e10vq

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)


þ		Quarterly report under section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended March 31, 2007


o		Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act for the transition period from to

Commission file number 0-25678

MRV COMMUNICATIONS, INC.

(Exact name of registrant as specified in its charter)


Delaware		06-1340090
(State or other jurisdiction		(I.R.S. Employer
incorporation or organization)		identification No.)

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

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

Indicate by check mark, whether the issuer (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act of 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 is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o Accelerated filer þ Non-accelerated filer o

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o No þ

As of April 15, 2007, there were 125,974,909 shares of common stock, $.0017 par value per share, outstanding.

PART I — FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

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

In the opinion of MRV, these unaudited statements contain all adjustments (consisting of normal recurring adjustments) necessary to present fairly the financial position of MRV Communications, Inc. as of March 31, 2007, and the results of its operations and its cash flows for the three months then ended.

The results reported in these condensed financial statements should not be regarded as necessarily indicative of results that may be expected for any subsequent period or for the entire year.

MRV Communications, Inc.

Condensed Balance Sheets

(In thousands, except par values)


	March 31,			December 31,
At:	2007			2006
	(Unaudited)
Assets
Current assets:
Cash and cash equivalents	$	85,269		$	91,722
Short-term marketable securities		26,393			25,864
Time deposits		5,064			821
Accounts receivable, net		84,956			95,244
Inventories		65,215			61,361
Deferred income taxes		895			895
Other current assets		15,712			13,607

Total current assets		283,504			289,514
Property and equipment, net		14,721			14,172
Goodwill		36,159			36,348
Deferred income taxes		1,460			1,460
Other assets		4,699			4,728

	$	340,543		$	346,222


Liabilities and stockholders’ equity
Current liabilities:
Short-term obligations	$	21,565		$	26,289
Accounts payable		50,317			47,384
Accrued liabilities		24,355			29,704
Deferred revenue		7,721			7,624
Other current liabilities		7,772			5,926

Total current liabilities		111,730			116,927
Convertible notes		23,000			23,000
Other long-term liabilities		7,409			7,295
Minority interest		5,260			5,248
Commitments and contingencies

Stockholders’ equity:
Preferred stock, $0.01 par value:
Authorized — 1,000 shares; no shares issued or outstanding		—			—
Common stock, $0.0017 par value:
Authorized — 160,000 shares
Issued — 127,325 shares in 2007 and 126,860 shares in 2006
Outstanding — 125,972 shares in 2007 and 125,507 shares in 2006		214			213
Additional paid-in capital		1,233,710			1,231,941
Accumulated deficit		(1,039,140	)		(1,036,924	)
Treasury stock — 1,353 shares in 2007 and 2006		(1,352	)		(1,352	)
Accumulated other comprehensive loss		(288	)		(126	)

Total stockholders’ equity		193,144			193,752

	$	340,543		$	346,222

The accompanying notes are an integral part of these condensed balance sheets.

MRV Communications, Inc.

Statements of Cash Flows

(In thousands)


For the three months ended March 31:	2007			2006
	(Unaudited)
Cash flows from operating activities:
Net loss	$	(2,216	)	$	(3,681	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation, amortization and other noncash items		865			1,374
Share-based compensation expense		824			739
Provision for doubtful accounts		106			101
Gain on disposition of property and equipment		(11	)		(45	)
Minority interests’ share of income		13			21
Changes in operating assets and liabilities:
Time deposits		(4,251	)		420
Accounts receivable		10,630			4,499
Inventories		(3,912	)		(12,243	)
Other assets		(2,024	)		1,541
Accounts payable		2,755			2,452
Accrued liabilities		(5,378	)		(452	)
Deferred revenue		57			128
Other current liabilities		1,799			287

Net cash used in operating activities		(743	)		(4,859	)

Cash flows from investing activities:
Purchases of property and equipment		(1,674	)		(1,355	)
Proceeds from sale of property and equipment		48			58
Purchases of investments		(4,000	)		—
Proceeds from sale or maturity of investments		3,500			—

Net cash used in investing activities		(2,126	)		(1,297	)

Cash flows from financing activities:
Net proceeds from issuance of common stock		946			71,138
Borrowings on short-term obligations		33,757			38,091
Payments on short-term obligations		(38,678	)		(40,645	)
Borrowings on long-term obligations		148			—
Payments on long-term obligations		(72	)		(77	)
Other long-term liabilities		4			194

Net cash provided by (used in) financing activities		(3,895	)		68,701

Effect of exchange rate changes on cash and cash equivalents		311			251

Net increase (decrease) in cash and cash equivalents		(6,453	)		62,796

Cash and cash equivalents, beginning of period		91,722			67,984

Cash and cash equivalents, end of period	$	85,269		$	130,780

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

MRV Communications, Inc.

Notes To Financial Statements

March 31, 2007

1. Earnings (Loss) Per Share and Stockholders’ Equity

Earnings (Loss) Per Share

Basic earnings (loss) per share is computed using the weighted average number of common shares outstanding during the period. Diluted earnings (loss) per share is computed using the weighted average number of common shares and dilutive potential common shares outstanding during the period. Dilutive potential common shares primarily consist of employee stock options and warrants and the shares associated with MRV’s outstanding 5% Convertible Notes issued in June 2003 (“2003 Notes”).

Statements of Financial Accounting Standards (“SFAS”) No. 128, “Earnings per Share,” requires that employee equity share options, nonvested shares and similar equity instruments granted by the Company be treated as potential common shares outstanding in computing diluted earnings per share. Diluted shares outstanding include the dilutive effect of in-the-money options, which is calculated based on the average share price for each period using the treasury stock method. Under the treasury stock method, the amount the employee must pay for exercising stock options, the amount of compensation cost for future service that the Company has not yet recognized, and the amount of tax benefits that would be realized and recorded in additional paid-in capital if the deduction for the award would reduce taxes payable are assumed to be used to repurchase shares.

Outstanding stock options and warrants to purchase 11.0 million shares and 10.4 million shares as of March 31, 2007 and 2006, respectively, were not included in the computation of diluted loss per share because such stock options and warrants were considered anti-dilutive. Shares associated with the 2003 Notes were not included in the computation of diluted loss per share as they were anti-dilutive.

Stockholders’ Equity

In March 2006, MRV completed a private placement of approximately 19.9 million shares of its common stock at $3.75 per share for gross proceeds of approximately $74.5 million with a group of institutional investors. The net proceeds to MRV were approximately $69.9 million. MRV intends to use the net proceeds for working capital, general corporate purposes and in its efforts to support its recent growth in revenues. MRV may also use a portion of the net proceeds, currently intended for general corporate purposes, to acquire or invest in technologies, products or services that complement its business.

2. Share-Based Compensation

MRV records share-based compensation expense in accordance with the provisions of SFAS No. 123 (Revised 2004), “Share-Based Payment” (“SFAS No. 123(R)”), which requires the measurement and recognition of compensation expense for all share-based payment awards made to MRV’s employees and directors including employee stock option awards based on estimated fair values, which are measured at the grant date and recognized over the requisite service period. The impact on MRV’s results of operations of recording share-based compensation under SFAS No. 123(R) for the three month periods ended March 31, 2007 and 2006 was as follows (in thousands):


	Three Months Ended
	Mar. 31,		Mar. 31,
	2007		2006

Cost of goods sold	$	85	$	72
Product development and engineering		190		205
Selling, general and administrative		549		462

Total share-based compensation expense ⁽¹⁾	$	824	$	739


(1)		No income tax benefits relating to share-based compensation were recognized for the periods presented.

As of March 31, 2007, the total unrecorded deferred share-based compensation balance for unvested shares, net of expected forfeitures, was $5.3 million which is expected to be amortized over a weighted-average period of 2.3 years. There were no significant capitalized share-based compensation costs at March 31, 2007 and 2006.

3. Segment Reporting and Geographical Information

MRV divides and operates its business based on three segments: the networking group, the optical components group and the development stage enterprise group. The networking group designs, manufactures and distributes optical networking solutions and Internet infrastructure products. The optical components group designs, manufactures and distributes optical components and optical subsystems. The development stage enterprise group develops optical components, subsystems and networks and products for the infrastructure of the Internet. Segment information is therefore being provided on this basis.

The accounting policies of the segments are the same as those described in the Summary of Significant Accounting Policies in MRV’s most recent Form 10-K. MRV evaluates segment performance based on revenues and operating expenses of each segment. As such, there are no separately identifiable segment assets nor are there any separately identifiable Statement of Operations data below operating income.

Business segment revenues were as follows (in thousands):


	Three Months Ended
	Mar. 31,			Mar. 31,
	2007			2006

Networking group	$	67,944		$	57,717
Optical components group		22,918			20,398
Development stage enterprise group		—			—

		90,862			78,115
Intersegment adjustment		(1,183	)		(853	)

Total	$	89,679		$	77,262

Revenues by groups of similar products were as follows (in thousands):


	Three Months Ended
	Mar. 31,		Mar. 31,
	2007		2006

Network equipment	$	24,586	$	20,866
Network integration		43,358		36,851
Fiber optic components		21,735		19,545

Total	$	89,679	$	77,262

Network equipment revenue primarily consists of MRV’s internally developed products, such as Metro Ethernet equipment, optical transport equipment, out-of-band network equipment, defense and aerospace network applications, the related service revenue and fiber optic components sold as part of the system solution. Network integration revenue primarily consists of value-added integration and support service revenue, related third-party product sales (including third-party product sales through distribution) and fiber optic components sold as part of the system solution. Fiber optic components revenue primarily consists of fiber optic components, such as components for FTTP applications, fiber optic transceivers, discrete lasers and LEDs, that are not sold as part of MRV’s network equipment or network integration solutions.

For the three months ended March 31, 2007, the optical components group revenue includes $2.9 million of revenue that was previously deferred from sales of products to one customer in periods prior to those periods presented herein. MRV evaluated the conditions that resulted in the deferral of such revenue, and for the three months ended March 31, 2007, MRV determined that such conditions lapsed. Consequently, MRV recognized such revenue for the three months ended March 31, 2007. This amount is additionally classified as fiber optic components in the revenue by groups of similar products table above and Americas revenue in the revenue by geographical region table below.

For the three months ended March 31, 2007, MRV had no single customer that accounted for 10% or more of revenues. For the three months ended March 31, 2006, MRV had one customer, Tellabs, Inc., which, among other projects, supplies Verizon for its FiOS FTTP project, which accounted for 12% of revenues. As of March 31, 2007 and December 31, 2006, MRV had no single customer that accounted for 10% or more of accounts receivable. MRV does not track customer revenue by region for each individual reporting segment.

Revenues by geographical region were as follows (in thousands):


	Three Months Ended
	Mar. 31,		Mar. 31,
	2007		2006

Americas	$	27,101	$	25,266
Europe		55,392		49,013
Asia Pacific		7,123		2,930
Other regions		63		53

Total	$	89,679	$	77,262

Long-lived assets, consisting of net property and equipment, by geographical region were as follows (in thousands):


	Mar. 31,		Dec. 31,
At:	2007		2006

Americas	$	3,625	$	3,595
Europe		7,798		7,277
Asia Pacific		3,298		3,300

Total	$	14,721	$	14,172

Business segment operating income (loss) was as follows (in thousands):


	Three Months Ended
	Mar. 31,			Mar. 31,
	2007			2006

Networking group	$	(2,662	)	$	(1,116	)
Optical components group		1,338			(326	)
Development stage enterprise group		(376	)		(307	)

		(1,700	)		(1,749	)
Intersegment adjustment		(29	)		(160	)

Total	$	(1,729	)	$	(1,909	)

Income (loss) before provision for income taxes was as follows (in thousands):


	Three Months Ended
	Mar. 31,			Mar. 31,
	2007			2006

Domestic	$	(1,923	)	$	(5,521	)
Foreign		577			3,172

Total	$	(1,346	)	$	(2,349	)

4. Cash and Cash Equivalents, Time Deposits and Marketable Securities

Cash, Cash Equivalents and Time Deposits

MRV considers all highly liquid investments with an original maturity of 90 days or less to be cash equivalents. Investments with maturities of less than one year are considered short-term. Time deposits represent investments, which are restricted as to withdrawal or use based on maturity terms. Furthermore, MRV maintains cash balances and investments in what management believes are highly qualified financial institutions. At various times such amounts are in excess of federally insured limits.

Marketable Securities

MRV accounts for its marketable securities, which are available for sale, under the provisions of SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” The original cost of MRV’s marketable securities approximated fair market value as of March 31, 2007 and December 31, 2006. Marketable securities mature at various dates through 2008.

Marketable securities consisted of the following (in thousands):


	Mar. 31,		Dec. 31,
At:	2007		2006

U.S. government issues	$	8,144	$	8,131
State and local government issues		1,500		1,500
Corporate issues		15,260		14,751
Foreign government issues		1,489		1,482

Total	$	26,393	$	25,864

5. Inventories

Inventories are stated at the lower of cost or market and consist of materials, labor and overhead. Cost is determined by the first-in, first-out method. Inventories consisted of the following (in thousands):


	Mar. 31,		Dec. 31,
At:	2007		2006

Raw materials	$	12,369	$	10,848
Work-in process		16,888		17,811
Finished goods		35,958		32,702

Total	$	65,215	$	61,361

6. Goodwill and Other Intangibles

MRV adopted SFAS No. 142, “Goodwill and Other Intangible Assets,” effective January 1, 2002. In accordance with SFAS No. 142, goodwill and intangible assets with indefinite lives are no longer amortized, but instead are measured for impairment at least annually, or when events indicate that impairment exists. Intangible assets that are determined to have definite lives continue to be amortized over their useful lives.

The following table summarizes the changes in carrying value of goodwill during the periods presented (in thousands):


	Three Months Ended
	Mar. 31,			Mar. 31,
	2007			2006⁽¹⁾

Beginning balance	$	36,348		$	33,656
Foreign currency translation		(189	)		364

Total	$	36,159		$	34,020


(1)		Reclassified to conform with 2007 presentation.

7. Pending Acquisition

On January 26, 2007, MRV and its newly-formed, wholly-owned subsidiaries, Lighthouse Transition Corporation and Lighthouse Acquisition Corporation (“LAC”), entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Fiberxon, Inc., a privately-held Delaware corporation (“Fiberxon”), under which MRV agreed to acquire Fiberxon for approximately $131 million, comprised of (i) approximately $17 million in cash, (ii) approximately 21 million shares of registrant’s common stock, including shares of MRV’s common stock underlying the assumption of Fiberxon outstanding stock options, which will be on a basis that will preserve the intrinsic value of such options and otherwise be on the same terms as the Fiberxon options being assumed, and (iii) an obligation to pay an additional amount of approximately $31.5 million in cash or shares of registrant’s common stock, or a combination thereof, if Luminent, Inc., a Delaware corporation (“Luminent”), another of MRV’s wholly-owned subsidiaries, does not complete an initial public offering (an “IPO”) of its common stock within 18 months of the closing of the Fiberxon acquisition, or sooner upon the occurrence of certain acceleration events. The latter component of the purchase consideration may amount to more or less than $31.5 million if Luminent successfully completes an IPO within 18 months of the closing of the Fiberxon acquisition in that, in such event and in lieu of $31.5 million, MRV has agreed to pay an amount equal to 9.0% of the product obtained by multiplying (x) the price per share to the public in the Luminent IPO, less the discount provided to the underwriters, by (y) the total number of shares of Luminent Common Stock outstanding immediately prior to the effectiveness of the agreement between Luminent and the underwriters of the Luminent IPO. The closing of the Fiberxon acquisition is subject to the satisfaction of various conditions precedent, including completion of an audit of Fiberxon’s financial statements for the three years ending December 31, 2006, and obtaining necessary governmental and third-party approvals, including a determination of fairness of the transaction by the California Commissioner of Corporations, and consents in the U.S. and China as well as other customary closing conditions.

As a result of obligations MRV has agreed to undertake in connection with its acquisition of Fiberxon, MRV obtained waivers from the holder of its 2003 Notes of various covenants, including the covenant restricting MRV’s ability to incur any indebtedness in excess of $17.0 million plus obligations arising from accounts receivable financing transactions with recourse through MRV’s foreign offices, in the ordinary course of business and consistent with past practices. If this acquisition closes, through mergers of Fiberxon with MRV’s wholly-owned subsidiaries (the “Mergers”), LAC will succeed to Fiberxon’s name, business, properties and assets and will assume its obligations and will remain a wholly-owned subsidiary of MRV. MRV has announced its intention to contribute the capital stock of Fiberxon to Luminent or otherwise combine Fiberxon’s business following the closing of the acquisition.

8. Restructuring Costs

During the second quarter of 2001, Luminent’s management approved and implemented a restructuring plan in order to adjust operations and administration as a result of the dramatic slowdown in the communications equipment industry generally and the optical components sector in particular. Major actions primarily involved the reduction of workforce totaling $1.3 million, the abandonment of certain assets, including closed and abandoned facilities, amounting to $12.8 million and the cancellation and termination of purchase commitments totaling $6.2 million. MRV has a remaining obligation totaling $107,000 for its fulfillment of a lease obligation on an abandoned facility that it expects to pay from cash on-hand through August 2007.

9. Product Warranty and Indemnification

Financial Accounting Standards Board (“FASB”) Interpretation No. 45 (“FIN 45”), “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others” requires that upon issuance of a guarantee, the guarantor must disclose and recognize a liability for the fair value of the obligation it assumes under that guarantee.

The requirements of FIN 45 are applicable to MRV’s product warranty liability. As of March 31, 2007 and 2006, MRV’s product warranty liability recorded in accrued liabilities was $2.2 million. The following table summarizes the activity related to the product warranty liability during the periods presented (in thousands):


	Three Months Ended
	Mar. 31,			Mar. 31,
	2007			2006

Beginning balance	$	2,291		$	2,328
Cost of warranty claims		(336	)		(115	)
Accruals for product warranties		253			(55	)

Total	$	2,208		$	2,158

MRV accrues for warranty costs as part of its cost of goods sold based on associated material product costs, technical support labor costs and associated overhead. The products sold are generally covered by a warranty for periods of one to two years.

In the normal course of business to facilitate sales of its products, MRV indemnifies other parties, including customers, lessors and parties to other transactions with MRV, with respect to certain matters. MRV has agreed to hold the other party harmless against losses arising from a breach of representation or covenants, or out of intellectual property infringement or other claims made against certain parties. These agreements may limit the time within which an indemnification claim can be made and the amount of the claim. In addition, MRV has entered into indemnification agreements with its officers and directors, and MRV’s bylaws contain similar indemnification obligations to MRV’s agents.

MRV cannot estimate the amount of potential future payments, if any, that it might be required to make as a result of these agreements. Over at least the last decade, MRV has not incurred any significant expense as a result of agreements of this type. Accordingly, MRV has not accrued any amounts for such indemnification obligations. However, there can be no assurances that MRV will not incur expense under these indemnification provisions in the future.

10. Income Taxes

The Company adopted FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes — an Interpretation of FASB Statement No. 109” on January 1, 2007. FIN 48 clarifies the accounting and reporting for uncertainties in income tax law. This Interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns.

There was no effect of adopting FIN 48 on net deferred income tax assets, liabilities or the balance of accumulated deficit. Upon adoption, there was no liability for income taxes associated with uncertain tax positions at January 1, 2007.

The Company will include interest and penalties related to income tax liabilities with income tax provision. There was no accrued interest or penalties relating to income tax liabilities as of January 1, 2007.

With limited exception, the Company is no longer subject to U.S. federal audits by taxing authorities for years through 2003 and certain state, local and foreign income tax audits through 2001 to 2003. The Company does not anticipate a significant change to the total amount of unrecognized tax benefits within the next 12 months.

11. Comprehensive Loss

The components of comprehensive loss were as follows (in thousands):


	Three Months Ended
	Mar. 31,			Mar. 31,
	2007			2006

Net loss	$	(2,216	)	$	(3,681	)
Unrealized loss from available-for-sale securities		(1	)		—
Foreign currency translation		(161	)		1,199

Total	$	(2,378	)	$	(2,482	)

12. Derivative Financial Instruments

The Company, through certain foreign offices, has entered into interest rate swap contracts. All derivatives are straight-forward and are held for purposes other than trading. The fair values of the derivatives are recorded in other current or non-current assets or liabilities in the accompanying balance sheet. No hedging relationship is designated for these derivatives held and they are marked to market through earnings. The fair value of these derivative instruments is based on quoted market prices. Cash flows from financial instruments are recognized in the statement of cash flows in a manner consistent with the underlying transactions.

Interest Rate Swaps. A foreign office of the Company manages its debt portfolio by utilizing interest rate swaps to achieve an overall desired position of fixed and floating rates. As of March 31, 2007 the Company had one interest rate swap contract maturing in 2008. The Company also had a second interest rate swap contract that matured in March 2007. Unrealized income (losses) on these interest rate swaps for the three months ended March 31, 2007 and 2006 were $22,000 and $(84,000), respectively, which have been recorded in interest expense. The fair value and the carrying value of these interest rate swaps were $677,000 and $804,000 at March 31, 2007 and December 31, 2006, respectively, and were recorded in other long-term liabilities.

13. Supplemental Statement of Cash Flow Information (in thousands)


For the three months ended March 31:	2007		2006

Cash paid during the period for interest	$	986	$	1,293
Cash paid during the period for taxes	$	1,787	$	848

14. Recently Issued Accounting Pronouncements

In July 2006, the FASB issued FIN 48, which clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with SFAS No. 109, “Accounting for Income Taxes” and prescribes a recognition threshold and measurement attribute for financial statement disclosure of income tax positions taken or expected to be taken on an income tax return. Additionally, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006, with early adoption permitted. MRV adopted this interpretation on January 1, 2007. See Note 10, “Income Taxes” above for a discussion of its effect on MRV’s financial condition, its results of operations or liquidity.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements,” which defines fair value, establishes a framework for consistently measuring fair value under GAAP, and expands disclosures about fair value measurements. SFAS No. 157 is effective for the Company beginning January 1, 2008, and the provisions of SFAS No. 157 will be applied prospectively as of that date. MRV is currently evaluating whether the adoption of this statement will have a material effect on its financial condition, its results of operations or liquidity.

On February 15, 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities – Including an Amendment of FASB Statement No. 115.” This standard permits an entity to choose to measure many financial instruments and certain other items at fair value. Most of the provisions in SFAS No. 159 are elective; however, the amendment to SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” applies to all entities with available-for-sale and trading securities. The fair value option established by SFAS No. 159 permits all entities to choose to measure eligible items at fair value at specified election dates. A business entity will report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. The fair value option: (a) may be applied instrument by instrument, with a few exceptions, such as investments otherwise accounted for by the equity method; (b) is irrevocable (unless a new election date occurs); and (c) is applied only to entire instruments and not to portions of instruments. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. Early adoption is permitted as of the beginning of the previous fiscal year provided that the entity makes that choice in the first 120 days of that fiscal year and also elects to apply the provisions of SFAS No. 157, “Fair Value Measurements”. MRV is currently evaluating whether the adoption of this statement will have a material effect on its financial condition, its results of operations or liquidity.

15. Reclassifications

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

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

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the Consolidated Condensed Financial Statements and Notes thereto included elsewhere in this Report. In addition to historical information, the discussion in this Report contains certain forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated by these forward-looking statements as a consequence of factors, including but not limited to, those set forth in the following and elsewhere in this Report. We assume no obligation to update any of the forward-looking statements after the date of this Report.

Overview

We design, manufacture, sell, distribute, integrate and support communication equipment and services, and optical components. We conduct our business along three principal segments: the networking group, the optical components group and the development stage enterprise group. Our networking group provides equipment used by commercial customers, governments and telecommunications service providers, and includes switches, routers, physical layer products and console management products as well as specialized networking products for aerospace, defense and other applications including voice and cellular communication. Our optical components group designs, manufactures and sells optical communications components, primarily through our wholly-owned subsidiary Luminent, Inc. These components include fiber optic transceivers for metropolitan, access and Fiber-to-the-Premises, or FTTP, applications. Our development stage enterprise group seeks to develop new optical components, subsystems and networks and other products for the infrastructure of the Internet.

We market and sell our products worldwide, through a variety of channels, which include a dedicated direct sales force, manufacturers’ representatives, value-added-resellers, distributors and systems integrators. We have operations in Europe that provide network system design, integration and distribution services that include products manufactured by third-party vendors, as well as our products. We believe such specialization enhances access to customers and allows us to penetrate targeted vertical and regional markets.

We generally recognize product revenue, net of sales discounts and allowances, when persuasive evidence of an arrangement exists, delivery has occurred and all significant contractual obligations have been satisfied, the fee is fixed or determinable and collection is considered probable. Products are generally shipped “FOB shipping point” with no right of return, except on rare occasions in which our accounting is as described below. Sales of services and system support are deferred and recognized ratably over the contract period. Sales with contingencies, such as right of return, rotation rights, conditional acceptance provisions and price protection are rare and have historically been insignificant. We do not recognize such sales until the contingencies have been satisfied or the contingent period has lapsed. We generally warrant our products against defects in materials and workmanship for one to two year periods. The estimated costs of warranty obligations and sales returns and other allowances are recognized at the time of revenue recognition based on contract terms and prior claims experience. Gross profit is equal to our revenues less our cost of goods sold. Our cost of goods sold includes materials, direct labor and overhead. Cost of inventory is determined by the first-in, first-out method. Our operating costs and expenses generally consist of product development and engineering costs, or R&D, selling, general and administrative costs, or SG&A, and other operating related costs and expenses.

We evaluate segment performance based on the revenues and the operating expenses of each segment. We do not track segment data or evaluate segment performance on additional financial information. As such, there are no separately identifiable segment assets nor are there any separately identifiable Statements of Operations data below operating income (loss). The networking and optical components groups account for virtually all of our overall revenue.

Our business involves reliance on foreign-based offices. Several of our divisions, outside subcontractors and suppliers are located in foreign countries, including Argentina, China, Denmark, Finland, France, Germany, Israel, Italy, Japan, Korea, the Netherlands, Norway, Russia, Singapore, South Africa, Switzerland, Sweden, Taiwan and the United Kingdom. For the three months ended March 31, 2007 and 2006, foreign revenues constituted 70% and 67%, respectively, of our revenues. The vast majority of our foreign sales are to customers located in the European region. The remaining foreign sales are primarily to customers in the Asia Pacific region.

Critical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these 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 believe that the estimates, assumptions and judgments involved in the accounting policies described below have the greatest potential impact on our financial statements, so we consider these to be our critical accounting policies. Because of the uncertainty inherent in these matters, actual results could differ from the estimates we use in applying the critical accounting policies. Certain of these critical accounting policies affect working capital account balances, including the policies for revenue recognition, allowance for doubtful accounts, inventory reserves and income taxes. These policies require that we make estimates in the preparation of our financial statements as of a given date. However, since our business cycle is relatively short, actual results related to these estimates are generally known within the six-month period following the financial statement date. Thus, these policies generally affect only the timing of reported amounts across two to three quarters.

Within the context of these critical accounting policies, we are not currently aware of any reasonably likely events or circumstances that would result in materially different amounts being reported.

Revenue Recognition. We generally recognize product revenue, net of sales discounts and allowances, when persuasive evidence of an arrangement exists, delivery has occurred and all significant contractual obligations have been satisfied, the fee is fixed or determinable and collection is considered probable. Products are generally shipped “FOB shipping point” with no right of return. Sales of services and system support are deferred and recognized ratably over the contract period. Sales with contingencies, such as right of return, rotation rights, conditional acceptance provisions and price protection are rare and insignificant and are deferred until the contingencies have been satisfied or the contingent period has lapsed. We generally warrant our products against defects in materials and workmanship for one to two year periods. The estimated costs of warranty obligations and sales returns and other allowances are recognized at the time of revenue recognition based on contract terms and prior claims experience. Our major revenue-generating products consist of fiber optic components, switches and routers, console management products, and physical layer products.

Allowance for Doubtful Accounts. We make ongoing estimates relating to the collectability of our accounts receivable and maintain a reserve for estimated losses resulting from the inability of our customers to meet their financial obligations to us. In determining the amount of the reserve, we consider our historical level of credit losses and make judgments about the creditworthiness of significant customers based on ongoing credit evaluations. Since we cannot predict future changes in the financial stability of our customers, actual future losses from uncollectible accounts may differ from our estimates. If the financial condition of our customers were to deteriorate, resulting in their inability to make payments, a larger reserve may be required. In the event we determined that a smaller or larger reserve was appropriate, we would record a credit or a charge to selling, general and administrative expense in the period in which we made such a determination.

Inventory Reserves. We also make ongoing estimates relating to the market value of inventories, based upon our assumptions about future demand and market conditions. If we estimate that the net realizable value of our inventory is less than the cost of the inventory recorded on our books, we record a reserve equal to the difference between the cost of the inventory and the estimated net realizable market value. This reserve is recorded as a charge to cost of goods sold. If changes in market conditions result in reductions in the estimated market value of our inventory below our previous estimate, we would increase our reserve in the period in which we made such a determination and record a charge to cost of goods sold.

Goodwill and Other Intangibles. In accordance with Statements of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets,” we do not amortize goodwill and intangible assets with indefinite lives, but instead measure these assets for impairment at least annually, or when events indicate that impairment exists. We amortize intangible assets that have definite lives over their useful lives.

Income Taxes. As part of the process of preparing our financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves us estimating our actual current income tax exposure together with assessing temporary differences resulting from differing treatment of items, such as deferred revenue, for income tax and accounting purposes. These differences result in deferred income tax assets and liabilities, which are included in our Balance Sheets. We must then assess the likelihood that our deferred income tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, we must establish a valuation allowance. To the extent we establish a valuation allowance or increase this allowance in a period, we must include an expense within the income tax provision in the Statements of Operations.

Significant management judgment is required in determining our provision for income taxes, deferred income tax assets and liabilities and any valuation allowance recorded against our net deferred income tax assets. Management continually evaluates our deferred income tax asset as to whether it is likely that the deferred income tax assets will be realized. If management ever determined that our deferred income tax asset was not likely to be realized, a write-down of that asset would be required and would be reflected in the provision for income taxes in the accompanying period.

Effective January 1, 2007, we adopted the provisions of FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes — an Interpretation of FASB Statement No. 109.” FIN 48 contains a two-step approach to recognizing and measuring uncertain tax positions accounted for in accordance with Statements of Financial Accounting Standards (“SFAS”) No. 109, “Accounting for Income Taxes.” The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount which is more than 50% likely of being realized upon ultimate settlement. We consider many factors when evaluating and estimating our tax positions and tax benefits, which may require periodic adjustments and which may not reflect actual outcomes.

Share-Based Compensation. Share-based compensation represents the cost related to share-based awards granted to employees. We measure share-based compensation cost at the grant date, based on the estimated fair value of the award and recognize the cost as an expense on a straight-line basis (net of estimated forfeitures) over the requisite service period. We estimate the fair value of stock options and warrants using the Black-Scholes valuation model. The assumptions used in calculating the fair value of share-based payment awards represent our best estimates. Our estimates may be impacted by certain variables including, but not limited to, stock price volatility, employee stock option exercise behaviors, additional stock option grants, estimates of forfeitures, and related income tax impacts. The expense is recorded in cost of goods sold, product development and engineering and selling, general and administrative expense in the Statements of Operations based on the employees’ respective function.

Currency Rate Fluctuations

Changes in the relative values of non-U.S. currencies to the U.S. dollar affect our results. We conduct a significant portion of our business in foreign currencies, including the euro, the Swedish krona, the Swiss franc and the Taiwan dollar. At March 31, 2007, currency changes resulted in assets and liabilities denominated in local currencies being translated into more dollars than at year-end 2006. We incurred approximately 43% of our operating expenses in currencies other than the U.S. dollar for the three months ended March 31, 2007. In general, these currencies were stronger against the U.S. dollar for the three months ended March 31, 2007 compared to the three months ended March 31, 2006, so revenues and expenses in these countries translated into more dollars than they would have in the prior period. Additional discussion of foreign currency risk and other market risks is included in “Item 3. — Quantitative and Qualitative Disclosures About Market Risk” appearing elsewhere in this Report.

Management Discussion Snapshot

The following table sets forth, for the periods indicated, certain Statements of Operations data expressed as a percentage of revenues:


	Three Months Ended
	Mar. 31,			Mar. 31,
	2007			2006

Revenue ⁽¹⁾		100	%		100	%

Networking group		76			75
Optical components group		26			26

Gross margin ⁽²⁾		32			33

Networking group		34			37
Optical components group		24			21

Operating costs and expenses ⁽²⁾		34			36

Networking group		37			39
Optical components group		18			23
Development stage enterprise group	NM			NM

Operating income (loss) ⁽²⁾		(2	)		(2	)

Networking group		(4	)		(2	)
Optical components group		6			(2	)
Development stage enterprise group	NM			NM


NM – not meaningful

(1)		Revenue information by segment includes intersegment revenue, primarily reflecting sales of fiber optic components to the networking group. No revenues were generated by the development stage enterprise group for the periods presented.

(2)		Statements of Operations data express percentages as a percentage of revenue. Statements of Operations data by segment express percentages as a percentage of applicable segment revenue. No revenues or corresponding gross profit were generated by the development stage enterprise group in 2007 or 2006.

The following management discussion and analysis refers to and analyzes our results of operations among three segments as defined by our management. These three segments are the networking group, optical components group and development stage enterprise group, which includes all start-up activities.

Three Months Ended March 31, 2007 (“2007”) Compared
To Three Months Ended March 31, 2006 (“2006”)

Revenue

The following table sets forth, for the periods indicated, certain revenue data from our Statements of Operations (dollars in thousands):


													% Change
							$			%			Constant
For the three months ended March 31:	2007			2006			Change			Change			Currency ⁽²⁾

Networking group	$	67,944		$	57,717		$	10,227			18	%		11	%
Optical components group		22,918			20,398			2,520			12			14
Development stage enterprise group		—			—			—			—			—

		90,862			78,115			12,747			16			12
Adjustments ⁽¹⁾		(1,183	)		(853	)		(330	)	NM			NM

Total	$	89,679		$	77,262		$	12,417			16	%		11	%


NM – not meaningful

(1)		Adjustments represent the elimination of intersegment revenue in order to reconcile to consolidated revenues.

(2)		Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.

The following table sets forth, for the periods indicated, revenues by groups of similar products by geographical region (dollars in thousands):


For the three months ended March 31:	2007		2006		$ Change			% Change

Network equipment ⁽¹⁾:
Americas	$	10,689	$	8,797	$	1,892			22	%
Europe		11,106		10,999		107			1
Asia Pacific		2,730		1,054		1,676			159
Other regions		61		16		45			281

Total network equipment		24,586		20,866		3,720			18

Network integration ⁽²⁾:
Europe		43,358		36,851		6,507			18

Total network integration		43,358		36,851		6,507			18

Fiber optic components ⁽³⁾:
Americas		16,412		16,469		(57	)		—
Europe		928		1,163		(235	)		(20	)
Asia Pacific		4,393		1,876		2,517			134
Other regions		2		37		(35	)		(95	)

Total fiber optic components		21,735		19,545		2,190			11

Total	$	89,679	$	77,262	$	12,417			16	%


(1)		Network equipment revenue primarily consists of MRV’s internally developed products, such as Metro Ethernet equipment, optical transport equipment, out-of-band network equipment, defense and aerospace network applications, the related service revenue and fiber optic components sold as part of the system solution.

(2)		Network integration revenue primarily consists of value-added integration and support service revenue, related third-party product sales (including third-party product sales through distribution) and fiber optic components sold as part of the system solution.


(3)		Fiber optic components revenue primarily consists of fiber optic components, such as components for FTTP applications, fiber optic transceivers, discrete lasers and LEDs, that are not sold as part of MRV’s network equipment or network integration solutions.

Revenues for 2007 increased $12.4 million, or 16%, to $89.7 million from $77.3 million for 2006. Geographically, revenues in the Americas increased $1.8 million, or 7%, to $27.1 million for 2007 from $25.3 million for 2006, which was largely because of $2.9 million of optical components group revenue that was previously deferred from sales of products to one customer in periods prior to those periods presented herein. As a result of our evaluation of the deferred revenue in 2007, we determined that the circumstances that caused us to defer such revenue lapsed and thus concluded that revenue recognition was appropriate in 2007. Revenues in Europe increased $6.4 million, or 13%, to $55.4 million for 2007 from $49.0 million in 2006, which was primarily a result of increased revenue from our network integration and distribution activities throughout Europe and favorable foreign currency exchange rates for those activities. Revenues in Asia Pacific increased $4.2 million, or 143%, to $7.1 million for 2007 from $2.9 million for 2006, primarily because of the continued success with a tier-one customer in Japan for MRV’s optical transport products. Revenue would have been $3.7 million lower in 2007 had foreign currency exchange rates remained the same as they were in 2006.

Networking Group. Our networking group includes two distinct groups of similar products and services: network equipment and network integration, which are described in the table above. Revenues, including intersegment revenues, generated from our networking group increased $10.2 million, or 18%, to $67.9 million for 2007 as compared to $57.7 million for 2006. External network equipment revenues increased $3.7 million, or 18%, to $24.6 million for 2007 from $20.9 million for 2006, which was primarily the result of the continued success with a tier-one customer in Japan for MRV’s optical transport products. External network integration revenues increased $6.5 million, or 18%, to $43.4 million for 2007 from $36.9 million for 2006, which was due primarily to increased revenue from our network integration and distribution activities throughout Europe and favorable foreign currency exchange rates. Revenue would have been $4.0 million lower in 2007 had foreign currency exchange rates remained the same as they were in 2006.

Optical Components Group. Our optical components group designs, manufactures and sells fiber optic components, which are described in the table above and primarily consist of products manufactured by our wholly-owned subsidiary, Luminent, Inc. Revenues, including intersegment revenue, generated from our optical components group increased $2.5 million, or 12%, to $22.9 million for 2007 as compared to $20.4 million for 2006. For the first quarter of 2007, our optical components group revenue includes $2.9 million of revenue that was previously deferred from sales of products to one customer in periods prior to those periods presented herein. As a result of our evaluation of the deferred revenue this quarter, we determined that the circumstances that caused us to defer such revenue lapsed and thus concluded that revenue recognition was appropriate in 2007. The products underlying this recognized deferred revenue are not a meaningful part of our ongoing business and the customer is not an active customer of the optical components group. Approximately 64% of optical components’ revenue related to shipments of optical components used by those customers deploying FTTP networks. FTTP networks use fiber optic cables, rather than copper cables, to deliver voice, video and high-speed data to customer premises. These networks can transmit voice, data and video signals at speeds and capacities far exceeding the traditional broadband services offered by telecommunication providers. FTTP deployment will allow communication providers to offer superior services at very competitive prices. Shipments of FTTP products for 2007 totaled approximately $14.6 million, compared to $12.9 million for 2006. Recent announcements suggest that FTTP deployments in North America made services available to approximately six million homes through 2006 and that continuing deployments are expected to make FTTP services available to an additional three million residences each year through the end of 2010; however, the number of actual residential homes subscribing to such services has been forecasted to reach 35% to 40% of the total deployments. We expect sales of FTTP products to continue to grow for 2007 and beyond. However, this forward-looking statement may not come to pass if the actual deployments do not meet the expectations of industry announcements, if the orders we expect to receive do not materialize, are delayed or cancelled or if we are unable to ship the products as required. Revenue would have been $328,000 higher in 2007 had foreign currency exchange rates remained the same as they were in 2006.

Development Stage Enterprise Group. No revenues were generated by this group for 2007 and 2006.

Gross Profit

The following table sets forth, for the periods indicated, certain gross profit data from our Statements of Operations (dollars in thousands):


												% Change
							$		%			Constant
For the three months ended March 31:	2007			2006			Change		Change			Currency ⁽²⁾

Networking group	$	22,781		$	21,620		$	1,161		5	%		—	%
Optical components group		5,564			4,285			1,279		30			31
Development stage enterprise group		—			—			—		—			—

		28,345			25,905			2,440		9			5
Adjustments ⁽¹⁾		(29	)		(160	)		131	NM			NM

Total	$	28,316		$	25,745		$	2,571		10	%		6	%


NM – not meaningful

(1)		Adjustments represent the elimination of intersegment revenue in order to reconcile to consolidated gross profit.

(2)		Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.

Gross profit increased $2.6 million, or 10%, to $28.3 million for 2007 from $25.7 million for 2006. Our gross margin decreased to 32% for 2007, as compared to 33% for 2006. The decrease in gross margin was primarily the result of the impact of differences in the composition of the products we sold in each period. This included a decrease in our defense and aerospace network applications revenue that typically carries higher gross margins than the Company average and an increase in the network integration revenue that typically carries lower gross margins than the Company average. As discussed above, in the first quarter of 2007, our optical components group recognized approximately $2.9 million in revenue that was previously deferred for which the costs associated with that revenue were recognized in periods prior to those periods presented herein. The gross profit was negatively impacted by the factors described above that negatively impacted gross margin. The gross profit and resulting gross margin were positively affected by recognizing this deferred revenue in the amount of $2.9 million. Gross profit would have been $1.1 million lower in 2007 had foreign currency exchange rates remained the same as they were in 2006. Gross profit includes share-based compensation expense of $85,000 and $72,000 in 2007 and 2006, respectively.

Networking Group. Gross profit for our networking group was $22.8 million for 2007 compared to $21.6 million for 2006, an increase of $1.2 million. Gross margins decreased to 34%, as compared to 37% for 2006. The decrease in gross margins in 2007 was the result of differences in the composition of the products we sold in each period. This included a decrease in our defense and aerospace network applications revenue that typically carries higher gross margins than the average for this segment and an increase in the network integration revenue that typically carries lower gross margins than the average for this segment. Gross profit would have been $1.1 million lower in 2007 had foreign currency exchange rates remained the same as they were in 2006. Gross profit includes share-based compensation expense of $25,000 and $24,000 in 2007 and 2006, respectively.

Optical Components Group. Gross profit for 2007 was $5.6 million, compared to $4.3 million for 2006, an increase of $1.3 million. Our optical components group gross margin increased to 24% for 2007, as compared to gross margin of 21% for 2006. As discussed above, in the first quarter of 2007, our optical components group recognized approximately $2.9 million in revenue that was previously deferred for which the costs associated with that revenue were recognized in periods prior to those periods presented herein. The gross profit and resulting gross margin were positively affected by recognizing this deferred revenue in the amount of $2.9 million. Factors that negatively affected gross margins were the reduced revenue from the metro and discrete product lines, which carry a higher margin profile, and an increased proportion of revenue from the GPON product line, which has resulted in a lower margin as we ramped up production in this area in 2007 compared to 2006. The effect of currency fluctuations did not have a significant impact on the year-over-year change in our gross profit. Gross profit includes share-based compensation expense of $60,000 and $48,000 in 2007 and 2006, respectively.

Development Stage Enterprise Group. As we had no sales by this group, no gross margins were generated by this group for 2007 and 2006.

Operating Costs and Expenses

The following table sets forth, for the periods indicated, certain operating costs and expenses data from our Statements of Operations (dollars in thousands):


											% Change
					$			%			Constant
For the three months ended March 31:	2007		2006		Change			Change			Currency ⁽¹⁾

Networking group	$	25,443	$	22,736	$	2,707			12	%		8	%
Optical components group		4,226		4,611		(385	)		(8	)		(8	)
Development stage enterprise group		376		307		69			22			22

Total	$	30,045	$	27,654	$	2,391			9	%		5	%


(1)		Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.

Operating costs and expenses were $30.0 million, or 34% of revenues, for 2007, compared to $27.7 million, or 36% of revenues, for 2006. Operating costs and expenses increased $2.4 million in 2007 compared to 2006. The increase in our operating costs and expenses was largely the result of increases in sales and marketing expenses from the additional investment in our North American sales organization in the networking group. Operating costs and expenses would have been $872,000 lower in 2007 had foreign currency exchange rates remained the same as they were in 2006. Product development and engineering expenses included share-based compensation expense of $190,000 and $205,000 in 2007 and 2006, respectively. Selling, general and administrative expenses included share-based compensation expense of $549,000 and $462,000 in 2007 and 2006, respectively.

Networking Group. Operating costs and expenses for 2007 were $25.4 million, or 37% of revenues, compared to $22.7 million, or 39% of revenues, for 2006. Operating costs and expenses increased $2.7 million, or 12%, in 2007 compared to 2006. The increase in operating costs and expenses was primarily the result of increased sales and marketing expenses, particularly relating to the expansion of our North American sales organization. Operating costs and expenses would have been $894,000 lower in 2007 had foreign currency exchange rates remained the same as they were in 2006. Product development and engineering expenses included share-based compensation expense of $114,000 and $127,000 in 2007 and 2006, respectively. Selling, general and administrative expenses included share-based compensation expense of $463,000 and $360,000 in 2007 and 2006, respectively.

Optical Components Group. Operating costs and expenses for 2007 were $4.2 million, or 18% of revenues, compared to $4.6 million, or 23% of revenues, for 2006. Operating costs and expenses decreased $385,000, or 8%, in 2007 compared to 2006. Operating costs and expenses decreased primarily as a result of lower product development and engineering expenses relating to prototype material costs. The effect of currency fluctuations did not have a significant impact on the year-over-year change in our operating costs and expenses. Product development and engineering expenses included share-based compensation expense of $76,000 and $78,000 in 2007 and 2006, respectively. Selling, general and administrative expenses included share-based compensation expense of $86,000 and $102,000 in 2007 and 2006, respectively.

Development Stage Enterprise Group. Operating costs and expenses for 2007 were $376,000 compared to $307,000 for 2006. Operating costs and expenses increased $69,000, or 22%, in 2007 compared to 2006. The increase in operating costs and expenses relates primarily to the increase in product development and engineering costs.

Operating Income (Loss)

The following table sets forth, for the periods indicated, certain operating income (loss) data from our Statements of Operations (dollars in thousands):


													% Change
							$			%			Constant
For the three months ended March 31:	2007			2006			Change			Change			Currency ⁽²⁾

Networking group	$	(2,662	)	$	(1,116	)	$	(1,546	)		139	%		156	%
Optical components group		1,338			(326	)		1,664			(510	)		(513	)
Development stage enterprise group		(376	)		(307	)		(69	)		22			22

		(1,700	)		(1,749	)		49			(3	)		8
Adjustments ⁽¹⁾		(29	)		(160	)		131		NM			NM

Total	$	(1,729	)	$	(1,909	)	$	180			(9	)%		—	%


NM – not meaningful

(1)		Adjustments represent the elimination of intersegment revenue in order to reconcile to consolidated operating income (loss).

(2)		Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.

We reported an operating loss of $1.7 million, or 2% of revenues, for 2007 compared to an operating loss of $1.9 million, or 2% of revenues, for 2006, an improvement in our results of $180,000 in 2007 compared to 2006. As discussed above, in the first quarter of 2007, our optical components group recognized approximately $2.9 million in revenue that was previously deferred for which the costs associated with that revenue were recognized in periods prior to those periods presented herein. The operating loss was positively impacted by recognizing this deferred revenue in the amount of $2.9 million. This improvement in our results was negatively impacted by the decrease in gross margins resulting from differences in the composition of the products we sold in each period. Operating loss would have been $184,000 higher in 2007 had foreign currency exchange rates remained the same as they were in 2006. Operating loss includes share-based compensation expense of $824,000 and $739,000 in 2007 and 2006, respectively.

Networking Group. Our networking group reported an operating loss totaling $2.7 million for 2007, compared to an operating loss of $1.1 million for 2006, a decrease in our results of $1.5 million. This decrease was primarily the result of the decrease in gross margins resulting from differences in the composition of the products we sold in each period and increased sales and marketing expenses, particularly relating to the expansion of our North American sales organization. The composition of revenue included a decrease in our defense and aerospace network applications revenue that typically carries higher gross margins than the average for this segment and an increase in the network integration revenue that typically carries lower gross margins than the average for this segment. Operating loss would have been $193,000 higher in 2007 had foreign currency exchange rates remained the same as they were in 2006. Operating loss includes share-based compensation expense of $602,000 and $511,000 in 2007 and 2006, respectively.

Optical Components Group. Our optical components group reported operating income of $1.3 million, or 6% of revenues, for 2007, compared to an operating loss of $326,000, or 2% of revenues, for 2006. Our operating income improved $1.7 million in 2007 compared to 2006. As discussed above, in the first quarter of 2007, our optical components group recognized approximately $2.9 million in revenue that was previously deferred for which the costs associated with that revenue were recognized in periods prior to those periods presented herein. The operating income was positively impacted by recognizing this deferred revenue in the amount of $2.9 million. Factors that negatively affected operating income were the reduced revenue from the metro and discrete product lines, which carry a higher margin profile, and an increased proportion of revenue from the GPON product line, which has resulted in a lower margin as we ramped up production in this area in 2007 compared to 2006. Foreign currency exchange rates did not have a significant impact on operating income in 2007. Operating income (loss) includes share-based compensation expense of $222,000 and $228,000 in 2007 and 2006, respectively.

Development Stage Enterprise Group. Our development stage enterprise group reported an operating loss of $376,000 for 2007 as compared to $307,000 for 2006. Our operating loss increased $69,000, or 22%, in 2007 compared to 2006. The decrease in our results was primarily the result of increased product development and engineering expenses.

Interest Expense and Other Income, Net

Interest expense was $1.1 million for 2007 and 2006. Other income, net principally includes interest income on cash, cash equivalents and investments and gains (losses) on foreign currency transactions. Interest income was $1.3 million and $705,000 for 2007 and 2006, respectively, an increase of $638,000, or 90%. The increase in interest income was a result of higher yields on investments in 2007 compared to 2006 and incremental interest on the $69.9 million net proceeds from the private placement of approximately 19.9 million shares of our common stock issued to a group of institutional investors, which was completed in March 2006.

Provision for Income Taxes

The provision for income taxes for 2007 was $870,000 as compared to $1.3 million for 2006. Our income tax expense fluctuates based on the amount of income generated in the various jurisdictions where we conduct operations and pay income tax.

As discussed above, in the first quarter of 2007, our optical components group recognized approximately $2.9 million in deferred revenue for which the costs associated with that revenue were recognized in periods prior to those periods presented herein. There was no impact on the provision for income taxes resulting from the recognition of this deferred revenue, since there was a full valuation allowance against the deferred tax assets relating to this deferred revenue. Thus, the entire $2.9 million of recognized revenue that was previously deferred improved net loss in 2007 by $2.9 million and diluted loss per share by $0.02 per share, as there were no associated costs or income tax provision relating to the amount that was recognized in 2007.

Tax Loss Carryforwards

As of December 31, 2006, the end of our last tax year, we had NOLs of approximately $171.8 million for federal income tax purposes and approximately $214.4 million for state income tax purposes. We also had capital loss carryforwards totaling $262.0 million as of December 31, 2006, which begin to expire in 2007. Under Section 382 of the Internal Revenue Code, if a corporation undergoes an “ownership change,” the corporation’s ability to use its pre-change NOLs, capital loss carryforwards and other pre-change tax attributes to offset its post-change income may be limited. An ownership change is generally defined as a greater than 50% change in its equity ownership by value over a three-year period. We may experience an ownership change in the future as a result of subsequent shifts in our stock ownership, including as a result of our contemplated issuance of shares pursuant to the Fiberxon transaction. If we were to trigger an ownership change in the future, our ability to use any NOLs and capital loss carryforwards existing at that time could be limited. As of March 31, 2007, there was sufficient valuation allowance against these deferred tax assets, such that additional valuation allowance against these deferred tax assets would not be necessary in the future if the NOLs and capital loss carryforwards described above were to be limited.

Recently Issued Accounting Standards

For a discussion of recently issued accounting standards relevant to our financial performance, see Note 14 of Notes to Financial Statements included elsewhere in this Report.

Liquidity and Capital Resources

We had cash and cash equivalents of $85.3 million as of March 31, 2007, a decrease of $6.5 million from the cash and cash equivalents of $91.7 million we had as of December 31, 2006. The decrease in cash and cash equivalents was primarily the result of our purchase of marketable securities, increase in time deposits, cash we used in our operations, the timing of cash collections from customers, cash we used to procure necessary raw materials and components to build our inventories for products we expect to ship in the future, cash we used to satisfy vendor obligations and net payments on short-term and long-term obligations. Of the increase in time deposits, $4.0 million related to a standby letter of credit entered into by Luminent in favor of a creditor of a Chinese subsidiary of MRV’s acquisition target, Fiberxon, to enable the creditor to extend further banking facilities to the subsidiary of Fiberxon. The standby letter of credit will remain available to the creditor until October 1, 2007. Fiberxon and its subsidiary have agreed to indemnify Luminent for any losses it may suffer as a result of a breach by Fiberxon’s subsidiary of its loan agreement with its creditor.

The following table illustrates our cash position, which we define as cash, cash equivalents, time deposits and short-term and long-term marketable securities, as it relates to our debt position, which we define as all short-term and long-term obligations including our 2003 Notes (dollars in thousands):


	March 31,		December 31,
At:	2007		2006

Cash
Cash and cash equivalents	$	85,269	$	91,722
Short-term marketable securities		26,393		25,864
Time deposits		5,064		821

		116,726		118,407
Debt
5% convertible notes due 2008		23,000		23,000
Short-term obligations ⁽¹⁾		21,565		26,289
Long-term debt		158		88

		44,723		49,377

Excess cash versus debt	$	72,003	$	69,030

Ratio of cash versus debt ⁽²⁾		2.6:1		2.4:1


(1)		Includes current maturities of long-term debt.

(2)		Determined by dividing total “cash” by total “debt,” in each case as reflected in the table.

Working Capital

Working capital means the difference between current assets and current liabilities at particular points in time. The following table illustrates our working capital position (dollars in thousands):


	March 31,		December 31,
At:	2007		2006

Current assets	$	283,504	$	289,514
Current liabilities		111,730		116,927

Working capital	$	171,774	$	172,587

Current ratio ⁽¹⁾		2.5:1		2.5:1


(1)		Determined by dividing total “current assets” by total “current liabilities,” in each case as reflected in the table.

Current assets decreased $6.0 million due primarily to decreases in accounts receivable, partially offset by increases in inventories. Fluctuations in current assets typically result from the timing of: shipments of our products to customers, receipts of inventories from and payments to our vendors, cash used for capital expenditures and the effects of changes in foreign currency.

Current liabilities decreased $5.2 million due primarily to the decrease in short-term obligations and accrued liabilities, partially offset by the increase in other current liabilities. Fluctuations in current liabilities typically result from the timing of: payments to our vendors for raw materials, timing of payments for accrued liabilities, such as payroll related expenses and interest on our short-term and long-term obligations, changes in deferred revenue, income tax liabilities and the effects of changes in foreign currencies.

Cash Flow

The following table sets forth, for the periods indicated, certain cash flow data from our Statements of Cash Flows (dollars in thousands):


For the three months ended March 31:	2007			2006

Net cash provided by (used in):
Operating activities	$	(743	)	$	(4,859	)
Investing activities		(2,126	)		(1,297	)
Financing activities		(3,895	)		68,701
Effect of exchange rate changes on cash and cash equivalents		311			251

Net change in cash and cash equivalents	$	(6,453	)	$	62,796

Cash Flows Related to Operating Activities. Cash used in operating activities was $743,000 for the three months ended March 31, 2007, compared to cash used in operating activities of $4.9 million for the same period last year. Cash used in operating activities was a result of our net loss of $2.2 million, adjusted for non-cash items such as depreciation and amortization, additional allowances for doubtful accounts, share-based compensation expense, deferred income taxes and gains on the disposition of fixed assets. In 2007, decreases in accounts receivable and increases in accounts payable positively affected cash used in operating activities. In the same period, cash used in operating activities was negatively affected by increases in time deposits, inventories and other assets. The decrease in accounts receivable resulted from the timing of customer payments and collection efforts. The increase in inventories was primarily the result of our purchase of raw materials and components for products we expect to ship in the future. Increases in accounts payable were the result of the timing of payments to our vendors. As described above, the increase in time deposits was the result of the standby letter of credit relating to the creditor of a subsidiary of Fiberxon. Cash used in operating activities for the prior period was the result of our net loss adjusted for non-cash items and changes in working capital.

Cash Flows Related to Investing Activities. Cash used in investing activities was $2.1 million for the three months ended March 31, 2007, compared to cash used in investing activities totaling $1.3 million for the same period last year. Cash used in investing activities for 2007 was primarily the result of capital expenditures and the net purchases of short-term marketable securities. As of March 31, 2007, we had no plans for major capital expenditures. Cash flows used in investing activities for the prior period was primarily from capital expenditures.

Cash Flows Related to Financing Activities. Cash used in financing activities was $3.9 million for the three months ended March 31, 2007, as compared to cash flows provided by financing activities of $68.7 million for the same period last year. Cash used in financing activities was primarily the result of net payments on short-term obligations, partially offset by the exercise of employee stock options and net borrowings on long-term obligations. Cash flows provided by financing activities for the prior period represent the net proceeds from the issuance of our common stock, the proceeds from the exercise of employee stock options, changes in other long-term liabilities, and net cash payments on short-term borrowings.

In March 2006, we completed a private placement of approximately 19.9 million shares of our common stock at $3.75 per share for gross proceeds of approximately $74.5 million with a group of institutional investors. The net proceeds to us were approximately $69.9 million. The net proceeds will be used for working capital, general corporate purposes and in efforts to support our recent growth in revenues. We may also use a portion of the net proceeds, currently intended for general corporate purposes, to acquire or invest in technologies, products or services that complement our business.

Off-Balance Sheet Arrangements

We do not have transactions, arrangements and other relationships with unconsolidated entities that are reasonably likely to affect our liquidity or capital resources. We have no special purpose or limited purpose entities that provided off-balance sheet financing, liquidity or market or credit risk support, engaged in leasing, hedging, research and development services, or other relationships that expose us to liability that is not reflected on the face of the financials.

Contractual Cash Obligations

The following table illustrates our total contractual cash obligations as of March 31, 2007 (in thousands):


			Less than 1						After 5
Cash Obligations	Total		Year		1 – 3 Years		4 – 5 Years		Years

Short-term obligations	$	21,359	$	21,359	$	—	$	—	$	—
Long-term debt		364		206		158		—		—
5% convertible notes due June 2008		23,000		—		23,000		—		—
Unconditional purchase obligations		7,907		7,907		—		—		—
Operating leases		24,594		5,817		8,268		5,054		5,455

Total contractual cash obligations	$	77,224	$	35,289	$	31,426	$	5,054	$	5,455

Our total contractual cash obligations as of March 31, 2007, were $77.2 million, of which, $35.3 million are due by March 31, 2008. These total contractual cash obligations primarily consist of short-term and long-term obligations, including our 5% convertible notes due in June 2008, operating leases for our equipment and facilities and unconditional purchase obligations for necessary raw materials. Historically, these obligations have been satisfied through cash generated from our operations or other avenues and we expect that this will continue to be the case.

The table above does not reflect approximately $17 million of purchase consideration that will be paid to the shareholders of Fiberxon upon closing of the Fiberxon acquisition as well as the deferred consideration payment of approximately $31.5 million to be paid in cash and/or shares, or a combination thereof, that will be paid to the shareholders of Fiberxon within 18 months of the closing of the Fiberxon acquisition, or sooner upon the occurrence of certain acceleration events. For further details on the announced Fiberxon acquisition, please see Note 7, “Pending Acquisition” included in the “Notes to Financial Statements” appearing elsewhere in this Report.

We believe that our cash on hand and cash flows from operations will be sufficient to satisfy our current operations, capital expenditures and product development and engineering requirements for at least the next 12 months. Additionally, we also believe that our cash on hand and cash flows from operations will be sufficient to satisfy our cash obligations to the Fiberxon shareholders upon the closing of the announced Fiberxon acquisition and to, thereafter, support the Fiberxon operations for at least the next 12 months. However, we may choose to obtain additional debt or equity financing if we believe it appropriate.

We are limited in the amount of debt financing we may obtain and the price per share of our common stock at which we may conduct equity financings without triggering an acceleration of, or obtaining a waiver from holders of, our 5% convertible notes due June 2008. For additional information on these limitations and other restrictions of our 5% convertible notes due June 2008, including our ability to incur indebtedness, see Management’s Discussion and Analysis of Financial Condition and Results of Operations in Part I, Item 2 of this Report in the section “Certain Factors That Could Affect Future Results” under the caption entitled “Our 2003 Notes Provide for Various Events of Default That Would Entitle the Holder to Require Us to Repay Upon its Demand the Outstanding Principal Amount, Plus Accrued and Unpaid Interest” and the Risk Factors under Item 1A of Part II of this Report under the caption entitled “If Our Cash Flow Significantly Deteriorates In the Future, Our Liquidity and Ability to Operate Our Business Could Be Adversely Affected.” Even if not restricted under our 2003 Convertible Notes, if we seek financing through issuance(s) of additional equity securities, we may limit our ability to use available net operating loss and capital loss carryforwards if, by doing so, such issuances separately, or considered with other stock issuances we have made or make within a three-year period (including issuances of our shares that we make in connection with our acquisition of Fiberxon if that transaction is successfully consummated) results in an “ownership change” within the meaning of Internal Revenue Code section 382. For additional information on the potential limitations on our use of net operating loss and capital loss carryforwards available to us at December 31, 2006, see Management’s Discussion and Analysis of Financial Condition and Results of Operations in Part I, Item 2 of this Report under the sections entitled “Tax Loss Carryforwards” and “Certain Factors That Could Affect Future Results — Our Ability to Utilize Our NOLs and Certain Other Tax Attributes May Be Limited.” Our future capital requirements will depend on many factors, including our rate of revenue growth, the timing and extent of spending to support development of new products and the expansion of sales and marketing efforts, the timing of new product introductions and enhancements to existing products and the market acceptance of our products

Internet Access to Our Financial Documents

We maintain a website at www.mrv.com. We make available, free of charge, either by direct access or a link to the SEC website, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after such reports are electronically filed with, or furnished to, the SEC. Our reports filed with, or furnished to, the SEC are also available directly at the SEC’s website at www.sec.gov.

Certain Factors That Could Affect Future Results

You should carefully consider and evaluate all of the information in this Form 10-Q, including the risk factors listed below. The risks described below are not the only ones facing our company. Additional factors not now known to us or that we currently deem immaterial may also impair our business operations.

If any circumstances discussed in the following factors actually occur or occur again, our business could be materially harmed. If our business is harmed, the trading price of our common stock could decline.

Some of the statements contained in this report discuss future events or expectations, contain projections of results of operations or financial condition, changes in the markets for our products and services, or state other “forward-looking” information. MRV’s “forward-looking” information is based on various factors and was derived using numerous assumptions. In some cases, you can identify these “forward-looking statements” by words like “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of those words and other comparable words. You should be aware that these statements only reflect our current predictions and beliefs. These statements are subject to known and unknown risks, uncertainties and other factors, and actual events or results may differ materially. Important factors that could cause our actual results to be materially different from the forward-looking statements are disclosed throughout this report, particularly those immediately below and under the heading “Risk Factors” in Item 1A of Part II of this report. You should review these factors that could affect our future results and the risk factors in Item 1A of this report and the rest of this quarterly report in combination with the more detailed description of our business in our annual report on Form 10-K, which we filed with the Securities and Exchange Commission on March 6, 2007, for a more complete understanding of the risks associated with an investment in our securities. We undertake no obligation to revise or update any forward-looking statements.

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

	•		the cancellation or postponement of orders;

	•		the timing and amount of significant orders;

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

	•		the mix of products we sell;

	•		software, hardware or other errors in the products we sell requiring replacements or increased warranty reserves;

	•		our annual reviews of goodwill and other intangibles that lead to impairment charges;

	•		new product introductions by our competitors;

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

	•		readiness of customer sites for installation;

	•		political stability in the areas of the world in which we operate in;

	•		changes in material costs;

	•		currency fluctuations;

	•		changes in accounting rules; and

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

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

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

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

One Customer Accounted for over 10 percent of Our Sales During the Three and Twelve Months Ended December 31, 2006, Increasing Both Our Dependence on a Single Revenue Source and the Risk that Our Operations Will Suffer Materially If the Customer Stopped Ordering from Us or Substantially Reduced Its Business With Us. For the last several years prior to 2006 and for the interim periods within those years, no customer has accounted for 10 percent or more of our revenues and accordingly we were not dependent on any single customer. For the year ended December 31, 2006, however, we had one customer, Tellabs, Inc., which, among other projects, supplies Verizon for its FiOS FTTP project, accounted for 13% of our total revenues. While our financial performance during this year benefited from the increased sales to that customer, because of the magnitude of our sales to that customer, our results would suffer if we lost that customer or it made a substantial reduction in orders unless we were able to replace the customer or orders with one or more of comparable size. In addition, our sales are made on credit and our results of operations would be adversely affected if this customer were to experience unexpected financial reversals resulting in it being unable to pay for our products

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

	•		changing product specifications and customer requirements;

	•		difficulties in hiring and retaining necessary technical personnel;

	•		difficulties in reallocating engineering resources and overcoming resource limitations;

	•		difficulties with contract manufacturers;

	•		changing market or competitive product requirements; and

	•		unanticipated engineering complexities.

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

Defects In Our Products Resulting from Their Complexity Or Otherwise Could Hurt Our Financial Performance. Complex products, such as those we offer, may contain undetected software or hardware errors when we first introduce them or when we release new versions. The occurrence of these errors in the future, and our inability to correct these errors quickly or at all, could result in the delay or loss of market acceptance of our products. It could also result in material warranty expense, diversion of engineering and other resources from our product development efforts and the loss of credibility with, and legal actions by, our customers, system integrators and end users. Any of these or other eventualities resulting from defects in our products could cause our sales to decline and have a material adverse effect on our business, operating results and financial condition.

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

Our Business Has Been Adversely Impacted By the Worldwide Economic Slowdown and Related Uncertainties. Weaker economic conditions worldwide, particularly in the U.S. and Europe, have contributed to the current technology industry slowdown compared to levels before 2000 and impacted our business resulting in:

	•		reduced demand for our products, particularly fiber optic components;

	•		increased risk of excess and obsolete inventories;

	•		increased price competition for our products;

	•		excess manufacturing capacity under current market conditions; and

	•		higher overhead costs, as a percentage of revenues.

We reported losses for the years ended December 31, 2006, 2005 and 2004 and have not achieved profitability for a full year since 1997. We anticipate continuing to incur significant sales and marketing, product development and general and administrative expenses and, as a result, we will continue to need to contain expense levels and increase revenue levels to continue to achieve profitability in future fiscal quarters.

Cost Containment Is Critical to Achieving Positive Cash Flow from Operations and Profitability Consistently. We are continuing efforts at strict cost containment and believe that such efforts are essential to achieving positive cash flow from operations in future quarters and maintaining profitability on a consistent basis, especially since the outlook for future quarters is subject to numerous challenges. Additional measures to contain costs and reduce expenses may be undertaken if revenues do not continue to improve. A number of factors could preclude us from consistently bringing costs and expenses in line with our revenues, such as our inability to forecast business activities and the deterioration of our revenues accurately. If we are not able to maintain an expense structure commensurate with our business activities and revenues, we may have inadequate levels of cash for operations or for capital requirements, which could significantly harm our ability to operate the business.

Our Business and Future Operating Results Are Subject to a Wide Range of Uncertainties Arising Out of the Continuing Threat of Terrorist Attacks and Ongoing Military Action In the Middle East. Like other U.S. companies, our business and operating results are subject to uncertainties arising out of the continuing threat of terrorist attacks on the United States and ongoing military action in the Middle East, including the potential worsening or extension of the current global economic slowdown, the economic consequences of the war in Iraq or additional terrorist activities and associated political instability, and the impact of heightened security concerns on domestic and international travel and commerce. In particular, due to these uncertainties, we are subject to:

	•		increased risks related to the operations of our manufacturing facilities in China;

	•		greater risks of disruption in the operations of our Asian contract manufacturers and more frequent instances of shipping delays; and

	•		the risk that future tightening of immigration controls may adversely affect the residence status of non-U.S. engineers and other key technical and other employees in our U.S. facilities or our ability to hire new non-U.S. employees in such facilities.

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

Our 2003 Notes Provide for Various Events of Default That Would Entitle the Holder to Require Us to Repay Upon its Demand the Outstanding Principal Amount, Plus Accrued and Unpaid Interest. On June 4, 2003, we completed the sale of $23 million principal amount of 2003 Notes to Deutsche Bank AG, London Branch in a private placement pursuant to Regulation D under the Securities Act of 1933. The 2003 Notes mature in June 2008. We will be considered in default of the 2003 Notes if any of the following events, among others, occur:

	•		our default in payment of any principal amount of, interest on or other amount due under the 2003 Notes when and as due;

	•		the effectiveness of the registration statement, which registered for resale the shares of our common stock issuable upon conversion of the 2003 Notes, lapses for any reason or is unavailable to the holder of the 2003 Notes for resale of all of the shares issuable upon conversion, other than during allowable grace periods, for a period of five consecutive trading days or for more than an aggregate of ten trading days in any 365-day period;

	•		the suspension from trading or failure of our common stock to be listed on the Nasdaq Stock Market for a period of five consecutive trading days or for more than an aggregate of ten trading days in any 365-day period;

	•		we or our transfer agent notify any holder of our intention not to issue shares of our common stock to the holder upon receipt of any conversion notice delivered in respect of a Note by the holder;

	•		we fail to deliver shares of our common stock to the holder within twelve business days of the conversion date specified in any conversion notice delivered in respect of a Note by the holder;

	•		we breach any material representation, warranty, covenant or other term or condition of the 2003 Notes or the Securities Purchase Agreement, or the Registration Rights Agreement relating to 2003 Notes and the breach, if curable, is not cured by us within ten days;

	•		failure by us for ten days after notice to comply with any other provision of the 2003 Notes in all material respects, which include abiding by our covenants not to:

	o		incur any form of unsecured indebtedness in excess of $17.0 million, plus obligations arising from accounts receivable financing transactions with recourse through our foreign offices, in the ordinary course of business and consistent with past practices;

	o		repurchase our common stock for an aggregate amount in excess of $5.0 million; pursuant to a stock purchase program that was approved by our Board of Directors and publicly announced on June 13, 2002; or

	o		declare or pay any dividend on any of our capital stock, other than dividends of common stock with respect to our common stock;

•

we breach provisions of the 2003 Notes prohibiting us from either issuing:

	o		our common stock or securities that are convertible into or exchangeable or exercisable for shares of our common at a per share price less than the conversion price per share of the 2003 Notes then in effect, except in certain limited cases; or

	o		securities that are convertible into or exchangeable or exercisable for shares of our common stock at a price that varies or may vary with the market price of our common stock;

	•		- we breach any of our obligations under any other debt or credit agreements involving an amount exceeding $3,000,000; or

	•		- we become bankrupt or insolvent.

If an event of default occurs, any holder of the 2003 Notes can elect to require us to pay the outstanding principal amount, together with all accrued and unpaid interest.

Some of the events of default include matters over which we may have some, little or no control. If a default occurs and we do not pay the amounts payable under the 2003 Notes in cash (including any interest on such amounts and any applicable default interest under the 2003 Notes), the holders of the 2003 Notes may protect and enforce their rights or remedies either by suit in equity or by action at law, or both, whether for the specific performance of any covenant, agreement or other provision contained in the 2003 Notes. Any default under the 2003 Notes could have a material adverse effect on our business, operating results and financial condition or on the market price of our common stock.

In the Event of a Change of Control, Holders of the 2003 Notes Have the Option to Require Immediate Repayment of the 2003 Notes At a Premium and This Right Could Prevent a Takeover Otherwise Favored By Stockholders. In the event of our “Change of Control,” which essentially means someone acquiring or merging with us, each holder of 2003 Notes has the right to require us to redeem the 2003 Notes in whole or in part at a redemption price of 105% of the principal amount of the 2003 Notes, plus accrued and unpaid interest or if the amount is greater, an amount equal to the number of shares issuable upon conversion of the 2003 Notes based on the conversion price at the date the holder gives us notice of redemption, multiplied by the average of the weighted average prices of our common stock during the five days immediately preceding that date. If a Change of Control were to occur, we might not have the financial resources or be able to arrange financing on acceptable terms to pay the redemption price for all the 2003 Notes as to which the purchase right is exercised. Further, the existence of this right in favor of the holders may discourage or prevent someone from acquiring or merging with us.

Sales Of Substantial Amounts Of Our Shares By Selling Stockholders Could Cause The Market Price Of Our Shares To Decline. Under a registration statement that the Securities and Exchange Commission, or SEC, declared effective in 2003, selling stockholders are offering for resale up to 9,913,914 shares of our common stock issuable upon conversion of our 2003 Notes. This represents approximately 7.9% of the outstanding shares of our common stock on April 15, 2007 (or 7.3% of the outstanding shares of our common stock on that date if pro forma effect were given to the full conversion of the 2003 Notes).

Under a registration statement that the SEC declared effective in April 2006, selling stockholders are offering and have been selling an additional 19,858,156 shares of our common stock. That represents approximately 15.8% of the outstanding shares of our common stock on April 15, 2007, (or 14.6% of the outstanding shares of our common stock on that date if pro forma effect were given to the full conversion of the 2003 Notes) and, when added to the shares being offered by the selling stockholders under our 2003 registration statement, approximately 23.6% of the outstanding shares of our common stock on April 15, 2007 (or 21.9% of the outstanding shares of our common stock on that date if pro forma effect were given to the full conversion of our 2003 Notes).

If our pending acquisition of Fiberxon is consummated, we have agreed to issue to Fiberxon’s stockholders and employees an aggregate of up to 21,188,630 shares of our common stock, including shares underlying Fiberxon’s employee options that we have agreed to assume for options to purchase shares of our common stock. This represents approximately 16.8% of the outstanding shares of our common stock on April 15, 2007 (or 15.6% of the outstanding shares of our common stock on that date if pro forma effect were given on that date to the full conversion of our 2003 Notes). The exemption from the registration provisions of the Securities Act of 1933 upon which we are planning to rely for the offer and sales of our shares to consummate the acquisition of Fiberxon is Section 3(a)(10) of the Securities Act, which will require the California Department of Corporations to determine that the acquisition is fair pursuant to a hearing before that agency which we are scheduling. If the California Department of Corporations does make a positive determination of fairness, the shares we issue to Fiberxon’s stockholders upon completion of the transaction will generally be eligible for sale in the open market.

The shares issuable to Fiberxon’s stockholders if we successfully complete that acquisition, when added to the shares being offered by the selling stockholders under our 2003 and 2006 registration statements, amount to an aggregate of approximately 40.5% of the outstanding shares of our common stock on April 15, 2007 (or 37.5% of the outstanding shares of our common stock on that date if pro forma effect were given to the full conversion of the 2003 Notes).

Sales of substantial amounts of these shares at any one time or from time to time, or even the availability of these shares for sale, could adversely affect the market price of our shares.

The information presented in this certain factor has been calculated assuming that none of the shares covered by our 2006 registration statement have yet been sold (which may not be the case) and that all shares issuable upon consummation of the Fiberxon acquisition are issued at the closing of that transaction. In fact, shares issuable upon exercise of Fiberxon’s options that are outstanding at the closing will be subtracted from the shares we are otherwise required to issue to Fiberxon’s stockholders at the closing.

Our Ability to Utilize Our NOLs and Certain Other Tax Attributes May Be Limited. As of December 31, 2006, we had net operating losses, or NOLs, of approximately $171.8 million for federal income tax purposes and approximately $214.4 million for state income tax purposes. We also had capital loss carryforwards totaling $262.0 million as of December 31, 2006, which begin to expire in 2007. Under Section 382 of the Internal Revenue Code, if a corporation undergoes an “ownership change,” the corporation’s ability to use its pre-change NOLs, capital loss carryforwards and other pre-change tax attributes to offset its post-change income may be limited. An ownership change is generally defined as a greater than 50% change in its equity ownership by value over a three-year period. We may experience an ownership change in the future as a result of subsequent shifts in our stock ownership, including as a result of our contemplated issuance of shares pursuant to the Fiberxon transaction. If we were to trigger an ownership change in the future, our ability to use any NOLs and capital loss carryforwards existing at that time could be limited.

The Price of Our Shares May Continue to Be Highly Volatile. Historically, the market price of our shares has been extremely volatile. The market price of our common stock is likely to continue to be highly volatile and could be significantly affected by factors such as:

	•		actual or anticipated fluctuations in our operating results;

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

	•		the progress or lack thereof of our closing of the acquisition of Fiberxon;

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

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

	•		sales of substantial numbers of our shares by stockholders covered by our existing shelf registration statements or by stockholders receiving our shares if our acquisition of Fiberxon is successfully consummated; or

	•		general market conditions and other factors.

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

We Have Been Transitioning Volume Manufacturing of Our Optical Components to Taiwan and China and We Expect This to Increase, Especially If Our Acquisition of Fiberxon is Successfully Consummated, Which Exposes Us, and Will Expose Us Even More, to Risks Inherent in Doing Business in China. In order to seek to improve our gross margins in our optical components business, over the past few years we have been transitioning volume manufacturing of optical components to our facility in Taiwan and to third-party contract manufacturers in China. Luminent has a minority interest in a large manufacturing facility in the PRC in which it manufactures passive fiber optic components and both Luminent and we make sales of our products in the PRC.

If we successfully consummate the acquisition of Fiberxon, which has all of its principal manufacturing facilities in China, our operations in China will increase substantially. We may determine to transfer some or all of the component manufacturing that we have been outsourcing to third-party electronic manufacturing service providers to Fiberxon’s manufacturing facilities in China. If we do, we may experience delays, disruption or quality problems in the manufacturing operations of Fiberxon, especially during the initial startup of manufacturing with it. As a result, we could incur additional costs that would adversely affect gross margins, and product shipments to our customers could be delayed beyond requested shipment schedules, which could adversely affect our revenues, competitive position and reputation.

The political tension between Taiwan and the PRC that continues to exist, could eventually lead to hostilities or there may be regulatory issues with either the PRC or Taiwan as a result of our having operations or business interests in both countries. As our operations in China assume a larger and more important role in our business, the risks inherent in doing business in China will become more acute. Many of these risks are beyond our control, including:

	•		difficulties in obtaining domestic and foreign export, import and other governmental approvals, permits and licenses;

	•		compliance with PRC laws, including employment laws;

	•		difficulties in staffing and managing foreign operations, including cultural differences in the conduct of business, labor and other workforce requirements and inadequate local infrastructure;

	•		the need to successfully migrate the PRC locations to the financial reporting system used by us in the United States, including the need to implement and maintain financial controls that comply with the Sarbanes-Oxley Act;

	•		trade restrictions or higher tariffs;

	•		transportation delays and difficulties of managing international distribution channels;

	•		longer payment cycles for, and greater difficulty collecting, accounts receivable;

	•		difficulties in collecting payments from PRC customers to whom we or Fiberxon have extended significant amounts of credit if those customers do not pay on the payment terms extended to them;

	•		currency exchange rate fluctuations of the RMB, which has been appreciating in relation to the U.S. dollar since July 2005 when the People’s Bank of China announced that the yuan would no longer be pegged to the U.S. dollar; that may increase our manufacturing and labor costs in the PRC when translated to U.S. dollars and render prices on our products manufactured in China uncompetitive, adversely affecting our sales or gross margins, or both, and

	•		unexpected changes in regulatory requirements, royalties and withholding taxes that restrict or make more costly the repatriation of earnings generated by Fiberxon’s operations in the PRC or influence the effective income tax rate attributable to profits generated or lost in the PRC.

Any of these factors could harm our future sales and operations significantly.

Our Manufacturing Capacity May be Interrupted, Limited or Delayed If We Cannot Maintain Sufficient Sources of Electricity in China, or If There is a Natural Disaster or Other Catastrophic Event in China. The manufacturing process for optical component manufacturing requires a substantial and stable source of electricity. As our production capabilities increase in China, our requirements for electricity in China will grow substantially. Many companies with operations in China have experienced a lack of sufficient electricity supply and we cannot be assured that electric power generators that we or Fiberxon may have available will produce sufficient electricity supply in the event of a disruption in power. Power interruptions, electricity shortages, the cost of fuel to run power generators or government intervention, particularly in the form of rationing, are factors that could restrict access to electricity to Fiberxon’s PRC manufacturing facilities, and adversely affect manufacturing costs. If we successfully

acquire Fiberxon, any such power shortages could result in delays in shipments to Fiberxon’s or our customers and, potentially, the loss of customer orders and penalties from such customers for the delay.

Natural disasters or other catastrophic events, including wildfires and other fires, earthquakes, excessive rain, terrorist attacks and wars, could disrupt manufacturing ability or capacity, which could harm our operations and financial results.

China’s Legal System Embodies Uncertainties That Could Harm Our Business Operations. Since 1979, many new laws and regulations and government policies covering general economic matters have been implemented in China. Despite the development of the legal system, China’s system of laws is not yet complete. Even where adequate law exists in China, enforcement of contracts based on existing law may be uncertain and sporadic, and it may be difficult to obtain swift and equitable enforcement or to obtain enforcement of a judgment by a court of another jurisdiction. The relative inexperience of China’s judiciary in many cases creates additional uncertainty as to the outcome of any litigation. In addition, interpretation of statutes and regulations may be subject to government policies reflecting domestic political changes.

As our activities in China increase, we will be subject to administrative review and approval by various national and local agencies of China’s government. Given the changes occurring in China’s legal and regulatory structure, we may not be able to secure the requisite governmental approval for our activities. Failure to obtain the requisite governmental approval for any of our activities could impede our ability to operate our business or increase our expenses.

We May Not Address Successfully Problems Encountered in Connection With Our Acquisition of Fiberxon, If Successfully Consummated, or Any Other Acquisition on Which We May Embark. As we have in connection with our pending acquisition of Fiberxon, we expect to continue to consider opportunities to acquire or make investments in other technologies, products and businesses that could enhance our capabilities, complement or augment our current products or expand the breadth and geography of our markets or customer base. We have limited experience in acquiring other businesses and technologies. The acquisition of Fiberxon, if successfully completed, and other potential acquisitions we may make, involve numerous risks, including:

	•		problems assimilating the purchased technologies, products or business operations, including the timely integration of financial reporting systems particularly if, like in the case of Fiberxon if our acquisition is successfully completed, we acquire companies in countries where English is not widely spoken, the culture and political, economic, financial or monetary systems, principles or controls are different from those of the U.S., Taiwan, Israel or countries in Europe where we currently have offices or significant operations;

	•		problems maintaining uniform standards, procedures, controls and policies;

	•		unanticipated costs associated with the acquisition;

	•		start-up costs associated with any new business or product line we may acquire;

	•		possible charges to operations for purchased technology and restructuring;

	•		incurrence of amortization expenses and impairment charges related to goodwill and other intangible assets and deferred stock expense;

	•		incurrence of debt and contingent liabilities;

	•		problems, and adverse effects on our existing businesses of, providing funds or financing to support the operations of the acquired business;

	•		adverse effects on existing business relationships with suppliers and customers or on relations with our existing employees;

	•		risks associated with entering new markets, such as those in China, in which we have no or limited prior experience;

	•		potential loss of key employees of acquired businesses and difficulties recruiting adequate replacements;

	•		the need to hire additional employees to operate the acquired business effectively, including employees with specialized knowledge or language skills;

	•		potential litigation risks associated with acquisitions, whether completed or not;

	•		dilutive issuances of our equity securities; and

	•		increased legal and accounting costs as a result of the Sarbanes-Oxley Act.

If we fail to evaluate and execute acquisitions properly, our management team may be distracted or their attention diverted from our core businesses and their day-to-day operations, disrupting our business and adversely affecting our operating results. We can give no assurance as to whether we can successfully integrate Fiberxon if that acquisition is successfully completed or integrate other companies, products, technologies or personnel of any business that we might acquire in the future. Moreover, there are significant conditions that need to be satisfied to complete the acquisition of Fiberxon, the failure of which could result in termination of the transaction prior to closing. Our efforts to acquire Fiberxon has resulted and will result, and our efforts to pursue other acquisitions could result, in substantial expenses and could adversely affect our operating results if our acquisition of Fiberxon is not, or other acquisitions that we may pursue are not, successfully consummated.

We Currently Depend On Third-Party Contract Manufacturers and Therefore Could Face Delays Harming Our Sales. We outsource the board-level assembly, test and quality control of material, components, subassemblies and systems relating to our networking products to third-party contract manufacturers. Though there are a large number of contract manufacturers that we can use for outsourcing, we have elected to use a limited number of vendors for a significant portion of our board assembly requirements in order to foster consistency in quality of the products and to achieve economies of scale. These independent third-party manufacturers also provide the same services to other companies. Risks associated with the use of independent manufacturers include unavailability of or delays in obtaining adequate supplies of products and reduced control of manufacturing quality and production costs. If our contract manufacturers failed to deliver needed components timely, we could face difficulty in obtaining adequate supplies of products from other sources in the near term. Our third party manufacturers may not provide us with adequate supplies of quality products on a timely basis, or at all. While we could outsource with other vendors, a change in vendors may require significant lead-time and may result in shipment delays and expenses. Our inability to obtain these products on a timely basis, the loss of a vendor or a change in the terms and conditions of the outsourcing would have a material adverse effect on our business, operating results and financial condition.

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

We May Suffer Losses as a Result of Entering into Fixed Price Contracts. From time to time we enter into contracts with certain customers where the price we charge for particular products is fixed. Although our estimated production costs for these products is used to compute the fixed price for sale, if our actual production cost exceeds the estimated production cost due to our inability to obtain needed components timely or at all or for other reasons, we may incur a loss on the sale. Sales of material amounts of products on a fixed price basis where we have not accurately predicted the production costs could have a material adverse affect on our results of operations.

Our Inability to Achieve Adequate Production Yields for Certain Components We Manufacture Internally Could Result In a Loss of Sales and Customers. We rely heavily on our own production capability for critical semiconductor lasers and light emitting diodes used in our products. Because we manufacture these and other key components at our own facilities and these components are not readily available from other sources, any interruption of our manufacturing processes could have a material adverse effect on our operations. Furthermore, we have a limited number of employees dedicated to the operation and maintenance of our wafer fabrication equipment, the loss of any of whom could result in our inability to effectively operate and service this equipment. Wafer fabrication is sensitive to many factors, including variations and impurities in the raw materials, the fabrication process, performance of the manufacturing equipment, defects in the masks used to print circuits on the wafer and the level of contaminants in the manufacturing environment. We may not be able to maintain acceptable production yields or avoid product shipment delays. In the event adequate production yields are not achieved, resulting in product shipment delays, our business, operating results and financial condition could be materially adversely affected.

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

We Could In the Future Become Subject to Litigation Regarding Intellectual Property Rights, Which Could Be Costly and Subject Us to Significant Liability. From time to time, third parties, including our competitors, may assert patent, copyright and other intellectual property rights to technologies that are important to us. Over the years, we have received notices from third parties alleging possible infringement of patents with respect to certain features of our products or our manufacturing processes and in connection with these notices have been involved in discussions with the claimants, including IBM, Lucent, Ortel, Nortel, Rockwell, the Lemelson Foundation, Finisar and Apcon. To date, our aggregate revenues potentially subject to the foregoing claims have not been material. However, these or other companies may pursue litigation with respect to these or other claims. The results of any litigation are inherently uncertain. In the event of an adverse result in any litigation with respect to intellectual property rights relevant to our products that could arise in the future, we could be required to obtain licenses to the infringing technology, to pay substantial damages under applicable law, to cease the manufacture, use and sale of infringing products or to expend significant resources to develop non-infringing technology. Licenses may not be available from third parties either on commercially reasonable terms or at all. In addition, litigation frequently involves substantial expenditures and can require significant management attention, even if we ultimately prevail. Accordingly, any infringement claim or litigation against us could significantly harm our business, operating results and financial condition.

In the Future, We May Initiate Claims Or Litigation Against Third Parties for Infringement of Our Proprietary Rights to Protect These Rights Or to Determine the Scope and Validity of Our Proprietary Rights Or the Proprietary Rights Of Competitors. These Claims Could Result In Costly Litigation and the Diversion of Our Technical and Management Personnel. Necessary licenses of third-party technology may not be available to us or may be very expensive, which could adversely affect our ability to manufacture and sell our products. From time to time we may be required to license technology from third parties to develop new products or product enhancements. We cannot assure you that third-party licenses will be available to us on commercially reasonable terms, if at all. The inability to obtain any third-party license required to develop new products and product enhancements could require us to obtain substitute technology of lower quality or performance standards or at greater cost, either of which could seriously harm our ability to manufacture and sell our products.

We Are Dependent On Certain Members of Our Senior Management. We are substantially dependent upon Dr. Shlomo Margalit, our Chairman of the Board of Directors, Chief Technical Officer and Secretary, and Mr. Noam Lotan, our President and Chief Executive Officer. The loss of the services of either of these officers could have a material adverse effect on us. We have entered into employment agreements with Dr. Margalit and Mr. Lotan and are the beneficiary of a key man life insurance policy in the amount of $1.0 million on Mr. Lotan’s life. However, we can give no assurance that the proceeds from this policy will be sufficient to compensate us in the event of the death of Mr. Lotan, and the policy is not applicable in the event that he becomes disabled or is otherwise unable to render services to us. We no longer maintain a key man life insurance policy on Dr. Margalit.

Our Business Requires Us to Attract and Retain Qualified Personnel. Our ability to develop, manufacture and market our products, run our operations and our ability to compete with our current and future competitors depends, and will depend, in large part, on our ability to attract and retain qualified personnel. Competition for executives and qualified personnel in the networking and fiber optics industries is intense, and we will be required to compete for those personnel with companies having substantially greater financial and other resources than we do. To attract executives, we have had to enter into compensation arrangements, which have resulted in substantial deferred stock expense and adversely affected our results of operations. We may enter into similar arrangements in the future to attract qualified executives. If we should be unable to attract and retain qualified personnel, our business could be materially adversely affected.

Environmental Regulations Applicable to Our Manufacturing Operations Could Limit Our Ability to Expand Or Subject Us to Substantial Costs. We are subject to a variety of environmental regulations relating to the use, storage, discharge and disposal of hazardous chemicals used during our manufacturing processes. Further, we are subject to other safety, labeling and training regulations as required by local, state and federal law. Any failure by us to comply with present and future regulations could subject us to future liabilities or the suspension of production. In addition, these kinds of regulations could restrict our ability to expand our facilities or could require us to acquire costly equipment or to incur other significant expenses to comply with environmental regulations. We cannot assure you that these legal requirements will not impose on us the need for additional capital expenditures or other requirements. If we fail to obtain required permits or otherwise fail to operate within these or future legal requirements, we may be required to pay substantial penalties, suspend our operations or make costly changes to our manufacturing processes or facilities.

Our Headquarters Are Located In Southern California, and Certain of Our Manufacturing Facilities Are Located In Southern California and Taiwan, Where Disasters May Occur That Could Disrupt Our Operations and Harm Our Business. Our corporate headquarters is located in the San Fernando Valley of Southern California and some of our manufacturing facilities are located in Southern California and Taiwan. Historically, these regions have been vulnerable to natural disasters and other risks, such as earthquakes, fires and floods, which at times have disrupted the local economies and posed physical risks to our property and personnel.

In addition, terrorist acts or acts of war targeted at the United States, and specifically Southern California, has caused damage and disruption to us and could again cause damage or disruption to us, our employees, facilities, partners, suppliers, distributors and resellers, and customers, which could have a material adverse effect on our operations and financial results.

If We Fail to Forecast Component and Material Requirements for Our Manufacturing Facilities Accurately, We Could Incur Additional Costs or Experience Manufacturing Delays. We use rolling forecasts based on anticipated product orders to determine our component requirements. It is very important that we accurately predict both the demand for our products and the lead times required to obtain the necessary components and materials. Lead times for components and materials that we order vary significantly and depend on factors such as specific supplier requirements, the size of the order, contract terms and current market demand for the components. For substantial increases in production levels, some suppliers may need nine months or more lead-time. If we overestimate our component and material requirements, we may have excess inventory, which would increase our costs. If we underestimate our component and material requirements, we may have inadequate inventory, which could interrupt our manufacturing and delay delivery of our products to our customers. Any of these occurrences would negatively impact our net sales.

Legislative Actions, Higher Insurance Costs and Potential New Accounting Pronouncements Are Likely to Impact Our Future Financial Position and Results of Operations and In the Case of FASB’s New Pronouncement Regarding the Expensing of Stock Options Will Adversely Impact Our Financial Results. There have been regulatory changes, including the Sarbanes-Oxley Act of 2002, new SEC regulations and Nasdaq Stock Market rules and there may be potential new accounting pronouncements or regulatory rulings, which will have an impact on our future financial position and results of operations. These regulatory changes and other legislative initiatives have increased general and administrative costs. In addition, insurers are likely to increase rates as a result of high claims rates recently and our rates for our various insurance policies are likely to increase. The Financial Accounting Standards Board’s recent change to mandate the expensing of stock compensation will require us to record charges to earnings for stock option grants to employees and directors and will adversely affect our financial results for periods after we implement the pronouncement. As required, we implemented this pronouncement on January 1, 2006.

We Are At Risk of Securities Class Action Or Other Litigation That Could Result In Substantial Costs and Divert Management’s Attention and Resources. In the past, securities class action litigation has been brought against a company following periods of volatility in the market price of its securities. Due to the volatility and potential volatility of our stock price, we may be the target of securities litigation in the future. Securities or other litigation could result in substantial costs and divert management’s attention and resources.

The Prevailing Market Price of Our Common Stock May Limit Our Ability to Raise Equity Capital. Covenants in our Notes preclude us from issuing our common stock or securities that are convertible into or exchangeable or exercisable for shares of our common stock at a per share price less than the conversion price per share of the 2003 Notes then in effect, except in certain limited cases. The conversion price of our Notes currently in effect is $2.32 per share and the recent market prices of our common stock have at times been below the conversion price. During periods when the market price of our common stock is below $2.32 per share, we are limited in our ability to conduct an equity financing without triggering a default of our Notes or the need to seek a waiver from the holder, which may not be obtainable. A continuing inability to raise financial capital would limit our operating flexibility.

It Is an Event of Default Under Our Notes If Our Common Stock Were Delisted from the Nasdaq Stock Market. We would be in default under our Notes, if our common stock is delisted from the Nasdaq Stock Market. In that case, each holder of Notes has the right to require us to repay the outstanding principal amount of the Notes, plus accrued and unpaid interest.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market Risks

Market risk represents the risk of loss that may impact our Consolidated Financial Statements through adverse changes in financial market prices and rates and inflation. Our market risk exposure results primarily from fluctuations in foreign exchange and interest rates. We manage our exposure to these market risks through our regular operating and financing activities and, in certain instances, through the use of derivative financial instruments. These derivative instruments are used to manage risks of volatility in interest and foreign exchange rate movements on certain assets, liabilities or anticipated transactions and creates a relationship in which gains or losses on derivative instruments are expected to counter-balance the losses or gains on the assets, liabilities or anticipated transactions exposed to such market risks.

Interest Rates. We are exposed to interest rate fluctuations on our investments, short-term borrowings and long-term obligations. Our cash and short-term investments are subject to limited interest rate risk, and are primarily maintained in money market funds and bank deposits. Our variable-rate short-term borrowings are also subject to limited interest rate risk because of their short-term maturities. Our long-term obligations were entered into with fixed interest rates. As of March 31, 2007, through a foreign office, we had one interest rate swap contract outstanding. The Company also had a second interest rate swap contract that matured during March 2007. The economic purpose of these interest rate swap contracts was to utilize them in an effort to protect our variable interest debt from significant interest rate fluctuations. Unrealized gains on these interest rate swap contracts for the three months ended March 31, 2007 were approximately $22,000 and unrealized losses for the three months ended March 31, 2006 were approximately $84,000, and have been included in interest expense in the accompanying Statements of Operations.

Foreign Exchange Rates. We operate on an international basis with a portion of our revenues and expenses being incurred in currencies other than the U.S. dollar. Fluctuation in the value of these foreign currencies in which we conduct our business relative to the U.S. dollar affect our results and will cause U.S. dollar translation of such currencies to vary from one period to another. We cannot predict the effect of exchange rate fluctuations upon future operating results. However, because we have revenues and expenses in each of these foreign currencies, the effect on our results of operations from currency fluctuations is reduced.

Certain assets, including certain bank accounts and accounts receivables, exist in non-U.S. dollar-denominated currencies, which are sensitive to foreign currency exchange rate fluctuations. The non-U.S. denominated currencies are principally in the euro, the Swedish krona, the Swiss franc and the Taiwan dollar. Additionally, certain of our current and long-term liabilities are denominated in these foreign currencies. At March 31, 2007, currency changes resulted in assets and liabilities denominated in local currencies being translated into more dollars than at year-end 2006.

We incurred approximately 43% of our operating expenses in currencies other than the U.S. dollar during the three months ended March 31, 2007. In general, these currencies were stronger against the U.S. dollar for the three months ended March 31, 2007 compared to the same period last year. Therefore, revenues and expenses in these countries translated into more dollars than they would have in 2006. For the first three months of 2007, we had approximately:

	•		$6.6 million of operating expenses that were settled in the euro;

	•		$3.4 million of operating expenses that were settled in Swiss francs;

	•		$1.9 million of operating expenses that were settled in Swedish krona; and

	•		$1.1 million of operating expenses settled in the Taiwan dollar.

Had rates of these various foreign currencies been 10% higher relative to the U.S. dollar for the first three months of 2007, our costs would have increased approximately:

	•		$658,000 related to expenses settled in euros;

	•		$338,000 related to expenses settled in Swiss francs;

	•		$186,000 in expenses settled in Swedish kronas; and

	•		$112,000 in expenses settled in the Taiwan dollar.

As of March 31, 2007, we held as part of our cash and cash equivalents $6.0 million of euros, $5.1 million of Swiss francs, $2.2 million of Swedish kronas and $1.8 million of Taiwan dollars. If rates of these foreign currencies were to move higher or lower by some percentage, it would have an equal effect on the relative U.S. dollar value of the balances we hold.

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

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this report on Form 10-Q, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”)) pursuant to Rule 13a-15 of the Exchange Act. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that as of the end of the period covered by the report on Form 10-Q, the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company’s Exchange Act filings.

Changes in Internal Controls

We are in the process of upgrading and replacing information systems used by two of our subsidiaries to accumulate, track and store financial and other data used in the preparation of their financial statements that are consolidated with our financial statements and the financial statements of our other subsidiaries. During the year ended December 31, 2006, one of these subsidiaries began to upgrade the software information system that it utilizes in all aspects of its operations in Taiwan. During the same period, the other subsidiary began to use the new system with respect to certain aspects of its US operations that relate to fulfillment of orders from its US customers with products manufactured by the other subsidiary in Taiwan or by third-party contract manufacturers in China, all of which ship directly to our subsidiary’s customers, a process called drop-shipping. While this new system was placed on line in the latter half of the quarter ended September 30, 2006, it was operated in parallel with our subsidiaries’ legacy systems which continued to provide the financial and other data that our subsidiaries used in preparing their financial statements for the nine months ended September 30, 2006. Our subsidiaries began relying on the new information systems exclusively in the fourth quarter of 2006 and we expect that our US subsidiary will begin using the new system in connection with its business activities in addition to those involving drop-shipping from Asian manufacturers by September 30, 2007.

Except as described in the paragraph above, there have been no changes in our internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Rule 13a-15 or 15d-15 under the Exchange Act that occurred during the last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II — OTHER INFORMATION

ITEM 1A. RISK FACTORS

You should carefully consider and evaluate all of the information in this Form 10-Q in combination with the more detailed description of our business in our annual report on Form 10-K for the year ended December 31, 2006, which we filed with the Securities and Exchange Commission on March 6, 2007, for a more complete understanding of the risks associated with an investment in our securities. There have been material changes in the Risk Factors as previously disclosed in our annual report on Form 10-K for the year ended December 31, 2006 and such changes are reflected immediately below. The following risk factors, as well those contained in our annual report on Form 10-K for the year ended December 31, 2006 and elsewhere in this Report are not the only ones facing our company. Additional risks not now known to us or that we currently deem immaterial may also impair our business operations.

Our Gross Margin May Fluctuate from Period to Period and Our Gross Margins for Optical Components and/or Networking Equipment May Be Adversely Affected by a Number Of Factors.

The following table sets forth, for the periods indicated, our gross margins from our two principal operating segments and for our company as a whole:


	Three months ended									Year ended
	Mar. 31,			Mar. 31,			Dec. 31,			Dec. 31,			Dec. 31,
	2007			2006			2006			2005			2004

Networking group		34	%		37	%		35	%		36	%		38	%
Optical components group		24	%		21	%		19	%		11	%		14	%

Total		32	%		33	%		31	%		32	%		34	%

Our gross margins also fluctuate from quarter to quarter within a year and from year-to-year. These yearly and quarterly fluctuations in our margins have been affected, often adversely, and may continue to be affected, by numerous factors, including:

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

	•		price reductions that we make, such as marketing decisions that we have made in the past to reduce the price for our optical components to certain customers in an effort to secure long-term leadership in the market for FTTP components;

	•		decreases in average selling prices of our products which, in addition to competitive factors and pressures from, or accommodations made to, significant customers, result from factors such as overcapacity and the introduction of new and more technologically advanced products in the case of optical components and excess inventories, increased sales discounts and new product introductions in the case of networking equipment;

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

	•		sales volume during a particular period or year;

	•		charges for excess or obsolete inventory;

	•		changes in the prices or the availability of components needed to manufacture our products;

	•		the relative success of our efforts to reduce product manufacturing costs, such as the transition of our optical component manufacturing to our Taiwan facility or to low-cost third party manufacturers in China;

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

	•		increased warranty or repair costs.

We expect gross margins generally and for specific products to continue to fluctuate from quarter to quarter and year to year.

We Face Risks from Our International Operations.

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


	Three months ended									Year ended
	Mar. 31,			Mar. 31,			Dec. 31,			Dec. 31,			Dec. 31,
	2007			2006			2006			2005			2004

Percentage of total revenue from foreign sales		70	%		67	%		67	%		74	%		77	%

We have offices in, and conduct a significant portion of our operations in and from Israel. Similarly, some of our development stage enterprises are located in Israel. We are, therefore, influenced by the political and economic conditions affecting Israel. Any major hostilities involving Israel, the interruption or curtailment of trade between Israel and its trading partners or a substantial downturn in the economic or financial condition of Israel could have a material adverse effect on our operations. Risks we face due to international sales and the use of overseas manufacturing include:

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

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

	•		unexpected changes in regulatory requirements;

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

	•		difficulties in managing operations across disparate geographic areas;

	•		difficulties associated with enforcing agreements through foreign legal systems;

	•		the payment of operating expenses in local currencies, which exposes us to risks of currency fluctuations;

	•		higher credit risks requiring cash in advance or letters of credit;

	•		potentially adverse tax consequences;

	•		unanticipated cost increases;

	•		unavailability or late delivery of equipment;

	•		trade restrictions;

	•		limited protection of intellectual property rights;

	•		unforeseen environmental or engineering problems; and

	•		personnel recruitment delays.

The majority of our sales are currently denominated in U.S. dollars. As we conduct business in several different countries, we have recently benefited from sales made in currencies other than the U.S. dollar because of the weakness of the U.S. dollar in relation to the currencies in which these sales have been made. However, if this trend ceases or reverses, fluctuations in currency exchange rates could cause our products to become relatively more expensive in particular countries, leading to a reduction in sales in that country. In addition, inflation or fluctuations in currency exchange rates in these countries could increase our expenses and thereby adversely affect our operating results.

Through one of our foreign subsidiaries, we have entered into interest rate swap contracts to hedge exposure to interest rate fluctuations. Unrealized gains on these interest rate swap contracts for the three months ended March 31, 2007 were approximately $22,000 and unrealized losses for the three months ended March 31, 2006 were approximately $84,000 and we could incur losses from these or other hedging activities in the future.

If Our Cash Flow Significantly Deteriorates In the Future, Our Liquidity and Ability to Operate Our Business Could Be Adversely Affected.

We incurred net losses in the years ended December 31, 2006, 2005 and 2004 and the three months ended March 31, 2007 and 2006, and our combined cash and short-term investments declined in each of those periods except the year ended December 31, 2006 and the three months ended March 31, 2006. Excluding the private placement of approximately 19.9 million shares of our common stock issued to a group of institutional investors in March 2006, which resulted in proceeds of $69.9 million, our combined cash, cash equivalents, time deposits and short-term and long-term marketable securities would have declined for the year ended December 31, 2006 and the three months ended March 31, 2006. Although we generate cash from operations, we may continue to experience negative overall cash flow in future quarters. If our cash flow significantly deteriorates in the future, our liquidity and ability to operate our business could be adversely affected. For example, our ability to raise financial capital may be hindered due to our net losses and the possibility of future negative cash flow.

We Could Breach Obligations to Our Outstanding Optionholders or the Holder of our Convertible Notes and Will be Unable to Issue Stock Options and Other Equity Awards to Our Employees If Stockholders Do Not Approve a Proposal at Our 2007 Annual Stockholders Meeting to Increase Our Authorized Common Stock.

At our Annual Meeting of Stockholders scheduled for May 29, 2007, we are seeking approval from our stockholders to amend our certificate of incorporation to increase the number of shares of our common stock that we are authorized to issue from 160,000,000 to 320,000,000 shares. Our acquisition of Fiberxon, if completed, will require us to issue up to 21,188,630 additional shares of our common stock (including shares of common stock issuable upon exercise of Fiberxon options that we will be assuming). Our current authorized common stock is 160,000,000 shares. As of April 15, 2007, there were 125,974,909 shares of our common stock issued and outstanding, 10,941,255 shares of our common stock issuable upon exercise of options granted pursuant to our existing Stock Option Plans, and 9,913,794 shares of our common stock issuable upon conversion of outstanding convertible notes that we issued in 2003. We are also seeking approval of our stockholders for a new equity Incentive Plan that if approved will cover an additional 12,000,000 shares of our common stock that we have reserved for issuance. Based on such numbers of outstanding and reserved shares of common stock, excluding the number of shares we would issue upon completion of the Fiberxon acquisition, we would have only 1,170,042 shares of common stock remaining available for issuance.

Accordingly, without an increase in the authorized common stock, we will not have sufficient shares of common stock available for the issuance in connection with the Fiberxon acquisition without potentially breaching obligations to outstanding optionholders or the holder of our convertible notes. Further, we would not be able to issue to our employees equity awards as incentive compensation. Breaching obligations to our employees and not having the ability to provide equity incentives to our employees could cause key employees to seek employment elsewhere or breaching obligations to the holder of our convertible notes could subject us to damages in addition to being forced to repay our notes in full before they mature. Either event could have a material adverse effect on our business, operating results and financial condition and on the market price of our common stock.

Delaware Law, Our Ability to Issue Preferred Stock and the Increase in Our Ability to Issue Common Stock if Our Stockholders Approve a Proposal That Will Increase Our Authorized Common Stock May Have Anti-Takeover Effects That Could Prevent a Change In Control, Which May Cause Our Stock Price to Decline and Issuances of Additional Common Stock Would Dilute the Voting Rights of Stockholders and Would Potentially Have Other Dilutive Effects.

We are authorized to issue up to 1,000,000 shares of preferred stock. This preferred stock may be issued in one or more series, the terms of which may be determined at the time of issuance by our board of directors without further action by stockholders. The terms of any series of preferred stock may include voting rights (including the right to vote as a series on particular matters), preferences as to dividend, liquidation, conversion and redemption rights and sinking fund provisions. No preferred stock is currently outstanding. The issuance of any preferred stock could materially adversely affect the rights of the holders of our common stock, and therefore, reduce the value of our common stock. In particular, specific rights granted to future holders of preferred stock could be used to restrict our ability to merge with, or sell our assets to, a third party and thereby preserve control by the present management. If stockholders approve the increase in our authorized common stock as proposed at our at Annual Meeting of Stockholders to be held on May 29, 2007, the additional shares of common stock authorized would also be available for other issuances for any proper corporate purpose from time to time as determined by our Board of Directors. For example, in addition to the Fiberxon acquisition, we may issue shares of common stock in public or private offerings for cash, or for use in our operations, for use as consideration in acquiring other companies or assets with stock or in connection with the issuance of convertible securities that could be used in connection with a stockholder rights plan that we could adopt to deter unfriendly takeovers that might otherwise be favored by stockholders. If we issue additional shares of common stock or other securities convertible into common stock in the future, it could dilute the voting rights of existing holders of our common stock, dilute our book value per share and, if and when we report net income, dilute earnings per share. We are also subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which prohibit us from engaging in a business combination with an interested stockholder for a period of three years after the date of the transaction in which the person became an interested stockholder unless the business combination is approved in the manner prescribed under Section 203. These provisions of Delaware law also may discourage, delay or prevent someone from acquiring or merging with us, which may cause the market price of our common stock to decline.

ITEM 6. EXHIBITS

(a) Exhibits


No.		Description

10.1		Agreement and Plan of Merger dated January 26, 2007 by and among Fiberxon, Inc., registrant, and registrant’s newly-formed wholly-owned subsidiaries, Lighthouse Transition Corporation and Lighthouse Acquisition Corporation, under which registrant agreed to acquire Fiberxon.

10.2		Indemnification agreement dated March 28, 2007 by and among Fiberxon, Inc. (“Fiberxon”), Fiberxon’s subsidiary, Fiberxon Technology (Shenzhen) Co., Ltd. (“Fiberxon Shenzhen”), and registrant’s subsidiary, Luminent, Inc. (“Luminent”), under which Fiberxon and Fiberxon Shenzhen agreed to indemnify Luminent for any loss on the $4.0 million standby letter of credit with CITIC Bank Shenzhen Branch (“CITIC”) as a result of Fiberxon Shenzhen’s breach of its loan agreement with CITIC.

31.1		Certification of the Chief Executive Officer required by Rule 13a-14(a) of the Exchange Act.

31.2		Certification of the Chief Financial Officer required by Rule 13a-14(a) of the Exchange Act.

32.1		Certifications pursuant to Rule 13a-14(b) and 18 U.S.C. Section 1350.


		Page
		Number
PART I	Financial Information		3

Item 1.	Financial Statements:		3

	Condensed Statements of Operations (unaudited) for the three months ended March 31, 2007 and 2006		4

	Condensed Balance Sheets as of March 31, 2007 (unaudited) and December 31, 2006		5

	Statements of Cash Flows (unaudited) for the three months ended March 31, 2007 and 2006		6

	Notes to Financial Statements		7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		16

Item 3.	Quantitative and Qualitative Disclosures About Market Risk		44

Item 4.	Controls and Procedures		45

PART II	Other Information		46

Item 1A.	Risk Factors		46

Item 6.	Exhibits		49

	Signatures		50
EXHIBIT 10.1
EXHIBIT 10.2
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 32.1


	Three Months Ended
	Mar. 31,			Mar. 31,
	2007			2006
	(Unaudited)
Revenue	$	89,679		$	77,262
Cost of goods sold		61,363			51,517

Gross profit		28,316			25,745

Operating costs and expenses:
Product development and engineering		7,306			6,980
Selling, general and administrative		22,739			20,674

Total operating costs and expenses		30,045			27,654

Operating loss		(1,729	)		(1,909	)

Interest expense		(1,052	)		(1,056	)
Other income, net		1,435			616

Loss before provision for income taxes		(1,346	)		(2,349	)

Provision for income taxes		870			1,332

Net loss	$	(2,216	)	$	(3,681	)


Loss per share:
Basic and diluted	$	(0.02	)	$	(0.03	)
Weighted average number of shares:
Basic and diluted		125,758			107,714


	MRV COMMUNICATIONS, INC.
	By:	/s/ Noam Lotan
		Noam Lotan
		President and Chief Executive Officer



	By:	/s/ Kevin Rubin
		Kevin Rubin
		Chief Financial Officer and Compliance Officer