545			43,606
Convertible subordinated debt		171,282			—
Other accrued liabilities		99,054			105,804

Total current liabilities		772,870			701,858
Long-term debt, net of current portion		912,568			1,011,399
Non-current convertible subordinated debt		—			169,660
Non-current liabilities associated with facilities lease losses		13,319			15,007
Non-current deferred revenue		59,374			37,869
Non-current income tax liability		108,746			67,497
Other non-current liabilities		10,112			13,118

Total liabilities		1,876,989			2,016,408

Commitments and contingencies (Note 10)
Stockholders’ equity:
Preferred stock, $0.001 par value, 5,000 shares authorized, no shares issued and outstanding		—			—
Common stock, $0.001 par value, 800,000 shares authorized:
Issued and outstanding: 417,655 and 371,858 shares at August 1, 2009 and October 25, 2008, respectively		418			372
Additional paid-in capital		1,827,744			1,392,927
Accumulated other comprehensive loss		(6,585	)		(85,877	)
Accumulated deficit		(135,362	)		(25,182	)

Total stockholders’ equity		1,686,215			1,282,240

Total liabilities and stockholders’ equity	$	3,563,204		$	3,298,648

See accompanying notes to condensed consolidated financial statements.

BROCADE COMMUNICATIONS SYSTEMS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)


	Nine Months Ended
	August 1,			July 26,
	2009			2008
	(In thousands)
Cash flows from operating activities:
Net income (loss)	$	(110,183	)	$	131,489
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Release of valuation allowance		—			(185,176	)
Excess tax benefit from employee stock plans		986			(2,505	)
Depreciation and amortization		145,087			89,645
Loss on disposal of property and equipment		1,369			1,328
Amortization of debt issuance costs and original issue discount		11,856			—
Net losses on investments and marketable equity securities		570			6,488
Provision for doubtful accounts receivable and sales allowances		9,533			4,914
Non-cash compensation expense		101,505			31,521
Non-cash facilities lease loss benefit		(339	)		(477	)
Capitalization of interest cost		(6,356	)		—
Asset impairment charge		53,306			—
In-process research and development		26,900			—
Changes in assets and liabilities, net of acquired assets and assumed liabilities:
Accounts receivable		(75,786	)		3,758
Inventories		43,898			3,648
Prepaid expenses and other assets		6,929			(19,032	)
Deferred tax assets		651			(9,808	)
Accounts payable		(41,867	)		1,196
Accrued employee compensation		(56,110	)		(3,526	)
Deferred revenue		21,078			17,671
Other accrued liabilities		(5,426	)		46,003
Liabilities associated with facilities lease losses		(7,391	)		(7,213	)
Liability associated with class action lawsuit		(160,000	)		160,000

Net cash provided by (used in) operating activities		(39,790	)		269,924

Cash flows from investing activities:
Purchases of short-term investments		(116	)		(166,963	)
Purchases of long-term investments		—			(37,731	)
Proceeds from maturities and sale of short-term investments		154,931			340,838
Proceeds from maturities and sale of long-term investments		30,173			22,483
Proceeds from sale of marketable equity securities and equity investments		—			9,926
Purchases of property and equipment		(118,278	)		(125,468	)
Decrease in restricted cash		1,075,079			—
Net cash paid in connection with acquisitions		(1,297,482	)		(43,554	)

Net cash used in investing activities		(155,693	)		(469	)

Cash flows from financing activities:
Payment of senior underwriting fees related to the term loan		(30,525	)		—
Payment of principal related to the term loan		(108,141	)		—
Common stock repurchases		—			(168,293	)
Proceeds from issuance of common stock, net		110,280			41,803
Proceeds from revolving credit facility		14,050			—
Excess tax benefit from employee stock plans		(986	)		2,505

Net cash used in financing activities		(15,322	)		(123,985	)

Effect of exchange rate fluctuations on cash and cash equivalents		1,100			(1,826	)

Net increase (decrease) in cash and cash equivalents		(209,705	)		143,644
Cash and cash equivalents, beginning of period		453,884			315,755

Cash and cash equivalents, end of period	$	244,179		$	459,399

Supplemental schedule of non-cash investing activities:
Fair value of stock options and unvested awards assumed in exchange for acquired Foundry assets	$	255,596		$	—

See accompanying notes to condensed consolidated financial statements.

BROCADE COMMUNICATIONS SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. Organization and Operations of Brocade

Brocade Communications Systems, Inc. (“Brocade” or the “Company”) is a leading supplier of end-to-end data and storage area networking solutions for enterprises and service providers. The Company offers a comprehensive line of high-performance networking hardware and software products and services that enable businesses to make their networks and data centers more efficient, reliable and adaptable.

Brocade’s products, services and solutions simplify information technology (“IT”) infrastructure, increase resource utilization, ensure availability of mission critical applications, and support advanced data, voice and video applications.

As a result of the acquisition of Foundry Networks, Inc. (“Foundry”) in the first fiscal quarter of 2009, Brocade now operates in four operating segments. The objective of this new organization is to enable the Company to more effectively focus on growth opportunities, while being well-positioned to more rapidly scale and accommodate new business opportunities, including potential future acquisitions. The four operating segments are as follows:

•

The Data Storage operating segment encompasses the Storage Area Network (“SAN”) business, which includes infrastructure products and solutions including directors, switches, routers, fabric-based software applications, distance/extension products, as well as management applications and utilities to centralize data management. Data Storage also includes the server portfolio, which is comprised of host bus adapters (“HBAs”), converged network adapters (“CNAs”), mezzanine cards, as well as the SAN switch modules for bladed servers. Prior to fiscal year 2009, the SAN business was referred to as Data Center Infrastructure and the server portfolio that is now included in Data Storage was referred to as Server Edge and Storage.

•

The IP Layer 2-3 operating segment includes Open Systems Interconnection Reference Model (“OSI”) Layer 2-3 switches and routers which enable efficient use of bandwidth-intensive network business applications and digital entertainment on both local area networks (“LANs”) and wide area networks (“WANs”).

•

The Application Delivery Controller (“ADC”) operating segment includes OSI Layer 4–7 switches which allow enterprises and service providers to build highly available network infrastructures that efficiently direct the flow of traffic. ADC also includes the File Area Network solutions (“Files”) (see Note 4, “Goodwill and Intangible Assets,” of the Notes to Condensed Consolidated Financial Statements).

•

The Global Services operating segment includes consulting and support services that assist customers in designing, implementing, deploying and managing advanced networking solutions, as well as post-contract customer support (“PCS”) and customer support services. Prior to fiscal year 2009, the Global Services operating segment was referred to as Services, Support and Solutions (“S3”).

Brocade products and services are marketed, sold and supported worldwide to end-user customers through distribution partners, including original equipment manufacturers (“OEMs”), distributors, systems integrators, value-added resellers and by the Brocade direct sales force.

2. Summary of Significant Accounting Policies

Basis of Presentation

Brocade has prepared the accompanying financial data as of August 1, 2009 and for the three and nine months ended August 1, 2009 and July 26, 2008, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) have been condensed or omitted pursuant to such rules and regulations. The October 25, 2008 Condensed Consolidated Balance Sheet was derived from audited consolidated financial statements, but does not include all disclosures required by U.S. generally accepted accounting principles. These Condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended October 25, 2008.

In the opinion of management, all adjustments (which include only normal recurring adjustments, except as otherwise indicated) necessary to present a fair statement of financial position as of August 1, 2009, results of operations for the three and nine months ended August 1, 2009 and July 26, 2008, and cash flows for the nine months ended August 1, 2009 and July 26, 2008 have been made. The results of operations for the three and nine months ended August 1, 2009 are not necessarily indicative of the operating results for the full fiscal year or any future period.

The Company has evaluated subsequent events, as defined by Statement of Financial Accounting Standards No. 165, “Subsequent Events” (“SFAS 165”), through the date that the financial statements were issued on August 31, 2009.

Fiscal Year

The Company’s fiscal year is the 52 or 53 weeks ending on the last Saturday in October. As is customary for companies that use the 52/53-week convention, every fifth year contains a 53-week year. Fiscal year 2009 is a 53-week fiscal year and fiscal year 2008 is a 52-week fiscal year. The second quarter of fiscal year 2009 consists of fourteen weeks, which is one week longer than a typical quarter. The Company’s next 14-week quarter will be in the second quarter of fiscal year 2014.

Fair Value of Financial Instruments

The fair value of the Company’s financial instruments, including cash and cash equivalents, accounts receivable, accounts payable and accrued liabilities, approximate cost because of their short maturities. The fair value of the Company’s investments is determined using quoted market prices for those securities or similar financial instruments. The fair value of the Company’s term loan approximates the carrying value due to the variable based interest on such debt. The fair value of the Company’s convertible subordinated debt is determined using the high and low prices on the market for the convertible debt.

Fair Value Measurements

The Company adopted the provisions of Statement of Financial Accounting Standards No. 157, “Fair Value Measurements” (“SFAS 157”), effective at the beginning of fiscal year 2009, for financial assets and liabilities. SFAS 157 defines fair value, establishes a framework for measuring fair value and enhances fair value measurement disclosure. In February 2008, the Financial Accounting Standards Board (“FASB”) issued FSP FAS 157-2, “Effective Date of FASB Statement No. 157” (“FSP 157-2”). FSP 157-2 delays the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities until the beginning of fiscal year 2010, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). The Company is currently assessing the impact that the application of SFAS 157 to nonfinancial assets and nonfinancial liabilities may have on its financial position and results of operations.

In October 2008, the FASB issued FSP FAS 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (“FSP 157-3”). FSP 157-3 clarifies the application of SFAS 157 in a market that is not active and provides guidance on the key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. Upon its adoption of SFAS 157 and FSP FAS 157-3, the Company applied the disclosure requirements related to financial assets and financial liabilities. The adoption of SFAS 157 for financial assets and financial liabilities was prospective and did not have an impact on the Company’s results of operations or the fair values of its financial assets and financial liabilities (see Note 7, “Fair Value Measurements,” of the Notes to Condensed Consolidated Financial Statements).

The Company adopted the provisions of FSP FAS 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly” (“FSP 157-4”), effective at the beginning of the third quarter of fiscal year 2009. FSP 157-4 provides additional guidance for estimating the fair value of assets and liabilities when the volume and level of activity for the asset or liability have significantly decreased. FSP 157-4 also provides guidance on identifying circumstances that indicate a transaction is not orderly. In addition, FSP 157-4 requires disclosure in interim and annual periods of the inputs and valuation techniques used to measure fair value and a discussion of changes in valuation techniques and related inputs, if any, during the period. The adoption of FSP 157-4 did not have an impact on the Company’s financial position and results of operations.

The Company adopted the provisions of Statement of Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an amendment of FASB Statement No. 115” (“SFAS 159”), effective at the beginning of fiscal year 2009. Under SFAS 159, a company may choose, at specified election dates, to measure eligible items at fair value and report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. Upon its adoption of SFAS 159, the Company did not elect the fair value option for any eligible financial instruments.

The Company adopted the provisions of FSP FAS 107-1 and APB 28-1, “Interim Disclosures about Fair Value of Financial Instruments” (“FSP 107-1/APB 28-1”), effective at the beginning of the third quarter of fiscal year 2009. FSP 107-1/APB 28-1 requires interim disclosure regarding the fair value of financial instruments that are within the scope of Statement of Financial Accounting Standards No. 107, “Disclosures about Fair Value of Financial Instruments,” as amended. Additionally, FSP 107-1/APB 28-1 requires interim disclosure of the methods and significant assumptions used to estimate the fair value of financial instruments as

well as changes in methods and significant assumptions, if any, during the period. FSP 107-1/APB 28-1 does not change the accounting treatment for these financial instruments. Because FSP 107-1/APB 28-1 only requires additional disclosure, the adoption of FSP 107-1/APB 28-1 did not impact the Company’s financial position and results of operations.

Derivative Instruments and Hedging Activities

The Company adopted the provisions of Statement of Financial Accounting Standards No. 161, “Disclosures about Derivative Instruments and Hedging Activities — an amendment of FASB Statement No. 133” (“SFAS 161”), effective at the beginning of the second quarter of fiscal year 2009. SFAS 161 expands financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, results of operations and cash flows. SFAS 161 also requires qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about fair value amounts of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative agreements. Because SFAS 161 only requires additional disclosure, the adoption of SFAS 161 did not impact the Company’s financial position, results of operations, and cash flows (see Note 11, “Derivative Instruments and Hedging Activities,” of the Notes to Condensed Consolidated Financial Statements).

Recognition and Presentation of Other-Than-Temporary Impairments

The Company adopted the provisions of FSP FAS 115-2 and FAS 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments” (“FSP 115-2/124-2”), effective at the beginning of the third quarter of fiscal year 2009. FSP 115-2/124-2 amends the requirements for the recognition and measurement of other-than-temporary impairments for debt securities by modifying the pre-existing “intent and ability” indicator. Under FSP 115-2/124-2, an other-than-temporary impairment is triggered when there is an intent to sell the security, it is more likely than not that the security will be required to be sold before recovery, or the security is not expected to recover the entire amortized cost basis of the security. Additionally, FSP 115-2/124-2 changes the presentation of an other-than-temporary impairment in the income statement for those impairments involving credit losses. The credit loss component will be recognized in earnings and the remainder of the impairment will be recorded in other comprehensive income. The adoption of FSP 115-2/124-2 did not have a significant impact on its financial position and results of operations.

Nonrefundable Advance Payments for Goods or Services Received for Use in Future Research and Development Activities

The Company adopted the provisions of EITF Issue No. 07-3, “Accounting for Nonrefundable Advance Payments for Goods or Services Received for Use in Future Research and Development Activities” (“EITF 07-3”), effective at the beginning of fiscal year 2009. EITF 07-3 requires that nonrefundable advance payments for goods or services that will be used or rendered for future research and development activities be deferred and capitalized, and recognized as expense as the related goods are delivered or the related services are performed. The adoption of EITF 07-3 did not have a material impact on the Company’s financial position and results of operations.

Subsequent Events

The Company adopted the provisions of SFAS 165 effective at the beginning of the third quarter of fiscal year 2009. SFAS 165 requires disclosure of the date through which an entity has evaluated subsequent events, as well as whether that date represents the date the financial statements were issued or were available to be issued. The adoption of SFAS 165 did not have a significant impact on the subsequent events that the Company reports, either through recognition or disclosure, in its consolidated financial statements.

Concentrations

A majority of the Company’s accounts receivable balance is derived from sales to OEM partners in the computer storage and server industry. As of August 1, 2009, three customers accounted for 15%, 13% and 11%, respectively, of total accounts receivable. As of October 25, 2008, three customers accounted for 30%, 17% and 14%, respectively, of total accounts receivable. The Company performs ongoing credit evaluations of its customers and generally does not require collateral on accounts receivable balances. The Company has established reserves for credit losses, sales allowances, and other allowances. While the Company has not experienced material credit losses in any of the periods presented, there can be no assurance that the Company will not experience material credit losses in the future, particularly in light of the current economic environment.

For the three months ended August 1, 2009 and July 26, 2008, three customers each represented 10% or more of the Company’s total net revenues for a combined total of 46% and 62% of total net revenues, respectively. The Company’s future success depends

upon the buying patterns of significant customers, such as companies within the financial services sector, the U.S. government or individual agencies within the U.S. government, their response to current and future IT investment trends and the continued demand by such customers for the Company’s products. Delays in or a reduction in IT spending, domestically and/or internationally, could harm the Company’s business, results of operations and financial condition in a number of ways, including longer sales cycles, increased inventory provisions, increased production costs, lowered prices for Brocade’s products and reduced sales volumes. In addition, the loss of any one significant OEM partner, or a decrease in the level of sales to any one significant OEM partner, or unsuccessful quarterly negotiation on key terms, conditions or timing of purchase orders placed during a quarter, would likely cause serious harm to Brocade’s business and financial results.

The Company currently relies on single and limited sources for multiple key components used in the manufacture of its products. Additionally, the Company relies on multiple contract manufacturers for the production of its products. The inability of any single or limited source supplier to fulfill supply, or the inability of a contract manufacturer to fulfill production requirements, could have a material adverse effect on the Company’s future operating results. Further, if the Company’s suppliers face challenges in obtaining credit or otherwise for operating their businesses, they may become unable to continue to offer the materials the Company uses to manufacture its products.

Revenue Recognition

Product revenue. Certain of the Company’s products are integrated with software that is essential to the functionality of the equipment. Additionally, the Company provides unspecified software upgrades and enhancements related to the equipment through its maintenance contracts for most of its products. Accordingly, the Company accounts for revenue from these products in accordance with Statement of Position 97-2, “Software Revenue Recognition,” as amended (“SOP 97-2”), and all related interpretations. For sales of products where software is incidental to the equipment, including certain products acquired from Foundry, the Company applies the provisions of Staff Accounting Bulletin No. 104, “Revenue Recognition” (“SAB 104”), and all related interpretations. Product revenue is generally recognized when all of the following criteria have been met:

•

Persuasive evidence of an arrangement exists;

•

Delivery has occurred;

•

The fee is fixed or determinable; and

•

Collectability is reasonably assured or collection is probable.

Products related to the Company’s acquisition of Foundry are generally accounted for under SAB 104. As the Company introduces products based on Foundry’s technology, which are determined to include software that is essential to the functionality of the equipment, then such new products will be accounted for using SOP 97-2 and all related interpretations.

For newly introduced SAN products, many of the Company’s large OEM customers require a product qualification period during which the Company’s products are tested and approved by the OEM customers for sale to their customers. Revenue recognition and related cost are deferred for shipments to new OEM customers and for shipments of newly introduced products to existing OEM customers until satisfactory evidence of completion of the product qualification has been received from the OEM customer. In addition, revenue from sales to the Company’s master reseller customers is recognized in the same period in which the product is actually sold by the master reseller (sell-through).

The Company reduces revenue for estimated sales allowances, sales programs, and other allowances at the time of shipment. Sales allowances, sales programs, and other allowances are estimated based upon historical experience, current trends and the Company’s expectations regarding future experience. In addition, the Company maintains an allowance for doubtful accounts, which is also accounted for as a reduction in revenue. The allowance for doubtful accounts is estimated based upon the analysis of accounts receivable, historical collection patterns, customer concentrations, customer creditworthiness, current economic trends, changes in customer payment terms and practices, and customer communication.

Multiple-element arrangements. The Company’s multiple-element product offerings include computer hardware and software products and support services. The Company also sells certain software products and support services separately. For certain of the Company’s products, software is generally essential to the functionality of its hardware products and, therefore, are accounted for in accordance with SOP 97-2. The Company allocates revenue to each element in a multiple-element arrangement based upon

vendor-specific objective evidence (“VSOE”) of the fair value of the element, or if VSOE is not available for the delivered element, by application of the residual method. In the application of the residual method, the Company allocates revenue to the undelivered elements based on VSOE of fair value for those elements and allocates the residual revenue to the delivered elements. VSOE of the fair value for an element is based upon the price charged when the element is sold separately. Revenue allocated to each element is then recognized when the basic revenue recognition criteria is met for each element. For sales of products that contain multiple elements and where software is incidental, the Company applies the provisions of EITF Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables” (“EITF 00-21”), to determine the separate units of accounting that exist within the arrangement. If more than one unit of accounting exists, the arrangement consideration is allocated to each unit of accounting using either the relative fair value method or the residual fair value method as prescribed by EITF 00-21. Revenue is recognized for each unit of accounting when all the revenue recognition criteria has been met for that unit of accounting.

Service revenue. Service revenue consists of training and maintenance arrangements, including PCS, customer support services and other professional services. PCS services are offered under renewable, annual fee-based contracts or as part of multiple-element arrangements, and typically include telephone support and upgrades and enhancements to the Company’s operating system software. Revenue related to PCS elements is deferred and recognized ratably over the contractual period. PCS contracts are typically one to three years in length.

For those products not under SOP 97-2, customer support services are offered under renewable, fee-based contracts which provide customers with hardware repair and replacement parts, access to technical assistance, and unspecified software updates and upgrades on a when-and-if available basis. Revenue from customer support services contracts is deferred and recognized ratably over the contractual support period, in accordance with FASB Technical Bulletin 90-1, “Accounting for Separately Priced Extended Warranty and Product Maintenance Contracts” (“FTB 90-1”). Customer support services contracts are typically one to five years in length.

Professional services are offered under hourly or fixed fee-based contracts or as part of multiple-element arrangements. Professional services revenue is recognized when services are completed. Training revenue is recognized upon completion of the training.

Recent Accounting Pronouncements

In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141 (revised 2007), “Business Combinations”, which was subsequently amended in April 2009 by FSP FAS 141(R)-1, “Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies,” (collectively “SFAS 141R”). SFAS 141R requires the acquirer in a business combination to recognize assets and liabilities assumed at their fair values and to recognize acquisition-related costs separately from the acquisition. In circumstances where the acquisition-date fair value for a contingency cannot be determined during the measurement period and it is concluded that it is probable that an asset or liability exists as of the acquisition date and the amount can be reasonably estimated, a contingency is recognized as of the acquisition date based on the estimated amount. SFAS141R will be effective for the Company in fiscal year 2010, with early adoption prohibited. The Company expects the implementation of SFAS 141R will have an impact on its financial position and results of operations, but the nature and magnitude of the specific effects will depend upon the nature, terms and size of the acquisitions the Company consummates after the effective date of November 1, 2009.

In December 2007, the FASB issued Statement of Financial Accounting Standards No. 160, “Noncontrolling Interests in Consolidated Financial Statements — an amendment of ARB No. 51” (“SFAS 160”). SFAS 160 will change the accounting and reporting for minority interests which will be recharacterized as noncontrolling interests and classified as a component of equity. SFAS 160 is effective for financial statements issued for fiscal years beginning on or after December 15, 2008, and interim periods within those fiscal years. SFAS 160 requires retroactive adoption of the presentation and disclosure requirements for existing minority interests. The Company is currently assessing the impact of SFAS 160, but does not expect the adoption to have a material impact on its financial position, results of operations, and cash flows.

In May 2008, the FASB issued FSP APB 14-1, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“FSP APB 14-1”). FSP APB 14-1 requires issuers of convertible debt instruments that may be settled in cash upon conversion to account separately for the liability and equity components in a manner that will reflect the entity’s nonconvertible debt borrowing rate when interest cost is recognized in subsequent periods. FSP APB 14-1 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years, and will be adopted by the Company in the first quarter of fiscal year 2010 as it applies to its convertible subordinated debt. The Company is currently evaluating the impact that FSP APB 14-1 will have on the accounting for its convertible subordinated debt.

In June 2008, the FASB issued EITF Issue No. 07-5, “Determining Whether an Instrument (or Embedded Feature) Is Indexed to an Entity’s Own Stock” (“EITF 07-5”). EITF 07-5 provides guidance on determining whether an equity-linked financial instrument, or embedded feature, is indexed to an entity’s own stock. EITF 07-5 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years, and will be adopted by the Company in the first quarter of fiscal year 2010. The Company has not yet adopted EITF 07-5, but it is currently assessing the impact that EITF 07-5 may have on its financial position, results of operations, and cash flows.

In November 2008, the FASB ratified EITF Issue No. 08-7, “Accounting for Defensive Intangible Assets” (“EITF 08-7”). EITF 08-7 applies to defensive intangible assets, which are acquired intangible assets that the acquirer does not intend to actively use but intends to hold to prevent its competitors from obtaining access to them. As these assets are separately identifiable, EITF 08-7 requires an acquiring entity to account for defensive intangible assets as a separate unit of accounting. Defensive intangible assets must be recognized at fair value in accordance with SFAS 141R and SFAS 157. EITF 08-7 is effective for defensive intangible assets acquired in fiscal years beginning on or after December 15, 2008, and will be adopted by the Company in the first quarter of fiscal year 2010. The Company expects EITF 08-7 will have an impact on its consolidated financial statements when effective, but the nature and magnitude of the specific effects will depend upon the nature, terms and size of the intangible assets purchased after the effective date of November 1, 2009.

In June 2009, the FASB issued Statement of Financial Accounting Standards No. 168, “The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles” (“SFAS 168”). SFAS 168 will become the source of authoritative U.S. GAAP recognized by the FASB to be applied by nongovernment entities. SFAS 168 also modifies the GAAP hierarchy to include only two levels of GAAP: authoritative and non-authoritative. SFAS 168 is effective for financial statements issued for interim and annual periods ending after September 15, 2009, and will be adopted by the Company in the fourth quarter of fiscal year 2009. The Company does not expect the adoption of SFAS 168 to have a significant impact on its financial position, results of operations, and cash flows.

3. Acquisitions

Foundry Networks, Inc.

On December 18, 2008, the Company completed its acquisition of Foundry in accordance with the Agreement and Plan of Merger, which the Company entered into on July 21, 2008, as well as with Amendment No. 1 to the Agreement and Plan of Merger, which the Company entered into on November 7, 2008 (as amended, the “Foundry Merger Agreement”). As a result of the merger, Foundry is now a wholly-owned subsidiary of the Company.

The Company recorded the acquisition using the purchase method of accounting and, accordingly, has included the results of operations of Foundry in the accompanying Condensed Consolidated Statements of Operations from December 18, 2008, the date the acquisition was completed.

Pursuant to the terms of the Foundry Merger Agreement, each issued and outstanding share of Foundry common stock, other than the shares held by the Company, was canceled and converted into the right to receive $16.50 in cash, without interest. Approximately 137,061,501 shares of Foundry common stock were converted into the right to receive approximately $2.26 billion, which excluded 14,000,000 shares of Foundry common stock held by Brocade that were canceled upon effectiveness of the merger without consideration. In addition, upon the effectiveness of the merger, Brocade: (i) terminated certain outstanding unvested stock options; (ii) in certain circumstances, terminated Foundry’s outstanding vested options and granted, in lieu thereof, a right to be issued shares of fully-vested Brocade common stock upon settlement thereof based on the excess of the per-share merger consideration set forth in the Foundry Merger Agreement over the applicable exercise price of such options; and (iii) (a) assumed certain outstanding equity awards or (b) replaced certain of Foundry’s outstanding equity awards with reasonably equivalent Brocade equity awards based on a conversion ratio derived from the per-share merger consideration as set forth in the Foundry Merger Agreement, in certain cases offsetting the number of shares (on a post-conversion basis) against Brocade’s existing share reserve under its stockholder-approved equity incentive plans.

The total purchase price of the Foundry acquisition was $2.8 billion and is comprised of the following (in thousands):


	Amount
Cash tendered for shares of outstanding common stock of Foundry (1)	$	2,506,474
Fair value of stock options and awards assumed and accelerated in connection with acquisition		255,596
Direct transaction costs		27,395

Total purchase price	$	2,789,465


(1)		This amount includes $248.4 million paid by the Company to acquire 14.0 million shares of Foundry common stock in the open market before the consummation of the acquisition, net of $3.5 million in dividends received.

In connection with this acquisition, the Company assumed options to purchase approximately 18.3 million shares of Foundry common stock which became exercisable for approximately 93.5 million shares of Brocade’s common stock at a weighted-average exercise price of approximately $3.23 per share. The Company also assumed approximately 34.7 million restricted stock units with a weighted-average grant date fair value of $3.52.

Direct transaction costs include investment banking, legal and accounting fees and other external costs directly related to the acquisition.

The Company allocated the total purchase consideration to the net assets acquired and liabilities assumed, including identifiable intangible assets, based on their respective fair values at the acquisition date, resulting in initial goodwill of approximately $1,475.6 million, which is not expected to be deductible for income tax purposes. Goodwill represents the excess of the purchase price over the fair value of the underlying acquired net tangible and intangible assets. The factors that contributed to the recognition of goodwill included securing buyer-specific synergies that increase revenue and profits and are not otherwise available to a marketplace participant, acquiring a talented workforce, and significant cost-saving opportunities. The allocation of the purchase price reflects various preliminary estimates and analyses and is subject to change during the purchase price allocation period.

The following table summarizes the initial allocation of the purchase price based on the estimated fair values of the assets acquired and liabilities assumed (in thousands):


	Amount
Assets acquired:
Cash and cash equivalents and short-term investments	$	987,956
Accounts receivable		89,831
Inventories		70,633
Identifiable intangible assets
Developed products technology		191,300
Customer relationships		194,500
In-process research and development (1)		26,900
Order backlog		6,500
Deferred tax assets		27,174
Goodwill		1,475,603
Other assets		202,804

Total assets acquired		3,273,201
Liabilities assumed:
Deferred tax liabilities		134,822
Other liabilities		350,959

Total liabilities assumed		485,781

Net assets acquired	$	2,787,420


(1)		In connection with the acquisition of Foundry, the Company recorded a $26.9 million in-process research and development charge during the three months ended January 24, 2009.

During the three months ended May 2, 2009, the Company determined it was appropriate to record certain adjustments to the fair value of assets and liabilities acquired from Foundry (see Note 4, “Goodwill and Intangible Assets,” of the Notes to Condensed Consolidated Financial Statements).

Of the total purchase price, approximately $392.3 million has been allocated to amortizable intangible assets acquired. The amortizable intangible assets are being amortized on a straight-line basis over their estimated useful lives as follows:


			Weighted-
			Average
	Amount		Useful Life
	(in thousands)		(in years)
Developed products technology	$	191,300		5.00
Customer relationships	$	194,500		5.00
Order backlog	$	6,500		0.25

The following unaudited pro forma financial information for the three and nine months ended August 1, 2009 and July 26, 2008 presents a summary of the results of operations of the Company assuming the acquisition of Foundry occurred at the beginning of each of the periods presented. The unaudited pro forma financial information is presented for informational purposes only and is not indicative of the results of operations that would have been achieved if the merger had taken place at the beginning of each of the periods presented, nor is it indicative of future operating results:


	Three Months Ended					Nine Months Ended
	August 1,			July 26,		August 1,			July 26,
In thousands, except per share amounts	2009			2008 (1)		2009 (2)			2008 (3)
Total net revenues	$	493,280		$	531,598	$	1,508,218		$	1,553,052
Pretax income (loss)		(1,012	)		23,262		(79,780	)		(59,824	)
Net income (loss)		(21,033	)		7,642		(83,868	)		123,291
Basic net income (loss) per share		(0.05	)		0.02		(0.21	)		0.33
Diluted net income (loss) per share	$	(0.05	)	$	0.02	$	(0.21	)	$	0.31


(1)		The unaudited pro forma financial results for the three months ended July 26, 2008 include Brocade’s historical results for the three months ended July 26, 2008 and Foundry’s historical results for the three months ended June 30, 2008, including amortization for acquired intangible assets, adjustment to interest expense, and related tax effects.

(2)		The unaudited pro forma financial results for the nine months ended August 1, 2009 include Brocade’s historical results for the nine months ended August 1, 2009, which include Foundry’s results subsequent to December 18, 2008, and Foundry’s historical results for the period October 26, 2008 to December 18, 2008, including amortization for acquired intangible assets, elimination of in-process research and development charge and acquisition-related fees, and related tax effects. Included in the net loss for the nine months ended August 1, 2009 is the impact of the $45.8 million goodwill impairment charge, the $7.5 million intangible assets impairment charge and the $26.9 million in-process research and development charge.

(3)		The unaudited pro forma financial results for the nine months ended July 26, 2008 include Brocade’s historical results for the nine months ended July 26, 2008 and Foundry’s historical results for the three months ended December 31, 2007 and six months ended June 30, 2008, including amortization for acquired intangible assets, adjustment to interest expense, and related tax effects.

4. Goodwill and Intangible Assets

During the first quarter of fiscal year 2009, Brocade reorganized its four operating segments, of which two are individually reportable segments: Data Storage and Global Services; and two, IP Layer 2-3 and ADC, are combined into one reportable segment: IP Products. Prior period allocation of goodwill activity by reportable segment has been conformed to the new measurements of segment financial reporting implemented in the first quarter of fiscal year 2009.

In accordance with Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” as amended (“SFAS 142”), Brocade conducts a goodwill impairment analysis annually and as necessary if changes in facts and circumstances indicate that the fair value of the reporting unit may be less than its carrying amount. Consistent with prior years, the Company performed its annual goodwill impairment test using measurement data as of the first day of the second fiscal quarter.

SFAS 142 requires a two-step approach in testing goodwill for impairment for each reporting unit. The Company’s reporting units are determined by the components of their operating segments that constitute a business for which both (i) discrete financial information is available and (ii) segment management regularly reviews the operating results of that component. Data Storage, IP Layer 2-3 and Global Services are individual reporting units, while ADC includes two reporting units, ADC and Files.

The first step measures for impairment by applying fair value-based tests at the reporting unit level. The second step, if necessary, measures the amount of impairment by applying fair value-based tests to individual assets and liabilities within each reporting unit.

To determine the reporting unit’s fair values, the Company uses the income approach, the market approach, or a combination thereof. The income approach provides an estimate of fair value based on discounted expected future cash flows (“DCF”). Estimates and assumptions with respect to the determination of the fair value of the Company’s reporting units using the income approach include:

•

The Company’s operating forecasts;

•

Revenue growth rates; and

•

Risk-commensurate discount rates and costs of capital.

The Company’s estimates of revenues and costs are based on historical data, various internal estimates and a variety of external sources, and are developed by the Company’s routine long-range planning process.

The market approach provides an estimate of the fair value of the Company’s five reporting units using various price or market multiples applied to the reporting unit’s operating results and then applying an appropriate control premium. The control premium is determined by considering control premiums offered as part of the acquisition in both the Company’s segment and comparable market segments.

Determining the fair value of a reporting unit is judgmental in nature and involves the use of significant estimates and assumptions. As the Company’s market capitalization declined and as the technology sector volatility increased, the Company focused on methods that were more representative of a market participant’s view of fair value given the current market conditions. As a result, in fiscal year 2009, the Company relied primarily on the DCF method, using management projections for each reporting unit and risk-adjusted discount rates.

The Company determined based on its completion of the first step of the goodwill impairment test that no indicators of impairment existed for the Data Storage, IP Layer 2-3, ADC and Global Services reporting units. During the second quarter of fiscal year 2009, the Company made a decision to no longer offer its suite of Files products and concluded that fair value of the Files reporting unit was less than its carrying amount. The fair value of the Files business was determined using comparable companies’ data. The Company conducted the second step of the goodwill impairment test and determined that all of the Files goodwill was impaired. Accordingly, the Company recorded a goodwill impairment charge of $45.8 million for the three months ended May 2, 2009.

The following table summarizes the goodwill activity by reportable segment during the nine months ended August 1, 2009 (in thousands):


	Data Storage			IP Products			Global Services			Total
Balance at October 25, 2008	$	183,331		$	45,832		$	39,814		$	268,977
Acquisition of Foundry		—			1,357,855			117,748			1,475,603

Balance at January 24, 2009	$	183,331		$	1,403,687		$	157,562		$	1,744,580
Goodwill impairment		—			(45,832	)		—			(45,832	)
Tax and other adjustments (1)		(1,399	)		(3,773	)		(473	)		(5,645	)

Balance at May 2, 2009	$	181,932		$	1,354,082		$	157,089		$	1,693,103
Tax adjustments (2)		(15,647	)		(9,354	)		—			(25,001	)

Balance at August 1, 2009	$	166,285		$	1,344,728		$	157,089		$	1,668,102


(1)		The goodwill adjustment of $5.6 million was primarily a result of the realization of deferred tax assets of acquired companies and includes $1.7 million of Foundry purchase accounting adjustments.

(2)		The goodwill adjustment of $25.0 million was primarily a result of the realization of deferred tax assets of acquired companies.

Statement of Financial Accounting Standards No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” (“SFAS 144”) requires impairment losses to be recorded on long-lived assets used in operations when indications of impairment are present and the undiscounted cash flows estimated to be generated by those assets are less than the assets’ carrying amounts. If such assets are considered to be impaired, the impairment charge recognized is the amount by which the carrying amount of the assets exceeds the fair value of the assets. As a result of the impairment indicator described above, the Company performed an impairment analysis for its long-lived assets, including its intangible assets subject to amortization. The analysis indicated that all of the intangible assets associated with the Files business are not recoverable. As a result, the Company recorded an acquisition-related intangible assets impairment charge associated with the Files business of $7.5 million for the three months ended May 2, 2009.

Intangible assets other than goodwill are amortized over the following estimated remaining useful lives, unless the Company has determined these lives to be indefinite. Intangible assets as of August 1, 2009 consisted of the following (in thousands, except for useful life):


	Gross				Net		Useful
	Carrying		Accumulated		Carrying		Life
	Value		Amortization		Value		(in years)
Tradename	$	13,941	$	9,041	$	4,900		6.96
Core/developed technology		338,158		113,211		224,947		3.82
Customer relationships		364,981		89,062		275,919		4.36
Non-compete agreements		970		914		56		0.13

Total intangible assets	$	718,050	$	212,228	$	505,822		4.15

Intangible assets as of October 25, 2008 consisted of the following (in thousands):


	Gross				Net
	Carrying		Accumulated		Carrying
	Value		Amortization		Value
Tradename	$	14,873	$	6,971	$	7,902
Core/developed technology		154,754		71,202		83,552
Customer relationships		179,412		50,654		128,758
Non-compete agreements		970		615		355

Total intangible assets	$	350,009	$	129,442	$	220,567

For the three and nine months ended August 1, 2009, amortization expense related to intangible assets of $18.0 million and $47.9 million, respectively, was included in cost of revenues, and $17.1 million and $51.7 million, respectively, was included in operating expenses in the Condensed Consolidated Statement of Operations. For the three and nine months ended July 26, 2008, amortization expense related to intangible assets of $8.8 million and $28.6 million, respectively, was included in cost of revenues, and $7.8 million and $23.7 million, respectively, was included in operating expenses in the Condensed Consolidated Statement of Operations.

The following table presents the estimated future amortization of intangible assets as of August 1, 2009 (in thousands):


	Estimated
	Future
Fiscal Year	Amortization
2009 (remaining three months)	$	34,921
2010		126,873
2011		119,770
2012		107,062
2013		94,057
Thereafter		23,139

Total	$	505,822

5. Balance Sheet Details

The following table provides details of selected balance sheet items (in thousands):


	August 1,			October 25,
	2009			2008
Accounts Receivable:
Accounts receivable	$	314,602		$	163,979
Allowance for doubtful accounts		(4,412	)		(675	)
Sales allowances		(8,403	)		(4,369	)

Total	$	301,787		$	158,935

Inventories:
Raw materials	$	5,188		$	5,596
Finished goods		50,486			15,766

Total	$	55,674		$	21,362


	August 1,			October 25,
	2009			2008
Property and equipment, net:
Computer equipment and software	$	123,722		$	117,167
Engineering and other equipment		246,763			208,613
Furniture and fixtures		14,278			12,066
Leasehold improvements		62,988			58,651
Land and building		81,247			80,882
Company campus (1)		190,018			103,007

Subtotal		719,016			580,386
Less: Accumulated depreciation and amortization		(309,102	)		(267,007	)

Total	$	409,914		$	313,379

Other accrued liabilities:
Income taxes payable	$	6,411		$	6,749
Accrued warranty		6,007			5,051
Inventory purchase commitments		23,447			17,332
Accrued sales programs		16,699			13,438
Other		46,490			63,234

Total	$	99,054		$	105,804


(1)		In connection with the purchase of the property located in San Jose, California, the Company engaged a third party as development manager to manage the development and construction of improvements on the property, which are still in progress. Included in the $190.0 million in Company campus as of August 1, 2009 is $8.0 million that the Company has agreed to pay the developer on May 22, 2011 or earlier if Brocade decides to transfer any part of the Company campus project before such date.

6. Investments and Equity Securities

The following table summarizes the Company’s investments and equity securities (in thousands):


			Gross		Gross
	Amortized		Unrealized		Unrealized			Fair
	Cost		Gains		Losses			Value
August 1, 2009
Corporate bonds and notes	$	6,362	$	—	$	(631	)	$	5,731

Total	$	6,362	$	—	$	(631	)	$	5,731

Reported as:
Short-term investments								$	5,731
Long-term investments									—

Total								$	5,731

October 25, 2008
Debt securities issued by U.S. government and its agencies and municipal obligations	$	40,504	$	44	$	(22	)	$	40,526
Corporate bonds and notes		146,457		206		(3,274	)		143,389
Marketable equity securities		253,378		—		(71,052	)		182,326

Total	$	440,339	$	250	$	(74,348	)	$	366,241

Reported as:
Short-term investments								$	152,741
Long-term investments and marketable equity securities									213,500

Total								$	366,241

At August 1, 2009, net unrealized holding losses on investments were immaterial. At October 25, 2008, net unrealized holding losses on investments were $73.6 million. Net unrealized holding losses on investments are included in accumulated other comprehensive (income) loss in the accompanying Condensed Consolidated Balance Sheets.

As of October 25, 2008, the Company had $71.1 million in gross unrealized losses in connection with the 14.0 million shares of Foundry common stock held by Brocade. Effective upon the consummation of the merger with Foundry, the Company reversed the gross unrealized losses of $71.1 million and increased its investment in Foundry to its historical cost, which is reflected in the total purchase price of the acquisition, pursuant to Statement of Financial Accounting Standards No. 141, “Business Combinations.” As such, the Company did not have any realized gains (losses) in connection with these marketable equity securities for the nine months ended August 1, 2009.

7. Fair Value Measurements

SFAS 157 defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In determining fair value for assets and liabilities required or permitted to be recorded at fair value, the Company considers the principal or most advantageous market in which it would transact and it considers assumptions that market participants would use when pricing the asset or liability.

Fair Value Hierarchy

SFAS 157 establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. A financial instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. SFAS 157 establishes three levels of inputs that may be used to measure fair value:

Level 1

Level 1 applies to assets and liabilities for which there are quoted prices in active markets for identical assets or liabilities. Valuations are based on quoted prices that are readily and regularly available in an active market and do not entail a significant degree of judgment. Brocade’s assets utilizing Level 1 inputs include money market funds and certain of the Company’s corporate bonds and notes that are traded in an active market with sufficient volume and frequency of transactions.

Level 2

Level 2 applies to assets and liabilities for which there are other than Level 1 observable inputs such as quoted prices for similar assets or liabilities in active markets, quoted prices for identical assets or liabilities in markets with insufficient volume or infrequent transactions (less active markets), or model-derived valuations in which significant inputs are observable or can be derived principally from, or corroborated by, observable market data. Brocade’s assets utilizing Level 2 inputs include derivative instruments.

Level 2 instruments require more management judgment and subjectivity as compared to Level 1 instruments. For instance:

•

Determining which instruments are most similar to the instrument being priced requires management to identify a sample of similar securities based on the coupon rates, maturity, issuer, credit rating and instrument type, and subjectively select an individual security or multiple securities that are deemed most similar to the security being priced; and

•

Determining whether a market is considered active requires management judgment.

Level 3

Level 3 applies to assets and liabilities for which there are unobservable inputs to the valuation methodology that are significant to the measurement of the fair value of the assets or liabilities. The determination of fair value for Level 3 instruments requires the most management judgment and subjectivity. Brocade has no assets or liabilities utilizing Level 3 inputs.

Assets Measured at Fair Value on a Recurring Basis

Assets measured at fair value on a recurring basis as of August 1, 2009 were as follows (in thousands):


			Fair Value Measurements Using
			Quoted Prices in
			Active Markets		Significant Other		Significant
	Balance as of		For Identical		Observable		Unobservable
	August 1,		Instruments		Inputs		Inputs
	2009		(Level 1)		(Level 2)		(Level 3)
Assets:
Money market funds	$	148,145	$	148,145	$	—	$	—
Corporate bonds and notes		5,731		5,731		—		—
Derivative assets	$	1,559	$	—	$	1,559	$	—

Total assets measured at fair value	$	155,435	$	153,876	$	1,559	$	—

The Company uses observable market prices for comparable instruments to value its derivative instruments. As of August 1, 2009, approximately $1.6 million of its derivative instruments that were measured at fair value on a recurring basis were classified as Level 2.

8. Liabilities Associated with Facilities Lease Losses

During the nine months ended August 1, 2009, the Company recorded a purchase accounting adjustment of $6.1 million related to estimated facilities lease losses as a result of the acquisition of Foundry, net of expected sublease income. As of August 1, 2009, the Company had $26.8 million in facilities lease loss reserve related to future lease commitments, net of expected sublease income. The Company reevaluates its estimates and assumptions on a quarterly basis and makes adjustments to the reserve balance if necessary.

The following table summarizes the activity related to the facilities lease loss reserve, net of expected sublease income (in thousands):


	Lease Loss
	Reserve
Reserve balance at October 25, 2008	$	28,429
Additional reserve related to acquisition of Foundry		6,055
Cash payments on facilities leases		(8,004	)
Non-cash charges and other adjustments, net		274

Reserve balance at August 1, 2009	$	26,754

Cash payments for facilities leases related to the above noted facilities lease losses will be paid over the respective lease terms through fiscal year 2017.

9. Borrowings

Senior Secured Credit Facility

On October 7, 2008, the Company entered into a credit agreement with the following lenders, Bank of America, N.A., Morgan Stanley Senior Funding, Inc., HSBC Bank USA National Association and Keybank National Association. The credit agreement provides for (i) a five-year $1,100.0 million term loan facility and (ii) a five-year $125.0 million revolving credit facility, which includes a $25.0 million swing line loan subfacility and a $25.0 million letter of credit subfacility.

The net proceeds of the term loan facility were used to finance a portion of the Company’s acquisition of Foundry. In addition to the term loan facility, during the nine months ended August 1, 2009, the Company drew $14.1 million from the $125.0 million revolving credit facility to finance a small portion of the merger. The Company may draw additional proceeds from the revolving credit facility in the future for ongoing working capital and other general corporate purposes. The term loan facility and revolving credit facility are referred to together as the “Senior Secured Credit Facility.” As of August 1, 2009, $14.1 million was outstanding under the revolving credit facility. No amount was outstanding under the revolving credit facility as of October 25, 2008.

Loans under the Senior Secured Credit Facility bear interest, at the Company’s option, at a rate equal to either the London Interbank Offered Rate (“LIBOR”) rate, plus an applicable margin equal to 4.0% per annum or the prime lending rate, plus an applicable margin equal to 3.0% per annum. The applicable margin with respect to revolving loans is subject to adjustment based on the Company’s consolidated senior secured leverage ratio, as defined in the credit agreement. The LIBOR rate floor is 3.0% per annum and the prime lending rate floor is 4.0% per annum, in each case, for the life of the Senior Secured Credit Facility.

The proceeds of the term loan were deposited in a restricted securities account pending the closing of the merger and other release conditions, and are reported as long-term restricted cash on the Condensed Consolidated Balance Sheet as of October 25, 2008. On December 19, 2008, the proceeds of the term loan were released from the restricted securities account to fund the merger. As of August 1, 2009, the current portion of the liability associated with the term loan of $41.5 million, net of the debt discount of $10.0 million, is reported as “Current portion of long-term debt,” and the long-term portion of the liability associated with the term loan of $912.6 million, net of the debt discount of $27.1 million, is reported as “Long-term debt, net of current portion” on the Condensed Consolidated Balance Sheet. As of October 25, 2008, the current portion of the liability associated with the term loan of $43.6 million, net of the debt discount of $11.4 million, is reported as “Current portion of long-term debt,” and the long-term portion of the liability associated with the term loan of $1,011.4 million, net of the debt discount of $34.2 million, is reported as “Long-term debt, net of current portion” on the Condensed Consolidated Balance Sheet.

The Company is permitted to make voluntary prepayments at any time (without payment of a premium, other than in the case of a repricing transaction in respect of the term loan facility), and is required to make mandatory prepayments on the term loan (without payment of a premium) with (i) net cash proceeds from non-ordinary course asset sales (subject to reinvestment rights and other exceptions), (ii) net cash proceeds from issuances of debt (other than certain permitted debt), (iii) a percentage of 50% or 0% of Brocade’s excess cash flow, based on Brocade’s consolidated senior secured leverage ratio, beginning with the fiscal year ending October 27, 2009, and (iv) casualty proceeds and condemnation awards (subject to reinvestment rights and other exceptions). The Company is required to pay quarterly installments on the term loan equal to an aggregate annual amount of 5% of the original principal amount thereof in the first and second year, 10% in the third year, 20% in the fourth year and 60% in the fifth year, with any remaining balance payable on the final maturity date of the term loan. Upon a repricing of the term loan (including through a refinancing) that results in the weighted-average yield or applicable rate of such term loan immediately after such repricing to be lower than such yield or rate immediately prior to such repricing, a 2.0% premium is payable during the first year following the closing and a 1.0% premium is payable during the second year following the closing.

Debt fees totaling $28.5 million associated with the acquisition have been capitalized as deferred financing costs, with $5.9 million amortized as of August 1, 2009. As of August 1, 2009 and October 25, 2008, the short-term portion of the deferred financing costs was $6.3 million and $7.9 million, respectively, and is reported within “Prepaid expenses and other current assets” on the Condensed Consolidated Balance Sheet. As of August 1, 2009 and October 25, 2008, the long-term portion of the deferred financing costs was $16.3 million and $23.2 million, respectively, and is reported within “Other assets” on the Condensed Consolidated Balance Sheet. All debt fees capitalized are related to the term loan facility. The deferred financing costs are being amortized using the effective interest method over the five-year term of the debt. During the nine months ended August 1, 2009, the Company paid $108.1 million towards the principal of the term loan.

The obligations of the Company and its subsidiary guarantors under the Senior Secured Credit Facility and the related guarantees thereunder are secured, subject to customary permitted liens and other agreed upon exceptions, by (i) a first priority pledge of all of the equity interests of each of the Company’s direct and indirect subsidiaries and (ii) a perfected first priority interest in and mortgages on all tangible and intangible assets of the Company and each subsidiary guarantor, except, in the case of a foreign subsidiary, to the extent such pledge would be prohibited by applicable law or would result in materially adverse tax consequences (limited, in the case of a first-tier foreign subsidiary, to 65% of the voting stock and 100% of non-voting stock of such first-tier foreign subsidiary). In addition, the term loan has not been registered with the SEC as of August 1, 2009.

The credit agreement contains financial covenants that require the Company to maintain a minimum consolidated fixed charge coverage ratio, a maximum consolidated leverage ratio and a maximum consolidated senior secured leverage ratio, each as defined in the credit agreement. The credit agreement also includes customary events of default, including cross-defaults on the Company’s material indebtedness and change of control. The Company was in compliance with all applicable covenants as of August 1, 2009 and October 25, 2008. The financial and other covenants agreed to by Brocade in connection with such indebtedness and the increased indebtedness and higher debt-to-equity ratio of Brocade in comparison to that of Brocade on a recent historical basis will have the effect, among other things, of reducing Brocade’s flexibility to respond to changing business and economic conditions and increasing borrowing costs, and may adversely affect Brocade’s operations and financial results. In addition, the Company’s failure to comply with these covenants could result in a default under the Senior Secured Credit Facility and its other debt, which could permit the holders to accelerate such debt or demand payment in exchange for a waiver of such default. If any of the Company’s debt is accelerated, the Company may not have sufficient funds available to repay such debt.

Convertible Subordinated Debt

On January 29, 2007, effective upon the consummation of the merger with McDATA Corporation (“McDATA”), the Company fully and unconditionally guaranteed and became a co-obligor on the 2.25% Notes of McDATA (“2.25% Notes”). The 2.25% Notes were convertible into McDATA’s Class A common stock at a conversion rate of 93.3986 shares per $1,000 principal amount of notes (aggregate of approximately 16.1 million shares) at any time prior to February 15, 2010, subject to adjustments. Pursuant to Brocade’s merger agreement with McDATA, at the effective time of the merger, each outstanding share of McDATA’s Class A common stock, $0.01 par value per share, was converted into the right to receive 0.75 of a share of Brocade’s common stock, $0.001 par value per share, together with cash in lieu of fractional shares. As a result, an approximate aggregate of 12.1 million shares of Brocade’s common stock are issuable upon conversion of the 2.25% Notes at any time prior to February 15, 2010, subject to adjustments. For the three and nine months ended August 1, 2009, 12.1 million shares were antidilutive and therefore not included in the calculation of diluted net loss per share. For the three and nine months ended July 26, 2008, 12.1 million shares were dilutive and therefore included in the calculation of diluted net income per share.

The gross principal amount of the outstanding convertible subordinated debt is $172.5 million. As of August 1, 2009, the carrying value of the convertible subordinated debt was $171.3 million, net of $1.2 million debt discount.

As of August 1, 2009, the approximate aggregate fair value of the outstanding convertible subordinated debt was between $165.6 million and $163.9 million. The Company estimated the fair value of the outstanding convertible subordinated debt as of August 1, 2009 by using the high and low prices per $100 of the Company’s 2.25% Notes as of the last day of trading for the third fiscal 2009 quarter, which were $96.00 and $95.00, respectively.

Concurrent with the issuance of the 2.25% Notes, McDATA entered into share option transactions using approximately $20.5 million of net proceeds. As part of these share option transactions, McDATA purchased options that cover approximately 12.1 million shares of common stock, at a strike price of $14.28. McDATA also sold options that cover approximately 12.7 million shares of common stock, at a strike price of $20.11. The net cost of the share option transactions was recorded against additional paid-in capital in accordance with EITF Issue No. 00-19, “Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company’s Own Stock.”

10. Commitments and Contingencies

Operating and Capital Leases

The Company leases certain facilities and certain equipment under various operating and capital lease agreements expiring through January 2018. In connection with its facilities lease agreements, the Company has signed unconditional, irrevocable letters of credit totaling $2.0 million as security for the leases.

Future minimum lease payments under all non-cancelable operating leases as of August 1, 2009 total $71.8 million, net of contractual sublease income of $31.9 million. In addition to base rent, many of the facilities lease agreements require that the Company pay a proportional share of the respective facilities’ operating expenses.

Product Warranties

The Company provides standard warranties on its products ranging from one to five years. Estimated future warranty costs are accrued at the time of shipment and charged to cost of revenues based upon historical experience, current trends and the Company’s expectations regarding future experience. The Company’s accrued liability for estimated future warranty costs is included in other accrued liabilities in the accompanying Condensed Consolidated Balance Sheets. The following table summarizes the activity related to the Company’s accrued liability for estimated future warranty costs during the nine months ended August 1, 2009 and July 26, 2008 (in thousands):


	Accrued Warranty
	Nine Months Ended
	August 1,			July 26,
	2009			2008
Beginning balance	$	5,051		$	5,923
Liabilities accrued for warranties issued during the period (1)		3,848			3,414
Warranty claims paid and uses during the period		(1,590	)		(2,610	)
Changes in liability for pre-existing warranties during the period		(1,302	)		(750	)

Ending balance	$	6,007		$	5,977


(1)		Included in the $3.8 million in liabilities accrued for warranties issued during the nine months ended August 1, 2009 is $1.9 million in warranty liabilities resulting from the Foundry acquisition.

In addition, the Company has standard indemnification clauses contained within its various customer contracts. As such, the Company indemnifies the parties to whom it sells its products with respect to the Company’s product infringing upon any patents, trademarks, copyrights, or trade secrets, as well as against bodily injury or damage to real or tangible personal property caused by a defective Company product. As of August 1, 2009, there have been no known material events or circumstances that have resulted in a customer contract-related indemnification liability to the Company.

Manufacturing and Purchase Commitments

The Company has manufacturing arrangements with Hon Hai Precision Industry Co., Ltd. (“Foxconn”), Sanmina-SCI Corporation (“Sanmina”), Flextronics International Ltd. (“Flextronics”) and Celestica, Inc. (“Celestica”) (collectively, the “CMs”) under which the Company provides twelve-month product forecasts and places purchase orders in advance of the scheduled delivery of products to the Company’s customers. The required lead time for placing orders with the CMs depends on the specific product. As of August 1, 2009, the Company’s aggregate commitment to the CMs for inventory components used in the manufacture of Brocade products was $279.9 million, which components the Company expects to utilize during future normal ongoing operations, net of a purchase commitments reserve of $23.4 million. The Company’s purchase orders placed with the CMs are cancelable, however if canceled, the agreements require the Company to purchase all inventory components not returnable, usable by, or sold to other customers of the CMs. The Company’s purchase commitments reserve reflects the Company’s estimate of purchase commitments it does not expect to consume in normal operations within the next twelve months.

Income Taxes

The Company is subject to several ongoing audits. For additional discussion, see Note 14, “Income Taxes,” of the Notes to Condensed Consolidated Financial Statements. The Company believes it has adequate reserves for all open tax years.

Integration Costs

In connection with the acquisition of Foundry, the Company recorded acquisition and integration costs of $1.5 million and $4.8 million for the three and nine months ended August 1, 2009, respectively, which consisted primarily of costs incurred for consulting services and other professional fees. There were no acquisition and integration costs for the three and nine months ended July 26, 2008.

Legal Proceedings

Initial Public Offering Litigation

On July 20, 2001, the first of a number of putative class actions for violations of the federal securities laws was filed in the United States District Court for the Southern District of New York against Brocade, certain of its officers and directors, and certain of the underwriters for Brocade’s initial public offering (“IPO”) of securities. A consolidated amended class action captioned, In Re Brocade Communications Systems, Inc. Initial Public Offering Securities Litigation, No. 01 Civ. 6613, was filed on April 19, 2002. The complaint generally alleges that various underwriters engaged in improper and undisclosed activities related to the allocation of shares in Brocade’s initial public offering and seeks unspecified damages for claims under the Exchange Act on behalf of a purported class of purchasers of common stock from May 24, 1999 to December 6, 2000. The lawsuit against Brocade is coordinated for pretrial proceedings with a number of other pending litigations challenging underwriter practices in over 300 cases as In Re Initial Public Offering Securities Litigation, 21 MC 92 (SAS), including actions against McDATA Corporation, Inrange Technologies Corporation (“Inrange”) (which was first acquired by Computer Network Technology Corporation (“CNT”) and subsequently acquired by McDATA as part of the CNT acquisition), and Foundry, and certain of each entity’s respective officers and directors, and initial public offering underwriters.

The parties have reached a global preliminary settlement of the litigation with the insurers paying the full amount of settlement share allocated to the Brocade entities, and the Brocade entities would bear no financial liability. On June 9, 2009, the Court granted preliminary approval of the settlement. The preliminary settlement is pending final Court approval.

Securities Litigation

Beginning on or about May 24, 2005, several derivative actions were filed against certain of Brocade’s current and former officers and directors relating to Brocade’s historical stock option practices. These actions were filed in the United States District Court for the Northern District of California (“Federal Court”) and in the California Superior Court in Santa Clara County (“State Court”). The derivative actions pending in Federal Court were consolidated under the caption In re Brocade Communications Systems, Inc. Derivative Litigation, Case No. C 05-02233 CRB (the “Federal Action”), and the derivative actions pending in State Court were also consolidated under the caption In re Brocade Communications Systems, Inc. Derivative Litigation, Case No. 1:05cv041683 (the “State Action”).

On February 22, 2008, Brocade’s Board of Directors appointed a Special Litigation Committee of the Board (“SLC”) with plenary authority to, among other things, evaluate and resolve the claims asserted in the federal and state derivative actions.

On August 1, 2008, Brocade, acting through the SLC, filed a Second Amended Complaint (the “SLC’s Complaint”) in the Federal Action against ten former officers or directors of Brocade, asserting claims for breach of fiduciary duty and violations of federal and state laws in connection with Brocade’s historical stock option practices. In August 2008, the State Court and Federal Court realigned Brocade as the plaintiff and dismissed the shareholder plaintiffs in the State Action and Federal Action, respectively.

On December 12, 2008, the Federal Court dismissed all claims against five of the Federal Action defendants and some, but not all, of the claims against the remaining five Federal Action defendants. In April 2009, the unconsolidated federal derivative action was dismissed without prejudice and the claims asserted in the State Action against the defendants who had not also been named in the Federal Action were also dismissed without prejudice.

As of August 14, 2009, the SLC had reached settlement agreements with each of the five defendants remaining in the Federal Action and four of the five defendants remaining in the State Action. The terms of the settlements differ in each case, and the settlements are at different stages of finality. Terms contained in some, but not all, of the agreements include the payment of money to Brocade, the surrender of certain shares of Brocade stock to Brocade, the contribution of specified amounts to reduce the legal fees and expenses that Brocade otherwise might be obligated to pay, and releases. The agreements with four of the five Federal Action defendants have been approved by the Federal Court. The other agreements remain subject to review by the Federal Court or State Court, as applicable.

On October 23, 2007, a class action complaint was filed against Brocade and certain of its former officers and current and former directors. This action was filed in the California Superior Court in Santa Clara County on behalf of individuals who owned Brocade stock between February 21, 2001 and May 16, 2005. On October 15, 2008, plaintiffs filed a second amended complaint alleging that Brocade and the individual defendants violated or conspired to violate the Racketeering Influenced and Corrupt Organizations Act and seeking unspecified monetary damages. On March 3, 2009, the Court dismissed the complaint with prejudice. On May 14, 2009, Plaintiffs filed a notice of appeal.

On July 23, 2008, an action, Doug Edrington v. Bobby R. Johnson, Jr., et al (Case No. 1:08-CV-118013), was filed in the Superior Court of the State of California for the County of Santa Clara. The complaint alleges that the members of Foundry’s board of directors have breached their fiduciary duties to Foundry’s stockholders in connection with the acquisition of Foundry by Brocade (the “Merger”) and engaged in self-dealing in connection with approval of the Merger, allegedly resulting in an unfair process and unfair price to Foundry’s stockholders. On July 27, 2009, the Court approved a settlement among the parties, which included nominal payments to the plaintiff for certain attorneys’ fees and expenses. The Company previously accrued for this payment in accordance with Statement of Financial Accounting Standards No. 5, “Accounting for Contingencies” (“SFAS 5”).

Intellectual Property Litigation

On June 21, 2005, Enterasys Networks, Inc. (“Enterasys”) filed a lawsuit against Foundry (and Extreme Networks, Inc.) in the United States District Court for the District of Massachusetts alleging that certain of Foundry’s products infringe six of Enterasys’ patents and seeking injunctive relief, as well as unspecified damages. On August 28, 2007, the Court granted Foundry’s motion to stay the case based on petitions that Foundry filed with the USPTO for reexamination of five of the six Enterasys patents. On July 14, 2009, the USPTO issued reexamination certificates for two of the patents undergoing reexamination indicating that the patents were valid over the references that Foundry had submitted. On August 7, 2009, Brocade filed a new petition for reexamination of one of the patents that received a reexamination certificate, but the USPTO has not yet acted on the new petition. To date, the USPTO has issued final Office Actions (which are published on the USPTO website) concerning the three remaining Enterasys patents that were submitted for reexamination. In the final Office Actions for two of these three remaining patents, some claims were deemed allowable, but other claims were rejected. In the final Office Action for the third of the remaining patents, all claims were rejected. Enterasys has challenged two of the final Office Actions and may seek to challenge the other final Office Action.

On September 6, 2006, Chrimar Systems, Inc. (“Chrimar”) filed a lawsuit against Foundry in the United States District Court for the Eastern District of Michigan alleging that certain of Foundry’s products infringe Chrimar’s U.S. Patent 5,406,260 and seeking injunctive relief, as well as unspecified damages. No trial date has been set.

On February 7, 2008, Network-1 Security Solutions, Inc. (“Network-1”) filed a lawsuit against Foundry and other networking companies, namely, Cisco Systems, Inc. (“Cisco”), Cisco-Linksys, LLC, Adtran, Inc., Enterasys, Extreme Networks, Inc., NetGear, Inc., and 3Com Corporation in the United States District Court for the Eastern District of Texas, Tyler Division, alleging that certain of Foundry’s products infringe Network-1’s U.S. Patent No 6,218,930 and seeking injunctive relief, as well as unspecified damages. On June 17, 2008, the Court issued a scheduling order for the case and scheduled a Markman claim construction hearing for December 3, 2009 and trial for July 12, 2010.

General

From time to time, the Company is subject to other legal proceedings and claims in the ordinary course of business, including claims of alleged infringement of trademarks, copyrights, patents and/or other intellectual property rights. Third parties assert patent infringement claims against the Company from time to time in the form of letters, lawsuits and other forms of communication. In addition, from time to time, the Company receives notification from customers claiming that they are entitled to indemnification or other obligations from the Company related to infringement claims made against them by third parties. Litigation, even if the Company is ultimately successful, can be costly and divert management’s attention away from the day-to-day operations of the Company. In the event of a result adverse to the Company, the Company could incur substantial monetary liability and/or be required to change its business practices. Any unfavorable determination could have a material adverse effect on the Company’s financial position, results of operations, cash flows or business.

In accordance with SFAS 5, the Company records a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. The Company reviews the need for any such liability on a quarterly basis. As of August 1, 2009, the Company has not recorded any such liabilities in accordance with SFAS 5, except as noted above with respect to the Edrington Memorandum of Understanding.

11. Derivative Instruments and Hedging Activities

In the normal course of business, the Company is exposed to fluctuations in interest rates and the exchange rates associated with foreign currencies. The Company’s primary objective for holding derivative financial instruments is to manage foreign currency exchange rate risk. The Company currently does not enter into derivative instruments to manage credit risk. However, the Company manages its exposure to credit risk through its investment policies. The Company generally enters into derivative transactions with high-credit quality counterparties and, by policy, limits the amount of credit exposure to any one counterparty based on its analysis of that counterparty’s relative credit standing. The amounts subject to credit risk related to derivative instruments are generally limited to the amounts, if any, by which a counterparty’s obligations exceed the Company’s obligations with that counterparty.

Foreign Currency Exchange Rate Risk

A majority of the Company’s revenue, expense and capital purchasing activities is transacted in U.S. dollars. However, the Company is exposed to foreign currency exchange rate risk inherent in conducting business globally in numerous currencies, of which the most significant to its operations for the nine months ended August 1, 2009 were the Euro, the Japanese Yen, the British Pound and the Singapore Dollar. The Company is primarily exposed to foreign currency fluctuations related to operating expenses denominated in currencies other than the U.S. dollar. The Company has established a foreign currency risk management program to protect against fluctuations in the volatility of future cash flows caused by changes in foreign currency exchange rates. This program reduces, but does not always entirely eliminate, the impact of foreign currency exchange rate movements. The Company’s foreign currency risk management program includes foreign currency derivatives with cash flow hedge accounting designation that utilizes foreign currency forward contracts to hedge exposures to the variability in the U.S. dollar equivalent of anticipated non-U.S. dollar-denominated cash flows. These instruments generally have a maturity of less than one year. For these derivatives, the Company reports the after-tax gain or loss from the effective portion of the hedge as a component of accumulated other comprehensive income (loss) in stockholders’ equity and reclassifies it into earnings in the same period in which the hedged transaction affects earnings, and within the same line item on the condensed consolidated statements of operations as the impact of the hedged transaction.

Volume of Derivative Activity

Total gross notional amounts for foreign currency forward contracts, presented by currency, are as follows (in thousands):


	August 1,		October 25,
In United States Dollars	2009		2008
Euro	$	17,053	$	9,710
Japanese Yen		2,261		2,036
British Pound		8,066		4,168
Singapore Dollar		4,320		2,420
Other		—		173

Total	$	31,700	$	18,507

The Company utilizes a rolling hedge strategy for the majority of its foreign currency forward contracts with cash flow hedge accounting designation that hedges exposures to the variability in the U.S. dollar equivalent of anticipated non-U.S. dollar-denominated cash flows. All of the Company’s foreign currency forward contracts are single delivery, which are settled at maturity involving one cash payment exchange.

As of August 1, 2009, the Company had a gross unrealized gain of $1.6 million, offset by a gross unrealized loss of $0.1 million, both of which are included in Other Accrued Liabilities. The net amount of $1.5 million represents effective hedges and is reported as a component of accumulated other comprehensive loss. Hedge ineffectiveness, which is reported in the Condensed Consolidated Statements of Operations, was not significant.

12. Comprehensive Income (Loss)

The components of comprehensive income (loss), net of tax, are as follows (in thousands):


	Three Months Ended						Nine Months Ended
	August 1,			July 26,			August 1,			July 26,
	2009			2008			2009			2008
Net income (loss)	$	(21,033	)	$	20,266		$	(110,183	)	$	131,489
Other comprehensive income (loss):
Change in net unrealized gains (losses) on marketable equity securities, cash flow hedges and investments		1,823			(969	)		78,353			292
Change in cumulative translation adjustments		1,747			(256	)		939			(1,986	)

Total comprehensive income (loss)	$	(17,463	)	$	19,041		$	(30,891	)	$	129,795

As of October 25, 2008, the Company had $71.1 million in gross unrealized losses in connection with the 14.0 million shares of Foundry common stock held by Brocade. Effective upon the consummation of the merger with Foundry, the Company reversed the gross unrealized losses of $71.1 million, thereby resulting in gross unrealized gains of $71.1 million for the nine months ended August 1, 2009 (see Note 6, “Investments and Equity Securities,” of the Notes to Condensed Consolidated Financial Statements).

13. Equity Compensation Plans and Stock-Based Compensation

In April 2009, the stockholders of Brocade approved the Company’s 2009 Stock Plan, 2009 Director Plan and 2009 Employee Stock Purchase Plan (“2009 ESPP”), and such plans are now part of the Company’s equity compensation plans along with those described in the Company’s Annual Report on Form 10-K for the fiscal year ended October 25, 2008 (the “Plans”). Further, the Company’s 1999 Stock Plan, 1999 Director Option Plan and 1999 Employee Stock Purchase Plan, as described in the Company’s Annual Report on Form 10-K for the fiscal year ended October 25, 2008, each expired in March 2009 by its terms.

2009 Stock Plan

The 2009 Stock Plan provides for the grant of stock options, restricted stock, restricted stock units, stock appreciation rights, performance units and performance shares, and other stock or cash awards to employees, directors and consultants. Per the terms of the 2009 Stock Plan, 48.0 million shares of the Company’s common stock are reserved for issuance under the plan, plus the following:

•

Any shares subject to stock options or similar awards granted under the Company’s 1999 Stock Plan, 1999 Nonstatutory Stock Option Plan (“NSO Plan”) and 2001 McDATA Equity Incentive Plan that expire or otherwise terminate without having been exercised in full; and

•

Shares issued pursuant to awards granted under the Company’s 1999 Stock Plan, NSO Plan and 2001 McDATA Equity Incentive Plan that are forfeited to or repurchased by the Company, with the maximum number of shares to be added to the 2009 Stock Plan pursuant to this clause equal to 40,335,624 shares.

2009 Director Plan

The 2009 Director Plan provides for the grant of stock options and restricted stock units to non-employee directors of the Company. The Board of Directors has reserved 2.0 million shares of the Company’s common stock for issuance under the 2009 Director Plan, plus any shares subject to stock options or similar awards granted under the Company’s 1999 Director Option Plan that expire or otherwise terminate without having been exercised in full, and shares issued pursuant to awards granted under the Company’s 1999 Director Option Plan that are forfeited to or repurchased by the Company, with the maximum number of shares to be added to the 2009 Director Plan pursuant to this clause equal to 870,000 shares.

2009 Employee Stock Purchase Plan

The 2009 ESPP permits eligible employees to purchase shares of the Company’s common stock through payroll deductions for up to 15% of qualified compensation during the offering period. The purchase price is 85% of the lesser of the fair market value of the Company’s common stock on (i) the first trading day of the offering period, or (ii) the last day of each six-month purchase period; provided, however, that the purchase price for subsequent offering periods may be determined by the administrator, subject to compliance with the terms of the 2009 ESPP. A total of 35.0 million shares of the Company’s common stock are reserved for issuance under the 2009 ESPP. The 2009 ESPP is implemented through consecutive, overlapping offering periods of up to approximately twenty-four months. The offering periods generally start with the first trading day on or after June 1 and December 1 each year and end on the last trading day in the periods ending twenty-four months later, unless the fair market value of the Company’s common stock on the last day of a purchase period is lower than the fair market value of the Company’s common stock on the first trading day of the offering period, in which case the offering period will end early, immediately after the purchase period, and a new offering period will commence on or about such date. Each offering period will be divided into four purchase periods of approximately six months in length. The initial offering period for the 2009 ESPP beginning on June 1, 2009 is twenty-four months. Eligible employees may purchase no more than 3,750 shares of the Company’s common stock during each six-month purchase period.

Equity Compensation Plans

The Company grants stock options for shares of the Company’s common stock and other types of equity compensation awards to its employees and directors under the various equity compensation plans described above. In accordance with the terms of the 2009 Stock Plan and the 2009 Director Plan, each award granted with an exercise price that is less than fair market value, which includes all grants of restricted stock awards, restricted stock units, performance shares and performance units, will count against the applicable plan’s share reserve as 1.56 shares for every one share subject to such award. In addition, the exercise price of stock options and stock appreciation rights granted under the 2009 Stock Plan must be at least equal to the fair market value of the Company’s common stock on the date of grant and the exercise price of incentive stock options granted to any participant who owns more than 10% of the total voting power of all classes of the Company’s outstanding stock must be at least 110% of the fair market value of the Company’s common stock on the date of grant. The term of a stock option and a stock appreciation right may not exceed seven years, except that, with respect to any participant who owns 10% of the voting power of all classes of the Company’s outstanding capital stock, the term of an incentive stock option may not exceed five years.

The Company also grants restricted stock awards and restricted stock units under the 2009 Stock Plan. The majority of the stock options, restricted stock awards and restricted stock units granted under the Plans vest over a period of four years. Certain options and awards granted under the 2009 Stock Plan vest over shorter or longer periods.

At August 1, 2009, approximately 211.5 million shares were authorized for future issuance under the Plans, which include stock options, shares to be issued pursuant to the 2009 ESPP, restricted stock units and other awards, and shares of Brocade common stock that became issuable in connection with the assumption or substitution of Foundry equity awards. A total of 67.8 million shares of common stock were available for grant under the Plans as of August 1, 2009. Awards that expire, or are canceled without delivery of shares, generally become available for issuance under the Plans.

Stock Options

When the measurement date is certain, the fair value of each option granted during the respective period is estimated on the date of grant using the Black-Scholes valuation model and the assumptions noted in the following table. The dividend yield reflects that Brocade has not paid any cash dividends since inception and does not anticipate paying cash dividends in the foreseeable future. The risk-free interest rate is based on the implied yield on a U.S. Treasury zero-coupon issue with a remaining term equal to the expected term of the option. The expected volatility is based on an equal weighted-average of implied volatilities from traded options of the Company’s common stock and historical volatility of the Company’s common stock. The expected term is based on historical exercise behavior.


	Three Months Ended					Nine Months Ended
	August 1,		July 26,			August 1,			July 26,
Stock Options	2009		2008			2009			2008
Expected dividend yield		—		0.0	%		0.0	%		0.0	%
Risk-free interest rate		—		2.4 - 4.1	%		0.5 - 2.8	%		1.5 - 4.1	%
Expected volatility		—		46.3	%		61.8 - 65.3	%		44.2 - 46.3	%
Expected term (in years)		—		4.0			4.0			4.0

The Company recorded $5.5 million and $3.9 million of compensation expense related to stock options for the three months ended August 1, 2009 and July 26, 2008, respectively, in accordance with Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment” (“SFAS 123R”). The Company recorded $18.0 million and $13.7 million of compensation expense related to stock options for the nine months ended August 1, 2009 and July 26, 2008, respectively, in accordance with SFAS 123R. Compensation expense computed under the fair value method for stock options issued is being amortized under a graded vesting method over the options’ vesting period. A summary of stock option activity under the Plans for the nine months ended August 1, 2009 is presented as follows:


						Weighted-Average
						Remaining		Aggregate Intrinsic
	Shares			Weighted-Average		Contractual Term		Value
	(in thousands)			Exercise Price		(in years)		(in thousands)
Outstanding at October 25, 2008		35,036		$	8.05		4.17	$	701
Assumed under the Foundry acquisition		93,509		$	3.23
Granted		5,018		$	4.22
Exercised		(25,322	)	$	2.98
Forfeited or expired		(5,564	)	$	5.93

Outstanding at August 1, 2009		102,677		$	4.84		3.37	$	376,405

Vested and expected to vest at August 1, 2009		96,837		$	4.89		3.36	$	353,903

Exercisable and vested at August 1, 2009		76,478		$	5.08		3.17	$	276,376

No stock options were granted during the three months ended August 1, 2009. The weighted-average grant date fair value of stock options granted during the three months ended July 26, 2008 was $2.27. The total intrinsic value of stock options exercised for the three months ended August 1, 2009 and July 26, 2008 was $71.4 million and $7.9 million, respectively.

As of August 1, 2009, there was $21.4 million of unrecognized compensation expense related to stock options that is expected to be recognized over a weighted-average period of 1.21 years.

From May 1999 through July 2003, the Company granted 98.8 million options subject to variable accounting as the measurement date of the options granted was not certain. As of August 1, 2009, 1.1 million options with a weighted-average exercise price of $21.54 and a weighted-average contractual life of 1.40 years remain outstanding and continue to be accounted for under variable accounting.

Employee Stock Purchase Plan

Under Brocade’s employee stock purchase plans, including the 2009 ESPP and the 1999 Employee Stock Purchase Plan, (together, the “Brocade ESPP”), eligible employees can participate and purchase shares semi-annually at the lower of 85% of the fair market value of the Company’s common stock on (i) the first trading day of the offering period, or (ii) the last day of each six-month purchase period. The Brocade ESPP permits eligible employees to purchase common stock through payroll deductions for up to 15% of qualified compensation. The Company accounts for the Brocade ESPP as a compensatory plan and recorded compensation expense of $10.7 million and $2.1 million for the three months ended August 1, 2009 and July 26, 2008, respectively, and $15.5 million and $5.0 million for the nine months ended August 1, 2009 and July 26, 2008, respectively, in accordance with SFAS 123R. Compensation expense computed under the fair value method for ESPP shares issued is being amortized under a graded vesting method over the twenty-four month offering period.

The fair value of the option component of Brocade ESPP shares was estimated using the Black-Scholes option pricing model using the following weighted-average assumptions:


	Three Months Ended						Nine Months Ended
	August 1,			July 26,			August 1,			July 26,
Employee Stock Purchase Plan	2009			2008			2009			2008
Expected dividend yield		0.0	%		0.0	%		0.0	%		0.0	%
Risk-free interest rate		0.7	%		1.6	%		0.8	%		2.6	%
Expected volatility		77.9	%		45.3	%		76.4	%		43.0	%
Expected term (in years) (1)		1.2			0.5			1.2			0.5


(1)		The ESPP shares valued for the three and nine months ended July 26, 2008 fall under the 1999 Employee Stock Purchase Plan, which is based on a six-month offering period.

As of August 1, 2009, there was $51.1 million of unrecognized compensation expense related to employee stock purchases under the Brocade ESPP. This expense is expected to be recognized over a weighted-average period of 1.2 years.

In addition, as part of its acquisition of Foundry, the Company became the administrator of Foundry’s 1999 Employee Stock Purchase Plan (“Foundry ESPP”), which expired on May 31, 2009. As a result of Brocade’s assumption of rights under the Foundry ESPP, Foundry employees who became Brocade employees were granted the right to purchase shares of the Company’s common stock at the lower of 85% of the fair market value of the Company’s common stock, as adjusted in accordance with the Foundry Merger Agreement at (i) the beginning of a rolling two-year offering period or (ii) the end of each semi-annual offering period, subject to a plan limit on the number of shares that may be purchased in an offering period. During the nine months ended August 1, 2009, the Company issued 4.9 million shares under the Foundry ESPP. The Company accounts for the Foundry ESPP as a compensatory plan and recorded compensation expense of $0.6 million and $2.5 million for the three and nine months ended August 1, 2009, respectively, in accordance with SFAS 123R.

Restricted Stock Awards

No restricted stock awards were issued for the nine months ended August 1, 2009 and July 26, 2008. When and if granted, restricted stock awards are not transferable until fully vested, and all unvested shares upon termination are subject to repurchase. The fair value of each award is based on the Company’s closing stock price on the date of grant.

A summary of the nonvested restricted stock awards for the nine months ended August 1, 2009 is presented as follows:


	Shares			Weighted-Average
	(in thousands)			Grant Date Fair Value
Nonvested at October 25, 2008		14		$	0.01
Granted		—		$	—
Vested		(14	)	$	0.01
Forfeited		—		$	—

Nonvested at August 1, 2009		—		$	—

Expected to vest at August 1, 2009		—		$	—

Restricted Stock Units

For the nine months ended August 1, 2009 and July 26, 2008, Brocade issued 12.4 million and 5.6 million restricted stock units, respectively. Typically, vesting of restricted stock units occurs over one to four years and is subject to the employee’s continuing service to Brocade. The compensation expense related to these awards of $25.8 million and $5.7 million for the three months ended August 1, 2009 and July 26, 2008, respectively, and $63.2 million and $12.8 million for the nine months ended August 1, 2009 and July 26, 2008, respectively, was determined using the fair market value of Brocade’s common stock on the date of the grant and is recognized under a graded vesting method over the awards’ vesting period.

A summary of the changes in restricted stock units outstanding under Brocade’s equity compensation plans during the nine months ended August 1, 2009 is presented as follows:


	Shares			Weighted-Average
	(in thousands)			Grant Date Fair Value
Nonvested at October 25, 2008		8,306		$	7.87
Assumed under the Foundry acquisition		26,050		$	3.54
Granted		12,431		$	6.84
Vested		(2,526	)	$	5.90
Forfeited		(3,008	)	$	6.83

Nonvested at August 1, 2009		41,253		$	5.02

Vested and expected to vest at August 1, 2009		33,245		$	5.02

The aggregate intrinsic value of restricted stock units outstanding at August 1, 2009 was $324.3 million.

On July 30, 2007, the Board of Directors approved a long-term, performance-based equity incentive plan (“Incentive Plan”) under the Company’s then applicable 1999 Stock Plan. The Incentive Plan provides for the grant of restricted stock units to certain Company executive officers and other selected employees. For each restricted stock unit that vests, the plan participant will be entitled to receive one share of the Company’s common stock. The restricted stock units that vest are subject to the Company’s performance compared to the NASDAQ-100 Index over an initial twenty-seven-month performance period, which is from August 1, 2007 to October 31, 2009. The Incentive Plan participants must also remain a service provider to the Company during the performance period. 2.4 million restricted stock units would have been earned as of August 1, 2009.

Under the principal terms of the Incentive Plan, the Incentive Plan participants are entitled to receive restricted stock units representing up to an aggregate of 2.0% of the amount the Company’s market capitalization growth rate exceeds the growth rate of the NASDAQ-100 Index for the performance period, subject to certain adjustments. The ultimate amount that vests is subject to the discretion of the Board of Directors. The restricted stock units are expected to vest simultaneously with the end of the performance period.

As of August 1, 2009, Brocade had $111.1 million of unrecognized compensation expense, net of estimated forfeitures, related to restricted stock unit grants that is equity classified and $1.5 million of unrecognized compensation expense related to the Incentive Plan that is liability classified. These expenses are expected to be recognized over a weighted-average period of 1.87 years. As of August 1, 2009, $11.9 million in compensation expense related to the Incentive Plan has been recognized to date.

14. Income Taxes

The Company adopted FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109” (“FIN 48”), effective at the beginning of fiscal year 2008. As a result, the cumulative effect of applying FIN 48 was a $3.1 million decrease to accumulated deficit at the beginning of fiscal year 2008. Historically, the Company classified unrecognized tax benefits as current income taxes payable. Under FIN 48, the Company now classifies unrecognized tax benefits as non-current income tax liability except to the extent it anticipates cash payment within the following year. The amount of gross unrecognized tax benefits at the beginning of fiscal year 2008 was $88.1 million. The amount of gross unrecognized tax benefits at the end of fiscal year 2008 was $118.3 million. The total gross unrecognized tax benefits of $118.3 million at October 25, 2008 include $85.7 million that, if recognized, would affect the Company’s effective tax rate.

During the three months ended August 1, 2009, the Company recorded a net increase of approximately $17.2 million in its total unrecognized tax benefits. The total amount of gross unrecognized tax benefits on August 1, 2009 was $171.3 million, which included $108.5 million that, if recognized, would affect the Company’s effective tax rate. During the three months ended August 1, 2009, the Company did not expense any material amount for net interest and penalties related to income tax liabilities through income tax expense.

During the nine months ended August 1, 2009, the Company expensed an additional amount of $0.5 million for net interest and penalties related to income tax liabilities through income tax expense.

During the three and nine months ended July 26, 2008, the Company expensed an additional amount of $0.3 million and $0.8 million, respectively, for net interest and penalties related to income tax liabilities through income tax expense. The total net interest and penalties as of August 1, 2009 was $4.8 million.

As of April 26, 2008, the Company believed that sufficient positive evidence existed from historical operations and projections of taxable income in future years to conclude that it was more likely than not that the Company would realize its deferred tax assets. Accordingly, the Company released the valuation allowance of its deferred tax assets during the three months ended April 26, 2008. The Company continues to apply a valuation allowance on the deferred tax assets relating to capital loss carryforwards, investments and foreign operating loss carryforwards due to limited carryforward periods and the character of such tax attributes. The release of the valuation allowance for the year ended October 25, 2008 resulted in a tax benefit of $174.4 million and a reduction of goodwill of $134.6 million.

In November 2005, the Company was notified by the IRS that the Company’s domestic federal income tax return for the year ended October 25, 2003 was subject to audit. In May 2008, the Internal Revenue Service (“IRS”) completed its field examination of the Company’s federal income tax return for the year ended October 25, 2003 and issued a Revenue Agent’s Report (“RAR”). The IRS is contesting the Company’s transfer pricing for the cost sharing and buy-in arrangements with its foreign subsidiaries. The Company appealed the RAR to the Appeals Office of the IRS in June 2008 and the Company is currently negotiating a settlement. In July 2009, the IRS also completed its field examination of the Company’s federal income tax returns for the three tax years ended October 28, 2006 and issued an RAR. The IRS is contesting the transfer pricing associated with transfers of acquired technologies between subsidiaries. The Company is considering appealing these adjustments. The IRS may make similar claims against the Company’s transfer pricing arrangements in future examinations. In May 2006, the Franchise Tax Board notified the Company that its California income tax returns for the years ended October 25, 2003 and October 30, 2004 were subject to audit. The IRS and Franchise Tax Board audits are still ongoing and the Company believes its reserves are adequate to cover any potential assessments that may result from these examinations.

In February 2009, the IRS commenced an examination of Foundry’s federal income tax returns for the years ended December 31, 2006 and 2007. The Company is not aware of any proposed adjustments, but the audit is still ongoing. The Company believes its reserves are adequate to cover any potential assessments that may result from the examination.

For the three and nine months ended August 1, 2009, the Company recorded income tax expense of $20.0 million and $17.3 million, respectively, primarily as a result in a change in the allocation of income between the U.S. and foreign operations, and a change in judgment concerning the ongoing IRS examination. For the three and nine months ended July 26, 2008, the Company recorded income tax expense (benefit) of $31.9 million and $(136.7) million, respectively.

15. Segment Information

Statement of Financial Accounting Standards No. 131, “Disclosures about Segments of an Enterprise and Related Information,” as amended (“SFAS 131”), establishes standards for reporting information about operating segments. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the Chief Operating Decision Maker (“CODM”), or decision-making group, in deciding how to allocate resources and in assessing performance. Currently, the CODM is the Chief Executive Officer.

As a result of the Foundry acquisition during the first quarter of fiscal year 2009, Brocade reorganized its four operating segments, of which two are individually reportable segments: Data Storage and Global Services; and two, IP Layer 2-3 and ADC, are combined into one reportable segment: IP Products. These segments are organized principally by product category. The types of products and services from which each reportable segment derives its revenues are as follows:

•

Data Storage includes a majority of the Company’s storage area network products and software, HBAs, CNAs, and mezzanine cards;

•

IP Products include Layer 2-3 switches and routers, Layer 4-7 application delivery controllers, file area network products and associated management solutions; and

•

Global Services include break/fix maintenance, extended warranty, installation, consulting, network management, related software maintenance and support revenue, and telecommunications services.

Financial decisions and the allocation of resources are based on the information from the Company’s internal management reporting system. At this point in time, the Company does not track any of its assets by operating segments. Consequently, it is not practical to show assets by operating segments. The majority of the Company’s assets as of August 1, 2009 were attributable to its United States operations.

Fiscal year 2008 segment results have been conformed to the new measurements of segment financial reporting implemented in the first quarter of fiscal year 2009. Summarized financial information by reportable segment for the three and nine months ended August 1, 2009 and July 26, 2008, based on the internal management reporting system, is as follows (in thousands):


	Data Storage		IP Products			Global Services		Total
Three months ended August 1, 2009
Net revenues	$	283,773	$	118,710		$	90,797	$	493,280
Cost of revenues		113,604		71,743			47,488		232,835

Gross margin	$	170,169	$	46,967		$	43,309	$	260,445

Three months ended July 26, 2008
Net revenues	$	300,376	$	1,428		$	63,892	$	365,696
Cost of revenues		108,352		2,720			41,419		152,491

Gross margin (loss)	$	192,024	$	(1,292	)	$	22,473	$	213,205

Nine months ended August 1, 2009
Net revenues	$	887,096	$	296,021		$	248,054	$	1,431,171
Cost of revenues		337,021		198,891			132,606		668,518

Gross margin	$	550,075	$	97,130		$	115,448	$	762,653

Nine months ended July 26, 2008
Net revenues	$	890,163	$	5,170		$	173,107	$	1,068,440
Cost of revenues		336,954		8,522			107,728		453,204

Gross margin (loss)	$	553,209	$	(3,352	)	$	65,379	$	615,236

16. Net Income (Loss) per Share

The following table presents the calculation of basic and diluted net income (loss) per share (in thousands, except per share amounts):


	Three Months Ended						Nine Months Ended
	August 1,			July 26,			August 1,			July 26,
	2009			2008			2009			2008
Basic net income (loss) per share
Net income (loss)	$	(21,033	)	$	20,266		$	(110,183	)	$	131,489

Weighted-average shares of common stock outstanding		406,916			371,626			390,087			376,742
Less: Weighted-average shares of common stock subject to repurchase		—			(281	)		—			(287	)

Weighted-average shares used in computing basic net income (loss) per share		406,916			371,345			390,087			376,455
Basic net income (loss) per share	$	(0.05	)	$	0.05		$	(0.28	)	$	0.35

Diluted net income (loss) per share
Net income (loss)	$	(21,033	)	$	20,266		$	(110,183	)	$	131,489
Interest on convertible subordinated debt, net of income tax effect		—			429			—			2,056

Net income (loss), as adjusted		(21,033	)		20,695			(110,183	)		133,545

Weighted-average shares used in computing basic net income (loss) per share		406,916			371,345			390,087			376,455
Dilutive potential common shares		—			21,241			—			19,990

Weighted-average shares used in computing diluted net income (loss) per share		406,916			392,586			390,097			396,445
Diluted net income (loss) per share	$	(0.05	)	$	0.05		$	(0.28	)	$	0.34

For the three months ended August 1, 2009 and July 26, 2008, potential common shares in the form of stock options to purchase 51.4 million and 13.5 million weighted-average shares of common stock, respectively, were antidilutive and, therefore, not included in the computation of diluted net income (loss) per share. For the nine months ended August 1, 2009 and July 26, 2008, potential common shares in the form of stock options to purchase 76.3 million and 15.0 million weighted-average shares of common stock, respectively, were antidilutive and, therefore, not included in the computation of diluted net income (loss) per share. For the three and nine months ended August 1, 2009, potential common shares in the form of stock awards to purchase 21.1 million and 17.3 million weighted-average shares of common stock, respectively, were antidilutive and, therefore, not included in the computation of diluted net loss per share.

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

You should read the following discussion and analysis in conjunction with the condensed consolidated financial statements and notes thereto included in Item 1 of this Quarterly Report and with Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report filed on Form 10-K with the Securities and Exchange Commission on December 15, 2008.

Overview

Our goal is to be the preeminent provider of storage area and IP networking equipment and services, and the leading provider of data center networking solutions that help enterprises connect and manage their information.

In the first fiscal quarter of 2009, we completed our acquisition of Foundry. As a result of this acquisition in the first fiscal quarter of 2009, we reorganized our four operating segments: Data Storage, IP Layer 2-3, Application Delivery Controller and Global Services. The objective of this new organization is to enable us to more effectively focus on growth opportunities, while being well-positioned to more rapidly scale and accommodate new business opportunities, including potential future acquisitions.

Our primary focus for this year has been on the following markets:

•

Enterprise Data Center Solutions, which includes directors, switches, HBAs, top-of-rack switches, end-of-row and backbones, file management solutions, application delivery, converged network products and server virtualization solutions;

•

Enterprise LAN Campus, where we deliver lower cost, higher performance solutions including modular and stackable 1 Gigabit Ethernet (“GbE”) and 10GbE solutions, Enhanced Power Over Ethernet plus, as well as security and wireless solutions; and

•

Service Providers, where we offer metro Edge, high-availability aggregation and Ethernet Backbone solutions.

When considering the current economically challenging IT spending environment, our planning assumption is that it will remain unchanged through the balance of calendar year. In light of this environment, we are also focused on managing our expenses. We expect IT spending in general, and the Storage and IP markets specifically, to improve during 2010.

Results of Operations

We report our fiscal year on a 52/53-week period ending on the last Saturday in October. As is customary for companies that use the 52/53-week convention, every fifth year contains a 53-week year. As a result, our fiscal year 2009 is a 53-week fiscal year, with our second quarter of fiscal year 2009 consisting of fourteen weeks, which is one week longer than a typical quarter. Fiscal year 2008 was a 52-week fiscal year. Our next 14-week quarter will be in the second quarter of fiscal year 2014.

Our results of operations for the three and nine months ended August 1, 2009 and July 26, 2008 are reported in this discussion and analysis as a percentage of total net revenues, except for cost of revenues and gross margin (loss) with respect to each segment, which are indicated as a percentage of the respective segment net revenues. Prior period segment results have been conformed to the new measurements of segment financial reporting implemented in the first quarter of fiscal year 2009.

Revenues. Our data networking solutions enable network convergence and end-to-end networking from the edge to the core of our customers’ networking infrastructures. Our revenues are derived primarily from sales of our Data Storage family of SAN products, sales of our IP products, and our service and support offerings related to those products. Our fabric switches and directors connect our customers’ servers and storage devices creating a SAN.

Our total net revenues are summarized as follows (in thousands, except percentages):


	Three Months Ended
	August 1,		% of Net			July 26,		% of Net			Increase/			%
	2009		Revenues			2008		Revenues			(Decrease)			Change
Data Storage	$	283,773		57.5	%	$	300,376		82.1	%	$	(16,603	)		(5.5	)%
IP Products		118,710		24.1	%		1,428		0.4	%		117,282			8,215.9	%
Global Services		90,797		18.4	%		63,892		17.5	%		26,905			42.1	%

Total net revenues	$	493,280		100.0	%	$	365,696		100.0	%	$	127,584			34.9	%


	Nine Months Ended
	August 1,		% of Net			July 26,		% of Net			Increase/			%
	2009		Revenues			2008		Revenues			(Decrease)			Change
Data Storage	$	887,096		62.0	%	$	890,163		83.3	%	$	(3,067	)		(0.3	)%
IP Products		296,021		20.7	%		5,170		0.5	%		290,851			5,625.2	%
Global Services		248,054		17.3	%		173,107		16.2	%		74,947			43.3	%

Total net revenues	$	1,431,171		100.0	%	$	1,068,440		100.0	%	$	362,731			33.9	%

The increase in total net revenues for the three months ended August 1, 2009 as compared to total net revenues for the three months ended July 26, 2008 reflects growth in sales of IP Products and Global Services offerings, offset by a decrease in Data Storage sales.

•

The decrease in Data Storage product revenues for this period reflects a 9.6% decrease in the number of ports shipped from our switch and embedded switch products and a decrease in average selling price per port of 12.8%, offset by a mix shift from 4 Gigabit (“Gb”) director and switch products to 8 Gb director products, which carry a higher price per port;

•

The increase in revenues from IP Products was due to sales of network switching and router products which began with our acquisition of Foundry in December 2008; and

•

The increase in Global Services revenues was a result of the acquisition of Foundry in December 2008 and the continued expansion of our installed base.

The increase in total net revenues for the nine months ended August 1, 2009 as compared to total net revenues for the nine months ended July 26, 2008 reflects growth in sales of IP Products and Global Services offerings.

•

Data Storage product revenues for the period were flat and reflect a 1.0% decrease in the number of ports shipped from our director and switch products and a decrease in average selling price per port of 9.9%, offset by a mix shift from 4 Gb director and switch products to 8 Gb director products, which carry a higher price per port;

•

The increase in revenues from IP Products was due to sales of network switching and router products as a result of our acquisition of Foundry in December 2008; and

•

The increase in Global Services revenues was a result of the acquisition of Foundry in December 2008 and the inclusion of Strategic Business Systems, Inc. (“SBS”), which was acquired in March 2008, for the full nine-month period in fiscal year 2009, as well as the continued expansion of our installed base.

For the three and nine months ended August 1, 2009, the declines in average selling prices were the result of a continuing competitive pricing environment, offset by a mix shift to higher port density and price per port products. We believe that the IT spending environment remains cautious due to the uncertain macroeconomic environment and therefore, our business is being affected by a decrease in overall market demand, partially offset by an increase in our market share in the SAN market. The increase in the number of IP Products ports shipped primarily reflects the Foundry acquisition.

Going forward, we expect the number of ports shipped to fluctuate depending on the demand for our existing and recently introduced IP Products and Data Storage products, as well as the timing of product transitions by our OEM customers. We currently expect that average selling prices per port will likely decline at rates consistent with historical rates of low single digits per quarter, however, there are risks that pricing pressure could accelerate due to macroeconomic issues, new product introductions by us or our competitors, or other factors. Historically, our first and fourth fiscal quarters are seasonally stronger quarters from a revenue perspective than our second and third fiscal quarters.

Our total net revenues by geographical area are summarized as follows (in thousands, except percentages):


	Three Months Ended
	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Domestic	$	314,159		63.7	%	$	237,216		64.9	%	$	76,943		32.4	%
International		179,121		36.3	%		128,480		35.1	%		50,641		39.4	%

Total net revenues	$	493,280		100.0	%	$	365,696		100.0	%	$	127,584		34.9	%


	Nine Months Ended
	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Domestic	$	940,245		65.7	%	$	675,113		63.2	%	$	265,132		39.3	%
International		490,926		34.3	%		393,327		36.8	%		97,599		24.8	%

Total net revenues	$	1,431,171		100.0	%	$	1,068,440		100.0	%	$	362,731		33.9	%

Historically, domestic revenues have accounted for between 56% and 69% of total net revenues. International revenues primarily consist of sales to customers in Western Europe, the greater Asia Pacific region and Japan. International revenues were flat as a percentage of total net revenues for the three months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 and they decreased as a percentage of total net revenues for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 primarily as a result of the shift to North America due to the Foundry acquisition. Revenues are attributed to geographic areas based on where our products are shipped. However, certain OEM customers take possession of our products domestically and then distribute these products to their international customers. Because we account for all of those OEM revenues as domestic revenues, we cannot be certain of the extent to which our domestic and international revenue mix is impacted by the practices of our OEM customers, but we believe that international revenues comprise a larger percentage of our total net revenues than the attributed revenues may indicate.

A significant portion of our revenue is concentrated among a relatively small number of OEM customers. For the three months ended August 1, 2009, three customers each represented 10% or more of our total net revenues for a combined total of 46% of our total net revenues. For the three months ended July 26, 2008, the same three customers each represented 10% or more of our total net revenues for a combined total of 62% of our total net revenues. The decrease in the percentage reflects the acquisition of Foundry and its dispersion of revenue among a non-OEM customer base. We expect that a significant portion of our future revenues will continue to come from sales of products to a relatively small number of OEM customers and, as a result of the Foundry acquisition, to the U.S. government or individual agencies within the U.S. government. Therefore, the loss of, or a decrease in the level of sales to, or a change in the ordering pattern of any one of these customers could seriously harm our financial condition and results of operations.

A majority of our accounts receivable balance is derived from sales to OEM partners in the computer storage and server industry. As of August 1, 2009, three customers accounted for 15%, 13% and 11%, respectively, of total accounts receivable. As of October 25, 2008, three customers accounted for 30%, 17% and 14%, respectively, of total accounts receivable. We perform ongoing credit evaluations of our customers and generally do not require collateral on accounts receivable balances. We have established reserves for

credit losses, sales allowances, and other allowances. While we have not experienced material credit losses in any of the periods presented, there can be no assurance that we will not experience material credit losses in the future.

Gross margin (loss). Gross margin (loss) as stated below is indicated as a percentage of the respective segment net revenues, except for total gross margin, which is stated as a percentage of total net revenues. Gross margin (loss) is summarized as follows (in thousands, except percentages):


	Three Months Ended
	August 1,		% of Net			July 26,			% of Net			Increase/			% Points
	2009		Revenues			2008			Revenues			(Decrease)			Change
Data Storage	$	170,169		60.0	%	$	192,024			63.9	%	$	(21,855	)		(3.9	)%
IP Products		46,967		39.6	%		(1,292	)		(90.5	)%		48,259			130.1	%
Global Services		43,309		47.7	%		22,473			35.2	%		20,836			12.5	%

Total gross margin	$	260,445		52.8	%	$	213,205			58.3	%	$	47,240			(5.5	)%


	Nine Months Ended
	August 1,		% of Net			July 26,			% of Net			Increase/			% Points
	2009		Revenues			2008			Revenues			(Decrease)			Change
Data Storage	$	550,075		62.0	%	$	553,209			62.1	%	$	(3,134	)		(0.1	)%
IP Products		97,130		32.8	%		(3,352	)		(64.8	)%		100,482			97.6	%
Global Services		115,448		46.5	%		65,379			37.8	%		50,069			8.7	%

Total gross margin	$	762,653		53.3	%	$	615,236			57.6	%	$	147,417			(4.3	)%

For the three months ended August 1, 2009 as compared to the three months ended July 26, 2008, total gross margin increased in absolute dollars, but total gross margin percentage decreased primarily due to increased mix of IP Products revenue, which carries a lower overall gross margin, increased stock-based compensation expense and increased amortization of intangible assets acquired under the Foundry acquisition.

In addition, gross margin percentage by reportable segment increased or decreased for the three months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 primarily due to the following factors:

•

Data Storage product costs relative to net revenues increased primarily due to a 2.1% increase in manufacturing costs as a result of an increase in sales engineering headcount, a 1.9% increase in product costs and a 0.6% increase in stock-based compensation;

•

IP Products costs relative to net revenues decreased primarily due to an increase in revenue as a result of the Foundry acquisition. The gross loss in IP Products for the three months ended July 26, 2008 reflects the former Files operating segment, which has been included within the IP Products reportable segment for the three months ended August 1, 2009; and

•

Global Services operating costs relative to net revenues decreased primarily due to a 14.7% decrease in service and support spending relative to net revenues due to additional revenue generated as a result of the Foundry and SBS acquisitions, partially offset by a 2.4% increase in stock-based compensation as a result of the Foundry acquisition.

For the nine months ended August 1, 2009 as compared to the nine months ended July 26, 2008, total gross margin increased in absolute dollars, but total gross margin percentage decreased primarily due to increased mix of IP Products revenue, which carries a lower overall gross margin, increased stock-based compensation expense and increased amortization of intangible assets acquired under the Foundry acquisition.

In addition, gross margin percentage by reportable segment increased or decreased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 primarily due to the following factors:

•

Data Storage product costs relative to net revenues were flat primarily due to a 0.7% decrease in amortization of intangible assets related to the McDATA acquisition, offset by a 0.3% increase in product costs and a 0.4% increase in stock-based compensation;

•

IP Products costs relative to net revenues decreased primarily due to an increase in revenue as a result of the Foundry acquisition. The gross loss in IP Products for the nine months ended July 26, 2008 reflects the former Files operating segment, which has been included within the IP Products reportable segment for the nine months ended August 1, 2009; and

•

Global Services operating costs relative to net revenues decreased primarily due to a 10.5% decrease in service and support spending relative to net revenues as a result of additional revenue generated from the Foundry and SBS acquisitions, partially offset by a 1.4% increase in stock-based compensation and a 0.3% increase in amortization of intangible assets as a result of the SBS acquisition.

Gross margin is primarily affected by average selling price per port, number of ports shipped and cost of revenues. As described above, we expect that average selling prices per port for our products will continue to decline at rates consistent with historical rates of low single digits per quarter, unless they are further affected by accelerated pricing pressures, new product introductions by us or our competitors, or other factors that may be beyond our control. We believe that we have the ability to partially mitigate the effect of declines in average selling price per port on gross margins by reducing our product and manufacturing operations costs. However, the average selling price per port could decline at a faster pace than we anticipate. If this dynamic occurs, we may not be able to reduce our costs fast enough to prevent a decline in our gross margins. In addition, we must continue to increase the current volume of ports shipped to maintain our current gross margins. If we are unable to offset future reductions in average selling price per port with reductions in product and manufacturing operations costs, or if as a result of future reductions in average selling price per port, our revenues do not grow, our gross margins would be negatively affected.

We recently introduced several new products and expect to introduce additional new products in the near future. As new or enhanced products are introduced, we must successfully manage the transition from older products in order to minimize disruption in customers’ ordering patterns, avoid excessive levels of older product inventories and provide sufficient supplies of new products to meet customer demands. Our gross margins would likely be adversely affected if we fail to successfully manage the introductions of these new products.

Research and development expenses. Research and development (“R&D”) expenses consist primarily of salaries and related expenses for personnel engaged in engineering and R&D activities, fees paid to consultants and outside service providers, nonrecurring engineering charges, prototyping expenses related to the design, development, testing and enhancement of our products, depreciation related to engineering and test equipment, and related IT and facilities expenses.

R&D expenses are summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Three months ended	$	94,718		19.2	%	$	65,368		17.9	%	$	29,350		44.9	%
Nine months ended	$	259,464		18.1	%	$	184,704		17.3	%	$	74,760		40.5	%

The increase in R&D expenses for the three and nine months ended August 1, 2009 compared with the corresponding periods in fiscal year 2008 was primarily due to an increase in salaries and wages, nonrecurring engineering expenses, expenses related to IT, facilities and other shared functions, and stock-based compensation. The increase in salaries and wages and stock-based compensation was primarily the result of headcount growth from the Foundry acquisition. In addition, salaries and wages and stock-based compensation were higher for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 due to the extra week during the second quarter of our fiscal year 2009, partially offset by the implementation of a Company-wide 5-day unpaid time off program during the first half of fiscal year 2009.

Sales and marketing expenses. Sales and marketing expenses consist primarily of salaries, commissions and related expenses for personnel engaged in sales, marketing and customer service functions, costs associated with promotional and marketing programs, travel expenses, and related IT and facilities expenses.

Sales and marketing expenses are summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Three months ended	$	103,640		21.0	%	$	70,039		19.2	%	$	33,601		48.0	%
Nine months ended	$	281,703		19.7	%	$	203,200		19.0	%	$	78,503		38.6	%

The increase in sales and marketing expenses for the three and nine months ended August 1, 2009 compared with the corresponding periods in fiscal year 2008 was primarily due to an increase in salaries and wages, expenses related to IT, facilities and other shared functions, and stock-based compensation, offset by a decrease in advertising and conference expense. The increase in salaries and wages and stock-based compensation was primarily the result of headcount growth from the Foundry acquisition. In

addition, salaries and wages and stock-based compensation were higher for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 due to the extra week during the second quarter of our fiscal year 2009, partially offset by the Company-wide 5-day unpaid time off program during the first half of fiscal year 2009.

General and administrative expenses. General and administrative (“G&A”) expenses consist primarily of salaries and related expenses for corporate executives, finance, human resources and investor relations, as well as recruiting expenses, professional fees, other corporate expenses, and related IT and facilities expenses.

G&A expenses are summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Three months ended	$	23,070		4.7	%	$	17,577		4.8	%	$	5,493		31.3	%
Nine months ended	$	62,753		4.4	%	$	43,260		4.0	%	$	19,493		45.1	%

The increase in G&A expenses for the three and nine months ended August 1, 2009 compared with the corresponding periods in fiscal year 2008 was primarily due to an increase in salaries and wages, stock-based compensation and depreciation and amortization, partially offset by an increase in IT and facilities expenses as a result of the Foundry acquisition, which are allocated to other functional groups. The increase in salaries and wages and stock-based compensation was primarily the result of headcount growth from the Foundry acquisition. In addition, salaries and wages and stock-based compensation were higher for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 due to the extra week during the second quarter of our fiscal year 2009, partially offset by the Company-wide 5-day unpaid time off program during the first half of fiscal year 2009. In addition, outside services were higher for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008.

Legal fees associated with indemnification obligations and other related costs, net. These expenses consist of professional legal fees for various matters, including applicable indemnification obligations, defense of the Company in legal proceedings, and actions to pursue claims by the Special Litigation Committee of the Board of Directors. Pursuant to the Company’s charter documents and indemnification agreements, we have certain indemnification obligations to our directors, officers and employees, as well as certain former directors, officers and employees. Pursuant to such obligations and claims filed by the Special Litigation Committee of the Board of Directors, we incurred expenses related to amounts paid to certain former directors, officers and employees of the Company who have been either convicted in criminal proceedings and/or are subject to ongoing SEC and civil actions in connection with Brocade’s historical stock option granting practices. We expect such expenses to decrease through the remainder of fiscal year 2009 from historical trends.

Legal fees associated with indemnification obligations and other related costs, net, are summarized as follows (in thousands, except percentages):


	August 1,			% of Net			July 26,		% of Net			Increase/			%
	2009			Revenues			2008		Revenues			(Decrease)			Change
Three months ended	$	(561	)		(0.1	)%	$	7,951		2.2	%	$	(8,512	)		(107.1	)%
Nine months ended	$	38,553			2.7	%	$	22,399		2.1	%	$	16,154			72.1	%

Legal fees decreased for the three months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 primarily due to resolution of multiple legal proceedings related to the Special Litigation Committee’s litigation and certain settlements received in connection with that litigation.

Legal fees increased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 primarily due to an increase in legal expenses in connection with the litigation filed on behalf of the Company by the Special Litigation Committee of the Board of Directors.

Provision for class action lawsuit. This expense is in connection with the resolution of our class action lawsuit. We did not record any provision for class action lawsuit for the three months ended August 1, 2009 and July 26, 2008. Provision for class action lawsuit for the nine months ended August 1, 2009 and July 26, 2008 is summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/			%
	2009		Revenues			2008		Revenues			(Decrease)			Change
Nine months ended	$	—		—	%	$	160,000		15.0	%	$	(160,000	)		(100.0	)%

Provision for class action lawsuit decreased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008. The $160.0 million in provision for class action lawsuit was based on the preliminary settlement reached on May 30, 2008 between Brocade and the lead plaintiffs for the federal securities class action. In December 2008, we deposited $160.0 million into an escrow account on behalf of the plaintiff class to be released upon final approval of the proposed settlement by the Federal District Court. On January 26, 2009, the Federal District Court granted final approval of the settlement and the amount was released from escrow.

Amortization of intangible assets. Amortization of intangible assets is summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Three months ended	$	17,052		3.5	%	$	7,846		2.1	%	$	9,206		117.3	%
Nine months ended	$	51,666		3.6	%	$	23,664		2.2	%	$	28,002		118.3	%

During the three and nine months ended August 1, 2009, we recorded amortization of intangible assets related to the acquisitions of McDATA, Silverback Systems, Inc., SBS and Foundry. The increase in amortization of intangible assets for the three months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 was primarily due to the acquisition of Foundry in December 2008. The increase in amortization of intangible assets for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 was primarily due to the acquisition of Foundry and the acquisition of SBS in March 2008.

We account for intangible assets in accordance with SFAS 142. Intangible assets are recorded based on estimates of fair value at the time of the acquisition and identifiable intangible assets are amortized on a straight-line basis over their estimated useful lives (see Note 4, “Goodwill and Intangible Assets,” of the Notes to Condensed Consolidated Financial Statements).

Acquisition and integration costs. Acquisition and integration costs are summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Three months ended	$	1,450		0.3	%	$	—		—	%	$	1,450		100.0	%
Nine months ended	$	4,794		0.3	%	$	—		—	%	$	4,794		100.0	%

For the three and nine months ended August 1, 2009, we recorded acquisition and integration costs primarily for consulting services and other professional fees in connection with our integration of Foundry.

Restructuring costs and facilities lease loss benefits, net. We did not record any restructuring costs and facilities lease loss benefits, net, for the three months ended August 1, 2009 and July 26, 2008. Restructuring costs and facilities lease loss benefits, net, for the nine months ended August 1, 2009 and July 26, 2008 are summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,			% of Net			Increase/		%
	2009		Revenues			2008			Revenues			(Decrease)		Change
Nine months ended	$	2,329		0.2	%	$	(477	)		—	%	$	2,806		588.7	%

Restructuring costs and facilities lease loss benefits, net, increased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008. This increase was primarily due to $2.7 million in restructuring costs primarily related to severance payments in connection with the decision to no longer offer our suite of Files products, partially offset by a benefit of $0.3 million related to estimated facilities lease losses, net of expected sublease income, recorded during the nine months ended August 1, 2009. This benefit represented a change in estimate. We revised certain estimates and assumptions, including those related to estimated sublease rates, estimated time to sublease the facilities, expected future operating costs, and expected future use of the facilities.

In-process research and development. We did not record any in-process research and development (“IPR&D”) charge for the three months ended August 1, 2009 and July 26, 2008. IPR&D for the nine months ended August 1, 2009 and July 26, 2008 is summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Nine months ended	$	26,900		1.9	%	$	—		—	%	$	26,900		100.0	%

On December 18, 2008, we completed our acquisition of Foundry, a performance and total solutions provider of network switching and routing. In connection with this acquisition, we recorded a $26.9 million IPR&D charge (see Note 3, “Acquisitions,” of the Notes to Condensed Consolidated Financial Statements).

The IPR&D was written off because the acquired technologies had not reached technological feasibility and had no alternative uses. Technological feasibility is defined as being equivalent to completion of a beta-phase working prototype in which there is no remaining risk relating to the development. At the time of the acquisition in December 2008, Foundry was developing new products in multiple product areas that qualify as IPR&D. These efforts included FastIron SuperX Family, FastIron CX, NetIron CER, TurboIron and various other projects. At the time of the acquisition, it was estimated that these development efforts would be completed over the following three to seven months at an estimated total cost of $3.9 million.

The value assigned to the Foundry IPR&D was determined by estimating costs to develop the purchased IPR&D into commercially viable products, estimating the resulting net cash flows from the projects when completed, and discounting the net cash flows to their present values. The revenue estimates used in the net cash flow forecasts were based on estimates of relevant market sizes and growth factors, expected trends in technology, and the nature and expected timing of new product introductions by Foundry and its competitors.

The rate utilized to discount the net cash flows to their present values was based on Foundry’s weighted-average cost of capital. The weighted-average cost of capital was adjusted to reflect the difficulties and uncertainties in completing each project and thereby achieving technological feasibility, the percentage of completion of each project, anticipated market acceptance and penetration, market growth rates, and risks related to the impact of potential changes in future target markets. Based on these factors, a discount rate of 12.5% was deemed appropriate for valuing the IPR&D.

The estimates used in valuing IPR&D were based upon assumptions believed to be reasonable but which are inherently uncertain and unpredictable. Assumptions may be incomplete or inaccurate, and unanticipated events and circumstances may occur.

Goodwill and acquisition-related intangible assets impairment. We did not record any goodwill and acquisition-related intangible assets impairment for the three months ended August 1, 2009 and July 26, 2008. Goodwill and acquisition-related intangible assets impairment for the nine months ended August 1, 2009 and July 26, 2008 is summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Nine months ended	$	53,306		3.7	%	$	—		—	%	$	53,306		100.0	%

Consistent with prior years, we selected the second fiscal quarter as the period in which the annual goodwill impairment test was to be completed. We completed the first step of the goodwill impairment test and determined that the fair value of the Files business fell below its carrying value. During the second quarter of fiscal year 2009, we made a decision to no longer offer our suite of Files products. After the acquisition of Foundry, Files was combined with ADC to create the ADC operating segment. The integration of Files into the ADC operating segment was at a preliminary stage when the decision was made to cease development of the Files business. Accordingly, we assessed the potential impairment of the goodwill and long-lived assets relating to the Files business on a standalone basis.

As a result of the goodwill impairment analysis, we determined that all of the goodwill and acquisition-related intangible assets associated with the Files business were impaired. During the three months ended May 2, 2009, we recorded a $53.3 million impairment charge, which is comprised of a non-cash goodwill impairment charge of $45.8 million and a non-cash acquisition-related intangible assets impairment charge of $7.5 million (see Note 4, “Goodwill and Intangible Assets,” of the Notes to Condensed Consolidated Financial Statements).

The excess of the fair value of a reporting unit is determined in the same manner as the amount of goodwill recognized in a business combination, which is the excess of the fair value of the reporting unit, as determined in the first step, over the aggregate fair values of the individual assets, liabilities, and identifiable intangibles as if the business were being acquired in a business combination. If the implied fair value in the “pro forma” business combination accounting as described above exceeds the goodwill assigned to the reporting unit, then there is no impairment. If the goodwill assigned to a reporting unit exceeds the implied fair value of the goodwill, an impairment charge is recorded for the excess. An impairment loss recognized cannot exceed the amount of goodwill assigned to a

reporting unit, and the loss establishes a new basis in the goodwill. Subsequent reversal of goodwill impairment losses is not permitted under the applicable accounting standards.

Prior to fiscal year 2009, we used the income approach, which utilizes the DCF method, and the market approach for estimating the fair values of reporting units. As our market capitalization declined and as the technology sector volatility increased, we focused on methods that were more representative of a market participant’s view of fair value given the current market conditions. As a result, in fiscal year 2009, we relied primarily on the DCF method, using management projections for each reporting unit and risk-adjusted discount rates. The DCF method used at each period-end utilized discount rates that we believe adequately reflect the risk and uncertainty in the technology markets generally and specifically in our internally developed earnings projections.

Interest and other income (loss), net. Interest and other income (loss), net, are summarized as follows (in thousands, except percentages):


	August 1,			% of Net			July 26,		% of Net			Increase/			%
	2009			Revenues			2008		Revenues			(Decrease)			Change
Three months ended	$	809			0.2	%	$	8,872		2.4	%	$	(8,063	)		(90.9	)%
Nine months ended	$	(2,912	)		(0.2	)%	$	27,663		2.6	%	$	(30,575	)		(110.5	)%

For the three and nine months ended August 1, 2009 compared with the corresponding periods in fiscal year 2008, the decrease in interest and other income, net, was primarily related to a decrease in investment balances due to the Foundry acquisition. The decrease in interest and other income, net, for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 was also due to a $4.4 million increase in acquisition-related financing charges.

Interest expense. Interest expense primarily represents the interest cost associated with our term loan and convertible subordinated debt (see Note 9, “Borrowings,” of the Notes to Condensed Consolidated Financial Statements). Interest expense is summarized as follows (in thousands, except percentages):


	August 1,			% of Net			July 26,			% of Net			Increase/		%
	2009			Revenues			2008			Revenues			(Decrease)		Change
Three months ended	$	(22,845	)		(4.6	)%	$	(1,103	)		(0.3	)%	$	21,742		1,971.3	%
Nine months ended	$	(70,600	)		(4.9	)%	$	(4,384	)		(0.4	)%	$	66,216		1,510.3	%

Interest expense increased for the three months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 primarily as a result of $23.3 million in interest expense incurred on the term loan and the revolving credit facility which were obtained to finance the Foundry acquisition, partially offset by $2.3 million in capitalization of interest cost in connection with the development of our campus during the three months ended August 1, 2009.

Interest expense increased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008 primarily as a result of $70.9 million in interest expense incurred on the term loan and the revolving credit facility which were obtained to finance the Foundry acquisition, partially offset by $6.4 million in capitalization of interest cost in connection with the development of our campus during the nine months ended August 1, 2009.

We obtained the term loan during the fourth fiscal quarter of 2008. As of August 1, 2009, the carrying value of the outstanding balance of our term loan was $954.1 million. As of August 1, 2009 and July 26, 2008, the carrying value of the outstanding balance of our convertible subordinated debt assumed from the McDATA acquisition was $171.3 million and $169.1 million, respectively.

Loss on sale of investments, net. Loss on sale of investments, net, is summarized as follows (in thousands, except percentages):


	August 1,			% of Net			July 26,			% of Net			Increase/			%
	2009			Revenues			2008			Revenues			(Decrease)			Change
Three months ended	$	(52	)		—	%	$	(36	)		—	%	$	16			45.0	%
Nine months ended	$	(576	)		—	%	$	(6,985	)		(0.7	)%	$	(6,409	)		(91.8	)%

We had an immaterial loss on sale of investments for both the three months ended August 1, 2009 and July 26, 2008.

Loss on sale of investments, net, decreased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008. The $0.6 million in loss on sale of investments for the nine months ended August 1, 2009 was due to a loss of $0.6 million on the disposition of portfolio investments at amounts below the carrying value. The $7.0 million in loss on sale of

investments for the nine months ended July 26, 2008 was due to a loss of $6.0 million on the sale of our equity investment in a publicly traded company and a loss of $1.0 million on the disposition of portfolio investments at amounts below the carrying value.

The carrying value of our equity investments in non-publicly traded companies at August 1, 2009 and July 26, 2008 was $6.8 million and $5.4 million, respectively.

Provision for (benefit from) income taxes. Provision for (benefit from) income taxes and the effective tax rates are summarized as follows (in thousands, except effective tax rates):


	Three Months Ended						Nine Months Ended
	August 1,			July 26,			August 1,			July 26,
	2009			2008			2009			2008
Provision for (benefit from) income taxes	$	20,021		$	31,891		$	17,280		$	(136,709	)
Effective tax rate		(1,977.5	)%		61.1	%		(18.6	)%		2,619.1	%

Our effective tax rate increased for the three and nine months ended August 1, 2009 compared with the corresponding periods in fiscal year 2008 primarily due to the following:

•

Release of the valuation allowance during the three months ended April 26, 2008;

•

A change in the allocation of income between the U.S. and foreign operations; and

•

A change in judgment concerning the ongoing IRS examination for the three and nine months ended August 1, 2009.

We currently expect the effective tax rate for fiscal year 2009 to be higher than fiscal year 2008. This is a result of the valuation allowance release that created a large benefit in fiscal year 2008, while the Foundry buy-in prepayment created a large provision in fiscal year 2009. Factors such as the successful integration of Foundry’s international operations and associated structuring could affect the level of our foreign revenues and earnings. As estimates and judgments are used to project such international earnings, the impact to our tax provision could vary if the current planning or assumptions change. Given that the tax rate is driven by several different factors, it is not possible to estimate our future tax rate with a high degree of certainty.

To the extent that international revenues and earnings differ from those historically achieved, a factor largely influenced by the buying behavior of our OEM partners or by unfavorable prospective and retrospective effects of changing tax laws and regulations, our income tax provision could change.

Estimates and judgments are required in the calculation of certain tax liabilities and in the determination of the recoverability of certain deferred tax assets, which arise from variable stock option expense, net operating losses, tax carryforwards and temporary differences between the tax and financial statement recognition of revenues and expenses.

We adopted FIN 48 effective at the beginning of fiscal year 2008. FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of an income tax position taken or expected to be taken on a tax return. Under FIN 48, recognition of a tax position is determined when it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes. A tax position that meets the more-likely-than-not recognition threshold is measured at the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement with a taxing authority.

The calculation of tax liabilities involves significant judgment in estimating the impact of uncertainties in the application of complex tax laws. Although FIN 48 provides further clarification on the accounting for uncertainty in income taxes recognized in the financial statements, the threshold and measurement attribute prescribed by the pronouncement will continue to require significant judgment by management. Resolution of these uncertainties in a manner inconsistent with our expectations could have a material impact on our results of operations.

The IRS and other tax authorities regularly examine our income tax returns. For additional discussion, see Note 14, “Income Taxes,” of the Notes to Condensed Consolidated Financial Statements. We do not expect resolution of the IRS audit during the next twelve months and accordingly do not expect a material increase or decrease to our unrecognized tax benefits. We believe that our reserves for unrecognized tax benefits are adequate for open tax years.

Stock-based compensation expense. Stock-based compensation expense is summarized as follows (in thousands, except percentages):


	August 1,		% of Net			July 26,		% of Net			Increase/		%
	2009		Revenues			2008		Revenues			(Decrease)		Change
Three months ended	$	43,313		8.8	%	$	11,874		3.2	%	$	31,439		264.8	%
Nine months ended	$	101,505		7.1	%	$	31,522		3.0	%	$	69,983		222.0	%

The increase in stock-based compensation expense for the three and nine months ended August 1, 2009 compared with the corresponding periods in fiscal year 2008 was primarily due to increased headcount related to the acquisition of Foundry in December 2008, as well as the 2009 ESPP for which compensation expense is recognized using the graded vesting method over the twenty-four month offering period.

Stock-based compensation expense was included in the following line items on our Condensed Consolidated Statements of Operations as follows (in thousands):


	Three Months Ended		Three Months Ended		Nine Months Ended		Nine Months Ended
	August 1, 2009		July 26, 2008		August 1, 2009		July 26, 2008
Cost of revenues	$	8,459	$	2,638	$	18,593	$	7,501
Research and development		12,444		2,788		30,115		7,939
Sales and marketing		15,013		3,195		35,886		8,327
General and administrative		7,397		3,253		16,911		7,755

Total stock-based compensation	$	43,313	$	11,874	$	101,505	$	31,522

Liquidity and Capital Resources


	August 1,			October 25,			Increase/
	2009			2008			(Decrease)
				(in thousands)
Cash and cash equivalents	$	244,179		$	453,884		$	(209,705	)
Short-term investments		5,731			152,741			(147,010	)
Marketable equity securities		—			177,380			(177,380	)
Long-term investments		—			36,120			(36,120	)
Restricted cash		—			1,075,079			(1,075,079	)

Total	$	249,910		$	1,895,204		$	(1,645,294	)

Percentage of total assets		7	%		57	%

We use cash generated by operations as our primary source of liquidity. We expect that cash provided by operating activities may fluctuate in future periods as a result of a number of factors, including fluctuations in our operating results, the rate at which products are shipped during the quarter, accounts receivable collections, inventory and supply chain management, and the timing and amount of tax and other payments. For additional discussion, see “Part II — Other Information, Item 1A. Risk Factors.”

Based on past performance and current expectations, we believe that internally generated cash flows are generally sufficient to support business operations, capital expenditures, contractual obligations, and other liquidity requirements associated with our operations for at least the next twelve months. We expect to repay our convertible subordinated debt due on February 15, 2010 through cash from operations, by drawing on the revolving credit facility or through debt refinancing made available by various foreign and domestic financial institutions, although we cannot be certain whether such financing would be available on commercially reasonable or Company-favorable terms or such financing may not be available at all. In addition to access to capital markets, we could also monetize certain assets, including our real estate holdings, or slow down the development of our campus. There are no other transactions, arrangements, or other relationships with unconsolidated entities or other persons that are reasonably likely to materially affect our liquidity and the availability of and our requirements for capital resources.

Financial Condition

Cash and cash equivalents, short-term investments, marketable equity securities, long-term investments and restricted cash as of August 1, 2009 decreased by $1,645.3 million over the balance as of October 25, 2008. For the nine months ended August 1, 2009, we used $39.8 million in cash from operating activities, which was lower than our net loss for the same period as a result of adjustments

to net loss for non-cash items related to depreciation and amortization, stock-based compensation expense, asset impairment and IPR&D, as well as a decrease in inventory, partially offset by the $160.0 million payment of the liability associated with the settlement of the class action lawsuit, an increase in accounts receivable and a decrease in accounts payable and accrued employee compensation. Days sales outstanding in receivables for the nine months ended August 1, 2009 was 59 days, compared with 44 days for the nine months ended July 26, 2008.

Net cash used in investing activities for the nine months ended August 1, 2009 totaled $155.7 million and was primarily the result of $1,297.5 million in cash paid in connection with the Foundry acquisition and $118.3 million in purchases of property and equipment, offset by $1,075.1 million in restricted cash released to finance a portion of the Foundry acquisition and $185.1 million in proceeds resulting from maturities and sales of short-term and long-term investments.

Net cash used in financing activities for the nine months ended August 1, 2009 totaled $15.3 million and was primarily the result of payment of principal related to the term loan of $108.1 million and payment of senior underwriting fees related to the term loan of $30.5 million, offset by proceeds from the issuance of common stock from ESPP and stock option exercises of $110.3 million and proceeds from the revolving credit facility of $14.1 million.

Net proceeds from the issuance of common stock in connection with employee participation in our equity compensation plans have historically been a significant component of our liquidity. The extent to which our employees participate in these programs generally increases or decreases based upon changes in the market price of our common stock. As a result, our cash flow resulting from the issuance of common stock in connection with employee participation in equity compensation plans will vary.

Nine Months Ended August 1, 2009 Compared to the Nine Months Ended July 26, 2008

Operating Activities. Net cash provided by operating activities decreased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008. The decrease was primarily due to net loss, the $160.0 million payment of the liability associated with the settlement of the class action lawsuit, decreased accounts receivable collections and increased payments with respect to accounts payable, accrued employee compensation and other accrued liabilities during the nine months ended August 1, 2009, partially offset by a decrease in inventory purchases.

Investing Activities. Net cash used in investing activities increased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008. The increase was primarily due to cash paid in connection with the Foundry acquisition and decreased proceeds from the maturities and sales of investments and marketable equity securities. This increase was partially offset by a decrease in restricted cash which was released to finance a portion of the Foundry acquisition, as well as decreased purchases of property and equipment and short-term and long-term investments as we continue to prioritize our use of cash for debt repayment.

Financing Activities. Net cash used in financing activities decreased for the nine months ended August 1, 2009 compared with the corresponding period in fiscal year 2008. The decrease was primarily due to decreased common stock repurchases and increased proceeds from the issuance of common stock from ESPP and stock option exercises and proceeds from the revolving credit facility, partially offset by the payment of principal and senior underwriting fees related to the term loan.

Liquidity

Manufacturing and Purchase Commitments. We have manufacturing arrangements with Foxconn, Sanmina, Flextronics and Celestica (collectively, the “CMs”) under which we provide twelve-month product forecasts and place purchase orders in advance of the scheduled delivery of products to our customers. The required lead time for placing orders with the CMs depends on the specific product. As of August 1, 2009, our aggregate commitment for inventory components used in the manufacture of our products was $279.9 million, which components we expect to utilize during future normal ongoing operations, net of a purchase commitments reserve of $23.4 million, as reflected on the Condensed Consolidated Balance Sheet. Although the purchase orders we place with the CMs are cancelable, the terms of the agreements require us to purchase all inventory components not returnable, usable by, or sold to other customers of the CMs. Our purchase commitments reserve reflects our estimate of purchase commitments we do not expect to consume in normal operations within the next twelve months, in accordance with our policy.

Guarantee. On November 18, 2003, we purchased a previously leased building located near our San Jose headquarters and issued a $1.0 million guarantee as part of the purchase agreements.

Company Campus Contractual Obligations. On May 23, 2008, we purchased property located in San Jose, California, which consists of three unimproved building parcels that are entitled for approximately 562,000 square feet of space in three buildings. The total purchase price for the property was $50.9 million. In connection with the purchase, we also engaged a third party as development manager to manage the development and construction of improvements on the property. Our obligation for development and construction of three buildings and a parking garage on the purchased property is approximately $173.0 million (in addition to the purchase price for the property), payable in various installments through approximately June 2010. In connection with the purchase, we also obtained a four-year option, exercisable at our sole discretion, to purchase a fourth unimproved approximate four acre parcel for a fixed price of approximately $26.0 million. We plan to develop the land through June 2010 and finance the purchase and the development through operating cash flows.

Income Taxes. We accrue U.S. income taxes on the earnings of our foreign subsidiaries unless the earnings are considered indefinitely reinvested outside of the United States. We intend to reinvest current and accumulated earnings of our foreign subsidiaries for expansion of our business operations outside the United States for an indefinite period of time.

The IRS and other tax authorities regularly examine our income tax returns (see Note 14, “Income Taxes,” of the Notes to Condensed Consolidated Financial Statements). We believe we have adequate reserves for all open tax years.

Senior Secured Credit Facility.

General

On October 7, 2008, we entered into a credit agreement with the following lenders, Bank of America, N.A., Morgan Stanley Senior Funding, Inc., HSBC Bank USA National Association and Keybank National Association. The credit agreement provides for (i) a five-year $1,100.0 million term loan facility and (ii) a five-year $125.0 million revolving credit facility, which includes a $25.0 million swing line loan subfacility and a $25.0 million letter of credit subfacility.

The net proceeds of the term loan facility were used to finance a portion of our acquisition of Foundry. In addition to the term loan facility, during the nine months ended August 1, 2009, we drew $14.1 million from the $125.0 million revolving credit facility to finance a small portion of the merger. We may draw additional proceeds from the revolving credit facility in the future for ongoing working capital and other general corporate purposes. As of August 1, 2009, $14.1 million was outstanding under the revolving credit facility.

Loans under the Senior Secured Credit Facility bear interest, at our option, at a rate equal to either the LIBOR rate, plus an applicable margin equal to 4.0% per annum, or the prime lending rate, plus an applicable margin equal to 3.0% per annum. The applicable margin with respect to revolving loans is subject to adjustment based on our consolidated senior secured leverage ratio, as defined in the credit agreement. The LIBOR rate floor is 3.0% per annum and the prime lending rate floor is 4.0% per annum, in each case, for the life of the Senior Secured Credit Facility. For the nine months ended August 1, 2009, the weighted-average interest rate on the term loan was 7.0%.

We are permitted to make voluntary prepayments at any time (without payment of a premium, other than in the case of a repricing transaction in respect of the term loan facility), and are required to make mandatory prepayments on the term loan (without payment of a premium) with (i) net cash proceeds from non-ordinary course asset sales (subject to reinvestment rights and other exceptions), (ii) net cash proceeds from issuances of debt (other than certain permitted debt), (iii) a percentage of 50% or 0% of our excess cash flow, based on our consolidated senior secured leverage ratio, beginning with the fiscal year ending October 27, 2009, and (iv) casualty proceeds and condemnation awards (subject to reinvestment rights and other exceptions). We are required to pay quarterly installments on the term loan equal to an aggregate annual amount of 5% of the original principal amount thereof in the first and second year, 10% in the third year, 20% in the fourth year and 60% in the fifth year, with any remaining balance payable on the final maturity date of the term loan. Upon a repricing of the term loan (including through a refinancing) that results in the weighted-

average yield or applicable rate of such term loan immediately after such repricing to be lower than such yield or rate immediately prior to such repricing, a 2.0% premium is payable during the first year following the closing and a 1.0% premium is payable during the second year following the closing.

Debt fees totaling $28.5 million associated with the acquisition have been capitalized as deferred financing costs, with $5.9 million amortized as of August 1, 2009. As of August 1, 2009, the short-term portion of the deferred financing costs was $6.3 million and is reported within “Prepaid expenses and other current assets” on the Condensed Consolidated Balance Sheet. As of August 1, 2009, the long-term portion of the deferred financing costs was $16.3 million and is reported within “Other assets” on the Condensed Consolidated Balance Sheet. All debt fees capitalized are related to the term loan facility. The deferred financing costs are being amortized using the effective interest method over the five-year term of the debt.

Guarantees and Collateral

Covenants

The credit agreement contains customary representations and warranties and customary affirmative and negative covenants applicable to the Company and its subsidiaries, including, among other things, restrictions on liens, indebtedness, investments, fundamental changes, dispositions, capital expenditures, prepayment of other indebtedness, redemption or repurchase of subordinated indebtedness, dividends and other distributions. The credit agreement contains financial covenants that require us to maintain a minimum consolidated fixed charge coverage ratio, a maximum consolidated leverage ratio and a maximum consolidated senior secured leverage ratio, each as defined in the credit agreement. The credit agreement also includes customary events of default, including cross-defaults on our material indebtedness and change of control. We were in compliance with all applicable covenants as of August 1, 2009.

The majority of our outstanding debt is related to the financing of the Foundry acquisition, the costs and expenses related to the merger, and the ongoing working capital and other general corporate purposes of the combined organization after consummation of the merger. We have the following resources available to obtain short-term or long-term financing, if we need additional liquidity, as of August 1, 2009 (in thousands):


	Original Amount		August 1, 2009				October 25, 2008
	Available		Used		Available		Used		Available
Revolving credit facility	$	125,000	$	14,050	$	110,950	$	—	$	125,000

Total	$	125,000	$	14,050	$	110,950	$	—	$	125,000

Contractual Obligations

The following table summarizes our contractual obligations, including interest expense, and commitments as of August 1, 2009 (in thousands):


			Less than						More than
	Total		1 Year		1—3 Years		3—5 Years		5 Years
Contractual Obligations:
Term loan (1)	$	1,218,308	$	119,953	$	389,755	$	708,600	$	—
Convertible subordinated debt (1)		176,381		176,381		—		—		—
Revolving credit facility (1)		14,053		14,053		—		—		—
Non-cancelable operating leases (2)		103,708		41,232		26,050		17,070		19,356
Purchase commitments, gross (3)		279,889		279,889		—		—		—
Company campus capital expenditures (4)		69,713		69,713		—		—		—

Total contractual obligations	$	1,862,052	$	701,221	$	415,805	$	725,670	$	19,356


			Less than						More than
	Total		1 Year		1—3 Years		3—5 Years		5 Years
Other Commitments:
Standby letters of credit	$	2,001	$	n/a	$	n/a	$	n/a	$	n/a

Guarantee	$	1,015	$	n/a	$	n/a	$	n/a	$	n/a

Unrecognized tax benefits and related accrued interest (5)	$	171,273	$	n/a	$	n/a	$	n/a	$	n/a


(1)		Amount reflects total anticipated cash payments, including anticipated interest payments, but does not include any fair value adjustments or discount.

(2)		Amount excludes contractual sublease income of $31.9 million, which consists of $5.1 million to be received in less than 1 year, $7.8 million to be received in 1 to 3 years, $8.5 million to be received in 3 to 5 years and $10.5 million to be received in more than 5 years.

(3)		Amount reflects total gross purchase commitments under our manufacturing arrangements with third-party contract manufacturers. Of this amount, we have accrued $23.4 million for estimated purchase commitments that we do not expect to consume in normal operations within the next twelve months, in accordance with our policy.

(4)		Amount reflects $69.7 million in capital expenditures in connection with the development of the corporate campus. Including the costs incurred to date of $162.2 million, the total contractual obligation on the Company campus is approximately $231.9 million.

(5)		As of August 1, 2009, we had a liability for gross unrecognized tax benefits of $166.5 million and a net accrual for the payment of related interest and penalties of $4.8 million, none of which is expected to be paid within one year. We are unable to make a reasonably reliable estimate of when cash settlement with a taxing authority will occur.

Share Repurchase Program. As of November 29, 2007, our Board of Directors authorized a total of $800.0 million for the repurchase of our common stock. Purchases have been made, from time to time, in the open market or by privately negotiated transactions and have been funded from available working capital. The number of shares purchased and the timing of purchases have been based on the level of our cash balances, general business and market conditions, and other factors, including alternative investment opportunities. During the third fiscal quarter of 2008, we suspended our share repurchase program due to the then pending Foundry acquisition. We are prioritizing our use of cash for debt repayment following the close of the Foundry acquisition. As such, we made no share repurchases for the three months ended August 1, 2009. Approximately $414.1 million remains authorized for future repurchases under this program as of August 1, 2009.

Off-Balance Sheet Arrangements

As part of our ongoing business, we do not participate in transactions that generate material relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities (“SPEs”), which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As of August 1, 2009, we were not involved in any material unconsolidated SPEs.

Critical Accounting Policies and Estimates

Our discussion and analysis of financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these Condensed Consolidated Financial Statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We evaluate, on an ongoing basis, our estimates and judgments, including, but not limited to, those related to sales allowances, bad debts, stock-based compensation, warranty obligations, excess inventory and purchase commitments, restructuring costs, facilities lease losses, contingencies, litigation, income taxes and investments. We base our estimates on historical experience and assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates.

The methods, estimates and judgments we use in applying our most critical accounting policies have a significant impact on the results that we report in our Condensed Consolidated Financial Statements. The SEC considers an entity’s most critical accounting policies to be those policies that are both most important to the portrayal of a company’s financial condition and results of operations,

and those that require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about matters that are inherently uncertain at the time of estimation.

Our management believes that there have been no material changes to our critical accounting policies and estimates during the nine months ended August 1, 2009 as compared to those disclosed in our Annual Report on Form 10-K for the fiscal year ended October 25, 2008, with the exception of our accounting policy for fair value measurement as described in Note 2, “Summary of Significant Accounting Policies” and Note 7, “Fair Value Measurements,” and our accounting policy for revenue recognition as described below.

Revenue recognition and allowances for sales allowances, sales programs and doubtful accounts. Certain of our products are integrated with software that is essential to the functionality of the equipment. Additionally, we provide unspecified software upgrades and enhancements related to the equipment through our maintenance contracts for most of our products. Accordingly, we account for revenue from these products in accordance with SOP 97-2 and all related interpretations. For sales of products where software is incidental to the equipment, including certain products acquired from Foundry, we apply the provisions of SAB 104 and all related interpretations. Product revenue is generally recognized when all of the following criteria have been met:

•

Persuasive evidence of an arrangement exists;

•

Delivery has occurred;

•

The fee is fixed or determinable; and

•

Collectability is reasonably assured or collection is probable.

Products related to our acquisition of Foundry are generally accounted for under SAB 104. As we introduce products based on Foundry’s technology, which are determined to include software that is essential to the functionality of the equipment, then such new products will be accounted for using SOP 97-2 and all related interpretations.

For newly introduced SAN products, many of our large OEM customers require a product qualification period during which our products are tested and approved by the OEM customers for sale to their customers. Revenue recognition and related cost are deferred for shipments to new OEM customers and for shipments of newly introduced products to existing OEM customers until satisfactory evidence of completion of the product qualification has been received from the OEM customer. In addition, revenue from sales to our master reseller customers is recognized in the same period in which the product is actually sold by the master reseller (sell-through).

We reduce revenue for estimated sales allowances, sales programs, and other allowances at the time of shipment. Sales allowances, sales programs, and other allowances are estimated based on historical sales levels, the timing and magnitude of historical sales returns, claims under sales programs and other allowances, and a projection of this experience into the future. In addition, we maintain an allowance for doubtful accounts, which is also accounted for as a reduction in revenue, for estimated losses resulting from the inability of our customers to make required payments. We analyze accounts receivable, historical collection patterns, customer concentrations, customer creditworthiness, current economic trends, changes in customer payment terms and practices, and customer communication when evaluating the adequacy of the allowance for doubtful accounts. If actual sales returns, sales programs, and other allowances exceed our estimates, or if the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances and charges may be required.

Our multiple-element product offerings include computer hardware and software products and support services. We also sell certain software products and support services separately. For certain of our products, software is generally essential to the functionality of our hardware products and, therefore, are accounted for in accordance with SOP 97-2. We allocate revenue to each element in a multiple-element arrangement based upon vendor-specific objective evidence (“VSOE”) of the fair value of the element, or if VSOE is not available for the delivered element, by application of the residual method. In the application of the residual method, we allocate revenue to the undelivered elements based on VSOE of fair value for those elements and allocate the residual revenue to the delivered elements. VSOE of the fair value for an element is based upon the price charged when the element is sold separately. Revenue allocated to each element is then recognized when the basic revenue recognition criteria is met for each element. Changes in the inability to determine VSOE for an undelivered element in a multiple-element arrangement may affect the timing of revenue recognition. For sales of products that contain multiple elements and where software is incidental, we apply the provisions of EITF 00-21 to determine the separate units of accounting that exist within the arrangement. If more than one unit of accounting exists, the arrangement consideration is allocated to each unit of accounting using either the relative fair value method or the residual fair value

method as prescribed by EITF 00-21. Revenue is recognized for each unit of accounting when all the revenue recognition criteria has been met for that unit of accounting.

Service revenue consists of training and maintenance arrangements, including PCS, customer support services and other professional services. PCS services are offered under renewable, annual fee-based contracts or as part of multiple-element arrangements, and typically include telephone support and upgrades and enhancements to our operating system software. Revenue related to PCS elements is deferred and recognized ratably over the contractual period. PCS contracts are typically one to three years in length.

For those products not under SOP 97-2, customer support services are offered under renewable, fee-based contracts which provide customers with hardware repair and replacement parts, access to technical assistance, and unspecified software updates and upgrades on a when-and-if available basis. Revenue from customer support services contracts is deferred and recognized ratably over the contractual support period, in accordance with FTB 90-1. Customer support services contracts are typically one to five years in length.

Recent Accounting Pronouncements

In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141 (revised 2007), “Business Combinations,” which was subsequently amended in April 2009 by FSP FAS 141(R)-1, “Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies.” SFAS 141R requires the acquirer in a business combination to recognize assets and liabilities assumed at their fair values and to recognize acquisition-related costs separately from the acquisition. In circumstances where the acquisition-date fair value for a contingency cannot be determined during the measurement period and it is concluded that it is probable that an asset or liability exists as of the acquisition date and the amount can be reasonably estimated, a contingency is recognized as of the acquisition date based on the estimated amount. SFAS141R will be effective for us in fiscal year 2010, with early adoption prohibited. We expect the implementation of SFAS 141R will have an impact on our financial position and results of operations, but the nature and magnitude of the specific effects will depend upon the nature, terms and size of the acquisitions we consummate after the effective date of November 1, 2009.

In December 2007, the FASB issued Statement of Financial Accounting Standards No. 160, “Noncontrolling Interests in Consolidated Financial Statements — an amendment of ARB No. 51.” SFAS 160 will change the accounting and reporting for minority interests which will be recharacterized as noncontrolling interests and classified as a component of equity. SFAS 160 is effective for financial statements issued for fiscal years beginning on or after December 15, 2008, and interim periods within those fiscal years. SFAS 160 requires retroactive adoption of the presentation and disclosure requirements for existing minority interests. We are currently assessing the impact of SFAS 160, but do not expect the adoption to have a material impact on our financial position, results of operations, and cash flows.

In May 2008, the FASB issued FSP APB 14-1, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement).” FSP APB 14-1 requires issuers of convertible debt instruments that may be settled in cash upon conversion to account separately for the liability and equity components in a manner that will reflect the entity’s nonconvertible debt borrowing rate when interest cost is recognized in subsequent periods. FSP APB 14-1 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years, and will be adopted by us in the first quarter of fiscal year 2010 as it applies to our convertible subordinated debt. We are currently evaluating the impact that FSP APB 14-1 will have on the accounting for our convertible subordinated debt.

In June 2008, the FASB issued EITF Issue No. 07-5, “Determining Whether an Instrument (or Embedded Feature) Is Indexed to an Entity’s Own Stock.” EITF 07-5 provides guidance on determining whether an equity-linked financial instrument, or embedded feature, is indexed to an entity’s own stock. EITF 07-5 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years, and will be adopted by us in the first quarter of fiscal year 2010. We have not yet adopted EITF 07-5, but we are currently assessing the impact that EITF 07-5 may have on our financial position, results of operations, and cash flows.

In November 2008, the FASB ratified EITF Issue No. 08-7, “Accounting for Defensive Intangible Assets.” EITF 08-7 applies to defensive intangible assets, which are acquired intangible assets that the acquirer does not intend to actively use but intends to hold to

prevent its competitors from obtaining access to them. As these assets are separately identifiable, EITF 08-7 requires an acquiring entity to account for defensive intangible assets as a separate unit of accounting. Defensive intangible assets must be recognized at fair value in accordance with SFAS 141R and SFAS 157. EITF 08-7 is effective for defensive intangible assets acquired in fiscal years beginning on or after December 15, 2008, and will be adopted by us in the first quarter of fiscal year 2010. We expect EITF 08-7 will have an impact on our consolidated financial statements when effective, but the nature and magnitude of the specific effects will depend upon the nature, terms and size of the intangible assets purchased after the effective date of November 1, 2009.

In June 2009, the FASB issued Statement of Financial Accounting Standards No. 168, “The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles” (“SFAS 168”). SFAS 168 will become the source of authoritative U.S. GAAP recognized by the FASB to be applied by nongovernment entities. SFAS 168 also modifies the GAAP hierarchy to include only two levels of GAAP: authoritative and non-authoritative. SFAS 168 is effective for financial statements issued for interim and annual periods ending after September 15, 2009, and will be adopted by us in the fourth quarter of fiscal year 2009. We do not expect the adoption of SFAS 168 to have a significant impact on our financial position, results of operations, and cash flows.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

In the normal course of business, we are exposed to market risks related to changes in interest rates, foreign currency exchange rates and equity prices that could impact our financial position and results of operations. Our risk management strategy with respect to these three market risks may include the use of derivative financial instruments. We use derivative contracts only to manage existing underlying exposures of the Company. Accordingly, we do not use derivative contracts for speculative purposes. Our risks and risk management strategy are outlined below. Actual gains and losses in the future may differ materially from the sensitivity analyses presented below based on changes in the timing and amount of interest rates and our actual exposures and hedges.

Interest Rate Risk

Our exposure to market risk due to changes in the general level of United States interest rates relates primarily to our debt, cash equivalents and short-term and long-term investment portfolios.

We are exposed to changes in interest rates as a result of our borrowings under our term loan. As of August 1, 2009, the weighted-average interest rate on the term loan was 7.0%, which represents the minimum interest rate under the credit agreement. The current market rates are such that a 1% increase would still result in a 7.0% interest rate floor. However, based on outstanding indebtedness of $954.1 million under our term loan as of August 1, 2009, if market rates average 1% above the interest rate floor over the remaining term of the debt, our interest expense would increase by approximately $30.0 million.

Our convertible subordinated debt is subject to a fixed interest rate and may be converted into common stock based on a fixed conversion ratio. As of August 1, 2009, the approximate aggregate fair value of the outstanding convertible subordinated debt was between $165.6 million and $163.9 million. We estimated the fair value of the outstanding convertible subordinated debt as of August 1, 2009 by using the high and low prices per $100 of the Company’s 2.25% Notes as of the last day of trading for the third quarter of fiscal year 2009, which were $96.00 and $95.00, respectively.

Our cash, cash equivalents, and short-term and long-term investments are primarily maintained at five major financial institutions in the United States. The primary objective of our investment activities is the preservation of principal while maximizing investment income and minimizing risk.

The following table presents the hypothetical changes in fair values of our investments as of August 1, 2009 that are sensitive to changes in interest rates (in thousands):


	Valuation of Securities						Fair Value		Valuation of Securities
	Given an Interest Rate						As of		Given an Interest Rate
	Decrease of X Basis Points						August 1,		Increase of X Basis Points
Issuer	(150 BPS)		(100 BPS)		(50 BPS)		2009		50 BPS		100 BPS		150 BPS
Corporate bonds and notes	$	5,732	$	5,732	$	5,732	$	5,731	$	5,732	$	5,732	$	5,731

Total	$	5,732	$	5,732	$	5,732	$	5,731	$	5,732	$	5,732	$	5,731

These instruments are not leveraged and are classified as available-for-sale. The modeling technique used measures the change in fair values arising from selected potential changes in interest rates. Market changes reflect immediate hypothetical parallel shifts in the

yield curve of plus or minus 50 basis points (“BPS”), 100 BPS and 150 BPS, which are representative of the historical movements in the federal funds rate.

The following table (in thousands) presents our cash equivalents and short-term investments subject to interest rate risk and their related weighted-average interest rates as of August 1, 2009. Carrying value approximates fair value.


			Weighted-Average
	Amount		Interest Rate
Cash and cash equivalents	$	244,179		0.22	%
Short-term investments		5,731		2.67	%

Total	$	249,910		0.28	%

Foreign Currency Exchange Rate Risk

We are exposed to foreign currency exchange rate risk inherent in conducting business globally in numerous currencies, of which the most significant to our operations for the nine months ended August 1, 2009 were the Euro, the Japanese Yen, the British Pound and the Singapore Dollar. We are primarily exposed to foreign currency fluctuations related to operating expenses denominated in currencies other than the U.S. dollar. As such, we benefit from a stronger U.S. dollar and may be adversely affected by a weaker U.S. dollar relative to the foreign currency. We use foreign currency forward contracts designated as cash flow hedges to protect against the foreign currency exchange rate risks inherent in our forecasted operating expenses denominated in currencies other than the U.S. dollar. We recognize the gains and losses on foreign currency forward contracts in the same period as the remeasurement losses and gains of the related foreign currency denominated exposures. Alternatively, we may choose not to hedge the foreign currency risk associated with our foreign currency exposures if such exposure acts as a natural foreign currency hedge for other offsetting amounts denominated in the same currency or if the currency is difficult or too expensive to hedge.

As of August 1, 2009, we held $31.7 million in cash flow derivative instruments. The maximum length of time over which we are hedged as of August 1, 2009 is through May 7, 2010.

Equity Price Risk

As of August 1, 2009, we had no publicly traded equity securities. We monitor our equity investments for impairment on a periodic basis. In the event that the carrying value of the equity investment exceeds its fair value, and we determine the decline in value to be other-than-temporary, we reduce the carrying value to its current fair value. Generally, we do not attempt to reduce or eliminate our market exposure on these equity securities. We do not purchase our equity securities with the intent to use them for speculative purposes. The aggregate cost of our equity investments in non-publicly traded companies was $6.8 million at August 1, 2009.

Our common stock is quoted on the NASDAQ Global Select Market under the symbol “BRCD.” On July 31, 2009, the last business day of our third fiscal quarter of 2009, the last reported sale price of our common stock on the NASDAQ Global Select Market was $7.86 per share.

Item 4. Controls and Procedures

(a) Evaluation of Disclosure Controls and Procedures. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, as of the end of the period covered by this Quarterly Report on Form 10-Q (the “Evaluation Date”).

The purpose of this evaluation is to determine if, as of the Evaluation Date, our disclosure controls and procedures are operating effectively such that the information required to be disclosed in our SEC reports (i) is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and (ii) is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the Evaluation Date, our disclosure controls and procedures were operating effectively.

(b) Changes in Internal Control over Financial Reporting. There were no changes in our internal control over financial reporting that occurred during the quarter ended August 1, 2009 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Limitations on the Effectiveness of Disclosure Controls and Procedures.

Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and implemented, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues within a company are detected. The inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple errors or mistakes. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and may not be detected.

PART II — OTHER INFORMATION

Item 1. Legal Proceedings

The information set forth in Note 10 (see “Legal Proceedings” of Note 10) of the Notes to Condensed Consolidated Financial Statements in Part 1, Item 1 of this Form 10-Q is incorporated herein by reference.

Item 1A. Risk Factors

The slowdown in the domestic and global economies may increasingly adversely affect Brocade’s operating results and financial condition.

The domestic and global economies are undergoing a period of significant uncertainty and slowdown, which has resulted in reduced demand for information technology, including high-performance data networking solutions, and may continue to reduce demand further. Information technology spending has historically declined as general economic and market conditions have worsened. As the domestic or global economy continues to undergo a significant downturn, or if our customers believe such a downturn will continue for a sustained period, our customers may likely further reduce their information technology spending and future budgets. We are particularly susceptible to reductions in information technology spending because the purchase of our products is often discretionary and may involve a significant commitment of capital and other resources. Different geographic regions (e.g. North America, Western Europe, Asia Pacific region) may experience greater economic slowdown and/or a longer recovery period. Future delays or reductions in information technology spending, domestically and/or internationally, could harm our business, results of operations and financial condition in a number of ways, including longer sales cycles, increased inventory provisions, increased production costs, lowered prices for our products and reduced sales volumes. Similarly, as our suppliers face challenges in obtaining credit or otherwise in operating their businesses, they may become unable to continue to offer the materials we use to manufacture our products or may offer the materials at higher prices. These events have caused, and may cause further, reductions in our revenue, profitability and cash flows, increased price competition, increased operating costs and longer fulfillment cycles and exacerbate many other risks noted in this Form 10-Q, which adversely affect our business, results of operations and financial condition.

Given the current uncertainty about the extent and duration of the global financial slowdown, it is increasingly difficult for us, our customers and our suppliers to accurately forecast future product demand. The reduced visibility could cause us to produce excess products that would increase our inventory carrying costs and result in obsolete inventory. Alternatively, this forecasting difficulty could cause a shortage of products or materials used in our products that would result in our inability to satisfy demand for our products and a loss of market share.

The recent economic downturn has also significantly affected financing markets, the availability of capital and the terms and conditions of financing arrangements, including the overall cost of financing. Circumstances may arise in which Brocade needs, or desires, to raise additional capital. Such capital may not be available on commercially reasonable terms, or at all, which in turn could adversely affect Brocade’s financial condition and could increase shareholder dilution.

Intense competition in the market for networking solutions could prevent Brocade from maintaining or increasing revenue, profitability and cash flows with respect to its networking solutions.

The market for data and storage networking solutions is intensely competitive. In particular, Cisco maintains a dominant position in the data networking market and several of its products compete directly with Brocade’s products. Purchasers of networking solutions may choose Cisco’s products because of its longer operating history, broader product line and strong reputation in the networking market. In addition, Cisco may develop new technologies that directly compete with the combined company’s products or render its products obsolete.

Brocade also competes with other companies, such as 3Com Corporation, Alcatel-Lucent, Enterasys Networks, Inc., Extreme Networks, Inc., F5 Networks, Inc., Force10 Networks, Inc., Hewlett-Packard Company, Huawei Technologies Co. Ltd., Juniper Networks, Inc. (“Juniper”) and Nortel Networks Corporation. Some of Brocade’s current and potential competitors have greater market leverage, longer operating histories, greater financial, technical, sales, marketing and other resources, more name recognition and larger installed customer bases.

Brocade also faces significant competition from providers of Fibre Channel switching products for interconnecting servers and storage. These principal competitors include Cisco and QLogic Corporation. Brocade also faces other competitors in markets adjacent to the SAN market, such as QLogic and Emulex Corporation in the Server Connectivity or HBA market.

Particularly as Brocade enters new adjacent markets, Brocade may face competitors with well-established market share and customer relationships. Brocade’s competitors could adopt more aggressive pricing policies than Brocade. Brocade believes that competition based on price may become more aggressive than it has traditionally experienced. Brocade’s competitors could also devote greater resources to the development, promotion and sale of their products than Brocade may be able to support and, as a result, be able to respond more quickly to changes in customer or market requirements. Brocade’s failure to successfully compete in the market would harm Brocade’s business and financial results.

New competitors are likely to emerge from the existing Ethernet networking companies in the market as the Fibre Channel over Ethernet standard becomes finalized and is introduced to the market. These competitors are likely to use emerging technologies and alternate routes-to-market (outside of Brocade’s traditional OEM channels) to compete with Brocade. In addition, Brocade’s OEM partners, who also have relationships with some of Brocade’s current competitors, could become new competitors by developing and introducing products that compete with Brocade’s product offerings, by choosing to sell Brocade’s competitors’ products instead of Brocade’s products, or by offering preferred pricing or promotions on Brocade’s competitors’ products. For example, even though Brocade and International Business Machines Corporation (“IBM”) announced an agreement in April 2009 for IBM to sell certain Brocade enterprise IP networking products, Juniper and IBM announced a similar agreement in July 2009 with respect to certain of Juniper’s Ethernet switches and enterprise IP routers. Competitive pressure will also likely intensify as Brocade’s industry experiences further consolidation in connection with acquisitions by Brocade, its competitors and its OEM partners.

The prices of Brocade’s products have declined in the past and Brocade expects the price of Brocade’s products to continue to decline, which could reduce Brocade’s revenues, gross margins and profitability.

The average selling price for Brocade’s products has declined in the past, and Brocade expects it to continue to decline in the future as a result of changes in competitive pricing pressure, broader macroeconomic factors, product mix, increased sales discounts, new product introductions by Brocade or Brocade’s competitors, the entrance of new competitors and other factors. Price declines may also increase as competitors ramp up product releases that compete with Brocade’s products. Furthermore, as a result of cautious capital spending in the technology sector, coupled with broader macroeconomic factors, both we and our competitors may pursue more aggressive pricing strategies in an effort to maintain, or seek to increase, sales levels. If Brocade is unable to offset any negative impact that changes in competitive pricing pressures, broader macroeconomic factors, product mix, increased sales discounts, enhanced marketing programs, new product introductions by Brocade or Brocade’s competitors, or other factors may have on its average selling price by increasing the volume of products shipped or reducing product manufacturing cost, Brocade’s total revenues and gross margins will be negatively impacted.

In addition, to maintain Brocade’s gross margins, Brocade must maintain or increase the number of products shipped, develop and introduce new products and product enhancements, and continue to reduce the manufacturing cost of Brocade’s products. While Brocade has successfully reduced the cost of manufacturing Brocade’s products in the past, Brocade may not be able to continue to reduce cost of production at historical rates. Moreover, most of Brocade’s expenses are fixed in the short-term or incurred in advance of receipt of corresponding revenue. As a result, Brocade may not be able to decrease its spending quickly enough or in sufficient

amounts to offset any unexpected shortfall in revenues. If this occurs, Brocade could incur losses and Brocade’s operating results and gross margins could be below expectations. Additionally, Brocade’s gross margins may be negatively affected by fluctuations in manufacturing volumes, component costs, the mix of product configurations sold and the mix of distribution channels through which its products are sold. For example, on a historical basis, Brocade’s IP networking products generally realized higher gross margins on direct sales to an end-user than on sales through its resellers or to its OEMs. As a result, any significant shift in revenue through resellers or to OEMs could harm our gross margins. In addition, if product or related warranty costs associated with Brocade’s products are greater than we have experienced, Brocade’s gross margins may also be adversely affected. Finally, increased costs resulting from higher than anticipated oil prices and the volatility of the value of the U.S. dollar may affect the costs of components used in Brocade’s products and negatively affect Brocade’s gross margins.

Brocade’s future revenue growth depends on the Company’s ability to introduce new products and services on a timely basis and achieve market acceptance of these new products and services.

The market for networking solutions is characterized by rapidly changing technology, accelerating product introduction cycles, changes in customer requirements and evolving industry standards. Brocade’s future success depends largely upon its ability to address the rapidly changing needs of its customers by developing and supplying high-quality, cost-effective products, product enhancements and services on a timely basis and by keeping pace with technological developments and emerging industry standards. This risk will likely become more pronounced as the networking markets become more competitive and as demand for new and improved technologies increases.

Brocade has introduced a significant number of new products in recent history, including products across its family of Data Center Infrastructure solutions, which accounts for a substantial portion of Brocade’s revenues. Recent product introductions include the Brocade DCX™ Backbone, the first in a new class of high-performance data center networking products designed to address the demanding requirements of the evolving data center. Recent product introductions by Foundry include the FastIron WS compact edge switch, a solution for secure and unified campus-wide convergence, and the NetIron CES 2000 Series, a compact one-rack unit edge/aggregation switch. Brocade also announced its HBAs, product offerings in the Server Connectivity market, in fiscal year 2008. Market adoption of Brocade’s HBA product offerings is still early in the acceptance process and remains to be determined.

Developing new offerings requires significant upfront investments that may not result in revenue for an extended period of time, if at all. Brocade must achieve widespread market acceptance of Brocade’s new product and service offerings on a timely basis in order to realize the benefits of Brocade’s investments. In addition, Brocade’s plans to sell its offerings through new channels also requires market acceptance to be successful. For example, in April 2009 Brocade announced an expanded relationship with IBM whereby IBM will rebrand and sell a set of Brocade enterprise IP networking products through the IBM global sales force and authorized IBM business partners, extending the existing relationship between Brocade and IBM for storage area networking products. This expanded relationship also requires Brocade to make certain significant upfront investments, which costs may not be recovered or provide the desired return on investment if the anticipated benefits of the expanded relationship are not ultimately successful.

The success of Brocade’s product and service offerings depends on numerous factors, including its ability to:

•

Properly define the new products and services;

•

Timely develop and introduce the new products and services;

•

Differentiate Brocade’s new products and services from its competitors’ technology and product offerings;

•

Address the complexities of interoperability of Brocade’s products with its installed base, OEM partners’ server and storage products and its competitors’ products; and

•

Maintain high levels of product quality and reliability.

Various factors impacting market acceptance are outside of Brocade’s control, including the following:

•

The availability and price of competing products and alternative technologies;

•

The cost of certain product subcomponents, which could reduce Brocade’s gross margins;

	•		Product qualification requirements by Brocade’s OEM partners, which can cause delays in the market acceptance;

	•		The timing of the adoption of new industry standards relative to Brocade’s development of new technology and products;

	•		The ability of its OEM partners to successfully distribute, support and provide training for its products; and

	•		Customer acceptance of Brocade products in light of the Foundry acquisition.

If Brocade is not able to successfully develop and market new and enhanced products and services on a timely basis, its business and results of operations will likely be harmed.

Brocade incurred substantial indebtedness to finance the acquisition of Foundry that decreases Brocade’s business flexibility and access to capital, and increases its borrowing costs, which may adversely affect Brocade’s operations and financial results.

Upon completion of the acquisition of Foundry, Brocade increased its indebtedness by approximately $1.1 billion, which is substantially greater than its indebtedness prior to the acquisition. The financial and other covenants agreed to by Brocade in connection with such indebtedness and the increased indebtedness and higher debt-to-equity ratio of Brocade in comparison to that of Brocade on a recent historical basis will have the effect, among other things, of reducing Brocade’s flexibility to respond to changing business and economic conditions and increasing borrowing costs, and may adversely affect Brocade’s operations and financial results. The increased indebtedness may also adversely affect Brocade’s ability to access sources of capital, incur certain liens or engage in certain types of sale and leaseback transactions. Certain types of financing or other transactions may also require Brocade to seek an amendment or waiver under its Senior Secured Credit Facility. Any such amendment or waiver may require a demand payment to our debt holders or may not be available on commercially reasonable terms, if at all. In addition, our failure to comply with these covenants could result in a default under the Senior Secured Credit Facility and our other debt, which could permit the holders to accelerate such debt or demand payment in exchange for a waiver of such default. If any of our debt is accelerated, we may not have sufficient funds available to repay such debt. The current debt under the Senior Secured Credit Facility has a floating interest rate and an increase in interest rates may negatively impact Brocade’s financial results. The mandatory debt repayment schedule on the Senior Secured Credit Facility and the maturity of the existing convertible subordinated debt in fiscal year 2010 may negatively impact Brocade’s cash position and reduce Brocade’s financial flexibility. In addition, any changes by rating agencies to Brocade’s credit rating in connection with such indebtedness may negatively impact the value and liquidity of Brocade’s debt and equity securities and Brocade’s ability to access sources of capital.

Technological convergence and industry consolidation may adversely affect Brocade’s market opportunities and operating results.

Convergence and consolidation trends within the information technology industry are beginning to blur the silos that have historically existed between computing, networking and storage markets and technologies. These trends are shifting long-standing industry partnerships/alliances, go-to-market routes, technology models and represent risks for Brocade. For example, the ongoing development of new networking protocols known as Fibre Channel over Ethernet (“FCoE”) and Converged Enhanced Ethernet (“CEE”) are designed to merge storage and IP network traffic inside of data centers. Brocade recently introduced new products that support FCoE/CEE. Earlier and wider adoption of FCoE/CEE than is currently projected by Brocade and other industry experts, however, may negatively impact Brocade’s core businesses, namely its Fibre Channel-based hardware and software. Another example is Cisco’s recent announcement of its entry into the blade server market, which could impact how next-generation data centers and data center networks are architected.

The industry is also experiencing a significant amount of consolidation that poses various risks to Brocade. For example, Oracle has announced its acquisition of Sun Microsystems, which may threaten or eliminate a route-to-market through an OEM. In addition, our partners and competitors could also combine or enter into strategic partnerships. For example, in July 2009, Juniper and IBM entered into an agreement pursuant to which IBM would sell certain of Juniper’s Ethernet switches and enterprise IP routers. The above examples and additional industry consolidation may severely impact key existing Brocade partnerships and disrupt go-to-market routes and market opportunities.

The failure to accurately forecast demand for Brocade’s products or the failure to successfully manage the production of Brocade’s products could negatively affect the supply of key components for Brocade’s products and Brocade’s ability to manufacture and sell Brocade’s products.

Brocade provides product forecasts to its contract manufacturers and places purchase orders with them in advance of the scheduled delivery of products to Brocade’s customers. Moreover, in preparing sales and demand forecasts, Brocade relies largely on input from its OEM partners while Foundry historically relied on input from its resellers and end-user customers. Therefore, if Brocade or its OEM partners are unable to accurately forecast demand, or if Brocade fails to effectively communicate with its distribution partners about end-user demand or other time-sensitive information, the sales and demand forecasts may not reflect the most accurate, up-to-date information. If these forecasts are inaccurate, Brocade may be unable to obtain adequate manufacturing capacity from its contract manufacturers to meet customers’ delivery requirements or Brocade may accumulate excess inventories. Furthermore, Brocade may not be able to identify forecast discrepancies until late in its fiscal quarter. Consequently, Brocade may not be able to make adjustments to its business model. If Brocade is unable to obtain adequate manufacturing capacity from its contract manufacturers, if Brocade accumulates excess inventories, or if Brocade is unable to make necessary adjustments to Brocade’s business model, revenue may be delayed or even lost to Brocade’s competitors and Brocade’s business and financial results may be harmed. In addition, Brocade may experience higher fixed costs as it expands its contract manufacturer capabilities and thus be less able to react quickly if demand suddenly decreases.

Brocade’s ability to accurately forecast demand also may become increasingly more difficult as Brocade enters new or adjacent markets, begins phasing out certain products, or acquires other companies or businesses. Forecasting demand for new or adjacent markets, particularly where the markets are not yet well-established, may be highly speculative and uncertain. For products that are nearing end of life or are being replaced by new versions, it may be difficult to forecast how quickly to decrease production on the older products and ramp up production on the new products. Acquired companies or businesses may offer less visibility into demand than Brocade typically has experienced, may cause customer uncertainty regarding purchasing decisions, and may use different measures to evaluate demand that are less familiar to Brocade and thus more difficult to accurately predict.

In addition, although the purchase orders placed with Brocade’s contract manufacturers are cancelable, in certain circumstances Brocade could be required to purchase certain unused material not returnable, usable by, or sold to other customers if Brocade cancels any of Brocade’s orders. This purchase commitment exposure is particularly high in periods of new product introductions and product transitions. If Brocade is required to purchase unused material from Brocade’s contract manufacturers, Brocade would incur unanticipated expenses and Brocade’s business and financial results could be negatively affected.

In the past, Brocade’s IP networking products have experienced delays in product shipments from its contract manufacturers and OEMs, which in turn delayed product shipments to its customers. In addition, certain of Brocade’s IP networking product families require a long manufacturing lead time, which may result in delayed shipments. Brocade may in the future experience similar delays or other problems, such as inferior quality, insufficient quantity of product, or acquisition by a competitor or business failure of any of our OEMs, any of which could harm Brocade’s business and operating results.

Brocade may be subject to intellectual property infringement claims and litigation that are costly to defend and/or settle, and that could result in significant damage and cost awards against Brocade and limit Brocade’s ability to use certain technologies in the future.

Companies in the data and networking industries in which Brocade competes are frequently subject to claims and related litigation regarding patent and other intellectual property rights. As a result of the existence of a large number of patents and the rate of issuance of new patents in the networking industry, and the movement of engineers and other employees between various companies, it is practically impossible for a company to determine in advance whether a product or any of its components may infringe upon intellectual property rights that may be claimed by others. From time to time, third-parties have asserted patent, copyright and trade secret rights to technologies and standards that are important to us. Additionally, third-parties may in the future assert claims or initiate litigation against Brocade or its manufacturers, suppliers or customers alleging infringement of their intellectual property rights with respect to Brocade’s existing or future products, or with respect to components therein or customer use thereof. Brocade and Brocade’s IP networking products have in the past incurred, are currently incurring and will in the future incur, substantial expenses in defending against such third-party claims. Due to its acquisition of Foundry, Brocade is involved in additional intellectual property-related disputes, including lawsuits with Enterasys Networks, Inc., Network-1 Security Solutions, Inc., and Chrimar Systems, Inc. Brocade may also inherit intellectual property-related disputes from acquisitions of other companies, products or technologies in the future. In addition, Brocade may be subject to indemnification obligations with respect to infringement of third-party intellectual property rights pursuant to Brocade’s agreements, or Foundry or other acquired company agreements, with suppliers, OEM partners or customers. In the event of an adverse determination, Brocade could incur substantial monetary liability and be prohibited from shipping certain products or incorporating necessary components into Brocade’s products. Suppliers of components or OEM systems to Brocade may be unwilling to, or not be able to, defend or indemnify Brocade against third-party assertions directed at the components or systems they supply to Brocade, and may be unwilling to take licenses that would assure Brocade’s supply of such

components or OEM systems. Any of the above scenarios could have a material adverse effect on Brocade’s financial position, results of operations, or cash flows.

Litigation in general, and intellectual property and securities litigation in particular, can be expensive, lengthy and disruptive to normal business operations. Moreover, the results of complex legal proceedings are difficult to predict. Responding to the allegations has been, and will likely continue to be, expensive and time-consuming for Brocade. Unfavorable outcomes from these claims and/or lawsuits could adversely affect Brocade’s business, results of operations, or financial condition.

A number of companies have developed a licensing program in an attempt to realize revenue from their patent portfolios. Some of these companies have contacted Brocade or certain of Brocade’s subsidiaries regarding a license, and others may be expected to contact Brocade or its subsidiaries in the future. Any asserted license demand can require considerable effort and expense to review and respond. Moreover, a refusal by Brocade or its subsidiaries to a license request could result in threats of litigation or actual litigation, which, if or when initiated, could harm Brocade’s business.

Brocade relies on a combination of patent, copyright, trademark and trade secret laws and contractual restrictions on disclosure to protect our intellectual property rights in these proprietary technologies. Brocade attempts to identify its technological developments for assessment of whether to file patent applications, but this is a subjective area with many unknowns, such as the content of the prior art, hence there can be no assurance that all patentable technological developments will be captured in patent applications. Further, although Brocade has patent applications pending, there can be no assurance that patents will be issued from pending applications, or that claims allowed on any future patents will be sufficiently broad to protect our technology. The value, validity, and enforceability of intellectual property rights obtained from acquired companies, or purchased from third-parties, such as in the case of a patent or patent application purchase, are subject to many unknowns, and hence may not ultimately have the value originally anticipated.

Brocade is dependent on sole source and limited source suppliers for certain key components, the loss of which may significantly impact results of operations.

Brocade purchases certain key components used in the manufacture of its products from single or limited sources. Brocade purchases certain application-specific integrated circuits (“ASICs”) from a single source, and Brocade purchases microprocessors, certain connectors, small form-factor pluggable transceivers, logic chips, power supplies and programmable logic devices from limited sources. Our principal limited or sole-sourced components for our classic IP networking products include high-speed dynamic and static random access memories, commonly known as DRAMs and SRAMs, ASICs, printed circuit boards, optical components, packet processors, switching fabrics, microprocessors and power supplies. Proprietary ASICs used in the manufacture of our products are purchased from sole sources and may not be readily available from other suppliers as the development period required to fabricate these ASICs can be lengthy. In addition, more recent IP networking product families integrate customizable network processors from sole source suppliers such as Marvell Technology Group Ltd. We acquire these components through purchase orders and have no long-term commitments regarding supply or pricing from these suppliers. From time to time, Brocade’s IP networking product families had experienced shortages in allocations of components, resulting in delays in filling orders. Brocade may encounter shortages and delays in obtaining components in the future, which could impede Brocade’s ability to meet customer orders. Brocade’s proprietary ASICs, which provide key functionality in certain IP networking products, are fabricated in foundries operated by, or subcontracted by, Texas Instruments Inc., Fujitsu Ltd., and Broadcom Corporation. An alternative supply for these ASICs would require an extensive development period. Brocade also licenses certain third-party software that is incorporated into Brocade’s operating system software and other software products. If Brocade is unable to obtain these and other components when required or if Brocade experiences significant component defects, Brocade may not be able to deliver Brocade’s products to Brocade’s customers in a timely manner. As a result, Brocade’s business and financial results could be harmed. The recent global recession and challenging economic climate may cause some of our sole source or limited source suppliers to delay production or go out of business and could result in a disruption to our supply chain.

We depend on anticipated product orders to determine our material requirements. Lead times for limited-sourced materials and components for Brocade’s IP networking product families can be as long as six months, vary significantly and depend on factors such as the specific supplier, contract terms and demand for a component at a given time. Inventory management remains an area of focus as we balance the need to maintain strategic inventory levels to ensure competitive lead times with the risk of inventory obsolescence due to rapidly changing technology and customer requirements. If orders do not match forecasts, or if we do not manage inventory effectively, we may have either excess or insufficient inventory of materials and components, which could negatively affect our operating results and financial condition.

In addition, the loss of any of Brocade’s major third-party contract manufacturers could significantly impact Brocade’s ability to produce its products for an indefinite period of time. Qualifying a new contract manufacturer and commencing volume production is typically a lengthy and expensive process. If Brocade is required to change its contract manufacturer or if its contract manufacturer experiences delays, disruptions, capacity constraints, component parts shortages or quality control problems in its manufacturing operations, shipment of Brocade’s products to Brocade’s customers could be delayed and result in loss of revenues and Brocade’s competitive position and relationship with customers could be harmed.

The failure to successfully integrate Foundry’s business and operations in the expected time frame may adversely affect the combined company’s future results.

Brocade believes that the acquisition of Foundry will result in certain benefits, including broader addressable market opportunities, product innovations, and operational efficiencies. However, Brocade’s ability to realize these anticipated benefits depends on successfully combining the businesses of Brocade and Foundry. The combined company may fail to realize the anticipated benefits of the merger for a variety of reasons, including the following:

•

Failure of customers to accept new products or to continue as customers of the combined company;

•

Failure to successfully manage relationships with original equipment manufacturers, end-users, distributors and suppliers;

•

Failure to successfully streamline Brocade’s IP networking reseller channel;

•

Failure to retain key employees;

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Failure to effectively coordinate sales and marketing efforts to communicate the capabilities of the combined company;

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Failure to successfully develop new products and services on a timely basis that address the market opportunities of the combined company;

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Failure to compete effectively against companies already serving the broader market opportunities expected to be available to the combined company;

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Failure to qualify the combined company’s products with OEM customers on a timely basis, or at all;

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Failure to successfully consolidate its third-party contract manufacturing, streamline its supply chain, and reduce product costs while maintaining the ability to sell qualified SAN and IP Networking products to its combined customer base, including United States government customers;

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Failure to consolidate the combined company’s professional services and customer support organizations;

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Failure to successfully integrate and harmonize financial reporting and information technology systems of Brocade and Foundry; and

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The integration of Foundry into Brocade may result in significant expenses and accounting charges that adversely affect Brocade’s operating results and financial condition.

The challenges of integrating Foundry could disrupt the combined company’s ongoing business, distract its management’s focus from other opportunities and challenges, and increase the combined company’s expenses and working capital requirements. The actual integration may also result in unforeseen expenses or delays. If Brocade is not able to successfully integrate Foundry’s business and operations, or if there are delays or greater costs than expected in combining the businesses, the anticipated benefits of the merger may not be realized fully, or at all, or may take longer to realize than expected.

Brocade has a high concentration of customers, including a limited number of OEM partners, which it relies on for a substantial portion of its revenues. The loss of any of these customers or OEM partners or a decrease in their purchases could significantly reduce Brocade’s revenues and negatively affect Brocade’s financial results.

Brocade depends on recurring purchases from a limited number of large OEM partners for a substantial portion of its revenues. As a result, these large OEM partners have a significant influence on Brocade’s quarterly and annual financial results. For fiscal years 2008, 2007 and 2006, the same three customers each represented 10% or more of Brocade’s total net revenues for a combined total of 65%, 68% and 73%, respectively. Brocade’s agreements with its OEM partners are typically cancelable, non-exclusive, have no minimum purchase requirements and have no specific timing requirements for purchases. Brocade’s OEM partners could also elect to reduce, or rebalance, the amount they purchase from Brocade and increase the amount purchased from Brocade’s competitors. Also, one or more of Brocade’s OEM partners could elect to consolidate or enter into a strategic partnership with one of its competitors, which could have the effect of reducing or eliminating Brocade’s future revenue opportunities with that OEM partner. Brocade anticipates that its revenues and operating results will continue to depend on sales to a relatively small number of OEM partners. The loss of any one significant OEM partner, or a decrease in the level of sales to any one significant OEM partner, or unsuccessful quarterly negotiation on key terms, conditions or timing of purchase orders placed during a quarter, would likely cause serious harm to Brocade’s business and financial results.

Brocade’s OEM partners evaluate and qualify Brocade’s products for a limited time period before they begin to market and sell them. Assisting Brocade’s OEM partners through the evaluation process requires significant sales, marketing and engineering management efforts on Brocade’s part, particularly if Brocade’s products are being qualified with multiple distribution partners at the same time. In addition, once Brocade’s products have been qualified, its customer agreements have no minimum purchase commitments. Brocade may not be able to effectively maintain or expand its distribution channels, manage distribution relationships successfully, or market its products through distribution partners. Brocade must continually assess, anticipate and respond to the needs of its distribution partners and their customers, and ensure that its products integrate with their solutions. Brocade’s failure to successfully manage its distribution relationships or the failure of its distribution partners to sell Brocade’s products could reduce Brocade’s revenues significantly. In addition, Brocade’s ability to respond to the needs of its distribution partners in the future may depend on third-parties producing complementary products and applications for Brocade’s products. If Brocade fails to respond successfully to the needs of these groups, its business and financial results could be harmed.

The loss of continued orders from any of Brocade’s more significant customers, such as the U.S. government or individual agencies within the U.S. government, or companies within the financial services sector, could also cause our revenue and profitability to suffer. For example, if we are unable to offer qualified products to such government customers due to governmental procurement regulations and requirements with respect to country of origin designation, our government orders could decrease, which would negatively impact our revenue and operating results. In addition, our ability to attract new customers will depend on a variety of factors, including the cost-effectiveness, reliability, scalability, breadth and depth of our products. In addition, a change in the mix of our customers, or a change in the mix of direct and indirect sales, could adversely affect our revenue and gross margins.

Brocade’s failure to successfully manage the transition between its new products and its older products may adversely affect Brocade’s financial results.

As Brocade introduces new or enhanced products, Brocade must successfully manage the transition from older products to minimize disruption in customers’ ordering patterns, avoid excessive levels of older product inventories and provide sufficient supplies of new products to meet customer demands. When Brocade introduces new or enhanced products, such as new products based on the recently introduced 8 Gb Fibre Channel or 20 GbE technology, Brocade faces numerous risks relating to product transitions, including the inability to accurately forecast demand, address new or higher product cost structures, and manage different sales and support requirements due to the type or complexity of the new products. In addition, any customer uncertainty regarding the timeline for rolling out new products or Brocade’s plans for future support of existing products, may negatively impact customer purchase decisions.

Changes in industry structure and market conditions could lead to charges related to discontinuances of certain of Brocade’s products or businesses and asset impairments.

Brocade carries a substantial amount of acquired intangible assets and goodwill on its balance sheet. Our determination of fair value of long-lived assets relies on management’s assumptions of our future revenues, operating costs, and other relevant factors. In response to changes in industry and market conditions, Brocade may be required to realign its resources strategically and consider restructuring, disposing of, or otherwise exiting businesses. Any decision to limit investment in, or dispose of, or otherwise exit businesses may result in the recording of special charges, such as inventory and technology-related write-offs, workforce reduction costs, charges relating to consolidation of excess facilities, or claims from third-parties who were resellers or users of discontinued products. Similarly, if management’s estimates of future operating results change or if there are changes to other assumptions such as the discount rate applied to future cash flows, the estimate of the fair value of our reporting units could change significantly, which

could result in goodwill impairment charges. Brocade’s estimates with respect to the useful life or ultimate recoverability of Brocade’s carrying basis of assets, including purchased intangible assets, could change as a result of such assessments and decisions. For example, during the three months ended May 2, 2009, Brocade recorded a non-cash $53.3 million impairment charge in connection with the decision to no longer offer Brocade’s suite of Files products.

Brocade’s estimates relating to the liabilities for excess facilities are also affected by changes in real estate market conditions. In addition, we have made investments in certain private companies which could become impaired if the operating results of those companies change adversely. Brocade is required to perform goodwill impairment tests on an annual basis and between annual tests in certain circumstances, and future goodwill impairment tests may result in a charge to earnings.

Brocade has extensive international operations, which subjects it to additional business risks.

A significant portion of Brocade’s sales occur in international jurisdictions. In addition, Brocade’s contract manufacturer has significant operations in China. Brocade plans to continue to expand its international operations and sales activities in addition to the establishment of its new limited manufacturing facility in Eastern Europe. Brocade’s international sales of its IP networking products have primarily depended on its resellers, including Pan Dacom GmbH in Europe, Stark Technology Inc. in Taiwan and Samsung Corporation in Korea. The failure by international resellers to sell our products could limit our ability to sustain and grow our revenue. Expansion of international operations will involve inherent risks that Brocade may not be able to control, including:

•

Supporting multiple languages;

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Recruiting sales and technical support personnel with the skills to design, manufacture, sell and support Brocade’s products;

•

Complying with governmental regulation of encryption technology and regulation of imports and exports, including obtaining required import or export approval for our products;

•

Increased complexity and costs of managing international operations;

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Increased exposure to foreign currency exchange rate fluctuations;

•

Commercial laws and business practices that favor local competition;

•

Multiple, potentially conflicting, and changing governmental laws, regulations and practices, including differing export, import, tax, labor, anti-bribery and employment laws;

•

Longer sales cycles and manufacturing lead times;

•

Difficulties in collecting accounts receivable;

•

Reduced or limited protection of intellectual property rights;

•

Managing a development team in geographically disparate locations, including China and India;

•

More complicated logistics and distribution arrangements; and

•

Failure to manage expansion effectively could seriously harm Brocade’s business, financial condition and prospects.

In addition, international political instability may halt or hinder Brocade’s ability to do business and may increase Brocade’s costs. Various events, including the occurrence or threat of terrorist attacks, increased national security measures in the United States and other countries, and military action and armed conflicts, may suddenly increase international tensions. In addition, concerns about other international crises, including potential pandemics such as the H1N1 flu (swine flu) virus, may have an adverse effect on the world economy and could adversely affect Brocade’s business operations or the operations of Brocade’s OEM partners, contract manufacturers and suppliers.

To date, no material amount of Brocade’s international revenues and cost of revenues have been denominated in foreign currencies. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make Brocade’s products more

expensive and, thus, not competitively priced in foreign markets. Additionally, a decrease in the value of the U.S. dollar relative to foreign currencies could increase Brocade’s operating costs in foreign locations. In the future, a larger portion of Brocade’s international revenues may be denominated in foreign currencies, which will subject Brocade to additional risks associated with fluctuations in those foreign currencies. In addition, Brocade may be unable to successfully hedge against any such fluctuations.

Business interruptions could adversely affect Brocade’s business.

Brocade’s operations and the operations of its suppliers, contract manufacturers and customers are vulnerable to interruptions by fire, earthquake, hurricane, power loss, telecommunications failure and other events beyond Brocade’s control. For example, a substantial portion of Brocade’s facilities, including its corporate headquarters, is located near major earthquake faults. We do not have multiple site capacity for all of our services in the event of any such occurrence. In the event of a major earthquake, Brocade could experience business interruption, destruction of facilities and loss of life. Brocade does not carry earthquake insurance and has not set aside funds or reserves to cover such potential earthquake-related losses. Additionally, health issues such as an outbreak of a pandemic or epidemic, including the H1N1 flu (swine flu) virus, may interrupt business operations in those geographic regions affected by the disease. In addition, Brocade’s contract manufacturer has a major facility located in an area that is subject to hurricanes. In the event that a material business interruption occurs that affects Brocade, its suppliers, contract manufacturers or customers, shipments could be delayed and Brocade’s business and financial results could be harmed. Despite our implementation of network security measures, our servers may be vulnerable to computer viruses, break-ins, and similar disruptions from unauthorized tampering with our computer systems. We may not carry sufficient insurance to compensate us for losses that may occur as a result of any of these events.

Brocade’s business is subject to cyclical fluctuations and uneven sales patterns, which make predicting results of operations difficult.

Many of Brocade’s OEM partners experience uneven sales patterns in their businesses due to the cyclical nature of information technology spending. For example, some of Brocade’s partners close a disproportionate percentage of their sales transactions in the last month, weeks and days of each fiscal quarter, and other partners experience spikes in sales during the fourth calendar quarter of each year. Because the majority of Brocade’s sales are derived from a small number of OEM partners, when they experience seasonality, Brocade typically experiences similar seasonality. Historically, Brocade’s first and fourth fiscal quarters are seasonally stronger quarters than its second and third fiscal quarters. These OEM partners make decisions to purchase inventory based on a variety of factors, including their product qualification cycles and their expectations of end customer demand, which may be affected by seasonality and their internal supply management objectives. Others require that Brocade maintain inventories of Brocade’s products in hubs adjacent to their manufacturing facilities and purchase Brocade’s products only as necessary to fulfill immediate customer demand. In addition, Brocade has experienced quarters where uneven sales patterns of Brocade’s OEM partners have resulted in a significant portion of Brocade’s revenue occurring in the last month of Brocade’s fiscal quarter. Foundry typically experienced significantly higher levels of sales towards the end of a period as a result of customers submitting their orders late in the period or as a result of manufacturing issues or component shortages which may delay shipments. Such non-linearity in shipments can increase costs, as irregular shipment patterns result in periods of underutilized capacity and additional costs associated with higher inventory levels and inventory planning. Furthermore, orders received towards the end of the period may not ship within the period due to our manufacturing lead times. This exposes Brocade to additional inventory risk as it has to order products in anticipation of expected future orders and additional sales risk if Brocade is unable to fulfill unanticipated demand. Brocade is not able to predict the degree to which the seasonality and uneven sales patterns of Brocade’s OEM partners or other customers will affect Brocade’s business in the future, particularly as Brocade releases new products.

Undetected software or hardware errors could increase Brocade’s costs, reduce Brocade’s revenues and delay market acceptance of Brocade’s products.

Networking products frequently contain undetected software or hardware errors, or bugs, when first introduced or as new versions are released. Brocade’s products are becoming increasingly complex and, particularly as Brocade continues to expand Brocade’s product portfolio to include software-centric products, including software licensed from third-parties, errors may be found from time to time in Brocade’s products. In addition, through its acquisitions, Brocade has assumed, and may in the future assume, products previously developed by an acquired company that may not have been through the same product development, testing and quality control processes typically used for products developed internally by Brocade, and may have known or undetected errors. Some types of errors also may not be detected until the product is installed in a heavy production or user environment. In addition, Brocade’s products are often combined with other products, including software, from other vendors, and these products often need to interface with existing networks, each of which have different specifications and utilize multiple protocol standards and products from other

vendors. As a result, when problems occur, it may be difficult to identify the source of the problem. These problems may cause Brocade to incur significant warranty and repair costs, divert the attention of engineering personnel from product development efforts, and cause significant customer relations problems. Moreover, the occurrence of hardware and software errors, whether caused by another vendor’s storage or Ethernet network and data management products or Brocade’s, could delay market acceptance of Brocade’s new products.

Brocade may not realize the anticipated benefits in connection with its recent purchase of real estate and plans to develop and construct office buildings, which could disrupt its business and negatively impact its financial performance.

Brocade’s recent purchase of real estate in San Jose, California and its commitment to build a new campus of several buildings on that real estate constitute a substantial investment. Brocade may not realize the anticipated benefits with respect to the purchase and development of such property. Brocade is devoting significant capital resources to developing the campus, which will reduce Brocade’s liquidity and financial flexibility. Additionally, the development, construction and maintenance of the new campus may result in unexpected costs or delays, which could negatively impact its financial position. Moreover, any delays in the development or construction of the new campus could also suspend Brocade’s ability to move into the new campus on a timely basis and, as a result, disrupt Brocade’s business.

Brocade’s quarterly and annual revenues and operating results may fluctuate in future periods due to a number of factors, which could adversely affect the trading price of Brocade’s stock.

Brocade’s quarterly and annual revenues and operating results may vary significantly in the future due to a number of factors, any of which may cause Brocade’s stock price to fluctuate. Factors that may affect the predictability of Brocade’s annual and quarterly results include, but are not limited to, the following:

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Disruptions or a continued decline in general economic conditions, particularly in the information technology industry;

•

Announcements of pending or completed acquisitions or other strategic transactions by Brocade or its competitors;

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Announcements, introductions and transitions of new products by Brocade and its competitors or its OEM partners;

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The timing of customer orders, product qualifications and product introductions of Brocade’s OEM partners;

•

Seasonal fluctuations;

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Long and complex sales cycles;

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Declines in average selling prices for Brocade’s products as a result of competitive pricing pressures or new product introductions by Brocade or its competitors;

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The emergence of new competitors and new technologies in the storage network and data management markets;

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Deferrals of customer orders in anticipation of new products, services, or product enhancements introduced by Brocade or its competitors;

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Brocade’s ability to timely produce products that comply with new environmental restrictions or related requirements of its OEM customers;

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Brocade’s ability to obtain sufficient supplies of sole- or limited-sourced components, including ASICs, microprocessors, certain connectors, certain logic chips and programmable logic devices;

•

Increases in prices of components used in the manufacture of Brocade’s products;

•

Brocade’s ability to attain and maintain production volumes and quality levels;

•

Variations in the mix of Brocade’s products sold and the mix of distribution channels and geographies through which they are sold;

•

Pending or threatened litigation;

•

Stock-based compensation expense that is affected by Brocade’s stock price;

•

New legislation and regulatory developments; and

•

Other risk factors detailed in this section.

Accordingly, the results of any prior periods should not be relied upon as an indication of future performance. Brocade cannot assure you that in some future quarter Brocade’s revenues or operating results will not be below Brocade’s projections or the expectations of stock market analysts or investors, which could cause Brocade’s stock price to decline.

Brocade’s business is subject to increasingly complex corporate governance, public disclosure, accounting and tax requirements that could adversely affect Brocade’s business and financial results.

Brocade is subject to changing rules and regulations of federal and state government as well as the stock exchange on which Brocade’s common stock is listed. These entities, including the Public Company Accounting Oversight Board, the SEC, the IRS and NASDAQ, have issued a significant number of new and increasingly complex requirements and regulations over the course of the last several years and continue to develop additional regulations and requirements in response to laws enacted by Congress, most notably the Sarbanes-Oxley Act of 2002. In addition, the Department of Treasury, the SEC and various Congressional representatives have recently proposed additional rules and regulations that may go into effect in the near future. Brocade is also subject to various rules and regulations of certain foreign jurisdictions, including applicable tax regulations. Brocade’s efforts to comply with these requirements have resulted in, and are likely to continue to result in, increased expenses and a diversion of management time and attention from revenue-generating activities to compliance activities. A change in the tax law in the jurisdictions in which we do business, including an increase in tax rates or an adverse change in the treatment of an item of income or expense, could result in a material increase in our tax expense. For example, in May 5, 2009, the President of the United States and the U.S. Treasury Department proposed changing certain of the U.S. tax rules for U.S. corporations doing business outside the United States. Specific legislation has not yet been proposed or enacted, but it is possible that these or other changes in the U.S. tax laws could increase our U.S. income tax liability in the future.

Brocade is subject to periodic audits or other reviews by such governmental agencies. For example, in November 2005, Brocade was notified by the IRS that Brocade’s domestic federal income tax return for the year ended October 25, 2003 was subject to audit. In addition, in August 2008, the IRS commenced examination of the federal income tax returns for the three tax years ended 2004 through 2006. In May 2006, the Franchise Tax Board notified Brocade that its California income tax returns for the years ended October 25, 2003 and October 30, 2004 were subject to audit. In February 2009, the IRS commenced an examination of Foundry’s federal income tax returns for the years ended December 31, 2006 and 2007. All these examination cycles remain open as of August 1, 2009. The SEC also periodically reviews Brocade’s public company filings. Any such examination or review frequently requires management’s time and diversion of internal resources and, in the event of an unfavorable outcome, may result in additional liabilities or adjustments to Brocade’s historical financial results.

In May 2008, the IRS completed its field examination of Brocade’s federal income tax return for the year ended October 25, 2003 and issued a Revenue Agent’s Report. The IRS is contesting the Company’s transfer pricing for the cost sharing and buy-in arrangements with its foreign subsidiaries. The Company appealed the RAR to the Appeals Office of the IRS in June 2008 and the Company is currently negotiating a settlement. In July 2009, the IRS also completed its field examination of the Company’s federal income tax returns for the three tax years ended October 28, 2006 and issued an RAR. The IRS is contesting the transfer pricing of certain acquisitions with the Company’s foreign subsidiaries. The Company is considering appealing these adjustments. The IRS may make similar claims against the Company’s transfer pricing arrangements in future examinations. Audits by the IRS are subject to inherent uncertainties and an unfavorable outcome could occur, such as fines or penalties. The occurrence of an unfavorable outcome in any specific period could have a material adverse effect on Brocade’s results of operations for that period or future periods. The expense of defending and resolving such an audit may be significant. The amount of time to resolve an audit is unpredictable and defending Brocade may divert management’s attention from the day-to-day operations of Brocade’s business, which could adversely affect Brocade’s business.

Brocade may not realize the anticipated benefits of past or future acquisitions and strategic investments, and integration of acquired companies or technologies may negatively impact Brocade’s business.

Brocade has in the past acquired, or made strategic investments in, other companies, products or technologies, and Brocade expects to make additional acquisitions and strategic investments in the future. Examples of recent acquisitions include Foundry in December 2008, Strategic Business Systems, Inc. in March 2008, McDATA Corporation in January 2007 and NuView, Inc. in March 2006. In addition to the risks related to the acquisition of Foundry that are described above, Brocade may not realize the anticipated benefits of the acquisition of Foundry or any other acquisitions or strategic investments, which involve numerous risks, including:

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Difficulties in successfully integrating the acquired businesses;

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Revenue attrition in excess of anticipated levels if existing customers alter or reduce their historical buying patterns;

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Unanticipated costs, litigation and other contingent liabilities;

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Diversion of management’s attention from Brocade’s daily operations and business;

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Adverse effects on existing business relationships with suppliers and customers;

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Risks associated with entering into markets in which Brocade has limited or no prior experience;

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Potential loss of key employees;

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Inability to retain key customers, distributors, vendors and other business partners of the acquired business;

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Failure to successfully manage additional remote locations, including the additional infrastructure and resources necessary to support and integrate such locations;

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Assumption or incurrence of debt and contingent liabilities and related obligations to service such liabilities and Brocade’s ability to satisfy financial and other negative operating covenants;

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Additional costs such as increased costs of manufacturing and service costs, costs associated with excess or obsolete inventory, costs of employee redeployment, relocation and retention, including salary increases or bonuses, accelerated amortization of deferred equity compensation and severance payments, reorganization or closure of facilities, taxes, advisor and professional fees, and termination of contracts that provide redundant or conflicting services;

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Incurrence of significant exit charges if products acquired in business combinations are unsuccessful;

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Incurrence of acquisition-related costs or amortization costs for acquired intangible assets that could impact Brocade’s operating results;

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Potential write-down of goodwill and/or acquired intangible assets, which are subject to impairment testing on an annual basis, and could significantly impact Brocade’s operating results; and

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Dilution of the percentage of Brocade’s stockholders to the extent equity is used as consideration or option plans are assumed, such as in the case of the Foundry acquisition, in which approximately 125.1 million additional shares of Brocade common stock became issuable in connection with the assumption or substitution of Foundry equity awards.

If Brocade is not able to successfully integrate businesses, products, technologies or personnel that Brocade acquires, or to realize expected benefits of Brocade’s acquisitions or strategic investments, Brocade’s business and financial results would be adversely affected.

Brocade is subject to environmental regulations that could have a material adverse effect on Brocade’s business.

Brocade is subject to various environmental and other regulations governing product safety, materials usage, packaging and other environmental impacts in the various countries where Brocade’s products are sold. For example, many of Brocade’s products are subject to laws and regulations that restrict the use of lead, mercury, hexavalent chromium, cadmium and other substances, and require producers of electrical and electronic equipment to assume responsibility for collecting, treating, recycling and disposing of Brocade’s products when they have reached the end of their useful life. For example, in Europe, substance restrictions apply to products sold,

and certain of Brocade’s OEM partners require compliance with these or more stringent requirements. In addition, recycling, labeling, financing and related requirements apply to products Brocade sells in Europe. China has also enacted similar legislation with similar requirements for Brocade’s products or its OEM partners. Despite Brocade’s efforts to ensure that Brocade’s products comply with new and emerging requirements, Brocade cannot provide absolute assurance that its products will, in all cases, comply with such requirements. If Brocade’s products do not comply with the substance restrictions under local environmental laws, Brocade could become subject to fines, civil or criminal sanctions and contract damage claims. In addition, Brocade could be prohibited from shipping non-compliant products into one or more jurisdictions and required to recall and replace any non-compliant products already shipped, which would disrupt Brocade’s ability to ship products and result in reduced revenue, increased obsolete or excess inventories, and harm to Brocade’s business and customer relationships. Brocade’s suppliers may also fail to provide it with compliant materials, parts and components despite Brocade’s requirement to them to provide compliant materials, parts and components, which could impact Brocade’s ability to timely produce compliant products and, accordingly, could disrupt Brocade’s business.

Brocade relies on licenses from third-parties and the loss or inability to obtain any such license could harm Brocade’s business.

Many of Brocade’s products are designed to include software or other intellectual property licensed from third-parties. While it may be necessary in the future to seek or renew licenses relating to various aspects of Brocade’s products, Brocade believes that, based upon past experience and standard industry practice, such licenses generally could be obtained on commercially reasonable terms. Nonetheless, there can be no assurance that the necessary licenses would be available on acceptable terms, if at all. Brocade’s inability to obtain certain licenses or other rights on favorable terms could have a material adverse effect on Brocade’s business, operating results and financial condition. In addition, if Brocade fails to carefully manage the use of “open source” software in Brocade’s products, Brocade may be required to license key portions of Brocade’s products on a royalty-free basis or expose key parts of source code.

Certain former officers and directors of Brocade are subject to ongoing actions by the SEC, the Department of Justice (“DOJ”), Brocade and others, which have required, and may continue to require, a significant amount of legal expense pursuant to indemnification obligations of Brocade, which could adversely affect Brocade’s results of operations and cash flows.

The SEC, DOJ and various other third-parties are continuing to investigate and pursue actions against certain former executive officers of Brocade in connection with Brocade’s historical stock option granting practices and other related matters. In addition, in August 2008, the Special Litigation Committee of Brocade’s Board of Directors filed a complaint against certain former officers and directors on behalf of Brocade, asserting claims arising from Brocade’s 2005 internal reviews and restatements relating to historical stock option granting practices and other related matters. While those actions are targeted against certain former officers and directors and not Brocade, Brocade has certain indemnification obligations to such former officers and directors for, among other things, the advancement of legal expenses incurred in connection with such actions, which have required, and may continue to require, a significant amount of expense to Brocade. Whether Brocade may be entitled to recoup all or a portion of the expenses advanced by Brocade on behalf of such former officers and directors or recover any losses resulting from certain actions of such former officers and directors is complex and may be affected by, among other things, various state laws, the interpretation of indemnification agreements and the collectability of any such amounts.

If Brocade loses key personnel or is unable to hire additional qualified personnel, Brocade’s business may be harmed.

Brocade’s success depends, to a significant degree, upon the continued contributions of key management, engineering, sales and other personnel, many of whom would be difficult to replace. Brocade believes its future success will also depend, in large part, upon Brocade’s ability to attract and retain highly skilled managerial, engineering, sales and other personnel, and on the ability of management to operate effectively, both individually and as a group, in geographically disparate locations. There is only a limited number of qualified personnel in the applicable market and competition for such employees is fierce. In the past, Brocade has experienced difficulty in hiring qualified personnel in areas such as application-specific integrated circuits, software, system and test, sales, marketing, service, key management and customer support. Although Brocade’s stock price generally increased during the six months ended August 1, 2009, any future declines in Brocade’s stock price could result in additional “underwater” stock options held by our employees. If such a decline in Brocade’s stock price were to occur, any resulting underwater options could decrease Brocade’s ability to incentivize or retain qualified personnel. Brocade’s ability to retain qualified personnel may also be affected by future and recent acquisitions, which may cause uncertainty and loss of key personnel. The loss of the services of any of Brocade’s key employees, the inability to attract or retain qualified personnel in the future, or delays in hiring required personnel, particularly engineers and sales personnel, could delay the development and introduction of Brocade’s products or services, and negatively affect Brocade’s ability to sell its products or services.

In addition, companies in the computer storage, networking and server industries whose employees accept positions with competitors may claim that their competitors have engaged in unfair hiring practices or that there will be inappropriate disclosure of confidential or proprietary information. Brocade may be subject to such claims in the future as Brocade seeks to hire additional qualified personnel. Such claims could result in material litigation. As a result, Brocade could incur substantial costs in defending against these claims, regardless of their merits, and be subject to additional restrictions if any such litigation is resolved against Brocade.

Provisions in Brocade’s charter documents, customer agreements and Delaware law could prevent or delay a change in control of Brocade, which could hinder stockholders’ ability to receive a premium for Brocade’s stock.

Provisions of Brocade’s certificate of incorporation and bylaws may discourage, delay or prevent a merger or mergers that a stockholder may consider favorable. These provisions include:

	•		Authorizing the issuance of preferred stock without stockholder approval;

	•		Providing for a classified board of directors with staggered, three-year terms;

	•		Prohibiting cumulative voting in the election of directors;

	•		Limiting the persons who may call special meetings of stockholders;

	•		Prohibiting stockholder actions by written consent; and

	•		Requiring supermajority voting to effect amendments to the foregoing provisions of Brocade’s certificate of incorporation and bylaws.

Certain provisions of Delaware law also may discourage, delay or prevent someone from acquiring or merging with Brocade and Brocade’s agreements with certain of Brocade’s customers require that Brocade give prior notice of a change of control and grant certain manufacturing rights following a change of control. Brocade’s various anti-takeover provisions could prevent or delay a change in control of Brocade, which could hinder stockholders’ ability to receive a premium for Brocade’s stock.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

There were no unregistered sales of equity securities during the three months ended August 1, 2009.

Item 6. Exhibits

EXHIBIT INDEX


Exhibit
Number		Description of Document
3.1		Amended and Restated Certificate of Incorporation (incorporated by reference to Exhibit 3.1 from Brocade’s quarterly report on Form 10-Q for the quarter ended July 28, 2007)

3.2		Amended and Restated Bylaws of the Registrant effective as of February 10, 2009 (incorporated by reference to Exhibit 3.2 from Brocade’s Form 8-K filed on February 10, 2009)

3.3		Certificate of Designation of Rights, Preferences and Privileges of Series A Participating Preferred Stock of Brocade Communications Systems, Inc. (incorporated by reference to Exhibit 4.1 from Brocade’s Registration Statement on Form 8-A filed on February 11, 2002)

3.4		Certificate of Elimination of Series A Participating Preferred Stock of Brocade (incorporated by reference to Exhibit 3.1 from Brocade’s Form 8-K filed on February 16, 2007)

3.5		Certificates of Correction and Corrected Amended and Restated Certificate of Incorporation effective as of June 1, 2009 (incorporated by reference to Exhibit 3.5 from Brocade’s quarterly report on Form 10-Q for the quarter ended May 2, 2009)

4.1		Form of Registrant’s Common Stock certificate (incorporated by reference to Exhibit 4.1 from Brocade’s Registration Statement on Form S-1 (Reg. No. 333-74711), as amended)

4.2		First Supplemental Indenture dated as of January 29, 2007 by and among McDATA Corporation, Brocade, and Wells Fargo Bank, National Association, as successor in interest to Wells Fargo Bank Minnesota, National Association (incorporated by reference to Exhibit 4.2 from Brocade’s Form 10-Q for the quarter ended April 28, 2007)

4.3		Second Supplemental Indenture dated as of January 29, 2007 by and among McDATA Corporation, McDATA Services Corporation, a Minnesota corporation f/k/a Computer Network Technology Corporation, Brocade, and U.S. Bank National Association (incorporated by reference to Exhibit 4.3 from Brocade’s Form 10-Q for the quarter ended April 28, 2007)

4.4		Indenture dated February 7, 2003 by and among McDATA Corporation and Wells Fargo Bank Minnesota, National Association (incorporated by reference to Exhibit 4.4 from Brocade’s Form 10-Q for the quarter ended April 28, 2007)

4.5		Indenture dated February 20, 2002 by and among Computer Network Technology Corporation and U.S. Bank National Association (incorporated by reference to Exhibit 4.5 from Brocade’s Form 10-Q for the quarter ended April 28, 2007)

10.1/*		Amendment Number 15 dated May 11, 2009, with an effective date of February 1, 2009, to the Product Purchase Agreement between Hewlett-Packard Company and Brocade

10.2/*		Amendment Number 37 dated June 22, 2009, with an effective date of June 19, 2008 [sic], to Statement of Work Number 1 of the Goods Agreement between IBM and Brocade

10.3/*		Amendment Number 14 dated June 10, 2009 to Statement of Work Number 3 of the Goods Agreement between IBM and Brocade

10.4/*		Amendment Number 15 dated June 23, 2009 to Statement of Work Number 3 of the Goods Agreement between IBM and Brocade

10.5/*		Amendment Number 3 dated June 8, 2009, with an effective date of June 5, 2009, to Statement of Work Number 7 of the Goods Agreement between IBM and Brocade

31.1*		Rule 13a-14(a)/15d-14(a) Certification by the Chief Executive Officer


	Page
PART I — FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Statements of Operations for the Three and Nine Months Ended August 1, 2009 and July 26, 2008		4
Condensed Consolidated Balance Sheets as of August 1, 2009 and October 25, 2008		5
Condensed Consolidated Statements of Cash Flows for the Nine Months Ended August 1, 2009 and July 26, 2008		6
Notes to Condensed Consolidated Financial Statements		7
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		33
Item 3. Quantitative and Qualitative Disclosures About Market Risk		50
Item 4. Controls and Procedures		51
PART II — OTHER INFORMATION
Item 1. Legal Proceedings		52
Item 1A. Risk Factors		52
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		66
Item 6. Exhibits		67
SIGNATURES		69
EX-10.1
EX-10.2
EX-10.3
EX-10.4
EX-10.5
EX-31.1
EX-31.2
EX-32.1


*		Filed herewith.

**		Confidential treatment requested as to certain portions, which portions were omitted and filed separately with the Securities and Exchange Commission.


	Brocade Communications Systems, Inc.
Date: August 31, 2009	By:	/s/ Richard Deranleau
		Richard Deranleau
		Chief Financial Officer