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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



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(Mark One)



|x | Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
|- | ---------------------------------------------------------------------------------------

For the quarterly period ended July 31, 2006

OR



| ̈ | Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
|- | ----------------------------------------------------------------------------------------

For the transition period from  to

Commission File Number 000-31257



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McDATA CORPORATION

(Exact name of registrant as specified in its charter)



|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Delaware                                                       |  | 84-1421844                          
|(State or other jurisdiction of incorporation of organization) |  | (I.R.S. Employer Identification No.)

11802 Ridge Parkway, Broomfield, Colorado 80021

(Address of principal executive offices) (zip code)

(720) 558-8000

(Registrants telephone number, including area code)





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(Former name, former address and former fiscal year, if changed since last report)



---

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90
days.  Yes  x    No ̈

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 ̈Accelerated filer  x                    Non-accelerated filer ̈

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

At August 31, 2006, 120,109,955 shares of the registrants Class A Common Stock were outstanding and 39,145,028 shares of the registrants Class B
Common Stock were outstanding.



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McDATA CORPORATION

FORM 10-Q

QUARTER ENDED JULY 31, 2006

TABLE OF CONTENTS



|    |  |                                                                                       |  |   
|--- |  | ------------------------------------------------------------------------------------- |  | --
|    |  | PART I  FINANCIAL INFORMATION                                                        |  |   
|    |  |                                                                                      
|1.  |  | Financial Statements                                                                  |  |   
|    |  |                                                                                      
|    |  | Condensed Consolidated Balance Sheets                                                 |  | 4 
|    |  |                                                                                      
|    |  | Condensed Consolidated Statements of Operations                                       |  | 5 
|    |  |                                                                                      
|    |  | Condensed Consolidated Statement of Changes in Stockholders Equity                   |  | 6 
|    |  |                                                                                      
|    |  | Condensed Consolidated Statements of Cash Flows                                       |  | 7 
|    |  |                                                                                      
|    |  | Notes to Condensed Consolidated Financial Statements                                  |  | 8 
|    |  |                                                                                      
|2.  |  | Managements Discussion and Analysis of Financial Condition and Results of Operations |  | 40
|    |  |                                                                                      
|3.  |  | Quantitative and Qualitative Disclosures About Market Risks                           |  | 58
|    |  |                                                                                      
|4.  |  | Controls and Procedures                                                               |  | 59
|    |  |                                                                                      
|    |  | PART II  OTHER INFORMATION                                                           |  |   
|    |  |                                                                                      
|1.  |  | Legal Proceedings                                                                     |  | 60
|    |  |                                                                                      
|1a. |  | Risk Factors                                                                          |  | 60
|    |  |                                                                                      
|4.  |  | Submission of Matters to a Vote of Security Holders                                   |  | 70
|    |  |                                                                                      
|6.  |  | Exhibits                                                                              |  | 71

Special Note Regarding Forward-Looking Statements

Some of the information presented in this Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 (the Reform Act). Although McDATA Corporation (McDATA or the Company, which may also be referred to as we, us or our) believes
that its expectations are based on reasonable assumptions within the bounds of its knowledge of its businesses and operations, there can be no assurance that actual results will not differ materially from our expectations. Factors that could cause
actual results to differ materially from expectations include:



| |  |  | changes in our relationship with EMC Corporation, or EMC, International Business Machines Corporation, or IBM, Hitachi Data Systems, or HDS, and our other distribution partners and
the level of their orders;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | changes in our relationship with our large end-user customers and the level of their orders;
| | - |  | --------------------------------------------------------------------------------------------



| |  |  | our ability to successfully increase sales of McDATAs directors, routers, switches, channel extension products, embedded software, management software solutions, third party
products, maintenance and support contracts, and professional services;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | competition in the storage networking and channel extension market, including competitive pricing pressures and product give-aways, by our competitors such as Brocade Communication
Systems, Inc., or Brocade, QLogic Corp., or QLogic, Cisco Systems, Inc., or Cisco, Emulex Corporation and other IP and multi-protocol switch and software suppliers;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our ability to expand our product offerings including our ability to successfully qualify and ramp sales of new products (including higher port density, multi-protocol and
intelligent network products);
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our ability to partner with other companies and jointly sell products, including but not limited to management software with Network Appliance, Riverbed, FalconStor and software for
blade servers with QLogic;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | unexpected engineering costs or delays, additional manufacturing and component costs or production delays that we may experience in connection with new product development or an
inability to source products from third party product providers;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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| |  |  | a loss of any of our key customers (and our OEMs key customers), distributors, resellers, suppliers or our contract manufacturers;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------



| |  |  | any change in business conditions, our business and sales strategy or product development plans, and our ability to attract and retain highly skilled individuals;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | any industry or technology changes that cause obsolescence of our products or components of those products;
| | - |  | -----------------------------------------------------------------------------------------------------------



| |  |  | one-time events and other important risks and factors disclosed previously and from time to time in our filings with the U.S. Securities and Exchange Commission, or SEC, including
the risk factors discussed in this Quarterly Report;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the impact of any acquisitions by us of businesses, products, or technologies, including difficulties in integrating any acquisitions, including the merger with CNT that closed
June 1, 2005; and
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the impact of the proposed acquisition by Brocade Communication Systems, Inc. on our businesses, products, or technologies.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------

You should not construe these cautionary statements as an exhaustive list or as any admission by us regarding the adequacy of the disclosures made by us.
We cannot always predict or determine after the fact what factors would cause actual results to differ materially from those indicated by our forward-looking statements or other statements. In addition, you are urged to consider statements that
include the terms believes, belief, expects, plans, objectives, anticipates, intends, or the like to be uncertain and forward-looking. All cautionary statements
should be read as being applicable to all forward-looking statements wherever they appear. We do not undertake any obligation to publicly update or revise any forward-looking statements.



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PART IFINANCIAL INFORMATION

McDATA CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

(unaudited)



|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ------------ | --------- | - | --------------- | - | --------- | -
|                                                                                                                                                                                     |  | July 31,2006 |           |   | January 31,2006 |  
|Assets                                                                                                                                                                               |  |              |           |   |                 |   |           |  
|Current assets:                                                                                                                                                                      |  |              |           |   |                 |   |           |  
|Cash and cash equivalents                                                                                                                                                            |  | $            | 128,547   |   |                 | $ | 139,083   |  
|Securities lending collateral                                                                                                                                                        |  |              | 86,212    |   |                 |   | 62,555    |  
|Short-term investments                                                                                                                                                               |  |              | 205,612   |   |                 |   | 171,110   |  
|Accounts receivable, net of allowance for bad debts of $1,789 and $7,880, respectively                                                                                               |  |              | 94,878    |   |                 |   | 126,106   |  
|Inventories                                                                                                                                                                          |  |              | 35,646    |   |                 |   | 33,100    |  
|Prepaid expenses and other current assets                                                                                                                                            |  |              | 12,912    |   |                 |   | 13,423    |  
|Restricted cash                                                                                                                                                                      |  |              | 3,890     |   |                 |   |          |  
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|Total current assets                                                                                                                                                                 |  |              | 567,697   |   |                 |   | 545,377   |  
|Property and equipment, net                                                                                                                                                          |  |              | 105,652   |   |                 |   | 109,118   |  
|Long-term investments                                                                                                                                                                |  |              | 25,036    |   |                 |   | 31,884    |  
|Restricted cash                                                                                                                                                                      |  |              | 11,659    |   |                 |   | 10,697    |  
|Intangible assets, net                                                                                                                                                               |  |              | 98,666    |   |                 |   | 123,694   |  
|Goodwill                                                                                                                                                                             |  |              | 263,473   |   |                 |   | 266,141   |  
|Other assets, net                                                                                                                                                                    |  |              | 59,008    |   |                 |   | 59,798    |  
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|Total assets                                                                                                                                                                         |  | $            | 1,131,191 |   |                 | $ | 1,146,709 |  
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|Liabilities and Stockholders Equity                                                                                                                                                 |  |              |           |   |                 |   |           |  
|Current liabilities:                                                                                                                                                                 |  |              |           |   |                 |   |           |  
|Accounts payable                                                                                                                                                                     |  | $            | 42,964    |   |                 | $ | 43,238    |  
|Accrued liabilities                                                                                                                                                                  |  |              | 72,495    |   |                 |   | 94,276    |  
|Securities lending collateral payable                                                                                                                                                |  |              | 86,212    |   |                 |   | 62,555    |  
|Current portion of deferred revenue                                                                                                                                                  |  |              | 59,832    |   |                 |   | 61,242    |  
|Current portion of obligations under capital leases                                                                                                                                  |  |              | 2,212     |   |                 |   | 2,977     |  
|Interest rate swap                                                                                                                                                                   |  |              | 1,332     |   |                 |   |          |  
|Current portion of subordinated debt                                                                                                                                                 |  |              | 119,278   |   |                 |   |          |  
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|Total current liabilities                                                                                                                                                            |  |              | 384,325   |   |                 |   | 264,288   |  
|Obligations under capital leases, less current portion                                                                                                                               |  |              | 2,756     |   |                 |   | 3,532     |  
|Deferred revenue, less current portion                                                                                                                                               |  |              | 28,294    |   |                 |   | 31,380    |  
|Other long-term liabilities                                                                                                                                                          |  |              | 14,371    |   |                 |   | 1,844     |  
|Interest rate swap                                                                                                                                                                   |  |              | 7,884     |   |                 |   | 7,553     |  
|Convertible subordinated debt                                                                                                                                                        |  |              | 164,616   |   |                 |   | 285,889   |  
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|Total liabilities                                                                                                                                                                    |  |              | 602,246   |   |                 |   | 594,486   |  
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|Commitments and contingencies (Note 16)                                                                                                                                              |  |              |           |   |                 |   |           |  
|Stockholders Equity:                                                                                                                                                                |  |              |           |   |                 |   |           |  
|Common stock, Class A, $0.01 par value, 250,000,000 shares authorized, 120,132,956 and 119,599,002 shares issued and outstanding at
July 31, 2006 and January 31, 2006, respectively |  |              | 1,202     |   |                 |   | 1,197     |  
|Common stock, Class B, $0.01 par value, 200,000,000 shares authorized, 39,094,196 and 38,315,628 shares issued and outstanding at
July 31, 2006 and January 31, 2006, respectively   |  |              | 392       |   |                 |   | 385       |  
|Additional paid-in-capital                                                                                                                                                           |  |              | 675,612   |   |                 |   | 671,142   |  
|Treasury stock, at cost, 1,439,560 Class A shares as of July 31, 2006 and January 31, 2006, and 3,085,256 Class B shares as of
July 31, 2006 and January 31, 2006, respectively.     |  |              | (23,591   | ) |                 |   | (23,591   | )
|Deferred compensation                                                                                                                                                                |  |              |          |   |                 |   | (2,832    | )
|Accumulated other comprehensive loss                                                                                                                                                 |  |              | (1,290    | ) |                 |   | (807      | )
|Accumulated deficit                                                                                                                                                                  |  |              | (123,380  | ) |                 |   | (93,271   | )
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|Total stockholders equity                                                                                                                                                           |  |              | 528,945   |   |                 |   | 552,223   |  
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  
|Total liabilities and stockholders equity                                                                                                                                           |  | $            | 1,131,191 |   |                 | $ | 1,146,709 |  
|                                                                                                                                                                                     |  |              |           |   |                 |   |           |  

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



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McDATA CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

(unaudited)



|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|------------------------------------------------------------- |  | -------------------------- | ------- | - | ------------------------ | - | ------- | ---- |  | - | ------- | - |  | - | ------- | -
|                                                              |  | Three Months EndedJuly 31, |         |   | Six Months EndedJuly 31, |  
|                                                              |  | 2006                       |         |   | 2005                     |   |         | 2006 |  |   | 2005    |  
|Revenue:                                                      |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Product                                                       |  | $                          | 118,134 |   |                          | $ | 139,139 |      |  | $ | 253,443 |   |  | $ | 231,409 |  
|Service                                                       |  |                            | 31,996  |   |                          |   | 26,170  |      |  |   | 64,999  |   |  |   | 32,768  |  
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Total revenue                                                 |  |                            | 150,130 |   |                          |   | 165,309 |      |  |   | 318,442 |   |  |   | 264,177 |  
|Cost of revenue (1):                                          |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Product                                                       |  |                            | 66,720  |   |                          |   | 66,644  |      |  |   | 137,928 |   |  |   | 107,171 |  
|Service                                                       |  |                            | 21,464  |   |                          |   | 16,349  |      |  |   | 41,371  |   |  |   | 21,262  |  
|Restructuring charges                                         |  |                            |        |   |                          |   | 692     |      |  |   |        |   |  |   | 692     |  
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Total cost of revenue                                         |  |                            | 88,184  |   |                          |   | 83,685  |      |  |   | 179,299 |   |  |   | 129,125 |  
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Gross profit                                                  |  |                            | 61,946  |   |                          |   | 81,624  |      |  |   | 139,143 |   |  |   | 135,052 |  
|Operating expenses:                                           |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Research and development (1)                                  |  |                            | 26,004  |   |                          |   | 31,972  |      |  |   | 52,564  |   |  |   | 53,358  |  
|Selling and marketing (1)                                     |  |                            | 36,123  |   |                          |   | 38,638  |      |  |   | 73,435  |   |  |   | 62,754  |  
|General and administrative (1)                                |  |                            | 8,650   |   |                          |   | 11,369  |      |  |   | 18,533  |   |  |   | 17,133  |  
|Amortization of acquired intangible assets                    |  |                            | 10,947  |   |                          |   | 9,537   |      |  |   | 22,007  |   |  |   | 15,107  |  
|Restructuring and impairment charges                          |  |                            | 4,482   |   |                          |   | 9,752   |      |  |   | 5,360   |   |  |   | 9,752   |  
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Total operating expenses                                      |  |                            | 86,206  |   |                          |   | 101,268 |      |  |   | 171,899 |   |  |   | 158,104 |  
|Loss from operations                                          |  |                            | (24,260 | ) |                          |   | (19,644 | )    |  |   | (32,756 | ) |  |   | (23,052 | )
|Interest and other income, net                                |  |                            | 7,375   |   |                          |   | 2,478   |      |  |   | 11,874  |   |  |   | 4,248   |  
|Interest expense                                              |  |                            | (4,023  | ) |                          |   | (2,344  | )    |  |   | (7,907  | ) |  |   | (3,147  | )
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Loss before income taxes                                      |  |                            | (20,908 | ) |                          |   | (19,510 | )    |  |   | (28,789 | ) |  |   | (21,951 | )
|Income tax expense (benefit)                                  |  |                            | (343    | ) |                          |   | 6,008   |      |  |   | 1,320   |   |  |   | 6,424   |  
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Net loss                                                      |  | $                          | (20,565 | ) |                          | $ | (25,518 | )    |  | $ | (30,109 | ) |  | $ | (28,375 | )
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Basic and diluted net loss per share                          |  | $                          | (.13    | ) |                          | $ | (.18    | )    |  | $ | (.20    | ) |  | $ | (.22    | )
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Shares used in computing basic and diluted net loss per share |  |                            | 154,221 |   |                          |   | 139,130 |      |  |   | 153,436 |   |  |   | 127,302 |  
|                                                              |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  



|(1) | Amounts for the three and six months ended July 31, 2006 include stock-based compensation expense recognized under SFAS 123R (see Note 13 Stock Based Compensation,
of the Notes to Condensed Consolidated Financial Statements). Stock-based compensation amounts for the three and six months ended July 31, 2005 have been reclassified to conform to the 2006 presentation.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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



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McDATA CORPORATION

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS EQUITY

For the Six Months Ended July 31, 2006

(in thousands)

(unaudited)



|                                                          |         |              |         |                          |        |                         |        |  |                                   |     |  |               |         |  |                    |        |   |                          |   |        |   |  |   |         |   |  |   |          |   |  |   |         |  
|--------------------------------------------------------- | ------- | ------------ | ------- | ------------------------ | ------ | ----------------------- | ------ |  | --------------------------------- | --- |  | ------------- | ------- |  | ------------------ | ------ | - | ------------------------ | - | ------ | - |  | - | ------- | - |  | - | -------- | - |  | - | ------- | -
|                                                          |         | Common Stock |         | AdditionalPaid-InCapital |        | DeferredCompensation(1) |        |  | AccumulatedOtherComprehensiveLoss |     |  | TreasuryStock |         |  | AccumulatedDeficit |        |   | TotalStockholdersEquity |  
|                                                          | Class A |              | Class B |                          |        |                         |        |  |                                  
|                                                          | Shares  |              | Amt     |                          | Shares |                         | Amt    |  |                                   |     |  |               |        
|Balances at January 31, 2006                              |         | 119,599      |         | $                        | 1,197  |                         | 38,315 |  | $                                 | 385 |  | $             | 671,142 |  | $                  | (2,832 | ) |                          | $ | (807   | ) |  | $ | (23,591 | ) |  | $ | (93,271  | ) |  | $ | 552,223 |  
|Shares issued                                             |         | 534          |         |                          | 5      |                         | 779    |  |                                   | 7   |  |               | 1,406   |  |                    |       |   |                          |   |       |   |  |   |        |   |  |   |         |   |  |   | 1,418   |  
|Stock-based compensation expense, net                     |         |             |         |                          |       |                         |       |  |                                   |    |  |               | 3,064   |  |                    | 2,832  |   |                          |   |       |   |  |   |        |   |  |   |         |   |  |   | 5,896   |  
|Comprehensive loss:                                       |         |              |         |                          |        |                         |        |  |                                   |     |  |               |         |  |                    |        |   |                          |   |        |   |  |   |         |   |  |   |          |   |  |   |         |  
|Net loss                                                  |         |             |         |                          |       |                         |       |  |                                   |    |  |               |        |  |                    |       |   |                          |   |       |   |  |   |        |   |  |   | (30,109  | ) |  |   | (30,109 | )
|Unrealized loss on investments, net of tax of $0          |         |             |         |                          |       |                         |       |  |                                   |    |  |               |        |  |                    |       |   |                          |   | (280   | ) |  |   |        |   |  |   |         |   |  |   | (280    | )
|Foreign currency translation adjustment, net of tax of $0 |         |             |         |                          |       |                         |       |  |                                   |    |  |               |        |  |                    |       |   |                          |   | (203   | ) |  |   |        |   |  |   |         |   |  |   | (203    | )
|                                                          |         |              |         |                          |        |                         |        |  |                                   |     |  |               |         |  |                    |        |   |                          |   |        |   |  |   |         |   |  |   |          |   |  |   |         |  
|Total comprehensive loss                                  |         |              |         |                          |        |                         |        |  |                                   |     |  |               |         |  |                    |        |   |                          |   |        |   |  |   |         |   |  |   |          |   |  |   | (30,592 | )
|                                                          |         |              |         |                          |        |                         |        |  |                                   |     |  |               |         |  |                    |        |   |                          |   |        |   |  |   |         |   |  |   |          |   |  |   |         |  
|Balances at July 31, 2006                                 |         | 120,133      |         | $                        | 1,202  |                         | 39,094 |  | $                                 | 392 |  | $             | 675,612 |  | $                  |       |   |                          | $ | (1,290 | ) |  | $ | (23,591 | ) |  | $ | (123,380 | ) |  | $ | 528,945 |  
|                                                          |         |              |         |                          |        |                         |        |  |                                   |     |  |               |         |  |                    |        |   |                          |   |        |   |  |   |         |   |  |   |          |   |  |   |         |  



|(1) | Adjustment of deferred compensation due to adoption of SFAS 123R. See Note 13, Stock Based Compensation.
|--- | --------------------------------------------------------------------------------------------------------

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



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McDATA CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)



|                                                                           |  |                           |          |   |      |   |          |  
|-------------------------------------------------------------------------- |  | ------------------------- | -------- | - | ---- | - | -------- | -
|                                                                           |  | Six Months Ended July 31, |         
|                                                                           |  | 2006                      |          |   | 2005 |  
|Cash flows from operating activities:                                      |  |                           |          |   |      |   |          |  
|Net loss                                                                   |  | $                         | (30,109  | ) |      | $ | (28,375  | )
|Adjustments to reconcile net loss to cash flows from operating activities: |  |                           |          |   |      |   |          |  
|Depreciation and amortization                                              |  |                           | 52,849   |   |      |   | 38,263   |  
|Loss (gain) on trade-in/retirement of assets                               |  |                           | 111      |   |      |   | (49      | )
|Gain on retirement of debt                                                 |  |                           | (7       | ) |      |   |         |  
|Net realized loss (gain) on investments                                    |  |                           | (806     | ) |      |   | 379      |  
|Loss on impairments and inventory valuation adjustment                     |  |                           | 9,595    |   |      |   |         |  
|Provisions for inventory obsolescence                                      |  |                           | 5,028    |   |      |   | 5,589    |  
|Provisions for (recoveries of) doubtful accounts                           |  |                           | (488     | ) |      |   | 68       |  
|Deferred income taxes                                                      |  |                           | (123     | ) |      |   |         |  
|Non-cash compensation cost                                                 |  |                           | 5,138    |   |      |   | 4,087    |  
|Unrealized gains on investments                                            |  |                           |         |   |      |   | (85      | )
|Unrealized gain from derivative transactions                               |  |                           | (15      | ) |      |   |         |  
|Changes in net assets and liabilities, net of effects of merger with CNT   |  |                           | (7,552   | ) |      |   | (26,660  | )
|                                                                           |  |                           |          |   |      |   |          |  
|Net cash provided (used) by operating activities                           |  |                           | 33,621   |   |      |   | (6,783   | )
|Cash flows from investing activities:                                      |  |                           |          |   |      |   |          |  
|Purchases of property and equipment                                        |  |                           | (9,861   | ) |      |   | (6,797   | )
|Proceeds from the sale of equipment                                        |  |                           | 13       |   |      |   | 2,281    |  
|Purchases of investments                                                   |  |                           | (216,927 | ) |      |   | (200,156 | )
|Proceeds from maturities and sales of investments                          |  |                           | 189,986  |   |      |   | 210,027  |  
|Cash recognized on merger with CNT, net of transaction costs               |  |                           |         |   |      |   | 40,395   |  
|Decrease (increase) in restricted cash related to interest rate swaps      |  |                           | (4,852   | ) |      |   | 3        |  
|                                                                           |  |                           |          |   |      |   |          |  
|Net cash provided by (used in) investing activities                        |  |                           | (41,641  | ) |      |   | 45,753   |  
|Cash flows from financing activities:                                      |  |                           |          |   |      |   |          |  
|Payments on capital leases                                                 |  |                           | (1,533   | ) |      |   | (1,059   | )
|Purchase of treasury stock                                                 |  |                           |         |   |      |   | (4,552   | )
|Purchases and payments of long-term debt                                   |  |                           | (1,974   | ) |      |   |         |  
|Proceeds from the exercise of common stock options                         |  |                           | 1,418    |   |      |   | 267      |  
|                                                                           |  |                           |          |   |      |   |          |  
|Net cash used by financing activities                                      |  |                           | (2,089   | ) |      |   | (5,344   | )
|Effect of exchange rate changes on cash                                    |  |                           | (427     | ) |      |   | (376     | )
|                                                                           |  |                           |          |   |      |   |          |  
|Net increase (decrease) in cash and cash equivalents                       |  |                           | (10,536  | ) |      |   | 33,250   |  
|Cash and cash equivalents, beginning of period                             |  |                           | 139,083  |   |      |   | 64,507   |  
|                                                                           |  |                           |          |   |      |   |          |  
|Cash and cash equivalents, end of period                                   |  | $                         | 128,547  |   |      | $ | 97,757   |  
|                                                                           |  |                           |          |   |      |   |          |  
|Supplemental Disclosure of Non-Cash Investing and Financing Activities     |  |                           |          |   |      |   |          |  
|Deferred compensation forfeitures                                          |  | $                         |         |   |      | $ | 621      |  
|                                                                           |  |                           |          |   |      |   |          |  
|Capital lease obligations incurred                                         |  | $                         |         |   |      | $ | 370      |  
|                                                                           |  |                           |          |   |      |   |          |  
|Construction in progress, leased facilities and related debt               |  | $                         |         |   |      | $ | 13,075   |  
|                                                                           |  |                           |          |   |      |   |          |  
|Transfer of inventory to fixed assets                                      |  | $                         | 225      |   |      | $ | 3,004    |  
|                                                                           |  |                           |          |   |      |   |          |  

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



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##### Table of Contents

McDATA CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(tabular amounts in thousands, except per share data)

(unaudited)

Note 1Overview and Basis of Presentation

Our Business

McDATA Corporation (McDATA) and its subsidiaries provide data infrastructure solutions
that simplify and optimize access to, and movement of, ever increasing volumes of data held within enterprises across the globe. This access is provided across storage area networks (SANs), metropolitan area networks (MANs) and wide area networks
(WANs) through a combination of products and services.

On June 1, 2005, McDATA closed the acquisition of Computer Network Technology
Corporation (CNT) and created a combined company with the products, talents and services of two respected names in storage networking. CNT adds significant capabilities in the areas of extending storage networks over distance (MAN and WAN),
professional services and maintenance services to McDATAs strength in SAN directors, switches, routing, security and management. The merger of CNT and McDATA is expected to accelerate McDATAs Global Enterprise Data Infrastructure (GEDI)
initiative, whereby customers can evolve to a globally connected, secure, highly-available, performance-optimized, centrally-managed data access environment.

McDATAs product offerings include Intrepid directors, Sphereon switches, embedded blade server switches, Eclipse SAN routers, UltraNet extension products, EFCM management software, storage networking services
(SNS) software and related third party products. Many of these products are an integral part of data services infrastructure solutions sold by most major storage and system vendors including Dell Products L.P. (Dell), EMC Corporation (EMC),
Hewlett-Packard (HP), Hitachi Data Systems (HDS), International Business Machines Corporation (IBM), and Sun Microsystems Inc. (Sun). In addition to these partners, the products are also sold through selected value added distributors (VADs) and
value added resellers (VARs) in major geographic locations across the world. In addition to the products, McDATA also offers services including professional services, education, break/fix maintenance support, network monitoring services, as well as
upgraded warranty and extended maintenance contracts on our hardware products.

McDATA combines products and services to deliver solutions
in the areas of data access, storage area networking, FICON, backup and recovery and disaster recovery / business continuity and data migration. While the primary fulfillment method is through our channel partners, McDATAs field organization
works directly with customers to drive preference for McDATA solutions, and McDATA has and may continue to directly sell channel extension, third party products, maintenance and support and professional services to end-user customers.

On August 7, 2006, McDATA, Brocade Communication Systems, Inc., a Delaware corporation (Brocade), and Worldcup Merger Corporation, a Delaware
corporation and a wholly-owned subsidiary of Brocade (Merger Sub), entered into an Agreement and Plan of Reorganization (the Merger Agreement) providing for a business combination whereby Merger Sub will merge with and into McDATA (the Merger). As a
result of the Merger, the separate corporate existence of Merger Sub will cease and McDATA will continue as the surviving corporation of the Merger and a wholly-owned subsidiary of Brocade. At the effective time of the Merger (the Effective Time),
each share of McDATA Class A common stock and Class B common stock (other than shares owned by McDATA or Brocade) will be converted into the right to receive 0.75 shares of Brocade common stock (the Exchange Ratio). Each outstanding McDATA
stock option, restricted stock unit and share of restricted stock (whether vested or unvested) will be assumed by Brocade and will be converted into Brocade common stock or the right to receive Brocade common stock, as the case may be, based upon
the Exchange Ratio. The issuance of Brocade common stock in the Merger is subject to the approval of Brocades stockholders and the adoption of the Merger Agreement is subject to the approval of the McDATAs stockholders. In addition, the
Merger is subject to the expiration of applicable waiting periods under the Hart-Scott-Rodino Antitrust Improvements Act (the HSR Act) and the Securities Exchange Commission (SEC) declaring effective the registration statement covering the shares of
Brocade common stock to be issued in the Merger and certain other customary closing conditions.

Certain prior year amounts have been
reclassified to conform to the fiscal 2006 presentation.



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##### Table of Contents

Recent Accounting Pronouncements

On July 13, 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement 109 (FIN 48), which sets forth a specific recognition
threshold and measurement method for the financial statement recognition and measurement of a tax position taken or expected to be taken on a tax return. The effective date of FIN 48 is for fiscal years beginning after December 15, 2006. The
Company has not completed an assessment of the impact of FIN 48 on its consolidated financial statements. The Company plans to adopt the provisions of FIN 48 on February 1, 2007.

In June 2006, the FASB ratified a consensus on the EITF Issue No. 06-03 (EITF 06-03) related to the classification of certain sales, value
added and excise taxes within the income statement. This EITF would become effective for the Company in the first quarter of our fiscal year 2007. The Company is in the process of evaluating the impact of this EITF on the presentation of such taxes
on the statement of operations.

Recently Adopted Accounting Pronouncements

On February 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment,
(SFAS 123(R)) which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors including employee stock options and employee stock purchases related to the Employee Stock
Purchase Plan (employee stock purchases) based on estimated fair values. SFAS 123(R) supersedes the Companys previous accounting under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees
(APB 25) for periods beginning in fiscal 2006. In March 2005, the SEC issued Staff Accounting Bulletin No. 107 (SAB 107) relating to SFAS 123(R). The Company has applied the provisions of SAB 107 in its adoption of
SFAS 123(R).

Note 2Revenue Recognition Policy

The Company recognizes revenue when four basic criteria are met: (a) persuasive evidence of an arrangement exists, (b) products are delivered or services rendered, (c) the sales price is fixed and
determinable and (d) collectibility is probable.

Product Revenue

Revenue from product sales to resellers and end-user customers is recognized when title and risk of loss transfer to the customer, generally at the time of shipment. Revenue from product sales to OEMs and distributors
is recognized when title and risk of loss transfer to the customer in accordance with the master agreement.

With respect to revenue from
configured products, the Company recognizes revenue on shipment when shipped directly to an end-user. When there are shipments to an OEM or distributor, the Company requests evidence of sell-through from the OEM and distributor partners prior to
recognizing revenue. In situations where the OEM and distributor partners refuse to provide sell-through information when requested, but all the criteria under SEC Staff Accounting Bulletin (SAB) No. 104, Revenue Recognition (SAB
No. 104) has been met, the Company recognizes revenue for such configured products. These configured products represent high value, customized solutions of directors, cabinets and various combinations of port cards ordered by the OEM and
distributor partners as required by the end-user.

Non-configured products and components, such as the switch products, extension products,
additional port cards, upgrades, and standalone directors, are recognized as revenue when the criteria for SAB No. 104 (as discussed above) have been met, generally at time of shipment.

Revenue is reduced for estimated customer returns, price protection, rebates, and other offerings that occur under sales programs established with the
Companys OEMs, distributors and resellers. The Company accrues for estimated warranty costs at the time of revenue recognition based on its experience.

Service Revenue

Revenue from support or maintenance contracts is recognized ratably over the contractual period. Amounts
invoiced to customers in excess of revenue recognized on these contracts are recorded as deferred revenue until all revenue recognition criteria are met. Revenue from professional services is recognized when such services are performed.



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##### Table of Contents

Software Revenue

Revenue from software is comprised of software licensing and post-contract customer maintenance and support. Software revenue is allocated to the license and support elements using vendor specific objective
evidence of fair value (VSOE). Revenue from software licenses is recognized when the four basic criteria above have been met. Revenue from post-contract support and maintenance is recognized ratably over the term of the
support contract, assuming the four basic criteria are met. The Company has software embedded in some of its products that is considered more than incidental to the product and represents a separate unit of accounting as defined by
the American Institute of Certified Public Accountants Statement of Position 97-2 Software Revenue Recognition(SOP 97-2).

Multiple Elements

The Company enters into certain arrangements where we are obligated to deliver multiple products and/or
services. In transactions that include multiple products, services and/or software, in most cases the Company allocates the revenue to each element based upon their VSOE of the fair value of the element, with any remaining elements allocated using
the residual method. VSOE of the fair value for an element is based upon the price charged when the element is sold separately. Revenue allocated to each element is then recognized when the basic revenue recognition criteria is met for each element.
For an element not yet being sold separately, a price is established by management having the relevant authority if it is probable that the price once established will not change before the separate introduction of the element into the marketplace.

Deferred Revenue

Total deferred
revenue consists primarily of unearned revenue from our customer support or maintenance contracts on our software and hardware products. These contracts are billed and collected either upfront or annually at the beginning of each service period. The
Company recognizes revenue from these contracts ratably over the contractual period, generally one to three years.

The remaining portion
of the deferred revenue represents deferred revenue related to billings and collections for which one or more of the four basic criteria under SAB No. 104 and the SOP 97-2, as amended, have not been met. These balances are all classified as
short-term on the balance sheet as all four criteria have historically been met in less than twelve months.

The accounting periods over
which we will recognize this revenue is as follows (in thousands):



|                    |  |        |       
|------------------- |  | ------ | ------
|For Fiscal Years:   |  | Amount
|2006(1)             |  | $      | 41,951
|2007                |  |        | 29,236
|2008                |  |        | 12,669
|2009                |  |        | 3,597 
|2010 and thereafter |  |        | 673   
|                    |  |        |       
|Total               |  | $      | 88,126
|                    |  |        |       

---

|(1) | Reflects the remaining six months of fiscal 2006.
|--- | -------------------------------------------------

Note 3Foreign
Currency

The financial statements of the Companys international subsidiaries have been translated into U.S. dollars. Assets
and liabilities are translated into U.S. dollars at period-end exchange rates, while fixed assets and equity accounts are translated at historical rates. Income and expenses are translated at the average exchange rates during the period. The
resulting translation adjustments are included in stockholders equity as a component of accumulated other comprehensive loss.

The
Company is exposed to market risks related to fluctuations in foreign exchange rates because some sales transactions, and the assets and liabilities of its foreign subsidiaries, are denominated in foreign currencies. The Company had no outstanding
forward exchange contracts as of July 31, 2006, and January 31, 2006. Gains and losses from transactions denominated in foreign currencies and forward exchange contracts are included in the Companys net loss as part of interest and
other income in the accompanying condensed consolidated statements of operations. The Company recognized foreign currency transaction gains (losses) for the three and six months ended July 31, 2006, of $49,000 and $534,000, respectively, and
$(149,000) and $(225,000) for the same periods in 2005, respectively.



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##### Table of Contents

Note 4Merger with CNT

Merger Transaction

In May of 2006, the Company finalized the purchase price accounting of its June 1, 2005, merger
transaction between Condor Acquisition, Inc. (Merger Sub), a wholly-owned subsidiary of McDATA Corporation, and CNT (the Merger). The CNT shareholders received 1.3 shares of McDATA Class A common stock for each share of CNT common stock held by
them, together with cash in lieu of fractional shares, and the Company assumed the CNT employee equity plans and the awards granted under these plans.

McDATA was considered the accounting acquirer in the Merger, and consideration of $193.0 million was allocated to the fair value of CNTs net assets, with the residual to goodwill. The purchase consideration
consisted of 38.8 million shares of McDATA Class A common stock valued at $170.2 million and issued in exchange for 100% of the outstanding CNT common and restricted shares; the exchange of 19.9 million stock options valued at $15.9
million using the Black-Scholes option pricing model; and $11.5 million in direct transaction costs. The value of the stock issued was based upon an average market price per share of $4.39, which was the average McDATA Class A common stock
price for the period beginning two days before and ending two days after the announcement of the merger on January 18, 2005. Under the purchase method of accounting, the total purchase price was allocated to CNTs net tangible and
intangible assets and liabilities based on their estimated fair value as of the completion date of the merger. As a result of the preliminary allocation, the Company recorded $185.4 million to goodwill.

During the allocation period which ended May of 2006, the Company updated its preliminary allocation and adjusted its bad debt reserves by $1.2 million,
reduced the value of its property, plant and equipment by $5.1 million, increased its federal and state tax reserves by $6.1 million, and reduced its reserves related to vendor commitments by $11.3M based on its final assessment of the fair value of
the assets acquired and liabilities assumed in the transaction. The Company recorded these as adjustments to the goodwill.

As a result of
the acquisition of CNT during fiscal 2005, the Company recorded $75.2 million of deferred tax assets relating primarily to net operating loss and tax credit carry forwards, deferred tax liabilities related to the intangible assets acquired in
addition to contingencies due to uncertainties such as the allocation of the purchase price to individual assets and liabilities for income tax purposes, the carryover bases of assets, liabilities, about uncertainties and tax returns of the acquired
company for periods prior to the acquisition date. A valuation allowance was also recorded against $73.7 million of these deferred tax assets. If any portion of the acquired deferred tax assets is utilized, the valuation allowance related to the
acquired deferred tax assets that were utilized will be released, resulting in a decrease in goodwill by a like amount and the Company will record a charge to tax expense for the utilization of the deferred tax assets.

Note 5Restructuring Costs

In connection with
the Companys merger with CNT discussed in Note 4, management approved and initiated a plan of integration that outlined the actions necessary to combine its existing business and resources with those of CNT. An important part of this plan is
the integration of the companies products and customer bases, elimination of duplicative activities, and the reduction of the Companys overall cost structure. The Company has completed significant milestones of its integration process,
including selling the Lumberton manufacturing operations and eliminating more than 400 redundant jobs.

Restructuring Costs Expensed in 2006

After the acquisition of CNT, the Company notified redundant employees that their employment would be terminated and provided them with
a detailed explanation of their benefits, which included separation pay as well as retention pay for transitional employees. Retention pay offered to all transitional employees was contingent upon the employee rendering future service through a
transition period and had no relationship to the employees past service; therefore, these benefits were recognized as a restructuring cost ratably over the transition period. No termination or retention benefits were incurred for the quarter
ended July 31, 2006, or are expected to be incurred in the future as a result of the CNT integration plan.

Prior to the acquisition,
McDATA and CNT each sold a competing Director class productMcDATAs is branded the Intrepid 10000 and CNTs is the UltraNet Multi-Service Director (UMD). McDATA offered an exchange program that allowed customers to trade their UMD
for a comparable Intrepid 10000 at no cost. The net cost of this program of $6.8 million was recorded as a restructuring cost, which represents the difference between the estimated costs of the Intrepid 10000s to be installed over the
estimated salvage values of the UMDs to be returned. This program was completed as of July 31, 2006.



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##### Table of Contents

Changes to the estimates of executing the currently approved plans of restructuring the pre-merger McDATA
organization will be reflected in our results of operations. Restructuring charges of $175,000 and $752,000 for the three and six months ended July 31, 2006, respectively, consists of additional expenses incurred associated with the acquisition
of CNT.

The following table summarizes the Companys utilization of restructuring accruals during the six months ended July 31,
2006 (in thousands):



|                                    |  |                           |      |  
|----------------------------------- |  | ------------------------- | ---- | -
|                                    |  | EmployeeSeveranceBenefits |     
|Accrual balance at January 31, 2006 |  | $                         | 324  |  
|Cash payments                       |  |                           | (491 | )
|Additional restructuring charges    |  |                           | 751  |  
|                                    |  |                           |      |  
|Accrual balance at July 31, 2006    |  | $                         | 584  |  
|                                    |  |                           |      |  

The restructuring liabilities shown above are included in accrued liabilities in the accompanying balance sheet as
of July 31, 2006 and January 31, 2006.

Restructuring Costs Accounted for in CNT Purchase Allocation

In connection with the restructuring of the pre-merger CNT organization, $36.3 million in restructuring liabilities, consisting primarily of severance,
relocation, facility consolidation costs, and contract termination costs, were recorded as liabilities assumed in the initial purchase price allocation of CNT at June 1, 2005, in accordance with EITF Issue No. 95-3, Recognition of
Liabilities in Connection with a Purchase Business Combination. Subsequent to the initial purchase price allocation, we decreased our estimated restructuring costs by a net $5.4 million due to the settlement of certain purchase commitments,
partially offset by increases to estimated termination benefits and facilities closure costs.

As of the acquisition date, management had
formulated an integration plan which included the elimination of duplicative headcount, elimination of redundant products, the outsourcing of manufacturing, and the closing of duplicative facilities in overlapping geographies. As a result, over 400
pre-merger CNT employees have been terminated and approximately $10.8 million in termination and relocation benefits for former CNT employees has been recognized. The Company also recognized $8.2 million related to the planned closure of certain
pre-merger CNT offices. For sites where the Company expected to negotiate an early termination of the lease, the expected termination costs were accrued. The amounts accrued for the remaining sites were based upon the fair value of the liability at
the cease-use date based on the remaining lease rentals reduced by estimated sublease rentals. An additional amount of approximately $9.9 million has been recognized for estimated settlements of various unfulfilled contractual commitments.

In execution of its plan to continue to outsource its manufacturing operations, on June 24, 2005, the Company sold its manufacturing
operations and transferred assets related to the former CNT Lumberton, New Jersey manufacturing operations to Solectron Corporation, Inc (Solectron). The terms of the sales agreement include (a) the transfer of equipment related to the
manufacturing operations for $1.5 million, (b) the assumption by Solectron of a certain lease obligation related to the facility in Lumberton, New Jersey and a sublease back to the Company for certain space at the facility, (c) the
transfer of 123 Company employees to Solectron, and (d) the payment of $3 million in installments over the next year by the Company to Solectron in partial consideration for anticipated restructuring costs to be incurred by Solectron related to
this facility. The net payment of $1.5 million required by the Company to transfer these assets and liabilities has been reflected as a liability assumed in the purchase allocation, as discussed more fully in Note 17 of the 10K for the year ended
January 31, 2006. In connection with this sale, the Company has agreed to indemnify the buyer and hold them harmless from any loss, as defined in the agreement, which relates to specific issues outlined in the agreement. In accordance with FIN
45, Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, the Company has recognized a liability of approximately $0.4 million for the underlying fair value of
these obligations, which has also been included in long term liabilities assumed in the purchase of CNT.

Changes to estimated
restructuring costs as a result of executing the currently approved plans associated with the pre-merger activities of CNT were recorded as adjustments to goodwill during the purchase price allocation period which ended May 31, 2006. Changes
after May 31, 2006 will be recorded in the Companys consolidated statement of operations.



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##### Table of Contents

The following table summarizes the Companys utilization of restructuring accruals pertaining to
pre-merger operations of CNT from January 31, 2006 to July 31, 2006 (in thousands):



|                                    |  |                                         |       |   |                               |   |        |                          |  |   |        |   |  |   |        |  
|----------------------------------- |  | --------------------------------------- | ----- | - | ----------------------------- | - | ------ | ------------------------ |  | - | ------ | - |  | - | ------ | -
|                                    |  | EmployeeSeverance andRelocationBenefits |       |   | FacilityClosure andExit Costs |   |        | ContractTerminationCosts |  |   | Totals |  
|Accrual balance at January 31, 2006 |  | $                                       | 2,106 |   |                               | $ | 7,234  |                          |  | $ | 4,077  |   |  | $ | 13,417 |  
|Cash payments                       |  |                                         | (951  | ) |                               |   | (2,224 | )                        |  |   | (232   | ) |  |   | (3,407 | )
|Change to estimated costs           |  |                                         | 66    |   |                               |   | (1,111 | )                        |  |   | 1,936  |   |  |   | 891    |  
|                                    |  |                                         |       |   |                               |   |        |                          |  |   |        |   |  |   |        |  
|Accrual balance at July 31, 2006    |  | $                                       | 1,221 |   |                               | $ | 3,899  |                          |  | $ | 5,781  |   |  | $ | 10,901 |  
|                                    |  |                                         |       |   |                               |   |        |                          |  |   |        |   |  |   |        |  

Of the restructuring liabilities described above, $6.2 million is included in other long term
liabilities and the remaining amounts are included in accrued liabilities and accrued wages, salaries and benefits in the accompanying consolidated balance sheet as of July 31, 2006.



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##### Table of Contents

Note 6Components of Selected Balance Sheet Accounts

(in thousands)



|                  |  |              |        |                 |   |       
|----------------- |  | ------------ | ------ | --------------- | - | ------
|                  |  | July 31,2006 |        | January 31,2006
|Inventories:      |  |              |        |                 |   |       
|Raw materials     |  | $            | 18,159 |                 | $ | 22,868
|Work-in-progress  |  |              | 621    |                 |   | 1,253 
|Finished goods    |  |              | 16,866 |                 |   | 8,979 
|                  |  |              |        |                 |   |       
|Total inventories |  | $            | 35,646 |                 | $ | 33,100
|                  |  |              |        |                 |   |       

As part of the June 1, 2005, business combination with CNT, the Company acquired CNTs
Matrix switch and related legacy product line (Matrix). The assets associated with Matrix included inventory for which the Company established certain reserves for inventory obsolescence. The Company also capitalized certain costs into inventory due
to the production of product. In July of 2006, the Company reviewed Matrix and determined that the product lines value was significantly below its fair value based on efforts to market Matrix as a saleable operation. In response to its
assessment, the Company recorded a $6.5 million valuation allowance against Matrix inventory. (See Note 7, Impairment of Long-lived Assets)



|                                                  |  |              |          |   |                 |   |          |  
|------------------------------------------------- |  | ------------ | -------- | - | --------------- | - | -------- | -
|                                                  |  | July 31,2006 |          |   | January 31,2006 |  
|Property and Equipment:                           |  |              |          |   |                 |   |          |  
|Land                                              |  | $            | 17,799   |   |                 | $ | 17,799   |  
|Building                                          |  |              | 32,596   |   |                 |   | 32,573   |  
|Equipment and Furniture                           |  |              | 124,095  |   |                 |   | 122,680  |  
|Computer software for internal use                |  |              | 30,268   |   |                 |   | 30,787   |  
|Leasehold improvements                            |  |              | 14,470   |   |                 |   | 8,449    |  
|Construction in progress                          |  |              | 1,110    |   |                 |   | 838      |  
|                                                  |  |              |          |   |                 |   |          |  
|                                                  |  |              | 220,338  |   |                 |   | 213,126  |  
|Less accumulated depreciation and amortization    |  |              | (114,686 | ) |                 |   | (104,008 | )
|                                                  |  |              |          |   |                 |   |          |  
|Total property and equipment, net                 |  | $            | 105,652  |   |                 | $ | 109,118  |  
|                                                  |  |              |          |   |                 |   |          |  
|                                                  |  |             
|                                                  |  | July 31,2006 |          |   | January 31,2006 |  
|Accrued liabilities:                              |  |              |          |   |                 |   |          |  
|Wages and employee benefits                       |  | $            | 26,228   |   |                 | $ | 27,916   |  
|Purchase commitments and other supply obligations |  |              | 9,361    |   |                 |   | 10,480   |  
|Warranty reserves (1)                             |  |              | 5,929    |   |                 |   | 6,806    |  
|Income taxes payable                              |  |              | 10,406   |   |                 |   | 10,215   |  
|Taxes, other than income tax                      |  |              | 5,532    |   |                 |   | 5,903    |  
|Interest payable                                  |  |              | 3,461    |   |                 |   | 4,416    |  
|Customer obligations                              |  |              | 6,531    |   |                 |   | 8,227    |  
|Restructuring accruals                            |  |              | 1,187    |   |                 |   | 14,188   |  
|Other accrued liabilities                         |  |              | 3,860    |   |                 |   | 6,125    |  
|                                                  |  |              |          |   |                 |   |          |  
|                                                  |  | $            | 72,495   |   |                 | $ | 94,276   |  
|                                                  |  |              |          |   |                 |   |          |  

---

|(1) | Activity in the warranty reserves is as follows:
|--- | ------------------------------------------------



|                                  |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|--------------------------------- |  | -------------------------- | ------ | - | ------------------------ | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                  |  | Three Months EndedJuly 31, |        |   | Six Months EndedJuly 31, |  
|                                  |  | 2006                       |        |   | 2005                     |   |        | 2006 |  |   | 2005   |  
|Balance at beginning of period    |  | $                          | 6,318  |   |                          | $ | 5,438  |      |  | $ | 6,806  |   |  | $ | 5,592  |  
|Warranty expense, net             |  |                            | 1,471  |   |                          |   | 2,069  |      |  |   | 2,946  |   |  |   | 2,111  |  
|Non-expensed warranty obligations |  |                            |       |   |                          |   |       |      |  |   |       |   |  |   | 17     |  
|Warranty claims                   |  |                            | (1,860 | ) |                          |   | (2,486 | )    |  |   | (3,823 | ) |  |   | (2,699 | )
|Acquired warranty liability       |  |                            |       |   |                          |   | 1,744  |      |  |   |       |   |  |   | 1,744  |  
|                                  |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Balance at end of period          |  | $                          | 5,929  |   |                          | $ | 6,765  |      |  | $ | 5,929  |   |  | $ | 6,765  |  



14



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##### Table of Contents

From time to time, the Company is indemnified by its suppliers for warranty claims related to components
that are contained within its products. In these circumstances, the Company records a non-expensed warranty obligation against which future warranty claims for those components will be provided by the Company to its customers.

Note 7Impairment of Long-lived Assets

The
Company accounts for long-lived assets in accordance with the provisions of SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS 144). This Statement requires that long-lived and intangible assets
be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset
to future net undiscounted cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized in the amount by which the carrying amount of the asset
exceeds the fair value of the asset. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell.

As part of the June 1, 2005, business combination with CNT, the Company acquired CNTs Matrix switch and related legacy product line (Matrix). The assets associated with Matrix included fixed assets and developed technology costs
(intangible assets). Although the Company marketed the Matrix business and entered into negotiations for its potential sale, the Company had classified these assets as held and used which is consistent with the provisions of SFAS 144, and recorded
revenue from the sales of Matrix, the related cost of sales, and charges for inventory obsolescence in our consolidated statements of operations.

In the second quarter of 2006, the Company reviewed the value of Matrix due to changes in circumstances that indicated that the carrying value of Matrix would not be recoverable due to a decrease in interest from potential buyers of Matrix.
Due to the decreased interest in Matrix which limited the Companys efforts to market Matrix as a saleable operation, the Company determined that the product lines fair value was below its carrying costs. Because of this assessment, the
Company recorded an asset impairment of $3.1 million which includes a $3.0 million decline in the fair market value the Matrix developed technology and an $86,000 decline in the fair value of the related fixed assets. In addition, the Company
recorded a $6.5 million valuation allowance for the associated inventory in cost of goods sold in its consolidated statement of operations during the quarter ended July 31, 2006.

As part of the June 1, 2005, business combination with CNT, McDATA acquired a note receivable from a certain CNT partner of approximately $1.0
million. The terms of the receivable stated that payments of approximately $400,000 are due on April 21 on an annual basis through 2008. Because the Company had not received its April 2006 payment, the Company reassessed the collectibility of
the note receivable. A review of the related customers financial condition indicated that it was probable that the note was uncollectible. Because of its assessment, the Company created a reserve for the entire amount of the receivable, which
is recorded as an operating expense in its statement of operations for the three and six months ended July 31, 2006.

Note 8Goodwill and
Intangible Assets

The Company is currently amortizing its acquired intangible assets with finite lives over periods ranging from one to
seven years. The following table summarizes the components of gross and net intangible asset balances (in thousands):



|                        |  |                     |         |                         |   |                    |  |                     |        |                         |   |                    |  |   |        |  |   |        
|----------------------- |  | ------------------- | ------- | ----------------------- | - | ------------------ |  | ------------------- | ------ | ----------------------- | - | ------------------ |  | - | ------ |  | - | -------
|                        |  | July 31, 2006       |         | January 31, 2006       
|                        |  | GrossCarryingAmount |         | AccumulatedAmortization |   | Net CarryingAmount |  | GrossCarryingAmount |        | AccumulatedAmortization |   | Net CarryingAmount
|Developed technology    |  | $                   | 139,787 |                         | $ | 66,531             |  | $                   | 73,256 |                         | $ | 143,490            |  | $ | 55,025 |  | $ | 88,465 
|Customer relationships  |  |                     | 30,234  |                         |   | 6,318              |  |                     | 23,916 |                         |   | 30,234             |  |   | 4,005  |  |   | 26,229 
|Backlog                 |  |                     | 17,606  |                         |   | 17,606             |  |                     |       |                         |   | 17,606             |  |   | 10,255 |  |   | 7,351  
|Other                   |  |                     | 4,591   |                         |   | 3,097              |  |                     | 1,494  |                         |   | 4,578              |  |   | 2,929  |  |   | 1,649  
|                        |  |                     |         |                         |   |                    |  |                     |        |                         |   |                    |  |   |        |  |   |        
|Total intangible assets |  | $                   | 192,218 |                         | $ | 93,552             |  | $                   | 98,666 |                         | $ | 195,908            |  | $ | 72,214 |  | $ | 123,694
|                        |  |                     |         |                         |   |                    |  |                     |        |                         |   |                    |  |   |        |  |   |        



15



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##### Table of Contents

Expected annual amortization expense related to acquired intangible assets is as follows:



|                                    |  |   |       
|----------------------------------- |  | - | ------
|For fiscal years:                   |  |   |       
|2006(1)                             |  | $ | 13,493
|2007                                |  |   | 26,185
|2008                                |  |   | 25,849
|2009                                |  |   | 19,718
|2010 and thereafter                 |  |   | 13,421
|                                    |  |   |       
|Total expected amortization expense |  | $ | 98,666
|                                    |  |   |       

---

|(1) | Reflects the remaining six months of fiscal year 2006.
|--- | ------------------------------------------------------

Amortization expense related to acquired intangible assets was $10.9 million and $9.5 million for the three months ended July 31, 2006 and 2005, respectively. For the six months ended July 31, 2006 and 2005, amortization of
acquired intangible assets was $22.0 million and $15.1 million, respectively.

Changes in the carrying amount of goodwill for the six months ended
July 31, 2006 are as follows (in thousands):



|                               |  |                |         |   |                 |   |         |  |   |         |  
|------------------------------ |  | -------------- | ------- | - | --------------- | - | ------- |  | - | ------- | -
|                               |  | ProductSegment |         |   | ServicesSegment |   | Total   | 
|Balance as of January 31, 2006 |  | $              | 128,972 |   |                 | $ | 137,169 |  | $ | 266,141 |  
|Goodwill acquired              |  |                |        |   |                 |   |        |  |   |        |  
|Goodwill impaired              |  |                |        |   |                 |   |        |  |   |        |  
|Other(1)                       |  |                | (4,739  | ) |                 |   | 2,071   |  |   | (2,668  | )
|                               |  |                |         |   |                 |   |         |  |   |         |  
|Balance as of July 31, 2006    |  | $              | 124,233 |   |                 | $ | 139,240 |  | $ | 263,473 |  
|                               |  |                |         |   |                 |   |         |  |   |         |  

---

|(1) | Represents a net decrease to goodwill in the six months ended July 31, 2006, as a result of adjusting the estimated fair market value of certain purchased assets and
liabilities of CNT.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

As a result of the merger with CNT, and upon completing the integration of CNTs service business
in the third quarter of fiscal 2005, the Company operates in two distinct reporting segments, each constituting a separate reporting unit for purposes of allocating goodwill. Goodwill acquired in the merger with CNT has been allocated to these two
reporting segments based on the work of a third party valuation expert. Goodwill was allocated between the two segments based upon each segments relative projected operating profits. The product and service segment goodwill balances is tested
for impairment annually or more frequently, if events or circumstances indicate that impairment might exist. There were no impairments of goodwill recognized for the three and six months ended July 31, 2006.

Note 9Convertible Subordinated Debt

Convertible subordinated debt includes the Companys 2.25% convertible subordinated notes (the 2.25% Notes) due February 15, 2010, and $122.4 million outstanding 3.00% Convertible Subordinated Notes due February 15, 2007,
previously issued by CNT (the 3.00% Notes), which were assumed in the Merger.

On February 7, 2003, the Company sold
$172.5 million of 2.25% convertible subordinated notes due February 15, 2010, raising net proceeds of approximately $167 million. The 2.25% Notes are convertible into Class A common stock at a conversion rate of 93.3986 shares
per $1,000 principal amount of notes (aggregate of approximately 16.1 million shares) at any time prior to February 15, 2010, subject to adjustments. As of July 31, 2006, the approximate bid and ask prices per $100 of our 2.25% Notes
was $84.375 and $85.125, respectively, resulting in an aggregate fair value of between $145.5 million and $146.8 million.

Concurrent with the issuance of the 2.25% Notes, the Company entered into share option transactions using approximately $20.5 million of net proceeds. As part of these share option transactions, the Company purchased options that cover
approximately 16.1 million shares of Class A common stock, at a strike price of $10.71. The Company also sold options that cover approximately 16.9 million shares of Class A common stock, at a strike price of $15.08. The net cost
of the share option transactions was recorded against additional paid-in-capital.

In July 2003, the Company entered into an interest
rate swap agreement with a notional amount of $155.3 million that has the economic effect of modifying that dollar portion of the fixed interest obligations associated with the 2.25% Notes so that the interest payable effectively becomes
variable based on the six-month London Interbank Offered Rate (LIBOR) minus



16



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##### Table of Contents

152 basis points. The reset dates of the swap are February 15 and August 15 of each year until maturity on February 15, 2010. At July 31,
2006, the six-month LIBOR setting for the swap was 4.93%, creating a rate of approximately 3.41%, which was effective until August 15, 2006. On August 15, 2006 the rate was reset to 5.47%, creating a rate of approximately 3.95%, which is
effective until February 15, 2007. The swap was designated as a fair value hedge and, the gain or loss on the swap, as well as the fully offsetting gain or loss on the 2.25% Notes attributable to the hedged risk, were recognized in earnings. At
July 31, 2006, the fair value of the interest rate swap had decreased from inception to a negative $7.9 million and is included in long-term liabilities. As part of the agreement, the Company is also required to post collateral based on
changes in the fair value of the interest rate swap. This collateral, in the form of restricted cash, approximated $11.7 million at July 31, 2006.

On June 1, 2005, effective upon the consummation of the Merger, the Company fully and unconditionally guaranteed the 3.00% Notes and became a co-obligor on the 3.00% Notes with CNT and the 3.00% Notes became
convertible into the Companys Class A stock at a price of approximately $14.75 per share (aggregate of approximately 8.4 million shares) at any time prior to maturity on February 15, 2007, all pursuant to the terms of the
Supplemental Indenture. All other terms of the 3.00% Notes remained unchanged. The 3.00% Notes were issued by CNT in 2002 and had an aggregate par value of $124.4 million at the time of the guarantee. In accordance with purchase accounting rules,
the Notes were adjusted to their aggregate fair value of $118.8 million based on the quoted market closing price as of the acquisition date. The $5.6 million reduction in the Notes carrying value will be accreted to interest expense on a
straight-line basis over the remaining term of the Notes. On July 31, 2006, the approximate bid and ask prices per $100 of our 3.00% Notes was $98.125 and $98.375, respectively, resulting in an aggregate fair value of between
$120.1 million and $120.4 million.

Prior to the Merger, CNT entered into an interest-rate swap agreement with a notional amount
of $75 million that has the economic effect of modifying that dollar portion of the fixed interest obligations associated with $75 million of the 3.00% Notes such that the interest payable effectively becomes variable based on the three-month LIBOR
plus 69.5 basis points. The payment and reset dates of the swap are January 31, April 30, July 31 and October 31 of each year, until maturity on February 15, 2007. At July 31, 2006, the three-month LIBOR
setting for the swap was 5.49%, resulting in a combined effective rate of approximately 6.18%, which is effective until October 31, 2006. The swap was designated as a fair value hedge, and as such, the gain or loss on the swap, as well as the
fully offsetting gain or loss on the notes attributable to the hedged risk, are recognized in earnings. At July 31, 2006, the fair value of the interest rate swap had decreased to a negative $1.3 million and is included in short-term
liabilities. As part of the agreement, the Company is also required to post collateral based on changes in the fair value of the interest rate swap. This collateral, in the form of restricted cash, approximated $3.9 million at July 31,
2006.

On July 11, 2006, the Company repurchased certain amounts of the 3.00% Notes with a face value of $2.0 million for $1.97
million plus accrued interest of $24,000. The gain that was recorded in other income in the Companys consolidated statement of operations was insignificant.

Note 10Interest and Other Income, Net

Interest and other income, net consist of:



|                                                              |  |                            |       |      |                          |       |      |  |      |        |  |   |       |  
|------------------------------------------------------------- |  | -------------------------- | ----- | ---- | ------------------------ | ----- | ---- |  | ---- | ------ |  | - | ----- | -
|                                                              |  | Three Months EndedJuly 31, |       |      | Six Months EndedJuly 31, |      
|                                                              |  | 2006                       |       | 2005 |                          |       | 2006 |  | 2005 |       
|Interest income                                               |  | $                          | 4,133 |      | $                        | 2,450 |      |  | $    | 7,859  |  | $ | 4,535 |  
|Net realized gains/(losses) on available for sale investments |  |                            | 152   |      |                          | (74   | )    |  |      | 803    |  |   | (378  | )
|Sale of equity investment and other income                    |  |                            | 2,765 |      |                          |      |      |  |      | 2,662  |  |   |      |  
|Exchange rate gains                                           |  |                            | 49    |      |                          |      |      |  |      | 534    |  |   |      |  
|Unrealized gain on hedged investments                         |  |                            | 276   |      |                          | 102   |      |  |      | 16     |  |   | 91    |  
|                                                              |  |                            |       |      |                          |       |      |  |      |        |  |   |       |  
|Interest and other income, net                                |  | $                          | 7,375 |      | $                        | 2,478 |      |  | $    | 11,874 |  | $ | 4,248 |  
|                                                              |  |                            |       |      |                          |       |      |  |      |        |  |   |       |  



17



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In April of 2006, Emulex Corporation announced their intent to purchase the Companys equity
investment in Aarohi, and in May of 2006, Emulex announced the completion of that purchase. Under the terms of the cross indemnification agreement, the pro rata share of merger consideration received by the Company in May of 2006 will be
approximately $3.1 million. Approximately $2.7 million of the merger consideration was received in May of 2006, and the remainder has been deposited in an escrow account and will be distributed in whole or in part over the next 18 months. The
Company recorded its pro rata share as other income in its condensed consolidated statement of operations.

Note 11Income Tax

For the three-month periods ended July 31, 2006 and July 31, 2005 the Company recorded an income tax benefit of $343,000 and an income tax
provision of $6.0 million, respectively. For the six-month periods ended July 31, 2006 and July 31, 2005 the Company recorded an income provision of $1.3 million and $6.4 million respectively.

The calculation of income tax expense or benefit is based in part on estimates of future results and projections of taxable income for the full fiscal
year in each jurisdiction in which the Company operates. These projections could be affected, positively or negatively, by such factors as future changes in tax law or implementation of possible tax planning strategies. The tax provision for each of
the periods reported in the consolidated statement of operations includes foreign taxes accrued on the projected net profits of foreign branch and subsidiary operations.

The Company has established a valuation allowance against its entire domestic net deferred tax asset and a substantial portion of the net deferred tax asset in various foreign jurisdictions. Therefore, no tax benefit
is recognized currently if there is an increase to the net deferred tax asset in any of these jurisdictions. The need for a valuation allowance is determined in accordance with the provisions of SFAS 109, which requires an assessment of all
available negative and positive evidence, including past operating results, the existence of cumulative losses in the most recent fiscal years and forecasts of future taxable income. Significant management judgment is required in determining the
need to establish or maintain a valuation allowance. SFAS 109 requires that greater weight be given to previous cumulative losses than the outlook for future profitability when determining whether it is more likely than not that the benefits of a
recorded deferred tax asset will be realized. To the extent future realization of the benefits of a deferred tax asset is unlikely, a valuation allowance is recorded. The Company has re-evaluated the need for a valuation allowance based on its most
recent results and concluded that a valuation allowance is still required with respect to the domestic net deferred tax asset and the net deferred tax asset in many of the foreign jurisdictions in which the Company is subject to income tax.

The Company adopted SFAS 123R on February 1, 2006. SFAS 109 requires that differences between the deductible temporary difference
between the compensation expense calculated under SFAS 123R and the tax deduction that would result based on the current fair value of the entitys shares shall not be considered in measuring the gross deferred tax asset or determining the need
for a valuation allowance for a deferred tax asset recognized. Because the Company has established a valuation allowance, the tax benefit of approximately $1.0 million is not recorded, but will be tracked by the Company and will be used when the
existing deferred tax asset is realized. The Company is still evaluating the use of the short-cut method as allowed by SFAS 123R and its interpretations.

Note 12Net Loss Per Share

Basic net loss per share excludes dilution and is computed by dividing loss available to
common stockholders by the weighted-average number of common shares outstanding for the period. Diluted net loss per share is based on the weighted-average number of shares outstanding during each period and the assumed exercise of dilutive common
stock equivalents less the number of treasury shares assumed to be purchased from the proceeds using the average market price of the Companys common stock for each of the periods presented. No dilutive effect is included for shares sold in
relation to McDATAs agreement with International Business Machines Corporation (IBM) in which the Company granted IBM five-year warrants for the purchase of up to 350,000 shares of McDATAs Class B common stock because of their
anti-dilutive impact. No dilutive effect has been included for the convertible subordinated debt or the share options sold in relation to the convertible subordinated debt because of their anti-dilutive impact.

Following is reconciliation between basic and diluted loss per share (in thousands, except per share data):



|                                                                                               |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|---------------------------------------------------------------------------------------------- |  | -------------------------- | ------- | - | ------------------------ | - | ------- | ---- |  | - | ------- | - |  | - | ------- | -
|                                                                                               |  | Three Months EndedJuly 31, |         |   | Six Months EndedJuly 31, |  
|                                                                                               |  | 2006                       |         |   | 2005                     |   |         | 2006 |  |   | 2005    |  
|Net loss                                                                                       |  | $                          | (20,565 | ) |                          | $ | (25,518 | )    |  | $ | (30,109 | ) |  | $ | (28,375 | )
|Weighted average shares of common stock outstanding used in computing basic net loss per share |  |                            | 154,221 |   |                          |   | 139,130 |      |  |   | 153,436 |   |  |   | 127,302 |  
|Effect of dilutive stock options and warrants                                                  |  |                            |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|                                                                                               |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Weighted average shares of common stock used in computing diluted net loss per share           |  |                            | 154,221 |   |                          |   | 139,130 |      |  |   | 153,436 |   |  |   | 127,302 |  
|                                                                                               |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  
|Basic and diluted net loss per share                                                           |  | $                          | (0.13   | ) |                          | $ | (0.18   | )    |  | $ | (0.20   | ) |  | $ | (0.22   | )
|                                                                                               |  |                            |         |   |                          |   |         |      |  |   |         |   |  |   |         |  



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##### Table of Contents

As a result of the Companys net losses for the three and six month periods ended July 31, 2006
and July 31, 2005, all potentially dilutive shares were anti-dilutive and therefore excluded from the computation of diluted net loss per share.

Note 13Stock-Based Compensation

Effective February 1, 2006, the Company began recording compensation expense
associated with stock-based awards and other forms of equity compensation in accordance with Statement of Financial Accounting Standards No. 123-R, Share-Based Payment, (SFAS 123R) as interpreted by SEC Staff Accounting Bulletin
No. 107. The Company adopted the modified prospective transition method provided for under SFAS 123R, and consequently has not retroactively adjusted results from prior periods. Under this transition method, compensation cost associated with
stock-based awards recognized in the first and second quarters of fiscal year 2006 now includes amortization related to the remaining unvested portion of stock-based awards granted prior to February 1, 2006, based on the grant date fair value
estimated in accordance with the original provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation, (SFAS 123); and amortization related to stock-based awards granted on or subsequent to
February 1, 2006, based on the grant-date fair value estimated in accordance with the provisions of SFAS 123R. The compensation expense for stock-based awards includes an estimate for forfeitures and is recognized over the expected term of the
award.

Because the Company had not followed the recognition provisions of SFAS 123 for its Incentive Stock Options (ISOs) and
Nonqualified Stock Options (NQSOs) awards, the Company will not record an adjustment for the cumulative effect of a change in accounting principle when estimating forfeitures. With respect to the Non-Vested Restricted Stock Units (RSUs)
which were recognized under the provisions of APB 25, the Company will not record an adjustment for the cumulative effect of a change in accounting principle for estimating forfeitures as the Company has estimated that there will be no forfeitures
associated with these awards.

Stock Options

The Company provides ISOs and NQSOs to certain employees. When the measurement date is certain, the fair value of each option grant is estimated on the date of grant using the Black-Scholes valuation model
and the assumptions noted in the following table. The expected volatility is based on an equal weighted average of implied volatilities from traded options of the Companys stock and historical volatility of the Companys stock. The risk
free interest rate is based on the implied yield on a U.S. Treasury zero-coupon issue with a remaining term equal to the expected term of the option. The dividend yield reflects that the Company has not paid any cash dividends since inception and
does not anticipate paying cash dividends in the near future. The Company has computed the fair values of each option granted during the three and six months ended July 31, 2006 and 2005, respectively, using the Black-Scholes option-pricing
model and the following assumptions:



|                         |  |                            |   |  |                          |   |  |              |   |  |              |  
|------------------------ |  | -------------------------- | - |  | ------------------------ | - |  | ------------ | - |  | ------------ | -
|                         |  | Three Months EndedJuly 31, |   |  | Six Months EndedJuly 31, |  
|                         |  | 2006                       |   |  | 2005                     |   |  | 2006         |   |  | 2005         |  
|Stock Options            |  |                            |   |  |                          |   |  |              |   |  |              |  
|Expected dividend yield  |  | 0.0                        | % |  | 0.0                      | % |  | 0.0          | % |  | 0.0          | %
|Risk free interest rate  |  | 4.93% - 5.07               | % |  | 3.69 - 4.07              | % |  | 4.57% - 5.07 | % |  | 3.69% - 4.27 | %
|Expected volatility      |  | 50                         | % |  | 60% - 77                 | % |  | 50           | % |  | 60% - 77     | %
|Expected term (in years) |  | 6.3                        |   |  | 4                        |   |  | 6.3          |   |  | 4            |  



19



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##### Table of Contents

Non-Vested Restricted Stock and Restricted Stock Units

The Company provided certain directors and executives with restricted stock awards with service and performance components prior to the adoption of SFAS
123R. The Company accounted for the compensation cost service component in accordance with APB 25, using the grant date fair value and amortizing the cost over the service period. At interim periods, the performance component was measured in
accordance with FASB Interpretation 28 based on an estimate of the number of shares that would vest and the market price of the stock at interim dates. Upon adoption of SFAS 123R, the Company ceased applying variable accounting for APB 25 awards.
The Company will record compensation cost for the unvested portion using the grant date value and amortize the unvested awards over the service period.

In addition, the Company adjusted the remaining deferred compensation balance that was established when the restricted stock awards were granted to additional paid-in-capital.

Effective February 1, 2006, the Company changed its expense recognition policy from using the graded vesting attribution model to the straight-line
attribution model as permitted with the adoption of SFAS 123R.

Compensation Costs

The following table summarizes stock-based compensation costs under SFAS 123R for the three and six months ended July 31, 2006 (in thousands):



|                                                                                                                                         |  |                            |       |                          |         |   |       |  |   |         |   |  |   |      
|---------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------------- | ----- | ------------------------ | ------- | - | ----- |  | - | ------- | - |  | - | -----
|                                                                                                                                         |  | Three Months EndedJuly 31, |       | Six Months EndedJuly 31,
|                                                                                                                                         |  | 2006                       |       |                          | 2005(1) |   | 2006  |  |   | 2005(1)
|Cost of sales                                                                                                                            |  | $                          | 271   |                          |         | $ | 112   |  | $ | 625     |   |  | $ | 127  
|Research and development                                                                                                                 |  |                            | 583   |                          |         |   | 585   |  |   | 1,541   |   |  |   | 1,039
|Capitalized software development costs                                                                                                   |  |                            | (125  | )                        |         |   |      |  |   | (757    | ) |  |   |     
|Sales and marketing                                                                                                                      |  |                            | 614   |                          |         |   | 382   |  |   | 1,253   |   |  |   | 450  
|General and administrative                                                                                                               |  |                            | 1,170 |                          |         |   | 2,290 |  |   | 2,476   |   |  |   | 2,471
|                                                                                                                                         |  |                            |       |                          |         |   |       |  |   |         |   |  |   |      
|Total stock based compensation related to employee stock options and employee stock purchases, net of tax and software development
costs |  | $                          | 2,513 |                          |         | $ | 3,369 |  | $ | 5,138   |   |  | $ | 4,087
|                                                                                                                                         |  |                            |       |                          |         |   |       |  |   |         |   |  |   |      

---

|(1) | Total stock-based compensation as of July 31, 2005, excludes certain stock-based awards, which were previously reported as proforma compensation expense under SFAS 123 (see
Note 2, Summary of Significant Accounting Policies, of the SEC form 10K for the year ended January 31, 2006).
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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The following table illustrates the effect on net loss per share if the Company had applied the fair value recognition
provisions of SFAS No. 123.



|                                                                                                                                                     |  |                                 |         |   |                               |   |         |  
|---------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------- | ------- | - | ----------------------------- | - | ------- | -
|                                                                                                                                                     |  | Three Months EndedJuly 31, 2005 |         |   | Six Months EndedJuly 31, 2005 |  
|Net loss, as reported                                                                                                                                |  | $                               | (25,518 | ) |                               | $ | (28,375 | )
|Add: Total stock-based employee compensation expense included in net loss as determined under the intrinsic value method, net of related tax
effects |  |                                 | 3,369   |   |                               |   | 4,087   |  
|Deduct: Total stock-based employee compensation expense determined under the fair value based method for all awards, net of related tax
effects      |  |                                 | (7,065  | ) |                               |   | (11,611 | )
|                                                                                                                                                     |  |                                 |         |   |                               |   |         |  
|Pro forma net loss                                                                                                                                   |  | $                               | (29,214 | ) |                               | $ | (35,899 | )
|                                                                                                                                                     |  |                                 |         |   |                               |   |         |  
|Loss per share:                                                                                                                                      |  |                                 |         |   |                               |   |         |  
|Basic and diluted-as reported                                                                                                                        |  | $                               | (0.18   | ) |                               | $ | (0.22   | )
|                                                                                                                                                     |  |                                 |         |   |                               |   |         |  
|Basic and diluted -pro forma                                                                                                                         |  | $                               | (0.21   | ) |                               | $ | (0.28   | )
|                                                                                                                                                     |  |                                 |         |   |                               |   |         |  



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A summary of stock option and restricted stock activity under the Companys various stock option
plans for the six months ended July 31, 2006 is presented as follows:



|                                                  |  |                      |   |  |                               |       |                                                 |      |                                |   |    
|------------------------------------------------- |  | -------------------- | - |  | ----------------------------- | ----- | ----------------------------------------------- | ---- | ------------------------------ | - | ---
|                                                  |  | Shares(in thousands) |   |  | WeightedAverageExercise Price |       | WeightedAverageRemainingContractualTerm (Years) |      | AggregateIntrinsicValue ($000)
|Class A common stock options                      |  |                      |   |  |                               |       |                                                 |      |                                |   |    
|Outstanding, January 31, 2006                     |  | 9,643                |   |  | $                             | 9.97  |                                                 |      |                                |   |    
|Granted                                           |  |                     |   |  |                               |      |                                                 |      |                                |   |    
|Exercised                                         |  | (532                 | ) |  |                               | 1.06  |                                                 |      |                                |   |    
|Forfeited or expired                              |  | (945                 | ) |  |                               | 10.87 |                                                 |      |                                |   |    
|                                                  |  |                      |   |  |                               |       |                                                 |      |                                |   |    
|Outstanding, July 31, 2006                        |  | 8,166                |   |  | $                             | 10.86 |                                                 | 4.21 |                                | $ | 122
|                                                  |  |                      |   |  |                               |       |                                                 |      |                                |   |    
|Ending vested and expected to vest, July 31, 2006 |  | 7,035                |   |  | $                             | 11.40 |                                                 | 3.56 |                                | $ | 111
|                                                  |  |                      |   |  |                               |       |                                                 |      |                                |   |    
|Exercisable and vested, July 31, 2006             |  | 7,035                |   |  | $                             | 11.40 |                                                 | 3.56 |                                | $ | 111



|                                              |  |                      |   |  |                                           |            
|--------------------------------------------- |  | -------------------- | - |  | ----------------------------------------- | -----------
|                                              |  | Shares(in thousands) |   |  | WeightedAverageGrant DateFair Value Range
|Nonvested sharesClass A common stock options |  |                      |   |  |                                           |            
|Nonvested at January 31, 2006                 |  | 2,169                |   |  | $                                         | 3.60       
|Granted                                       |  |                     |   |  |                                           |           
|Vested                                        |  | (836                 | ) |  |                                           | 1.74 - 9.55
|Forfeited or expired                          |  | (202                 | ) |  |                                           | 3.31       
|                                              |  |                      |   |  |                                           |            
|Outstanding, July 31, 2006                    |  | 1,131                |   |  | $                                         | 3.02       
|                                              |  |                      |   |  |                                           |            

As of July 31, 2006, there was $3.4 million of total unrecognized compensation costs related
to stock options. These costs are expected to be recognized over a weighted average period of 2.29 years.



|                                                  |  |                      |   |  |                               |      |                                                 |      |                                |   |      
|------------------------------------------------- |  | -------------------- | - |  | ----------------------------- | ---- | ----------------------------------------------- | ---- | ------------------------------ | - | -----
|                                                  |  | Shares(in thousands) |   |  | WeightedAverageExercise Price |      | WeightedAverageRemainingContractualTerm (Years) |      | AggregateIntrinsicValue ($000)
|Class B common stock options                      |  |                      |   |  |                               |      |                                                 |      |                                |   |      
|Outstanding, January 31, 2006                     |  | 20,288               |   |  | $                             | 7.10 |                                                 |      |                                |   |      
|Granted                                           |  | 2,078                |   |  |                               | 1.56 |                                                 |      |                                |   |      
|Exercised                                         |  | (758                 | ) |  |                               | .95  |                                                 |      |                                |   |      
|Forfeited or Expired                              |  | (2,009               | ) |  |                               | 7.87 |                                                 |      |                                |   |      
|                                                  |  |                      |   |  |                               |      |                                                 |      |                                |   |      
|Outstanding, July 31, 2006                        |  | 19,599               |   |  | $                             | 6.66 |                                                 | 7.03 |                                | $ | 7,700
|                                                  |  |                      |   |  |                               |      |                                                 |      |                                |   |      
|Ending vested and expected to vest, July 31, 2006 |  | 10,433               |   |  | $                             | 9.45 |                                                 | 5.61 |                                | $ | 1,335
|                                                  |  |                      |   |  |                               |      |                                                 |      |                                |   |      
|Exercisable and vested, July 31, 2006             |  | 10,433               |   |  | $                             | 9.45 |                                                 | 5.61 |                                | $ | 1,335



|                                              |  |                      |   |  |                                           |             
|--------------------------------------------- |  | -------------------- | - |  | ----------------------------------------- | ------------
|                                              |  | Shares(in thousands) |   |  | WeightedAverageGrant DateFair Value Range
|Nonvested sharesClass B common stock options |  |                      |   |  |                                           |             
|Nonvested at January 31, 2006                 |  | 10,805               |   |  | $                                         | 2.93        
|Granted                                       |  | 2,078                |   |  |                                           | 3.43        
|Vested                                        |  | (2,741               | ) |  |                                           | 1.64 - 16.50
|Forfeited or expired                          |  | (976                 | ) |  |                                           | 2.92        
|                                              |  |                      |   |  |                                           |             
|Outstanding, July 31, 2006                    |  | 9,166                |   |  | $                                         | 2.97        
|                                              |  |                      |   |  |                                           |             



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As of July 31, 2006, there was $27.2 million of total unrecognized compensation costs related to
class B common stock options. These costs are expected to be recognized over a weighted average period of 3.0 years.

Note 14Stockholders
Equity

Stock Repurchase Plan

In October 2005, the Companys Board of Directors amended its stock repurchase plan to authorize the repurchase of up to $25 million of its common stock (Class A, Class B or a combination thereof). This repurchase plan will expire on
October 31, 2006 and allows the Company to repurchase shares on the open market, in negotiated transactions off the market, or pursuant to a Rule 10b5-1 plan adopted by the Company. The Company adopted a Rule 10b5-1 plan in September 2004,
which allows the Company to repurchase its shares during a period in which the Company is in possession of material non-public information, provided the Company communicates share repurchase instructions to the broker at a time when the Company was
not in possession of such material non-public information. Since inception of the original repurchase plan in fiscal 2003, approximately 4.5 million shares (approximately 1.4 million shares of Class A and approximately
3.1 million shares of Class B) have been repurchased with a total cost of approximately $23.6 million. During the three and six months ended July 31, 2006, there were no share repurchases. The Company is not anticipating future repurchases
due to the pending acquisition by Brocade discussed further in Note 17.

Note 15Segment Information

FASB Statement No. 131, Disclosures about Segments of an Enterprise and Related Information (SFAS 131), establishes standards for
reporting information about operating segments. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or
decision-making group, in deciding how to allocate resources and in assessing performance. Our chief operating decision makers are our Chief Executive Officer and Chief Operating Officer.

Prior to the Merger with CNT, the Company had one reporting segment relating to the design, development, manufacture and sale of data access and storage
networking solutions that provide highly available, scalable and centrally managed storage area networks (SANs). The Companys Chief Operating Decision Makers, as defined by SFAS No. 131, had allocated resources and assessed the
performance of the Company based on consolidated revenue and overall profitability. Because of the merger with CNT, and the completion of the integration of CNTs service business, the Company is operating in two distinct reporting segments,
one for products and the other for services. The products segment consists of hardware and software products and related software maintenance and support revenue. The services segment consists of break/fix maintenance, extended warranty,
installation, consulting, network management and telecommunications services.

Financial decisions and the allocation of resources are
based on the information from the Companys management reporting system. The Company does not allocate selling and marketing or general and administrative expenses to its operating segments. At this point in time, we do not track all of our
assets by operating segments. Consequently, it is not practical to show assets by operating segments.



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Summarized financial information by operating segment for the three months ended July 31, 2006 and
2005, based on the internal management system is as follows (in thousands):



|                                     |  |                                 |         |                               |   |             |  |       |        |         |   |         |  |             |         |  |       |        |  |   |          |   |  |   |         |  
|------------------------------------ |  | ------------------------------- | ------- | ----------------------------- | - | ----------- |  | ----- | ------ | ------- | - | ------- |  | ----------- | ------- |  | ----- | ------ |  | - | -------- | - |  | - | ------- | -
|                                     |  | Three Months EndedJuly 31, 2006 |         | Six Months EndedJuly 31, 2006 |  
|                                     |  | Product                         |         | Service                       |   | Unallocated |  | Total |        | Product |   | Service |  | Unallocated |         |  | Total |       
|Revenue                              |  | $                               | 118,134 |                               | $ | 31,996      |  | $     |       |         | $ | 150,130 |  | $           | 253,443 |  | $     | 64,999 |  | $ |         |   |  | $ | 318,442 |  
|Cost of Revenue                      |  | $                               | 66,720  |                               | $ | 21,464      |  | $     |       |         | $ | 88,184  |  | $           | 137,928 |  | $     | 41,371 |  | $ |         |   |  | $ | 179,299 |  
|Gross Margin                         |  | $                               | 51,414  |                               | $ | 10,532      |  | $     |       |         | $ | 61,946  |  | $           | 115,515 |  | $     | 23,628 |  | $ |         |   |  | $ | 139,143 |  
|Research and Development             |  | $                               | 26,004  |                               | $ |            |  | $     |       |         | $ | 26,004  |  | $           | 52,564  |  | $     |       |  | $ |         |   |  | $ | 52,564  |  
|Selling and Marketing                |  | $                               |        |                               | $ |            |  | $     | 36,123 |         | $ | 36,123  |  | $           |        |  | $     |       |  | $ | 73,435   |   |  | $ | 73,435  |  
|General and Administrative           |  | $                               |        |                               | $ |            |  | $     | 8,650  |         | $ | 8,650   |  | $           |        |  | $     |       |  | $ | 18,533   |   |  | $ | 18,533  |  
|Restructuring and Impairment Charges |  | $                               | 4,482   |                               | $ |            |  | $     |       |         | $ | 4,482   |  | $           | 5,360   |  | $     |       |  | $ |         |   |  | $ | 5,360   |  
|Amortization of intangible assets    |  | $                               |        |                               | $ |            |  | $     | 10,947 |         | $ | 10,947  |  | $           |        |  | $     |       |  | $ | 22,007   |   |  | $ | 22,007  |  
|Income (loss) from operations        |  | $                               | 20,928  |                               | $ | 10,532      |  | $     | 55,720 |         | $ | 24,260  |  | $           | 57,591  |  | $     | 23,628 |  | $ | (113,975 | ) |  | $ | (32,756 | )



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|                                     |  |                                 |         |         |                               |             |  |   |         |   |  |         |         |         |  |             |         |  |       |        |  |   |         |   |  |   |         |  
|------------------------------------ |  | ------------------------------- | ------- | ------- | ----------------------------- | ----------- |  | - | ------- | - |  | ------- | ------- | ------- |  | ----------- | ------- |  | ----- | ------ |  | - | ------- | - |  | - | ------- | -
|                                     |  | Three Months EndedJuly 31, 2005 |         |         | Six Months EndedJuly 31, 2005 |            
|                                     |  | Product                         |         | Service |                               | Unallocated |  |   | Total   |   |  | Product |         | Service |  | Unallocated |         |  | Total |       
|Revenue                              |  | $                               | 139,139 |         | $                             | 26,170      |  | $ |        |   |  | $       | 165,309 |         |  | $           | 231,409 |  | $     | 32,768 |  | $ |        |   |  | $ | 264,177 |  
|Cost of Revenue                      |  | $                               | 67,336  |         | $                             | 16,349      |  | $ |        |   |  | $       | 83,685  |         |  | $           | 107,863 |  | $     | 21,262 |  | $ |        |   |  | $ | 129,125 |  
|Gross Margin                         |  | $                               | 71,803  |         | $                             | 9,821       |  | $ |        |   |  | $       | 81,624  |         |  | $           | 123,546 |  | $     | 11,506 |  | $ |        |   |  | $ | 135,052 |  
|Research and Development             |  | $                               | 31,972  |         | $                             |            |  | $ |        |   |  | $       | 31,972  |         |  | $           | 53,358  |  | $     |       |  | $ |        |   |  | $ | 53,358  |  
|Selling and Marketing                |  | $                               |        |         | $                             |            |  | $ | 38,638  |   |  | $       | 38,638  |         |  | $           |        |  | $     |       |  | $ | 62,754  |   |  | $ | 62,754  |  
|General and Administrative           |  | $                               |        |         | $                             |            |  | $ | 11,369  |   |  | $       | 11,369  |         |  | $           |        |  | $     |       |  | $ | 17,133  |   |  | $ | 17,133  |  
|Restructuring and Impairment Charges |  | $                               | 9,752   |         | $                             |            |  | $ |        |   |  | $       | 9,752   |         |  | $           | 9,752   |  | $     |       |  | $ |        |   |  | $ | 9,752   |  
|Amortization of intangible assets    |  | $                               |        |         | $                             |            |  | $ | 9,537   |   |  | $       | 9,537   |         |  | $           |        |  | $     |       |  | $ | 15,107  |   |  | $ | 15,107  |  
|Income (loss) from operations        |  | $                               | 30,079  |         | $                             | 9,821       |  | $ | (59,544 | ) |  | $       | (19,644 | )       |  | $           | 60,436  |  | $     | 11,506 |  | $ | (94,994 | ) |  | $ | (23,052 | )

The following table presents supplemental data for McDATA revenue channels. A significant portion
of revenue is concentrated with the largest storage OEMs, EMC, IBM and HDS. Other major storage and system vendors, including Dell, HP, and Sun, offer McDATA solutions to their customers. In addition to storage and system vendors, the Company has
relationships with many resellers, distributors and systems integrators. The Company also sells select products and services directly to end customers.



|               |  |                            |   |  |                          |   |  |      |   |  |      |  
|-------------- |  | -------------------------- | - |  | ------------------------ | - |  | ---- | - |  | ---- | -
|               |  | Three Months EndedJuly 31, |   |  | Six Months EndedJuly 31, |  
|               |  | 2006                       |   |  | 2005                     |   |  | 2006 |   |  | 2005 |  
|EMC            |  | 27                         | % |  | 28                       | % |  | 28   | % |  | 36   | %
|IBM            |  | 30                         | % |  | 25                       | % |  | 29   | % |  | 25   | %
|HDS            |  | 8                          | % |  | 5                        | % |  | 7    | % |  | 7    | %
|Other channels |  | 35                         | % |  | 42                       | % |  | 36   | % |  | 32   | %
|               |  |                            |   |  |                          |   |  |      |   |  |      |  
|Total revenue  |  | 100                        | % |  | 100                      | % |  | 100  | % |  | 100  | %
|               |  |                            |   |  |                          |   |  |      |   |  |      |  

Revenues are attributed to geographic areas based on the location of the customers to which
products are shipped. International revenues primarily consist of sales to customers in Western Europe and the greater Asia Pacific region. Included in domestic revenues are sales to certain OEM customers who take possession of products domestically
and then distribute



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these products to their international customers. In addition, included in revenues from Western Europe are sales to certain OEM customers who take possession
of products in distribution centers designated for international-bound product and then distribute these products among various international regions. The mix of international and domestic revenue can, therefore, vary depending on the relative mix
of sales to certain OEM customers. For the quarter ended July 31, 2006, domestic and international revenue was 65% and 35% of our total revenue, respectively, as compared to 68%, and 32%, respectively, for the same period in 2005. For the six
months ended July 31, 2006, domestic and international revenue was 62% and 38% of our total revenue, respectively, as compared to 67%, and 33%, respectively, for the same period in 2005.



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Note 16Commitments and Contingencies

Commitments

Operating and Capital Leases

The Company had various operating and capital leases in effect at July 31, 2006, for certain buildings, office space and machinery and equipment.
Future minimum lease payments under non-cancelable capital and operating leases with terms of one year or more are as follows at July 31, 2006 (in thousands):



|                                           |  |               |        |   |                 |   |       
|------------------------------------------ |  | ------------- | ------ | - | --------------- | - | ------
|                                           |  | CapitalLeases |        |   | OperatingLeases
|2006(1)                                    |  | $             | 1,486  |   |                 | $ | 5,018 
|2007                                       |  |               | 2,816  |   |                 |   | 9,076 
|2008                                       |  |               | 977    |   |                 |   | 8,931 
|2009                                       |  |               | 50     |   |                 |   | 6,019 
|2010                                       |  |               |       |   |                 |   | 5,599 
|Thereafter                                 |  |               |       |   |                 |   | 35,606
|                                           |  |               |        |   |                 |   |       
|Total minimum lease payments               |  |               | 5,329  |   |                 | $ | 70,249
|                                           |  |               |        |   |                 |   |       
|Less portion representing interest         |  |               | (361   | ) |                 |   |       
|Less current portion                       |  |               | (2,212 | ) |                 |   |       
|                                           |  |               |        |   |                 |   |       
|Long term obligations under capital leases |  | $             | 2,756  |   |                 |   |       
|                                           |  |               |        |   |                 |   |       

---

|(1) | Reflects the remaining six months of fiscal 2006.
|--- | -------------------------------------------------

Rent
expense for the quarter and six months ended July 31, 2006, was $3.5 million and $7.7 million, respectively, and for the same periods in 2005, rent expense was $4.4 million and $6.8 million, respectively.

On September 9, 2004, the Company entered into a triple net office lease with Ridge Parkway Associates, LLC, a Delaware limited liability company,
for the lease of office space at 11802 Ridge Parkway, Building 2, Broomfield, Colorado (the New Premises). The Company moved its world headquarters location at 380 Interlocken Crescent, Broomfield, Colorado 80021 to the New Premises with
the lease commencing in February of 2006. The term of the new lease is for 11 years (with two 5-year renewal options). The base annual lease rates per rentable square foot for the New Premises range from $0 in the first year to $14.15 in the
last year of the lease, plus normal operating expenses. The Company began recognizing rent expense in July 2005, upon the start of the build-out of the premises. The lease has customary terms and conditions.

The Company received the certificate of occupancy on January 31, 2006, and because the project was substantially complete, the Company adjusted the
amounts in construction in progressleased assets, and non-cash obligations for construction in progresslease facilities in the long term-liability section of the accompanying consolidated balance sheet.

Under the terms of the lease, the Company was provided with approximately $6.7 million of tenant improvements .The Company has recorded these
improvements as an addition to property and equipment, and as an addition to long-term liabilities on its consolidated balance sheet. The improvements are being depreciated over the lesser of the life of the related assets or the term of the lease.
The related long-term liability is being amortized over the life of the lease, effectively adjusting the Companys rent expense.

Manufacturing and
Purchase Commitments

The Company has contracted with Sanmina SCI Systems, Inc. (SSCI), Solectron Corporation (Solectron) and
others (collectively, Contract Manufacturers) for the manufacture of printed circuit boards and box build assembly and configuration for specific multi-protocol directors and switches. The agreements require the Company to submit purchasing
forecasts and place orders sixty calendar days in advance of delivery. At July 31, 2006, the Companys commitment with our Contract Manufacturers for purchases over the next sixty days totaled $55.0 million, and $32.0 million for
commitments beyond 60 days. The Company may be liable for materials that the Contract Manufacturers purchase on McDATAs behalf if the Companys actual requirements do not meet or exceed its forecasts and those materials cannot be
redirected to other uses. We may also be liable for materials that certain component suppliers or product manufacturers have produced or made available to us if our actual requirements do not meet or exceed minimums that we have committed to
purchase. At July 31, 2006, the Company had recorded approximately $9.4 million of purchase obligations that we believe is excess or obsolete



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and cannot be redirected to other uses. Management does not expect the remaining commitments under these agreements to have a material adverse effect on the
Companys business, results of operations, financial position or cash flows.

In June 2005, the FASB finalized FASB Staff Positions
(FSP) No. 143-1, Accounting for Electronic Equipment Waste Obligations. FSP No. 143-1 addresses accounting by commercial users and producers of electrical and electronic equipment, in connection with Directive 2002/96/EC on
Waste Electrical and Electronic Equipment issued by the European Union on February 13, 2003 (Directive). This Directive requires EU-member countries to adopt legislation to regulate the collection, treatment, recovery, and environmentally sound
disposal of electrical and electronic waste equipment, and sets forth certain obligations relating to covering the cost of disposal of such equipment by commercial users. Producers will also be required to cover the cost of disposal of such
equipment by private household users. The FSP sets forth accounting for such obligations by commercial users and producers, with respect to SFAS No. 143, Asset Retirement Obligations and the related FASB Interpretation No. 47,
Accounting for Conditional Asset Retirement Obligations, since this type of obligation is an asset retirement obligation. The guidance of this FSP shall be applied in the first reporting period after the date of the adoption of the law
by the applicable EU-member country.

The Company adopted FSP No. 143-1 in the fourth quarter of fiscal 2005 and concluded that no
liability has been incurred as of January 31, 2006. The Company continued to analyze the impact of the directive in fiscal 2006 and recognized a reserve of $1.9 million in the first quarter of fiscal 2006 related to the elimination of non-RoHS
compliant components at our contract manufacturers.

Indebtedness

As discussed in Note 9, as part of the acquisition of CNT, McDATA guaranteed the payment of principal and interest on approximately $122.4 million principal amount of CNTs 3.00% Notes. In addition, McDATA
has $172.5 million principal amount of outstanding 2.25% subordinated convertible notes due 2010. Unless the price of our common stock increases significantly so that the holders of the convertible notes find it economically advantageous to
exercise the conversion feature and receive common stock in lieu of a cash payment of the principal amount and any accrued interest, we may have to repay the debt in cash. Although the Companys 3.00% Notes are due on February 15, 2007,
the Company has sufficient resources to satisfy these obligations as they mature. However, in the future, the Company may lack the resources to satisfy these obligations as they mature, and there can be no assurance that we will possess the
resources or be able to secure the resources to satisfy these obligations on commercially reasonable terms, if at all. Any failure by the Company to satisfy these obligations when due would have a material adverse effect on the Companys
business.

ContingenciesLitigation

From time to time, the Company is subject to claims arising in the ordinary course of business. Litigation is subject to inherent risks and uncertainties and an adverse result in a matter that may arise from time to time may harm our
business, financial condition or results of operations. In the opinion of management and, except as set forth below, no such lawsuit, individually or in the aggregate, exists which is expected to have a material adverse effect on the Companys
consolidated results of operations, financial position or cash flows.

McDATAs IPO Laddering Class Action Lawsuits

The Company, Mr. John F. McDonnell, the former Chairman of the board of directors, Mrs. Dee J. Perry, a former officer
and Mr. Thomas O. McGimpsey, a current officer were named as defendants in purported securities class action lawsuits filed in the United States District Court, Southern District of New York. The first of these lawsuits, filed on July 20,
2001, is captioned Gutner v. McDATA Corporation, Credit Suisse First Boston (CSFB), Merrill Lynch, Pierce Fenner & Smith Incorporated, Bear, Stearns & Co., Inc., FleetBoston Robertson Stephens et al., No. 01 CIV.
6627. Three other similar suits were filed against the Company and the individuals. The complaints are identical to numerous other complaints filed against other companies that went public in 1999 and 2000. These lawsuits generally allege, among
other things, that the registration statements and prospectus filed with the SEC by such companies were materially false and misleading because they failed to disclose (a) that certain underwriters had allegedly solicited and received excessive
and undisclosed commissions from certain investors in exchange for which the underwriters allocated to those investors material portions of shares in connection with the initial public offerings, or IPOs, and (b) that certain of the
underwriters had allegedly entered into agreements with customers whereby the underwriters agreed to allocate IPO shares in exchange for which the customers agreed to purchase additional company shares in the aftermarket at pre-determined prices.
The complaints allege claims against the Company, the named individuals, and CSFB, the lead underwriter of the Companys August 9, 2000 initial public offering, under Sections 11 and 15 of the Securities Act. The complaints also allege
claims solely against CSFB and the other underwriter defendants under Section 12(a) (2) of the Securities Act, and claims against the individual defendants under Section 10(b) of the Securities Exchange Act. Although management
believes that all of the lawsuits are without legal merit and they intend to defend against them vigorously, there is no assurance that the Company will prevail. In September 2002,



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plaintiffs counsel in the above-mentioned lawsuits offered to individual defendants of many of the public companies being sued, including the Company,
the opportunity to enter into a Reservation of Rights and Tolling Agreement that would dismiss without prejudice and without costs, all claims against such persons if the company itself had entity coverage insurance. This agreement was signed by
Mr. John F. McDonnell, the former Company Chairman, Mrs. Dee J. Perry, the former chief financial officer, and Mr. Thomas O. McGimpsey, the current General Counsel and Vice President of Business Development and the plaintiffs
executive committee. Under the Reservation of Rights and Tolling Agreement, the plaintiffs dismissed the claims against such individuals. On February 19, 2003, the court in the above-mentioned lawsuits entered a ruling on the pending motions to
dismiss, which dismissed some, but not all, of the plaintiffs claims against the Company. These lawsuits have been consolidated as part of In Re Initial Public Offering Securities Litigation (SDNY). The Company has considered and agreed
to enter into a proposed settlement offer with representatives of the plaintiffs in the consolidated proceeding, and we believe that any liability on behalf of the Company that may accrue under that settlement offer would be covered by our insurance
policies. On August 31, 2005, the court preliminarily approved the proposed settlement. A fairness hearing will be held in 2006 before any final settlement is approved, if at all. Until that settlement is fully effective, Management intends to
defend against the consolidated proceeding vigorously.

Eclipsys Indemnification Claim

Inrange Technologies Corporation, which was a wholly owned subsidiary of CNT, had been named as a defendant in the case SBC Technology Resources,
Inc. v. Inrange Technologies Corp., Eclipsys Corp. and Resource Bancshares Mortgage Group, Inc., No. 303-CV-418-N, that was pending in the United States District Court for the Northern District of Texas, Dallas Division (the SBC Patent
Litigation). The SBC Patent Litigation was commenced on February 27, 2003. The complaint claimed that Inrange was infringing U.S. Patent No. 5,530,845 (845 patent) by manufacturing and selling storage area networking
equipment, in particular the FC/9000, that is used in storage networks. On May 31, 2005, Inrange and SBC Laboratories, Inc. (f/k/a SBC Technology Resources, Inc.) entered into a Settlement Agreement settling the SBC Patent Litigation
on confidential terms that included a license to the 845 patent, and the case was dismissed with prejudice. Eclipsys Corp. (Eclipsys) had settled earlier with SBC Technology Resources, Inc. for an undisclosed sum without the consent of InRange.
Eclipsys has demanded that Inrange indemnify Eclipsys pursuant to alleged documentation under which it purportedly acquired certain allegedly infringing products from Inrange. Hitachi Data Systems Corporation (a non-party to the SBC Patent
Litigation) has also informed Inrange that it received a demand from Eclipsys that Hitachi indemnify Eclipsys in connection with the SBC Patent Litigation. Hitachi notified Inrange that it would tender to Inrange any claim by Eclipsys for
indemnification of any aspect of the litigation. Based on current information, Inrange believes that the indemnification demands of Eclipsys and Hitachi are without merit. Accordingly, McDATA intends to vigorously defend against any claims, if made,
by Eclipsys or Hitachi for indemnification.

State of Connecticut Tax Audit of InRange

The audit division of the State of Connecticut Department of Revenue Services (Audit Division) has proposed adjustments to the Connecticut income tax
returns for Inrange for the years ended December 31, 1996, through December 31, 1999. The proposed adjustments, in the amount of $433,995 plus interest, relate to (1) gain from a stock sale following the exercise of warrants, and
whether Inrange had sufficient nexus with Connecticut to subject the gain to Connecticut taxation, and (2) the availability of claimed credits for certain research and development expenditures, and whether Inrange has provided sufficient
documentation to support the claimed credits. Inrange made a written offer to settle the matter, which was rejected by the Audit Division. Inrange has formally appealed the matter and has posted a $750,000 appeal bond to avoid the accrual of
additional interest.

InRanges IPO Laddering Class Action Lawsuits

A shareholder class action was filed against Inrange and certain of its officers on November 30, 2001, in the United States District Court for the
Southern District of New York, seeking recovery of damages caused by Inranges alleged violation of securities laws, including section 11 of the Securities Act of 1933 and section 10(b) of the Exchange Act of 1934. The complaint,
which was also filed against the various underwriters that participated in Inranges initial public offering (IPO), is identical to hundreds of shareholder class actions pending in this court in connection with other recent IPOs and is
generally referred to as In re Initial Public Offering Securities Litigation. The complaint alleges, in essence, (a) that the underwriters combined and conspired to increase their respective compensation in connection with the IPO by
(i) receiving excessive, undisclosed commissions in exchange for lucrative allocations of IPO shares, and (ii) trading in Inranges stock after creating artificially high prices for the stock post-IPO through tie-in or
laddering arrangements (whereby recipients of allocations of IPO shares agreed to purchase shares in the aftermarket for more than the public offering price for Inrange shares) and dissemination of misleading market analysis on
Inranges prospects; and (b) that Inrange violated federal securities laws by not disclosing these underwriting arrangements in its prospectus. The defense has been tendered to the carriers of Inranges director and officer liability
insurance, and a request for indemnification has been made to the various



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underwriters in the IPO. At this point, the insurers have issued a reservation of rights letter and the underwriters have refused indemnification. The court
has granted Inranges motion to dismiss claims under section 10(b) of the Securities Exchange Act of 1934 because of the absence of a pleading of intent to defraud. The court granted plaintiffs leave to replead these claims, but no further
amended complaint has been filed. The court denied Inranges motion to dismiss claims under section 11 of the Securities Act of 1933. The court has also dismissed Inranges individual officers without prejudice, after they entered
into a tolling agreement with the plaintiffs. On July 25, 2003, Inranges board of directors conditionally approved a proposed partial settlement with the plaintiffs in this matter. The settlement would provide, among other things, a
release of Inrange and of the individual defendants for the conduct alleged in the action to be wrongful in the complaint. Inrange would agree to undertake other responsibilities under the partial settlement, including agreeing to assign away, not
assert, or release certain potential claims Inrange may have against its underwriters. Any direct financial impact of the proposed settlement is expected to be borne by Inranges insurers. In June 2004, an agreement of settlement was submitted
to the court for preliminary approval. On August 31, 2005, the court preliminarily approved the proposed settlement. A fairness hearing will be held in 2006 before any final settlement is approved, if at all. Until the settlement is effective,
management intends to defend against this consolidated proceeding vigorously.

Data Center Systems Litigation

On March 29, 2006, McDATA Services Corporation was notified that Kevin M. Ehringer Enterprises Inc. d/b/a Data Center Systems (DCS) had
filed in the State District Court in Dallas Texas, a lawsuit seeking damages and injunctive relief against McDATA Services Corporation (McDATA Services) f/k/a Computer Network Technology Corporation alleging that McDATA Services
Corporation had breached its duties under a Distributor, Development, Asset Sale Agreement entered into by the parties in November 2003. In May 2006, the Company removed the case to federal district court. McDATA Services intends to defend itself
vigorously and, based on facts known to its management team, believes the case is wholly without merit.

Indemnifications and Guarantees

Ordinary Course Purchase and Sale Agreements

During its normal course of business, the Company may enter into agreements with customers, resellers, OEMs, systems integrators, distributors and others.
These agreements typically require the Company to indemnify the other party against claims of intellectual property infringement made by third parties arising for the use of our products. In addition, the majority of these indemnities, commitments
and guarantees do not provide for any limitation of the maximum potential future payments the Company could be obligated to make. The Company evaluates and estimates losses from such indemnification under SFAS No. 5, Accounting for
Contingencies, as interpreted by FASB Interpretation No. 45. To date, the Company has not incurred any material costs because of such obligations and has not accrued any liabilities related to such indemnification and guarantees in our
financial statements.

Sale of Lumberton, New Jersey Manufacturing Operations

As described in Note 5, on June 24, 2005 the Company entered into a series of agreements with Solectron in connection with the sale of manufacturing
operations and transfer of assets related to its Lumberton, New Jersey production facility. As part of the Asset Purchase Agreement between the Company and Solectron, the Company has made a number of representations and has agreed to indemnify the
buyer and hold them harmless from certain losses suffered in connection with their purchase of assets and assumption of liabilities of the Lumberton facility. The more significant indemnifications relate to representations made by the Company as to
the proper maintenance of the tangible assets purchased, compliance with ERISA as it relates to benefit plans in which the transferred employees have participated prior to the sale, and the absence of undisclosed environmental issues or significant
contracts. The term of the representations relating to undisclosed environmental issues is five years, with the term of the remaining representations being two years. Although, there are no maximum potential indemnification amounts stated in the
agreement for these representations, based on facts currently available, management estimates the maximum potential amount of payments that could be required under these representations to be $5.3 million. However, it is managements judgment
that the probability of the Company having to make any payments under any one of the representations ranges from 0% to 20%. In calculating the fair value of the Companys obligation under these representations, the maximum potential loss
estimate was multiplied by the probability of each occurring. The resulting potential future cash flows were then discounted using a rate of 8%, resulting in the Company recognizing a liability of approximately $400,000 in accordance with FIN 45.
Due to the uncertainty surrounding the risks involved, the liability balance will be maintained and reevaluated as needed, over the full term of the related indemnifications. Any future reversals of previous accrual amounts which were recorded
during the purchase accounting period as an increase to goodwill will be recorded as a reduction to goodwill. Otherwise, any portion of the liability that is derecognized in the future will be credited to operating results.



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SPX Tax Sharing Agreement

Inrange Technologies Corporation (Inrange) is subject to a tax sharing agreement with SPX Corporation (SPX) relating to previous tax years when Inrange
was part of the SPX consolidated tax group (the SPX Agreement). Inrange was acquired by CNT from SPX in May 2003. When McDATA acquired CNT, Inrange became an indirect subsidiary of McDATA. Pursuant to the SPX Agreement, if the taxing authority
adjusts Inrange losses utilized in previous tax years by the SPX consolidated group, Inrange must compensate SPX for the lost tax benefits. The Internal Revenue Service is currently examining tax returns filed by SPX for certain years that Inrange
was included in the SPX consolidated return. At this time, we are not aware of any audit adjustments that would require Inrange to compensate SPX for lost tax benefits.

Note 17Subsequent Events - Proposed Merger with Brocade

On August 7, 2006, McDATA,
Brocade Communication Systems, Inc., a Delaware corporation (Brocade), and Worldcup Merger Corporation, a Delaware corporation and a wholly-owned subsidiary of Brocade (Merger Sub), entered into an Agreement and Plan of Reorganization (the Merger
Agreement) providing for a business combination whereby Merger Sub will merge with and into McDATA (the Merger). Because of the Merger, the separate corporate existence of Merger Sub will cease and McDATA will continue as the surviving corporation
of the Merger and a wholly owned subsidiary of Brocade. At the effective time of the Merger (the Effective Time), each share of McDATA Class A common stock and Class B common stock (other than shares owned by McDATA or Brocade) will be
converted into the right to receive 0.75 shares of Brocade common stock (the Exchange Ratio). Each outstanding McDATA stock option, restricted stock unit and share of restricted stock (whether vested or unvested) will be assumed by Brocade and will
be converted into Brocade common stock or the right to receive Brocade common stock, as the case may be, based upon the Exchange Ratio. The issuance of Brocade common stock in the Merger is subject to the approval of Brocades stockholders and
the adoption of the Merger Agreement is subject to the approval of the McDATA stockholders. In addition, the Merger is subject to the expiration of applicable waiting periods under the Hart-Scott-Rodino Antitrust Improvements Act (the HSR Act) and
certain foreign antitrust laws, the Securities Exchange Commission (SEC) declaring effective the registration statement covering the shares of Brocade common stock to be issued in the Merger and certain other customary closing conditions.

In August of 2006, the Company established retention compensation plans for certain employees. The plans will provide these employees with
a combination of cash and stock that will vest under certain conditions. The plans stipulate that the employees will receive compensation even if the Merger with Brocade does not occur. When these plans are communicated to the respective employees,
the Company will make a determination of the fair value of the compensation and will amortize the amount over the service period.

Note
18Supplemental Guarantor Information

On June 1, 2005, as part of the merger with CNT, McDATA Corporation (Parent Guarantor)
fully and unconditionally guaranteed CNTs convertible debt. In February 2002, CNT (Issuer of Notes) sold $125 million of 3% convertible subordinated notes due February 15, 2007. The notes were convertible into CNT common stock at the
price of $19.17 per share. Due to the Merger, the notes are now convertible into Class A McDATA stock at a price of approximately $14.75 per share (aggregate of approximately 8.4 million shares) at any time prior to their maturity on
February 15, 2007. At July 31, 2006, the amount outstanding on the CNT notes was $122.4 million. After the merger, the corporate name of CNT was changed to McDATA Services Corporation.

The following condensed consolidating financial statements have been prepared from the Companys financial information on the same basis of
accounting as of the condensed consolidated financial statements. Investments in our subsidiaries are accounted for on the equity method; accordingly, entries necessary to consolidate the Parent Guarantor, Issuer of Notes, and all of its
subsidiaries are reflected in the eliminations column.



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McDATA CORPORATION

CONDENSED CONSOLIDATING BALANCE SHEETS (1)

As of July 31, 2006

(in thousands, unaudited)



|                                                                      |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|--------------------------------------------------------------------- |  | --------------- | -------- | - | -------------- | - | ------- | ------------------------- |  | - | ------------ | - |  | ------------ | -------- | - |  | - | ---------
|                                                                      |  | ParentGuarantor |          |   | Issuer ofNotes |   |         | SubsidiariesNonGuarantors |  |   | Eliminations |   |  | Consolidated
|Assets                                                                |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Current assets:                                                       |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Cash and cash equivalents                                             |  | $               | 107,554  |   |                | $ | 18,613  |                           |  | $ | 2,380        |   |  | $            |         |   |  | $ | 128,547  
|Securities lending collateral                                         |  |                 | 86,212   |   |                |   |        |                           |  |   |             |   |  |              |         |   |  |   | 86,212   
|Short-term investments                                                |  |                 | 205,612  |   |                |   |        |                           |  |   |             |   |  |              |         |   |  |   | 205,612  
|Accounts receivable, net                                              |  |                 | 81,790   |   |                |   | 12,723  |                           |  |   |             |   |  |              | 365      |   |  |   | 94,878   
|Intercompany accounts receivable, net                                 |  |                 | (331,848 | ) |                |   | 196,630 |                           |  |   | (38,691      | ) |  |              | 173,909  |   |  |   |         
|Inventories, net                                                      |  |                 | 31,239   |   |                |   | 5,364   |                           |  |   |             |   |  |              | (957     | ) |  |   | 35,646   
|Prepaid expenses and other                                            |  |                 | 1,220    |   |                |   | 11,236  |                           |  |   | 572          |   |  |              | (116     | ) |  |   | 12,912   
|Restricted cash                                                       |  |                 | 3,890    |   |                |   |        |                           |  |   |             |   |  |              |         |   |  |   | 3,890    
|                                                                      |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Total current assets                                                  |  |                 | 185,669  |   |                |   | 244,566 |                           |  |   | (35,739      | ) |  |              | 173,201  |   |  |   | 567,697  
|Property and equipment, net                                           |  |                 | 88,191   |   |                |   | 15,448  |                           |  |   | 1,294        |   |  |              | 719      |   |  |   | 105,652  
|Long-term investments                                                 |  |                 | 25,025   |   |                |   | 11      |                           |  |   |             |   |  |              |         |   |  |   | 25,036   
|Investment in subsidiaries                                            |  |                 | 410,526  |   |                |   | 235,654 |                           |  |   | 2            |   |  |              | (646,182 | ) |  |   |         
|Restricted cash                                                       |  |                 | 11,659   |   |                |   |        |                           |  |   |             |   |  |              |         |   |  |   | 11,659   
|Intangible assets, net                                                |  |                 | 42,930   |   |                |   | (836    | )                         |  |   | 55,736       |   |  |              | 836      |   |  |   | 98,666   
|Goodwill                                                              |  |                 | 184,519  |   |                |   | 261     |                           |  |   | 78,693       |   |  |              |         |   |  |   | 263,473  
|Other assets, net                                                     |  |                 | 40,528   |   |                |   | 17,430  |                           |  |   | 194          |   |  |              | 856      |   |  |   | 59,008   
|                                                                      |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Total assets                                                          |  | $               | 989,047  |   |                |   | 512,534 |                           |  | $ | 100,180      |   |  |              | (470,570 | ) |  | $ | 1,131,191
|                                                                      |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Liabilities and Stockholders Equity                                  |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Current liabilities:                                                  |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Accounts payable                                                      |  | $               | 34,216   |   |                | $ | 7,948   |                           |  | $ | 101          |   |  | $            | 699      |   |  | $ | 42,964   
|Accrued liabilities                                                   |  |                 | 49,723   |   |                |   | 28,818  |                           |  |   | (6,046       | ) |  |              |         |   |  |   | 72,495   
|Securities lending collateral payable                                 |  |                 | 86,212   |   |                |   |        |                           |  |   |             |   |  |              |         |   |  |   | 86,212   
|Current portion of deferred revenue                                   |  |                 | 17,229   |   |                |   | 42,533  |                           |  |   | 70           |   |  |              |         |   |  |   | 59,832   
|Current portion of notes payable and obligations under capital leases |  |                 | 532      |   |                |   | 1,680   |                           |  |   |             |   |  |              |         |   |  |   | 2,212    
|Interest rate swap                                                    |  |                 |         |   |                |   | 1,332   |                           |  |   |             |   |  |              |         |   |  |   | 1,332    
|Convertible subordinated debt                                         |  |                 |         |   |                |   | 119,278 |                           |  |   |             |   |  |              |         |   |  |   | 119,278  
|                                                                      |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Total current liabilities                                             |  |                 | 187,912  |   |                |   | 201,589 |                           |  |   | (5,875       | ) |  |              | 699      |   |  |   | 384,325  
|Obligations under capital leases, less current portion                |  |                 | 641      |   |                |   | 2,115   |                           |  |   |             |   |  |              |         |   |  |   | 2,756    
|Deferred revenue, less current portion                                |  |                 | 7,454    |   |                |   | 20,838  |                           |  |   | 2            |   |  |              |         |   |  |   | 28,294   
|Other long-term liabilities                                           |  |                 | 8,258    |   |                |   | 5,805   |                           |  |   |             |   |  |              | 308      |   |  |   | 14,371   
|Interest rate swap                                                    |  |                 | 7,884    |   |                |   |        |                           |  |   |             |   |  |              |         |   |  |   | 7,884    
|Convertible subordinated debt                                         |  |                 | 164,616  |   |                |   |        |                           |  |   |             |   |  |              |         |   |  |   | 164,616  
|                                                                      |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Total liabilities                                                     |  |                 | 376,765  |   |                |   | 230,347 |                           |  |   | (5,873       | ) |  |              | 1,007    |   |  |   | 602,246  
|Total stockholders equity                                            |  |                 | 612,282  |   |                |   | 282,187 |                           |  |   | 106,053      |   |  |              | (471,577 | ) |  |   | 528,945  
|                                                                      |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          
|Total liabilities and stockholders equity                            |  | $               | 989,047  |   |                |   | 512,534 |                           |  | $ | 100,180      |   |  |              | (470,570 | ) |  | $ | 1,131,191
|                                                                      |  |                 |          |   |                |   |         |                           |  |   |              |   |  |              |          |   |  |   |          

---

|(1) | In conjunction with the guarantee of McDATA Services Corporations (formerly known as CNT) convertible debt, the accompanying condensed consolidating financial information has
been prepared and presented pursuant to SEC Regulation S-X Rule 3-10 Financial statements of guarantors and affiliates whose securities collateralize an issue registered or being registered. This information is not intended to present
the financial position, results of operations and cash flows of the individual companies or groups of companies in accordance with generally accepted accounting principles and is not representative of the operations of McDATA or the former CNT on
either a pre-merger or stand-alone basis.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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McDATA CORPORATION

CONDENSED CONSOLIDATING BALANCE SHEETS (1)

As of January 31, 2006

(in thousands, unaudited)



|                                                                      |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|--------------------------------------------------------------------- |  | --------------- | -------- | - | -------------- | - | ------------------------- |  | - | ------------ | - |  | ------------ | -------- | - |  | - | ---------
|                                                                      |  | ParentGuarantor |          |   | Issuer ofNotes |   | SubsidiariesNonGuarantors |  |   | Eliminations |   |  | Consolidated
|Assets                                                                |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Current assets:                                                       |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Cash and cash equivalents                                             |  | $               | 122,595  |   |                | $ | 13,306                    |  | $ | 3,182        |   |  | $            |         |   |  | $ | 139,083  
|Securities lending collateral                                         |  |                 | 62,555   |   |                |   |                          |  |   |             |   |  |              |         |   |  |   | 62,555   
|Short-term investments                                                |  |                 | 171,110  |   |                |   |                          |  |   |             |   |  |              |         |   |  |   | 171,110  
|Accounts receivable, net                                              |  |                 | 110,937  |   |                |   | 15,090                    |  |   | 79           |   |  |              |         |   |  |   | 126,106  
|Intercompany accounts receivable, net                                 |  |                 | (392,087 | ) |                |   | 176,752                   |  |   | (32,576      | ) |  |              | 247,911  |   |  |   |         
|Inventories, net                                                      |  |                 | 24,431   |   |                |   | 8,702                     |  |   |             |   |  |              | (33      | ) |  |   | 33,100   
|Prepaid expenses and other current assets                             |  |                 | 7,154    |   |                |   | 5,696                     |  |   | 573          |   |  |              |         |   |  |   | 13,423   
|                                                                      |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Total current assets                                                  |  |                 | 106,695  |   |                |   | 219,546                   |  |   | (28,742      | ) |  |              | 247,878  |   |  |   | 545,377  
|Property and equipment, net                                           |  |                 | 85,045   |   |                |   | 22,628                    |  |   | 1,445        |   |  |              |         |   |  |   | 109,118  
|Long-term investments                                                 |  |                 | 31,881   |   |                |   | 3                         |  |   |             |   |  |              |         |   |  |   | 31,884   
|Investment in subsidiaries                                            |  |                 | 410,529  |   |                |   |                          |  |   | 2            |   |  |              | (410,531 | ) |  |   |         
|Restricted cash                                                       |  |                 | 6,858    |   |                |   | 3,839                     |  |   |             |   |  |              |         |   |  |   | 10,697   
|Intangible assets, net                                                |  |                 | 57,751   |   |                |   |                          |  |   | 65,952       |   |  |              | (9       | ) |  |   | 123,694  
|Goodwill                                                              |  |                 | 187,448  |   |                |   |                          |  |   | 78,693       |   |  |              |         |   |  |   | 266,141  
|Other assets, net                                                     |  |                 | 40,440   |   |                |   | 18,917                    |  |   | 432          |   |  |              | 9        |   |  |   | 59,798   
|                                                                      |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Total assets                                                          |  | $               | 926,647  |   |                | $ | 264,933                   |  | $ | 117,782      |   |  | $            | (162,653 | ) |  | $ | 1,146,709
|                                                                      |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Liabilities and Stockholders Equity                                  |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Current liabilities:                                                  |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Accounts payable                                                      |  | $               | 39,054   |   |                | $ | 4,052                     |  | $ | 132          |   |  | $            |         |   |  | $ | 43,238   
|Accrued liabilities                                                   |  |                 | 58,771   |   |                |   | 41,384                    |  |   | 241          |   |  |              | (6,120   | ) |  |   | 94,276   
|Securities lending collateral payable                                 |  |                 | 62,555   |   |                |   |                          |  |   |             |   |  |              |         |   |  |   | 62,555   
|Current portion of deferred revenue                                   |  |                 | 25,506   |   |                |   | 35,503                    |  |   | 233          |   |  |              |         |   |  |   | 61,242   
|Current portion of notes payable and obligations under capital leases |  |                 | 628      |   |                |   | 2,340                     |  |   | 9            |   |  |              |         |   |  |   | 2,977    
|                                                                      |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Total current liabilities                                             |  |                 | 186,514  |   |                |   | 83,279                    |  |   | 615          |   |  |              | (6,120   | ) |  |   | 264,288  
|Obligations under capital leases, less current portion                |  |                 | 972      |   |                |   | 2,560                     |  |   |             |   |  |              |         |   |  |   | 3,532    
|Deferred revenue, less current portion                                |  |                 | 13,461   |   |                |   | 17,913                    |  |   | 6            |   |  |              |         |   |  |   | 31,380   
|Other long-term liabilities                                           |  |                 | 1,523    |   |                |   | 321                       |  |   |             |   |  |              |         |   |  |   | 1,844    
|Interest rate swap                                                    |  |                 | 6,449    |   |                |   | 1,104                     |  |   |             |   |  |              |         |   |  |   | 7,553    
|Convertible subordinated debt                                         |  |                 | 165,505  |   |                |   | 120,111                   |  |   | 273          |   |  |              |         |   |  |   | 285,889  
|                                                                      |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Total liabilities                                                     |  |                 | 374,424  |   |                |   | 225,288                   |  |   | 894          |   |  |              | (6,120   | ) |  |   | 594,486  
|Total stockholders equity                                            |  |                 | 552,223  |   |                |   | 39,645                    |  |   | 116,888      |   |  |              | (156,533 | ) |  |   | 552,223  
|                                                                      |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          
|Total liabilities and stockholders equity                            |  | $               | 926,647  |   |                |   | 264,933                   |  | $ | 117,782      |   |  |              | (162,653 | ) |  | $ | 1,146,709
|                                                                      |  |                 |          |   |                |   |                           |  |   |              |   |  |              |          |   |  |   |          



33



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##### Table of Contents

McDATA CORPORATION

CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS (1)

For the Three Months Ended July 31, 2006

(in thousands, except per share data)

(unaudited)



|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |       |   |  |   |         |  
|-------------------------------------------------- |  | --------------- | ------- | - | -------------- | - | ------ | ------------------------- |  | - | ------------ | - |  | ------------ | ----- | - |  | - | ------- | -
|                                                   |  | ParentGuarantor |         |   | Issuer ofNotes |   |        | SubsidiariesNonGuarantors |  |   | Eliminations |   |  | Consolidated |      
|Total revenue                                      |  | $               | 110,594 |   |                | $ | 40,032 |                           |  | $ | 73           |   |  | $            | (569  | ) |  | $ | 150,130 |  
|Total cost of revenue                              |  |                 | 58,111  |   |                |   | 30,654 |                           |  |   | 309          |   |  |              | (890  | ) |  |   | 88,184  |  
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |       |   |  |   |         |  
|Gross profit                                       |  |                 | 52,483  |   |                |   | 9,378  |                           |  |   | (236         | ) |  |              | 321   |   |  |   | 61,946  |  
|Operating expenses:                                |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |       |   |  |   |         |  
|Research and development                           |  |                 | 25,293  |   |                |   | 630    |                           |  |   | 81           |   |  |              |      |   |  |   | 26,004  |  
|Selling and marketing                              |  |                 | 22,162  |   |                |   | 8,565  |                           |  |   | 5,396        |   |  |              |      |   |  |   | 36,123  |  
|General and administrative                         |  |                 | 6,966   |   |                |   | 1,193  |                           |  |   | 488          |   |  |              | 3     |   |  |   | 8,650   |  
|Amortization of purchased intangible assets        |  |                 | 5,838   |   |                |   |       |                           |  |   | 5,109        |   |  |              |      |   |  |   | 10,947  |  
|Restructuring and impairment charges               |  |                 | 4,509   |   |                |   | (8     | )                         |  |   | (19          | ) |  |              |      |   |  |   | 4,482   |  
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |       |   |  |   |         |  
|Total operating expenses                           |  |                 | 64,768  |   |                |   | 10,380 |                           |  |   | 11,055       |   |  |              | 3     |   |  |   | 86,206  |  
|Income (loss) from operations                      |  |                 | (12,285 | ) |                |   | (1,002 | )                         |  |   | (11,291      | ) |  |              | 318   |   |  |   | (24,260 | )
|Interest and other income, net of interest expense |  |                 | (1,435  | ) |                |   | (1,576 | )                         |  |   | 6,363        |   |  |              |      |   |  |   | 3,352   |  
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |       |   |  |   |         |  
|Income (loss) before income taxes                  |  |                 | (13,720 | ) |                |   | (2,578 | )                         |  |   | (4,928       | ) |  |              | 318   |   |  |   | (20,908 | )
|Income tax expense (benefit)                       |  |                 | 302     |   |                |   | (607   | )                         |  |   | (38          | ) |  |              |      |   |  |   | (343    | )
|Equity loss from subsidiaries of non-guarantors    |  |                 | (4,890  | ) |                |   |       |                           |  |   |             |   |  |              | 4,890 |   |  |   |        |  
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |       |   |  |   |         |  
|Net income (loss)                                  |  | $               | (18,912 | ) |                | $ | (1,971 | )                         |  | $ | (4,890       | ) |  | $            | 5,208 |   |  | $ | (20,565 | )
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |       |   |  |   |         |  

---

|(1) | In conjunction with the guarantee of McDATA Services Corporations (formerly known as CNT) convertible debt, the accompanying condensed consolidating financial information has
been prepared and presented pursuant to SEC Regulation S-X Rule 3-10 Financial statements of guarantors and affiliates whose securities collateralize an issue registered or being registered. This information is not intended to present
the financial position, results of operations and cash flows of the individual companies or groups of companies in accordance with generally accepted accounting principles and is not representative of the operations of McDATA or the former CNT on
either a pre-merger or stand-alone basis.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



34



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##### Table of Contents

McDATA CORPORATION

CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS (1)

For the Six Months Ended July 31, 2006

(in thousands, except per share data)

(unaudited)



|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|-------------------------------------------------- |  | --------------- | ------- | - | -------------- | - | ------ | ------------------------- |  | - | ------------ | - |  | ------------ | ------ | - |  | - | ------- | -
|                                                   |  | ParentGuarantor |         |   | Issuer ofNotes |   |        | SubsidiariesNonGuarantors |  |   | Eliminations |   |  | Consolidated |       
|Total revenue                                      |  | $               | 240,744 |   |                | $ | 79,182 |                           |  | $ | 154          |   |  | $            | (1,638 | ) |  | $ | 318,442 |  
|Total cost of revenue                              |  |                 | 125,638 |   |                |   | 54,584 |                           |  |   | 758          |   |  |              | (1,681 | ) |  |   | 179,299 |  
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Gross profit                                       |  |                 | 115,106 |   |                |   | 24,598 |                           |  |   | (604         | ) |  |              | 43     |   |  |   | 139,143 |  
|Operating expenses:                                |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Research and development                           |  |                 | 50,800  |   |                |   | 1,562  |                           |  |   | 202          |   |  |              |       |   |  |   | 52,564  |  
|Selling and marketing                              |  |                 | 46,170  |   |                |   | 14,247 |                           |  |   | 13,018       |   |  |              |       |   |  |   | 73,435  |  
|General and administrative                         |  |                 | 15,473  |   |                |   | 2,040  |                           |  |   | 1,018        |   |  |              | 2      |   |  |   | 18,533  |  
|Amortization of purchased intangible assets        |  |                 | 11,791  |   |                |   |       |                           |  |   | 10,216       |   |  |              |       |   |  |   | 22,007  |  
|Restructuring and impairment charges               |  |                 | 5,388   |   |                |   | (8     | )                         |  |   | (20          | ) |  |              |       |   |  |   | 5,360   |  
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Total operating expenses                           |  |                 | 129,622 |   |                |   | 17,841 |                           |  |   | 24,434       |   |  |              | 2      |   |  |   | 171,899 |  
|Income (loss) from operations                      |  |                 | (14,516 | ) |                |   | 6,757  |                           |  |   | (25,038      | ) |  |              | 41     |   |  |   | (32,756 | )
|Interest and other income, net of interest expense |  |                 | (9,670  | ) |                |   | (2,940 | )                         |  |   | 16,577       |   |  |              |       |   |  |   | 3,967   |  
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Income (loss) before income taxes                  |  |                 | (24,186 | ) |                |   | 3,817  |                           |  |   | (8,461       | ) |  |              | 41     |   |  |   | (28,789 | )
|Income tax expense (benefit)                       |  |                 | 1,107   |   |                |   | (18    | )                         |  |   | 231          |   |  |              |       |   |  |   | 1,320   |  
|Equity loss from subsidiaries of non-guarantors    |  |                 | (8,692  | ) |                |   |       |                           |  |   |             |   |  |              | 8,692  |   |  |   |        |  
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Net income (loss)                                  |  | $               | (33,985 | ) |                | $ | 3,835  |                           |  | $ | (8,692       | ) |  | $            | 8,733  |   |  | $ | (30,109 | )
|                                                   |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  

---

|(1) | In conjunction with the guarantee of McDATA Services Corporations (formerly known as CNT) convertible debt, the accompanying condensed consolidating financial information has
been prepared and presented pursuant to SEC Regulation S-X Rule 3-10 Financial statements of guarantors and affiliates whose securities collateralize an issue registered or being registered. This information is not intended to present
the financial position, results of operations and cash flows of the individual companies or groups of companies in accordance with generally accepted accounting principles and is not representative of the operations of McDATA or the former CNT on
either a pre-merger or stand-alone basis.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



35



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##### Table of Contents

McDATA CORPORATION

CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS (1)

For the Three Months Ended July 31, 2005

(in thousands, except per share data)

(unaudited)



|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|------------------------------------------------------------------------------ |  | --------------- | ------- | - | -------------- | - | ------ | ------------------------- |  | - | ------------ | - |  | ------------ | ------ | - |  | - | ------- | -
|                                                                               |  | ParentGuarantor |         |   | Issuer ofNotes |   |        | SubsidiariesNonGuarantors |  |   | Eliminations |   |  | Consolidated |       
|Total revenue                                                                  |  | $               | 100,755 |   |                | $ | 66,623 |                           |  | $ | 179          |   |  | $            | (2,248 | ) |  | $ | 165,309 |  
|Total cost of revenue                                                          |  |                 | 52,753  |   |                |   | 32,925 |                           |  |   | 255          |   |  |              | (2,248 | ) |  |   | 83,685  |  
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Gross profit                                                                   |  |                 | 48,002  |   |                |   | 33,698 |                           |  |   | (76          | ) |  |              |       |   |  |   | 81,624  |  
|Operating expenses:                                                            |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Research and development                                                       |  |                 | 29,345  |   |                |   | 2,266  |                           |  |   | 361          |   |  |              |       |   |  |   | 31,972  |  
|Selling and marketing                                                          |  |                 | 25,617  |   |                |   | 5,968  |                           |  |   | 7,006        |   |  |              | 47     |   |  |   | 38,638  |  
|General and administrative                                                     |  |                 | 9,949   |   |                |   | 837    |                           |  |   | 583          |   |  |              |       |   |  |   | 11,369  |  
|Amortization of purchased intangible assets                                    |  |                 | 3,968   |   |                |   |       |                           |  |   | 5,569        |   |  |              |       |   |  |   | 9,537   |  
|Restructuring charges                                                          |  |                 | 9,752   |   |                |   |       |                           |  |   |             |   |  |              |       |   |  |   | 9,752   |  
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Total operating expenses                                                       |  |                 | 78,631  |   |                |   | 9,071  |                           |  |   | 13,519       |   |  |              | 47     |   |  |   | 101,268 |  
|Income (loss) from operations                                                  |  |                 | (30,629 | ) |                |   | 24,627 |                           |  |   | (13,595      | ) |  |              | (47    | ) |  |   | (19,644 | )
|Interest and other income, net of interest expense                             |  |                 | (7,076  | ) |                |   | (1,330 | )                         |  |   | 8,391        |   |  |              | 149    |   |  |   | 134     |  
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Income (loss) before income taxes and equity in net loss of affiliated company |  |                 | (37,705 | ) |                |   | 23,297 |                           |  |   | (5,204       | ) |  |              | 102    |   |  |   | (19,510 | )
|Income tax expense (benefit)                                                   |  |                 | (161    | ) |                |   | 4,092  |                           |  |   | 2,077        |   |  |              |       |   |  |   | 6,008   |  
|Equity loss from subsidiaries of non-guarantors                                |  |                 | (7,281  | ) |                |   |       |                           |  |   |             |   |  |              | 7,281  |   |  |   |        |  
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Net income (loss)                                                              |  | $               | (44,825 | ) |                | $ | 19,205 |                           |  | $ | (7,281       | ) |  | $            | 7,383  |   |  | $ | (25,518 | )
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  

---

|(1) | In conjunction with the guarantee of CNTs convertible debt, the accompanying condensed consolidating financial information has been prepared and presented pursuant to SEC
Regulation S-X Rule 3-10 Financial statements of guarantors and affiliates whose securities collateralize an issue registered or being registered. This information is not intended to present the financial position, results of operations
and cash flows of the individual companies or groups of companies in accordance with generally accepted accounting principles and is not representative of the operations of McDATA or CNT on either a pre-merger or stand-alone basis.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



36



---

##### Table of Contents

McDATA CORPORATION

CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS (1)

For the Six Months Ended July 31, 2005

(in thousands, except per share data)

(unaudited)



|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|------------------------------------------------------------------------------ |  | --------------- | ------- | - | -------------- | - | ------ | ------------------------- |  | - | ------------ | - |  | ------------ | ------ | - |  | - | ------- | -
|                                                                               |  | ParentGuarantor |         |   | Issuer ofNotes |   |        | SubsidiariesNonGuarantors |  |   | Eliminations |   |  | Consolidated |       
|Total revenue                                                                  |  | $               | 199,424 |   |                | $ | 66,623 |                           |  | $ | 378          |   |  | $            | (2,248 | ) |  | $ | 264,177 |  
|Total cost of revenue                                                          |  |                 | 97,072  |   |                |   | 32,925 |                           |  |   | 1,376        |   |  |              | (2,248 | ) |  |   | 129,125 |  
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Gross profit                                                                   |  |                 | 102,352 |   |                |   | 33,698 |                           |  |   | (998         | ) |  |              |       |   |  |   | 135,052 |  
|Operating expenses:                                                            |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Research and development                                                       |  |                 | 50,329  |   |                |   | 2,266  |                           |  |   | 763          |   |  |              |       |   |  |   | 53,358  |  
|Selling and marketing                                                          |  |                 | 42,884  |   |                |   | 5,968  |                           |  |   | 13,855       |   |  |              | 47     |   |  |   | 62,754  |  
|General and administrative                                                     |  |                 | 15,057  |   |                |   | 837    |                           |  |   | 1,239        |   |  |              |       |   |  |   | 17,133  |  
|Amortization of purchased intangible assets                                    |  |                 | 3,968   |   |                |   |       |                           |  |   | 11,139       |   |  |              |       |   |  |   | 15,107  |  
|Restructuring charges                                                          |  |                 | 9,752   |   |                |   |       |                           |  |   |             |   |  |              |       |   |  |   | 9,752   |  
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Total operating expenses                                                       |  |                 | 121,990 |   |                |   | 9,071  |                           |  |   | 26,996       |   |  |              | 47     |   |  |   | 158,104 |  
|Income (loss) from operations                                                  |  |                 | (19,638 | ) |                |   | 24,627 |                           |  |   | (27,994      | ) |  |              | (47    | ) |  |   | (23,052 | )
|Interest and other income, net of interest expense                             |  |                 | (14,172 | ) |                |   | (1,330 | )                         |  |   | 16,454       |   |  |              | 149    |   |  |   | 1,101   |  
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Income (loss) before income taxes and equity in net loss of affiliated company |  |                 | (33,810 | ) |                |   | 23,297 |                           |  |   | (11,540      | ) |  |              | 102    |   |  |   | (21,951 | )
|Income tax expense                                                             |  |                 | 111     |   |                |   | 4,092  |                           |  |   | 2,221        |   |  |              |       |   |  |   | 6,424   |  
|Equity loss from subsidiaries of non-guarantors                                |  |                 | (13,761 | ) |                |   |       |                           |  |   |             |   |  |              | 13,761 |   |  |   |        |  
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  
|Net income (loss)                                                              |  | $               | (47,682 | ) |                | $ | 19,205 |                           |  | $ | (13,761      | ) |  | $            | 13,863 |   |  | $ | (28,375 | )
|                                                                               |  |                 |         |   |                |   |        |                           |  |   |              |   |  |              |        |   |  |   |         |  

---

|(1) | In conjunction with the guarantee of CNTs convertible debt, the accompanying condensed consolidating financial information has been prepared and presented pursuant to SEC
Regulation S-X Rule 3-10 Financial statements of guarantors and affiliates whose securities collateralize an issue registered or being registered. This information is not intended to present the financial position, results of operations
and cash flows of the individual companies or groups of companies in accordance with generally accepted accounting principles and is not representative of the operations of McDATA or CNT on either a pre-merger or stand-alone basis.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



37



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##### Table of Contents

McDATA CORPORATION

CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS (1)

For the Six Months Ended July 31, 2006

(in thousands)

(unaudited)



|                                                          |  |                 |          |   |                |   |        |                           |  |   |              |   |              |   |   |  |   |          |  
|--------------------------------------------------------- |  | --------------- | -------- | - | -------------- | - | ------ | ------------------------- |  | - | ------------ | - | ------------ | - | - |  | - | -------- | -
|                                                          |  | ParentGuarantor |          |   | Issuer ofNotes |   |        | SubsidiariesNonGuarantors |  |   | Eliminations |   | Consolidated |  
|Net cash provided by operating activities                 |  | $               | 24,641   |   |                | $ | 8,865  |                           |  | $ | 115          |   |              | $ |  |  | $ | 33,621   |  
|Cash flows from investing activities:                     |  |                 |          |   |                |   |        |                           |  |   |              |   |              |   |   |  |   |          |  
|Purchases of property and equipment                       |  |                 | (8,951   | ) |                |   | (578   | )                         |  |   | (332         | ) |              |   |  |  |   | (9,861   | )
|Purchases of investments                                  |  |                 | (216,927 | ) |                |   |       |                           |  |   |             |   |              |   |  |  |   | (216,927 | )
|Proceeds from the sale of equipment                       |  |                 | 6        |   |                |   | 7      |                           |  |   |             |   |              |   |  |  |   | 13       |  
|Proceeds from maturities and sales of investments         |  |                 | 189,986  |   |                |   |       |                           |  |   |             |   |              |   |  |  |   | 189,986  |  
|Restricted cash related to interest rate swap             |  |                 | (4,801   | ) |                |   | (51    | )                         |  |   |             |   |              |   |  |  |   | (4,852   | )
|                                                          |  |                 |          |   |                |   |        |                           |  |   |              |   |              |   |   |  |   |          |  
|Net cash used in investing activities                     |  |                 | (40,687  | ) |                |   | (622   | )                         |  |   | (332         | ) |              |   |   |  |   | (41,641  | )
|Cash flows from financing activities:                     |  |                 |          |   |                |   |        |                           |  |   |              |   |              |   |   |  |   |          |  
|Payments on capital leases                                |  |                 | (428     | ) |                |   | (1,105 | )                         |  |   |             |   |              |   |  |  |   | (1,533   | )
|Proceeds from the issuance of exercise from stock options |  |                 | 1,418    |   |                |   |       |                           |  |   |             |   |              |   |  |  |   | 1,418    |  
|Purchases and payments of long term debt                  |  |                 |         |   |                |   | (1,965 | )                         |  |   | (9           | ) |              |   |  |  |   | (1,974   | )
|                                                          |  |                 |          |   |                |   |        |                           |  |   |              |   |              |   |   |  |   |          |  
|Net cash provided by (used in) financing activities       |  |                 | 990      |   |                |   | (3,070 | )                         |  |   | (9           | ) |              |   |   |  |   | (2,089   | )
|Effect of exchange rate changes on cash                   |  |                 | 15       |   |                |   | 134    |                           |  |   | (576         | ) |              |   |  |  |   | (427     | )
|                                                          |  |                 |          |   |                |   |        |                           |  |   |              |   |              |   |   |  |   |          |  
|Net increase (decrease) in cash and cash equivalents      |  |                 | (15,041  | ) |                |   | 5,307  |                           |  |   | (802         | ) |              |   |  |  |   | (10,536  | )
|Cash and cash equivalents, beginning of period            |  |                 | 122,595  |   |                |   | 13,306 |                           |  |   | 3,182        |   |              |   |  |  |   | 139,083  |  
|                                                          |  |                 |          |   |                |   |        |                           |  |   |              |   |              |   |   |  |   |          |  
|Cash and cash equivalents, end of period                  |  | $               | 107,554  |   |                | $ | 18,613 |                           |  | $ | 2,380        |   |              | $ |  |  | $ | 128,547  |  
|                                                          |  |                 |          |   |                |   |        |                           |  |   |              |   |              |   |   |  |   |          |  

---

|(1) | In conjunction with the guarantee of McDATA Services Corporations (formerly known as CNT) convertible debt, the accompanying condensed consolidating financial information has
been prepared and presented pursuant to SEC Regulation S-X Rule 3-10 Financial statements of guarantors and affiliates whose securities collateralize an issue registered or being registered. This information is not intended to present
the financial position, results of operations and cash flows of the individual companies or groups of companies in accordance with generally accepted accounting principles and is not representative of the operations of McDATA or the former CNT on
either a pre-merger or stand-alone basis.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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McDATA CORPORATION

CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS (1)

For the Six Months Ended July 31, 2005

(in thousands)

(unaudited)



|                                                         |  |                 |          |   |                |   |         |                           |  |   |              |   |              |   |   |  |   |          |  
|-------------------------------------------------------- |  | --------------- | -------- | - | -------------- | - | ------- | ------------------------- |  | - | ------------ | - | ------------ | - | - |  | - | -------- | -
|                                                         |  | ParentGuarantor |          |   | Issuer ofNotes |   |         | SubsidiariesNonGuarantors |  |   | Eliminations |   | Consolidated |  
|Net cash provided by (used in) operating activities      |  | $               | 9,845    |   |                | $ | (17,417 | )                         |  | $ | 789          |   |              | $ |  |  | $ | (6,783   | )
|Cash flows from investing activities:                    |  |                 |          |   |                |   |         |                           |  |   |              |   |              |   |   |  |   |          |  
|Purchases of property and equipment                      |  |                 | (5,991   | ) |                |   | (600    | )                         |  |   | (206         | ) |              |   |  |  |   | (6,797   | )
|Proceeds from sale of equipment                          |  |                 | 146      |   |                |   | 2,133   |                           |  |   | 2            |   |              |   |  |  |   | 2,281    |  
|Purchases of investments                                 |  |                 | (200,156 | ) |                |   |        |                           |  |   |             |   |              |   |  |  |   | (200,156 | )
|Proceeds from maturities and sales of investments        |  |                 | 210,027  |   |                |   |        |                           |  |   |             |   |              |   |  |  |   | 210,027  |  
|Cash recognized on merger with CNT, net (2)              |  |                 | 40,395   |   |                |   |        |                           |  |   |             |   |              |   |  |  |   | 40,395   |  
|Restricted cash related to interest rate swap            |  |                 | 3        |   |                |   |        |                           |  |   |             |   |              |   |  |  |   | 3        |  
|                                                         |  |                 |          |   |                |   |         |                           |  |   |              |   |              |   |   |  |   |          |  
|Net cash provided by (used in) investing activities (2)  |  |                 | 44,424   |   |                |   | 1,533   |                           |  |   | (204         | ) |              |   |   |  |   | 45,753   |  
|Cash flows from financing activities:                    |  |                 |          |   |                |   |         |                           |  |   |              |   |              |   |   |  |   |          |  
|Payments on long-term notes payable and capital leases   |  |                 | (285     | ) |                |   | (591    | )                         |  |   | (183         | ) |              |   |  |  |   | (1,059   | )
|Purchase of treasury stock                               |  |                 | (4,552   | ) |                |   |        |                           |  |   |             |   |              |   |  |  |   | (4,552   | )
|Proceeds from the issuance of common stock               |  |                 | 267      |   |                |   |        |                           |  |   |             |   |              |   |  |  |   | 267      |  
|                                                         |  |                 |          |   |                |   |         |                           |  |   |              |   |              |   |   |  |   |          |  
|Net cash used in financing activities                    |  |                 | (4,570   | ) |                |   | (591    | )                         |  |   | (183         | ) |              |   |   |  |   | (5,344   | )
|Effect of exchange rate changes on cash                  |  |                 |         |   |                |   | (376    | )                         |  |   |             |   |              |   |  |  |   | (376     | )
|                                                         |  |                 |          |   |                |   |         |                           |  |   |              |   |              |   |   |  |   |          |  
|Net increase (decrease) in cash and cash equivalents (2) |  |                 | 49,699   |   |                |   | (16,851 | )                         |  |   | 402          |   |              |   |  |  |   | 33,250   |  
|Cash and cash equivalents, beginning of period (2)       |  |                 | 62,473   |   |                |   |        |                           |  |   | 2,034        |   |              |   |  |  |   | 64,507   |  
|                                                         |  |                 |          |   |                |   |         |                           |  |   |              |   |              |   |   |  |   |          |  
|Cash and cash equivalents, end of period (2)             |  | $               | 112,172  |   |                | $ | (16,851 | )                         |  | $ | 2,436        |   |              | $ |  |  | $ | 97,757   |  
|                                                         |  |                 |          |   |                |   |         |                           |  |   |              |   |              |   |   |  |   |          |  

---

|(1) | In conjunction with the guarantee of CNTs convertible debt, the accompanying condensed consolidating financial information has been prepared and presented pursuant to SEC
Regulation S-X Rule 3-10 Financial statements of guarantors and affiliates whose securities collateralize an issue registered or being registered. This information is not intended to present the financial position, results of operations
and cash flows of the individual companies or groups of companies in accordance with generally accepted accounting principles and is not representative of the operations of McDATA or CNT on either a pre-merger or stand-alone basis.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(2) | Certain amounts have been adjusted to agree with the accompanying consolidated statement of cash flows for the six months ended July 31, 2005. The basic financial statements
have not been changed.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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|ITEM 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations
|------- | -------------------------------------------------------------------------------------

You should read the following discussion and analysis in conjunction with the condensed consolidated financial statements and notes thereto included in
Item 1 of this Quarterly Report and with Managements Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report filed on Form 10-K with the Securities and Exchange Commission on April 24,
2006.

Overview

On August 7,
2006, McDATA, Brocade Communication Systems, Inc., a Delaware corporation (Brocade), and Worldcup Merger Corporation, a Delaware corporation and a wholly-owned subsidiary of Brocade (Merger Sub), entered into an Agreement and Plan of Reorganization
(the Merger Agreement) providing for a business combination whereby Merger Sub will merge with and into McDATA (the Merger). As a result of the Merger, the separate corporate existence of Merger Sub will cease and McDATA will continue as the
surviving corporation of the Merger and a wholly-owned subsidiary of Brocade. At the effective time of the Merger (the Effective Time), each share of McDATA Class A common stock and Class B common stock (other than shares owned by McDATA or
Brocade) will be converted into the right to receive 0.75 shares of Brocade common stock (the Exchange Ratio). Each outstanding McDATA stock option, restricted stock unit and share of restricted stock (whether vested or unvested) will be assumed by
Brocade and will be converted into Brocade common stock or the right to receive Brocade common stock, as the case may be, based upon the Exchange Ratio. The issuance of Brocade common stock in the Merger is subject to the approval of Brocades
stockholders and the adoption of the Merger Agreement is subject to the approval of the McDATAs stockholders. In addition, the Merger is subject to the expiration of applicable waiting periods under the Hart-Scott-Rodino Antitrust Improvements
Act (the HSR Act) and the SEC declaring effective the registration statement covering the shares of Brocade common stock to be issued in the Merger and certain other customary closing conditions.

McDATA acquired CNT on June 1, 2005, and their results are included in the three and six month months ended July 31, 2006. Therefore, the
acquisition of CNT has significantly affected the year over year comparisons in the results of operations.

As part of the June 1,
2005, business combination with CNT, we acquired CNTs Matrix switch and related legacy product line (Matrix). The assets associated with Matrix included fixed assets and developed technology costs (intangible assets). Although we marketed the
Matrix business and entered into negotiations for its potential sale, we classify these assets as held and used which is consistent with the provisions of SFAS 144, and record revenue from the sales of Matrix, the related cost of sales, and charges
for inventory obsolescence in our consolidated statements of operations.

In the second quarter of 2006, we reviewed the value of Matrix
due to changes in circumstances that indicated that the carrying value of Matrix would not be recoverable. Due to a decrease in interest from potential buyers of Matrix, we determined that the product lines fair value was below its carrying
cost. Because of this assessment, we recorded an asset impairment of $3.1 million which includes a $3.0 million decline in the fair market value the Matrix developed technology and an $86,000 decline in the fair value of the related fixed assets. In
addition, we recorded a $6.5 million valuation allowance for the associated inventory in cost of goods sold in its consolidated statement of operations.

Revenue Growth and Competitive Industry

Our revenue for the three months ended July 31, 2006, decreased over the three
months ended July 31, 2005. This year over year revenue decrease is the result of declines in sales of our extension, director and router hardware. Our revenue for the six months ended July 31, 2006 increased over the six months ended
July 31, 2005 due to the CNT acquisition generating higher sales of products and services. The increase in hardware revenue was driven by higher sales of extension products, third party products, and software.

The market for our SAN and WAN products and solutions remains competitive with (a) the entrance of competitors into our market, (b) pricing
pressures resulting from an increase in competitive products and solutions, and (c) anticipated competition from our own storage OEM partners through their partnerships with competitors to jointly sell complementary products. These market
conditions present unique risks and uncertainties in a number of respects. We believe the competitive market environment defines the overall performance and provides a specific context to further analyze revenues, operating expenses and liquidity.
In particular, we anticipate continued elongated sales cycles and downward pricing pressures that could negatively impact our revenue growth rate. Moreover, revenue growth for the remainder of fiscal 2006 is dependent on



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the success of our products, including the Intrepid 10000 Director, higher performance switch products, our Remote Office Consolidation (ROC) products, and
new functionality in our management software.

Our OEM and reseller partners may purchase certain of these component products ahead of
end-user demand, which could reduce subsequent purchases by those partners. Variations in the buying patterns of our customers would limit our ability to assemble, test and ship orders received in the last weeks and days of each quarter and could
cause fluctuations in our quarterly revenue or earnings. Moreover, an unexpected decline in revenue without a corresponding and timely reduction in expenses could intensify the impact of these factors on our business, financial condition and results
of operations.

We believe the trend of revenue, controlling of operating expense and the related competitive environment define the
overall performance and provides a specific context to further analysis of our financial results.

Results of Operations

The following table sets forth certain financial data for the periods indicated as a percentage of total revenues.



|                                            |  |                            |    |  |                          |    |  |       |    |  |       |   
|------------------------------------------- |  | -------------------------- | -- |  | ------------------------ | -- |  | ----- | -- |  | ----- | --
|                                            |  | Three Months EndedJuly 31, |    |  | Six Months EndedJuly 31, |   
|                                            |  | 2006                       |    |  | 2005                     |    |  | 2006  |    |  | 2005  |   
|Total revenue                               |  | 100.0                      | %  |  | 100.0                    | %  |  | 100.0 | %  |  | 100.0 | % 
|Total cost of revenue                       |  | 58.7                       |    |  | 50.6                     |    |  | 56.3  |    |  | 48.9  |   
|                                            |  |                            |    |  |                          |    |  |       |    |  |       |   
|Gross profit                                |  | 41.3                       |    |  | 49.4                     |    |  | 43.7  |    |  | 51.1  |   
|Operating expenses:                         |  |                            |    |  |                          |    |  |       |    |  |       |   
|Research and development                    |  | 17.3                       |    |  | 19.3                     |    |  | 16.5  |    |  | 20.2  |   
|Selling and marketing                       |  | 24.1                       |    |  | 23.4                     |    |  | 23.1  |    |  | 23.8  |   
|General and administrative                  |  | 5.8                        |    |  | 6.9                      |    |  | 5.8   |    |  | 6.5   |   
|Amortization of purchased intangible assets |  | 7.3                        |    |  | 5.8                      |    |  | 6.9   |    |  | 5.7   |   
|Restructuring and impairment charges        |  | 3.0                        |    |  | 5.9                      |    |  | 1.7   |    |  | 3.7   |   
|                                            |  |                            |    |  |                          |    |  |       |    |  |       |   
|Total operating expenses                    |  | 57.5                       |    |  | 61.3                     |    |  | 54.0  |    |  | 59.8  |   
|Loss from operations                        |  | (16.2                      | )  |  | (11.9                    | )  |  | (10.3 | )  |  | (8.7  | ) 
|Interest and other income, net              |  | 2.2                        |    |  | 0.1                      |    |  | 1.2   |    |  | 0.4   |   
|                                            |  |                            |    |  |                          |    |  |       |    |  |       |   
|Loss before income taxes                    |  | (14.0                      | )  |  | (11.8                    | )  |  | (9.1  | )  |  | (8.3  | ) 
|Income tax expense (benefit)                |  | (.2                        | )  |  | 3.6                      |    |  | .4    |    |  | 2.4   |   
|                                            |  |                            |    |  |                          |    |  |       |    |  |       |   
|Net loss                                    |  | (13.8                      | )% |  | (15.4                    | )% |  | (9.5  | )% |  | (10.8 | )%
|                                            |  |                            |    |  |                          |    |  |       |    |  |       |   

Revenues

The
following table presents net sales for groups of similar products (in thousands, except percentages):



|                                         |  |                    |         |                    |                  |         |                    |      |         |          |  |                    |    |  |                    |         |  |   |         |  |   |        |   |  |     |   
|---------------------------------------- |  | ------------------ | ------- | ------------------ | ---------------- | ------- | ------------------ | ---- | ------- | -------- |  | ------------------ | -- |  | ------------------ | ------- |  | - | ------- |  | - | ------ | - |  | --- | --
|                                         |  | Three Months Ended |         |                    | Six Months Ended |        
|                                         |  | July 31,           |         | Variancein Dollars |                  |         | Variancein Percent |      |         | July 31, |  | Variancein Dollars |    |  | Variancein Percent |        
|                                         |  | 2006               |         | 2005               |                  |         |                    | 2006 |         | 2005     |  |                   
|Product revenue                          |  | $                  | 99,214  |                    | $                | 120,139 |                    | $    | (20,925 | )        |  | (17                | )% |  | $                  | 215,168 |  | $ | 195,471 |  | $ | 19,697 |   |  | 10  | % 
|Software and related maintenance revenue |  |                    | 18,545  |                    |                  | 17,544  |                    |      | 1,001   |          |  | 6                  | %  |  |                    | 37,545  |  |   | 33,214  |  |   | 4,331  |   |  | 13  | % 
|Service revenue                          |  |                    | 31,996  |                    |                  | 26,170  |                    |      | 5,826   |          |  | 22                 | %  |  |                    | 64,999  |  |   | 32,768  |  |   | 32,231 |   |  | 98  | % 
|Other revenue, product                   |  |                    | 375     |                    |                  | 1,456   |                    |      | (1,081  | )        |  | (74                | )% |  |                    | 730     |  |   | 2,724   |  |   | (1,994 | ) |  | (73 | )%
|                                         |  |                    |         |                    |                  |         |                    |      |         |          |  |                    |    |  |                    |         |  |   |         |  |   |        |   |  |     |   
|Total                                    |  | $                  | 150,130 |                    | $                | 165,309 |                    | $    | (15,179 | )        |  | (9                 | )% |  | $                  | 318,442 |  | $ | 264,177 |  | $ | 54,265 |   |  | 21  | % 
|                                         |  |                    |         |                    |                  |         |                    |      |         |          |  |                    |    |  |                    |         |  |   |         |  |   |        |   |  |     |   

Product

The decrease in product revenue for the three months ended July 31, 2006 as compared to three months ended July 31, 2005 is attributable in part to lower sales of our router and extension products.



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Ongoing competition and macroeconomic factors could continue to provide downward pricing pressures that could impact our revenue growth and related margins.
The increase in product revenue for the six months ended July 31, 2006, as compared to six months ended July 31, 2005 is attributable to the CNT acquisition resulting in higher sales of extension hardware, software products and third party
products.

The revenue growth in Software and related maintenance revenue for the three months ended July 31, 2006, was due to higher
sales of EFCM and maintenance revenue. We believe the EFCM growth can in part be attributed to the pending release of EFCM 9.0, our fully integrated software management upgrade scheduled to be available in the quarter. The increase in software
revenue for the six months ended July 31, 2006 as compared to the six months ended July 31, 2005 is attributable to increased maintenance revenue and higher sales of our embedded software.

Service

Service revenue includes professional
service revenue, break/fix maintenance support, network monitoring services, and revenue earned from our upgraded warranty and extended maintenance contracts on our hardware products. The increase in service revenue for the three months ended
July 31, 2006 was the result of having three months of CNT operations in our results this year as compared to two months last year. The increase in service revenue for the six months ended July 31, 2006 as compared to six months ended
July 31, 2005 is attributable to the CNT acquisition.

Revenue Channels

The following table presents supplemental data for McDATA revenue channels. A significant portion of revenue is concentrated with the largest storage
OEMs, EMC, IBM and HDS. Other major storage and system vendors, including Dell, HP and Sun, offer McDATA solutions to their customers. In addition to storage and system vendors, the Company has relationships with many resellers, distributors and
systems integrators.



|               |  |                            |   |  |                          |   |  |      |   |  |      |  
|-------------- |  | -------------------------- | - |  | ------------------------ | - |  | ---- | - |  | ---- | -
|               |  | Three Months EndedJuly 31, |   |  | Six Months EndedJuly 31, |  
|               |  | 2006                       |   |  | 2005                     |   |  | 2006 |   |  | 2005 |  
|EMC            |  | 27                         | % |  | 28                       | % |  | 28   | % |  | 36   | %
|IBM            |  | 30                         | % |  | 25                       | % |  | 29   | % |  | 25   | %
|HDS            |  | 8                          | % |  | 5                        | % |  | 7    | % |  | 7    | %
|Other channels |  | 35                         | % |  | 42                       | % |  | 36   | % |  | 32   | %
|               |  |                            |   |  |                          |   |  |      |   |  |      |  
|Total revenue  |  | 100                        | % |  | 100                      | % |  | 100  | % |  | 100  | %
|               |  |                            |   |  |                          |   |  |      |   |  |      |  

Expanding our reseller, distributor and system integrator channels into commercial and vertical
markets will be a strategic focus for us as we continue to grow our business. However, the level of sales to any single customer may vary and the loss of any one significant customer, or a decrease in the level of sales to any significant or group
of significant customers, could harm our financial condition and results of operations. Given the dependencies on our limited number of OEM resellers combined with an increasingly competitive environment, we may experience continued adverse pricing
pressures at critical times near the end of the fiscal quarters. In addition, the fiscal quarters for many of our largest OEM and reseller partners begin during the last month of our quarter. While we do not have complete insight into the purchasing
processes of our OEM and reseller partners, we believe that such partners may purchase some amount of our non-configured product in anticipation of end-user customer demand that will be realized in later portion of their fiscal quarter. Large
end-of-quarter purchases by our partners could result in lower future revenues or earnings if market demand as forecasted by our partners is not met.



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Domestic and International Revenue

The following table provides a breakdown of domestic and international revenue:



|                      |  |                            |   |  |                          |   |  |      |   |  |      |  
|--------------------- |  | -------------------------- | - |  | ------------------------ | - |  | ---- | - |  | ---- | -
|                      |  | Three Months EndedJuly 31, |   |  | Six Months EndedJuly 31, |  
|                      |  | 2006                       |   |  | 2005                     |   |  | 2006 |   |  | 2005 |  
|Domestic revenue      |  | 65                         | % |  | 68                       | % |  | 62   | % |  | 67   | %
|International revenue |  | 35                         | % |  | 32                       | % |  | 38   | % |  | 33   | %
|                      |  |                            |   |  |                          |   |  |      |   |  |      |  
|Total revenue         |  | 100                        | % |  | 100                      | % |  | 100  | % |  | 100  | %
|                      |  |                            |   |  |                          |   |  |      |   |  |      |  

Revenues are attributed to geographic areas based on the location of the customers to which our
products are shipped. International revenues primarily consist of sales to customers in Western Europe and the greater Asia Pacific region. Included in domestic revenues are sales to certain OEM customers who take possession of our products
domestically and then distribute these products to their international customers. In addition, included in revenues from Western Europe are sales to certain OEM customers who take possession of our products in distribution centers designated for
international-bound products and then distribute these products among various international regions. Our mix of international and domestic revenue can, therefore, vary depending on the relative mix of sales to certain OEM customers.

For a description of our revenue recognition policies, see the Revenue Recognition section of the Critical Accounting Policies.



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Gross Margin

The
following table shows the gross margin for products and services (in thousands, except percentages):



|        |  |                    |        |                       |                  |        |                   |    |                       |  |    |      |  |      |         |      |   |         |      |    |   |  |    |  
|------- |  | ------------------ | ------ | --------------------- | ---------------- | ------ | ----------------- | -- | --------------------- |  | -- | ---- |  | ---- | ------- | ---- | - | ------- | ---- | -- | - |  | -- | -
|        |  | Three Months Ended |        |                       | Six Months Ended |       
|        |  | Amount - July 31,  |        | Percentage - July 31, |                  |        | Amount - July 31, |    | Percentage - July 31, | 
|        |  | 2006               |        | 2005                  |                  | 2006   |                   |    | 2005                  |  |    | 2006 |  | 2005 |         | 2006 |   |         | 2005 |   
|Product |  | $                  | 51,414 |                       | $                | 71,803 |                   | 44 | %                     |  | 52 | %    |  | $    | 115,515 |      | $ | 123,546 |      | 46 | % |  | 54 | %
|Service |  |                    | 10,532 |                       |                  | 9,821  |                   | 33 | %                     |  | 38 | %    |  |      | 23,628  |      |   | 11,506  |      | 36 | % |  | 35 | %
|        |  |                    |        |                       |                  |        |                   |    |                       |  |    |      |  |      |         |      |   |         |      |    |   |  |    |  
|Total   |  | $                  | 61,946 |                       | $                | 81,624 |                   | 41 | %                     |  | 50 | %    |  | $    | 139,143 |      | $ | 135,052 |      | 44 | % |  | 51 | %
|        |  |                    |        |                       |                  |        |                   |    |                       |  |    |      |  |      |         |      |   |         |      |    |   |  |    |  

Product

Costs of goods sold consists of product costs, which are generally variable, and manufacturing operating costs, which include both variable and fixed expense components. The decrease in product margins for the three
months ended July 31, 2006 as compared to three months ended July 31, 2005, is primarily attributable to a significant decline in the volume of higher margin products such as the Intrepid 6140 director and extension products. The decrease
in product margins for the six months ended July 31, 2006, was due to a product mix shift from the higher margin 6140 to the lower margin Intrepid 10000 in addition to lower sales of software products. Gross margins were also adversely affected
by a $1.9 million inventory reserve for non-RoHS compliant inventory components. The three and six month periods ended July 31, 2006 were also negatively impacted by $6.5 million of additional reserves taken against our Matrix inventory.

In anticipation of the competitive-driven and natural decline in selling prices, we continue to drive cost advantages through our
engineering and manufacturing processes.

We believe that average selling prices and the related gross profit margins will decline for our
mature products as volume price discounts in distributor contracts and direct sales relationships take effect due to competition. In addition, new product introductions could harm our gross profit margins due to lower absorption of fixed
manufacturing overhead costs per unit until production volumes increase.



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Service

Service gross margins decreased for the three months ended July 31, 2006, as compared to three months ended July 31, 2005, due to increased charges related to professional service costs and $271,000 of stock-based compensation due
to the adoption of SFAS 123R. Service gross margins increased for the six months ended July 31, 2006 as compared to six months ended July 31, 2005, due to the impact of having six months of hardware maintenance revenue as a result of
our acquisition of CNT. This was offset by $625,000 of stock-based compensation due to our adoption of SFAS 123R.



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Operating Expenses

The below table summarizes operating expenses (in thousands, except percentages):



|                                           |  |                    |        |                    |                  |         |                    |      |         |          |  |                    |    |  |                    |         |  |   |         |  |   |        |   |  |     |   
|------------------------------------------ |  | ------------------ | ------ | ------------------ | ---------------- | ------- | ------------------ | ---- | ------- | -------- |  | ------------------ | -- |  | ------------------ | ------- |  | - | ------- |  | - | ------ | - |  | --- | --
|                                           |  | Three Months Ended |        |                    | Six Months Ended |        
|                                           |  | July 31,           |        | Variancein Dollars |                  |         | Variancein Percent |      |         | July 31, |  | Variancein Dollars |    |  | Variancein Percent |        
|                                           |  | 2006               |        | 2005               |                  |         |                    | 2006 |         | 2005     |  |                   
|Research and development                   |  | $                  | 26,004 |                    | $                | 31,972  |                    | $    | (5,968  | )        |  | (19                | )% |  | $                  | 52,564  |  | $ | 53,358  |  | $ | (794   | ) |  | (1  | )%
|Selling and marketing                      |  |                    | 36,123 |                    |                  | 38,638  |                    |      | (2,515  | )        |  | (7                 | )% |  |                    | 73,435  |  |   | 62,754  |  |   | 10,681 |   |  | 17  | % 
|General and administrative                 |  |                    | 8,650  |                    |                  | 11,369  |                    |      | (2,719  | )        |  | (24                | )% |  |                    | 18,533  |  |   | 17,133  |  |   | 1,400  |   |  | 8   | % 
|Amortization of acquired intangible assets |  |                    | 10,947 |                    |                  | 9,537   |                    |      | 1,410   |          |  | 15                 | %  |  |                    | 22,007  |  |   | 15,107  |  |   | 6,900  |   |  | 46  | % 
|Restructuring and impairment charges       |  |                    | 4,482  |                    |                  | 9,752   |                    |      | (5,270  | )        |  | (54                | )% |  |                    | 5,360   |  |   | 9,752   |  |   | (4,392 | ) |  | (45 | )%
|                                           |  |                    |        |                    |                  |         |                    |      |         |          |  |                    |    |  |                    |         |  |   |         |  |   |        |   |  |     |   
|Total                                      |  | $                  | 86,206 |                    | $                | 101,268 |                    | $    | (15,062 | )        |  | (15                | )% |  | $                  | 171,899 |  | $ | 158,104 |  | $ | 13,795 |   |  | 9   | % 
|                                           |  |                    |        |                    |                  |         |                    |      |         |          |  |                    |    |  |                    |         |  |   |         |  |   |        |   |  |     |   

Research and Development Expenses. Research and development expenses consist primarily of
salaries and related expenses for personnel engaged in engineering and R&D activities; fees paid to consultants and outside service providers; nonrecurring engineering charges; prototyping expenses related to the design, development, testing and
enhancement of our products; depreciation related to engineering and other test equipment; and IT and facilities expenses. Research and development expenses are applicable to the Companys product segment.

For the quarter ended July 31, 2006, the decrease in research and development expense was due to headcount reductions that decreased salary expense
by approximately $300,000, and lower non-recurring engineering charges of $1.5 million due to project completion. In addition, there were approximately $2.7 million in additional capitalized software development costs compared to the same period in
2005. For the six months ended July 31, 2006, R&D expenses were constant.

Selling and Marketing Expenses. Sales and
marketing expenses consist primarily of salaries, commissions and related expenses for personnel engaged in marketing and sales; costs associated with promotional and travel expenses; and IT and facilities expenses. Sales and marketing expenses
decreased for the three months ended July 31, 2006, as compared to three months ended July 31, 2005 due to a 15% reduction in headcount related to restructurings after the acquisition of CNT that occurred in the fourth quarter of 2005.
Sales and marketing expenses increased for the six months ended July 31, 2006, as compared to six months ended July 31, 2005 due to the impact of the CNT acquisition that increased headcount approximately 15% in the first quarter of 2006
as compared to the same quarter in 2005. In addition, an increase in stock based compensation of approximately $800,000 was incurred due to the adoption of FAS 123R.

General and Administrative Expenses. General and administrative expenses consist primarily of salaries and related expenses for corporate executives, finance, human resources and investor relations, as well as
accounting and professional fees, corporate legal expenses, other corporate expenses, and IT and facilities expenses. General and administrative expenses decreased for the three months ended July 31, 2006 as compared to three months ended
July 31, 2005 due to reductions in the allowance for bad debt of $700,000 offset by increases in certain personnel costs. For the six months ended July 31, 2006, the increase was due to the impact of the CNT acquisition that increased
headcount in the first quarter of 2006 as compared to the same quarter in 2005

Amortization of Purchased Intangible Assets. The
increases in intangible expenses for the three and six month period ended July 31, 2006 are due to the purchased intangibles acquired through the merger with CNT. These assets are being amortized on a straight-line basis over a period of one to
seven years.

Restructuring and Impairment Charges.After the acquisition of CNT, the Company notified redundant employees that
their employment would be terminated and provided them with a detailed explanation of their benefits, which included separation pay as well as retention pay for transitional employees. Total termination benefits charged to restructuring costs in



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results of operations because of the integration plan was $752,000 for the six months ended July 31, 2006. Retention pay offered to all transitional
employees is contingent upon the employee rendering future service through a transition period and has no relationship to the employees past service; therefore, these benefits were recognized as a restructuring cost ratably over the transition
period. For the quarter ended July 31, 2006, $175,000 has been recognized as a restructuring cost. No further retention benefits are expected to be incurred because of the CNT integration plan.

Prior to the acquisition, McDATA and CNT each sold a competing Director class product. In order to eliminate this redundancy and integrate the two
companys product offerings, the Company decided to withdraw the UMD from the market, and continue to sell the Intrepid 10000 product. As a result, McDATA offered, and certain existing UMD customers accepted, an exchange program, which allowed
customers to trade in their UMD for a comparable Intrepid 10000 at no cost. The Company also offered customers up to 20 hours of professional consulting service to assist with the migration to the new product. The net cost of this program of $6.8
million was recorded as a restructuring cost during the quarter ended July 31, 2005, which represents the difference between the costs of the Intrepid 10000 to be installed over the salvage value of the UMD is to be returned. Consulting costs
to be incurred in connection with this program were not accrued because they could not be reasonably estimated. They will be recorded as restructuring costs in future periods as they are incurred. This program was completed as of July 31, 2006.

As part of the June 1, 2005 business combination with CNT, we acquired CNTs Matrix switch and related legacy product line
(Matrix). The assets associated with Matrix included fixed assets, inventory, and developed technology costs (intangible assets). During the interim period between the acquisition and the quarter ended July 31, 2006, we had
classified these assets as held for use, which is consistent with the provisions of SFAS 144, and recorded Matrix product revenue and the related cost of sales in our consolidated statement of operations, in addition to charges for inventory
obsolescence. The Company also capitalized certain costs into inventory due to the production of product.

In July of 2006, we reviewed the
Matrix product line and determined that the product lines value was significantly below its fair value based on efforts to market Matrix as a saleable operation. In response to its assessment, we recorded an asset impairment of $3.1 million to
reflect a $3.0 million decline in the fair market value of the Matrix developed technology and an $86,000 decline in the fair value of the related fixed assets. In addition, we recorded a $6.5 million valuation allowance for the associated
inventory.

As part of the June 1, 2005 business combination with CNT, we acquired a note receivable from a certain CNT partner of
approximately $1.0 million. The terms of the receivable stated that payments of approximately $400,000 are due on April 21 on an annual basis through 2008. Because we had not received its April 2006 payment, the Company reassessed the
collectibility of the note receivable. A review of the partners financial condition indicated that it was probable that the note was uncollectible. Because of its assessment, the Company impaired the entire amount of the receivable.

Changes to the estimates of executing the currently approved plans of restructuring the pre-merger McDATA organization will be reflected
in our future results of operations.

Interest Income, Expense and Other

The components of interest income, expense and other are as follows (in thousands, except percentages):



|                    |  |                    |        |   |                    |   |        |                    |  |      |          |   |      |                    |   |  |                    |        |   |  |   |        |   |  |   |        |   |  |      |  
|------------------- |  | ------------------ | ------ | - | ------------------ | - | ------ | ------------------ |  | ---- | -------- | - | ---- | ------------------ | - |  | ------------------ | ------ | - |  | - | ------ | - |  | - | ------ | - |  | ---- | -
|                    |  | Three Months Ended |        |   | Six Months Ended   |  
|                    |  | July 31,           |        |   | Variancein Dollars |   |        | Variancein Percent |  |      | July 31, |   |      | Variancein Dollars |   |  | Variancein Percent |       
|                    |  | 2006               |        |   | 2005               |   |        |                    |  | 2006 |          |   | 2005 |                    |   | 
|Interest income     |  | $                  | 4,386  |   |                    | $ | 2,450  |                    |  | $    | 1,936    |   |      | 79                 | % |  | $                  | 8,350  |   |  | $ | 4,535  |   |  | $ | 3,815  |   |  | 84   | %
|Other income/(loss) |  |                    | 2,989  |   |                    |   | 28     |                    |  |      | 2,961    |   |      | 10575              | % |  |                    | 3,524  |   |  |   | (287   | ) |  |   | 3,811  |   |  | 1327 | %
|Interest expense    |  |                    | (4,023 | ) |                    |   | (2,344 | )                  |  |      | (1,679   | ) |      | 72                 | % |  |                    | (7,907 | ) |  |   | (3,147 | ) |  |   | (4,760 | ) |  | 151  | %
|                    |  |                    |        |   |                    |   |        |                    |  |      |          |   |      |                    |   |  |                    |        |   |  |   |        |   |  |   |        |   |  |      |  
|Total               |  | $                  | 3,352  |   |                    | $ | 134    |                    |  | $    | 3,218    |   |      | 2401               | % |  | $                  | 3,967  |   |  | $ | 1,101  |   |  | $ | 2,866  |   |  | 260  | %
|                    |  |                    |        |   |                    |   |        |                    |  |      |          |   |      |                    |   |  |                    |        |   |  |   |        |   |  |   |        |   |  |      |  

Interest and Other Income. Interest and other income consisted primarily of interest
earnings on our cash, cash equivalents and various investment holdings. The increase in income from the prior year level reflects an increase in interest rates and increased cash balances. Fluctuations in our investment balances as well as
fluctuations in interest rates could cause our investment income to vary between periods. In addition, in April of 2006, Emulex Corporation announced their intent to purchase Aarohi, and in May of 2006, Emulex announced the completion of that
purchase. Approximately $2.7 million of the



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merger consideration was received in May of 2006, and the remainder has been deposited in an escrow account and will be distributed in whole or in part over
the next 18 months. We recorded our pro rata share as other income in our consolidated statement of operations during the quarter ended July 31, 2006.

Interest Expense.Interest expense consists primarily of the amortization of issuance costs related to the convertible subordinated debt, the convertible debt interest expense not offset by the interest rate
swap interest income (discussed below), the amortization of the discount on the CNT debt, and interest expense related to capital leases and notes payable.

Interest expense for the six month period ended July 31, 2006 increased primarily due to the effect of increased interest rates and the addition of the CNT Notes. In order to manage interest expense on our
convertible debt, the Company has two interest-rate swap agreements in effect, which have the economic effect of modifying the fixed interest obligations associated with our convertible debt so that the interest payable on the majority of the debt
effectively becomes variable. The rate on the interest rate swap agreement covering $155.3 million of the 2.25% Convertible Notes is based on the six-month London Interbank Offered Rate (LIBOR) minus 152 basis points, is reset semiannually on
February 15 and August 15 of each year until maturity on February 15, 2010, and was 4.93% creating an effective rate of 3.41% as of July 31, 2006. The rate on the interest rate swap agreement covering $75 million of the 3.00%
Convertible Notes is based on the three-month LIBOR plus 69.5 basis points, is reset quarterly on January 31, April 30, July 31, and October 31 of each year, and was 5.49% resulting in an effective rate of 6.18% as of
July 31, 2006. Significant increases in interest rates in future periods could significantly increase interest expense.

Provision
for Income Taxes.The Company has recorded tax expense for the three months ended July 31, 2006 even though the pre-tax result reported in these financial statements is a loss. This is due primarily to taxes payable in foreign jurisdictions
where the net taxable income of our branch and subsidiary operations is projected to be positive. No federal tax benefit is recorded currently for the year-to-date loss. We are booking a tax benefit of $343,000 for the three months ended
July 31, 2006 but projecting full year expense of $1.9 million plus expense generated from the utilization, if any, of Nishan and CNT acquired tax attributes.

The calculation of income tax expense or benefit for the current period is based in part on estimates of future results and projections of taxable income for the full fiscal year in each jurisdiction in which the
Company operates. These projections could be affected, positively or negatively, by such factors as future changes in tax law or implementation of possible tax planning strategies.

We are subject to audit by federal, state and foreign tax authorities. These audits may result in additional tax liabilities. We account for such
contingent liabilities in accordance with SFAS No. 5, Accounting for Contingencies, and believe that we have appropriately provided for taxes for all years. Several factors drive the calculation of our tax reserves including
(i) the expiration of statutes of limitations, (ii) changes in tax law and regulations, and (iii) settlements with tax authorities. The occurrence of any of these events may result in adjustments to our reserves that could impact our
reported financial results.



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Stock compensation expense. Effective February 1, 2006 we began recording compensation
expense associated with stock-based awards and other forms of equity compensation in accordance with SFAS 123R. Under the fair value recognition provisions of SFAS 123R, stock-based compensation expense is measured at the grant date based on the
fair value of the award and is recognized as expense over the vesting period. Determining the fair value of stock-based awards and other forms of equity compensation at the grant date requires judgment, including estimating our stock price
volatility and employee stock option exercise behaviors. If actual results differ significantly from these estimates, stock-based compensation expense and our results of operations could be materially impacted.

The following table summarizes stock-based compensation costs under SFAS 123R for the three and six months ended July 31, 2006 (in thousands):



|                                                                                                                                         |  |                            |       |                          |         |   |       |  |   |         |   |  |   |      
|---------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------------- | ----- | ------------------------ | ------- | - | ----- |  | - | ------- | - |  | - | -----
|                                                                                                                                         |  | Three Months EndedJuly 31, |       | Six Months EndedJuly 31,
|                                                                                                                                         |  | 2006                       |       |                          | 2005(1) |   | 2006  |  |   | 2005(1)
|Cost of sales                                                                                                                            |  | $                          | 271   |                          |         | $ | 112   |  | $ | 625     |   |  | $ | 127  
|Research and development                                                                                                                 |  |                            | 583   |                          |         |   | 585   |  |   | 1,541   |   |  |   | 1,039
|Capitalized software development costs                                                                                                   |  |                            | (125  | )                        |         |   |      |  |   | (757    | ) |  |   |     
|Sales and marketing                                                                                                                      |  |                            | 614   |                          |         |   | 382   |  |   | 1,253   |   |  |   | 450  
|General and administrative                                                                                                               |  |                            | 1,170 |                          |         |   | 2,290 |  |   | 2,476   |   |  |   | 2,471
|                                                                                                                                         |  |                            |       |                          |         |   |       |  |   |         |   |  |   |      
|Total stock based compensation related to employee stock options and employee stock purchases, net of tax and software development
costs |  | $                          | 2,513 |                          |         | $ | 3,369 |  | $ | 5,138   |   |  | $ | 4,087
|                                                                                                                                         |  |                            |       |                          |         |   |       |  |   |         |   |  |   |      



|(1) | Total stock-based compensation benefit as of July 31, 2005 excludes certain stock-based awards which were previously reported as proforma compensation expense under APB 25 (see
Note 2, Summary of Significant Accounting Policies, of the SEC form 10K for the year ended January 31, 2006).
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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Liquidity and Capital Resources

Cash and Cash Equivalents and Investments

We invest excess cash predominantly in debt and
equity instruments that are liquid, of high-quality investment grade, and predominantly have maturities of less than three years with the intent to make such funds readily available for operating purposes, including expansion of operations and
potential acquisitions or other transactions. The restricted cash is required to maintain a relation to the interest rate swap we have executed in connection with our convertible debt.

Although our 3.00% Notes with a face value of $122.4 million are due on February 7, 2007, we believe our existing cash and cash equivalents,
short-term and long-term investment balances, and cash expected to be generated from future operations will be sufficient to meet our capital and operating requirements at least through the next twelve months, although we could be required, or could
elect, to seek additional funding prior to that time. 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 expansion of sales
and marketing, the timing of new product introductions and enhancements to existing products, and market acceptance of our products.

The
following table summarizes our cash and cash equivalents, short and long-term investments and restricted cash (in thousands):



|                           |  |              |         |                 |   |                    |  |   |         |  
|-------------------------- |  | ------------ | ------- | --------------- | - | ------------------ |  | - | ------- | -
|                           |  | July 31,2006 |         | January 31,2006 |   | Increase(decrease) | 
|Cash and cash equivalents  |  | $            | 128,547 |                 | $ | 139,083            |  | $ | (10,536 | )
|Short term investments     |  |              | 205,612 |                 |   | 171,110            |  |   | 34,502  |  
|Short term restricted cash |  |              | 3,890   |                 |   |                   |  |   | 3,890   |  
|Long term investments      |  |              | 25,036  |                 |   | 31,884             |  |   | (6,848  | )
|Long term restricted cash  |  |              | 11,659  |                 |   | 10,697             |  |   | 962     |  
|                           |  |              |         |                 |   |                    |  |   |         |  
|Total                      |  | $            | 374,744 |                 | $ | 352,774            |  | $ | 21,970  |  
|                           |  |              |         |                 |   |                    |  |   |         |  

The overall increase is mainly due to an increase in operating cash flow of $33.6 million.

Cash from Operations

Cash provided by operating
activities of $33.6 million primarily consists of our net loss adjusted for non-cash charges (including depreciation, amortization, deferred compensation, the Matrix impairment of $9.6 million and inventory-related charges) offset by changes in
working capital and other activities. Working capital changes included an increase in other assets balances of which $12.9 million related to capitalized software costs.

Cash used in operating activities of $6.8 million for the six months ended July 31, 2005 consists of our net loss adjusted for non-cash charges (including depreciation, amortization, deferred compensation and
inventory-related charges) and changes in working capital and other activities. Working capital items include accounts receivable, inventories, other current and non-current assets, accounts payable, accrued liabilities and deferred revenue.
Accounts receivable was a use of $10.0 million in cash for the first six months of fiscal year 2005. Days sales outstanding (DSO) was 72 days the six months ended July 31, 2005.

Key working capital changes for the six month period ended July 31 2006 are discussed in the following sections:

Accounts Receivable, net

The following table summarizes our accounts receivable, net (in thousands):



|                         |  |              |        |                 |   |                    |  |   |         |  
|------------------------ |  | ------------ | ------ | --------------- | - | ------------------ |  | - | ------- | -
|                         |  | July 31,2006 |        | January 31,2006 |   | Increase(decrease) | 
|Accounts receivable, net |  | $            | 94,878 |                 | $ | 126,106            |  | $ | (31,228 | )

The significant decrease in accounts receivable was due in part to the decline of certain customer
accounts receivable previously reserved. As of July 31, 2006, the DSO was 48 days annualized as compared to the January 31, 2006 of 72 days annualized. Our accounts receivable and DSO were primarily impacted by lower total revenue for the
quarter as compared to the same period ended July 31, 2005. A steady level of shipments and positive collections performance will result in reduced



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DSO compared with a higher level of shipments toward the end of a quarter, which will result in a shorter amount of time to collect the related accounts
receivable and increased DSO.

Inventory

The following table summarizes our inventories (in thousands):



|                 |  |              |        |                 |   |                    |  |   |        |  
|---------------- |  | ------------ | ------ | --------------- | - | ------------------ |  | - | ------ | -
|                 |  | July 31,2006 |        | January 31,2006 |   | Increase(decrease) | 
|Raw materials    |  | $            | 18,159 |                 | $ | 22,868             |  | $ | (4,709 | )
|Work-in-progress |  |              | 621    |                 |   | 1,253              |  |   | (632   | )
|Finished goods   |  |              | 16,866 |                 |   | 8,979              |  |   | 7,887  |  
|                 |  |              |        |                 |   |                    |  |   |        |  
|Total            |  | $            | 35,646 |                 | $ | 33,100             |  | $ | 2,546  |  
|                 |  |              |        |                 |   |                    |  |   |        |  

Annualized inventory turns were 10.1 and 10.9 for the six months ended July 31, 2006 and
January 31, 2006, respectively. The increase in finished goods is due to unforecasted shortfalls in shipment, specifically fiber channel switches. In addition, we reclassified approximately $2 million of Matrix inventory from other assets, long
term during the quarter ended July 31, 2006. The decrease in raw materials is due to the reduction of inventory that was held in our Lumberton facility as we anticipate the closure of this facility.

Inventory management remains an area of focus as we balance the need to maintain strategic inventory levels to ensure competitive lead times against the
risk of inventory obsolescence because of rapidly changing technology and customer requirements. We believe our inventory is appropriate for our current revenue levels.

Deferred Revenue

The following table summarizes our deferred revenue (in thousands):



|          |  |              |        |                 |   |                    |  |   |        |  
|--------- |  | ------------ | ------ | --------------- | - | ------------------ |  | - | ------ | -
|          |  | July 31,2006 |        | January 31,2006 |   | Increase(decrease) | 
|Current   |  | $            | 59,832 |                 | $ | 61,242             |  | $ | (1,410 | )
|Long term |  |              | 28,294 |                 |   | 31,380             |  |   | (3,086 | )
|          |  |              |        |                 |   |                    |  |   |        |  
|Total     |  | $            | 88,126 |                 | $ | 92,622             |  | $ | (4,496 | )
|          |  |              |        |                 |   |                    |  |   |        |  

Deferred revenue represents extended maintenance contracts attached to sales of our hardware and
software products. The change in deferred revenue is a function of license renewals and maintenance agreements sold as part of customer hardware purchases. The decline of deferred revenue was due to declines in the volume of director and extension
products.



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Investing Activities

Cash used by investing activities for the six months ended July 31, 2006 was primarily due to our net investments of $26.9 million driven by our increase in cash provided by operations. In addition, we purchase $9.9
million of fixed assets during the period. Our restricted cash also increased in response to changes based on the forward LIBOR yield curve which determine the amount of collateral we must maintain.

Cash provided by investing activities of $45.8 million for the six months ended July 31, 2005 consists of $40.4 million in cash recognized from the
CNT acquisition, net of $6.9 million in acquisition costs, as well as $9.9 million in proceeds from investment sales and maturities (net of purchases), partially offset by $6.8 million of capital expenditures.

Financing Activities

Cash used in financing
activities for the six months ended July 31, 2006 of $2.1 million was primarily due to cash used to repurchase $2.0 million of our convertible debt acquired from CNT. See Note 9 in the Notes to the consolidated financial statements for
further information. In addition, we paid $1.5 million of principal payments on our capital leases obligations. This was offset by $1.4 million we received from the exercise of stock options offset these purchases.

Cash used in financing activities of $5.3 million for the six months ended July 31, 2005 was primarily due to the stock repurchase program.

Commitments

Purchase Commitments

The Company has contracted with Sanmina SCI Systems, Inc. (SSCI), Solectron Corporation (Solectron) and others (collectively,
Contract Manufacturers) for the manufacture of printed circuit boards and box build assembly and configuration for specific multi-protocol directors and switches. The agreements require the Company to submit purchasing forecasts and place orders
sixty calendar days in advance of delivery. At July 31, 2006, the Companys commitment with our Contract Manufacturers for purchases over the next sixty days totaled $55.0 million, and $32.0 million for commitments beyond 60 days. The
Company may be liable for materials that the Contract Manufacturers purchase on McDATAs behalf if the Companys actual requirements do not meet or exceed its forecasts and those materials cannot be redirected to other uses. We may also be
liable for materials that certain component suppliers or product manufacturers have produced or made available to us if our actual requirements do not meet or exceed minimums that we have committed to purchase. At July 31, 2006, the Company had
recorded approximately $9.4 million of purchase obligations that we believe is excess or obsolete and cannot be redirected to other uses. Management does not expect the remaining commitments under these agreements to have a material adverse effect
on the Companys business, results of operations, financial position or cash flows.

Convertible Notes

Convertible subordinated debt includes the our 2.25% convertible subordinated notes (the 2.25% Notes) due February 15, 2010, and $122.4 million
outstanding 3.00% Convertible Subordinated Notes due February 15, 2007, previously issued by CNT (the 3.00% Notes), which were assumed in the Merger.

On February 7, 2003, we sold $172.5 million of 2.25% convertible subordinated notes due February 15, 2010, raising net proceeds of approximately $167 million. The 2.25% Notes are convertible into
Class A common stock at a conversion rate of 93.3986 shares per $1,000 principal amount of notes (aggregate of approximately 16.1 million shares) at any time prior to February 15, 2010, subject to adjustments. As of July 31,
2006, the approximate bid and ask prices per $100 of our 2.25% Notes was $84.375 and $85.125, respectively, resulting in an aggregate fair value of between $145.5 million and $146.8 million.

Concurrent with the issuance of the 2.25% Notes, we entered into share option transactions using approximately $20.5 million of net proceeds. As
part of these share option transactions, we purchased options that cover approximately 16.1 million shares of Class A common stock, at a strike price of $10.71. We also sold options that cover approximately 16.9 million shares of
Class A common stock, at a strike price of $15.08. The net cost of the share option transactions was recorded against additional paid-in-capital.



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In July 2003, we entered into an interest rate swap agreement with a notional amount of
$155.3 million that has the economic effect of modifying that dollar portion of the fixed interest obligations associated with the 2.25% Notes so that the interest payable effectively becomes variable based on the six-month London Interbank
Offered Rate (LIBOR) minus 152 basis points. The reset dates of the swap are February 15 and August 15 of each year until maturity on February 15, 2010. At July 31, 2006, the six-month LIBOR setting for the swap was 4.93%,
creating a rate of approximately 3.41%, which was effective until August 15, 2006. On August 15, 2006 the rate was reset to 5.47%, creating a rate of approximately 3.95%, which is effective until February 15, 2007. The swap was
designated as a fair value hedge and, the gain or loss on the swap, as well as the fully offsetting gain or loss on the 2.25% Notes attributable to the hedged risk, were recognized in earnings. At July 31, 2006, the fair value of the interest
rate swap had decreased from inception to a negative $7.9 million and is included in long-term liabilities. As part of the agreement, we are also required to post collateral based on changes in the fair value of the interest rate swap. This
collateral, in the form of restricted cash, approximated $11.7 million at July 31, 2006.

On June 1, 2005, effective upon
the consummation of the Merger, we fully and unconditionally guaranteed the 3.00% Notes and became a co-obligor on the 3.00% Notes with CNT and the 3.00% Notes became convertible into our Class A stock at a price of approximately $14.75 per
share (aggregate of approximately 8.4 million shares) at any time prior to maturity on February 15, 2007, all pursuant to the terms of the Supplemental Indenture. All other terms of the 3.00% Notes remained unchanged. The 3.00% Notes were
issued by CNT in 2002 and had an aggregate par value of $124.4 million at the time of the guarantee. In accordance with purchase accounting rules, the Notes were adjusted to their aggregate fair value of $118.8 million based on the quoted market
closing price as of the acquisition date. The $5.6 million reduction in the Notes carrying value will be accreted to interest expense on a straight-line basis over the remaining term of the Notes. On July 31, 2006, the approximate bid and
ask prices per $100 of our 3.00% Notes was $98.125 and $98.375, respectively, resulting in an aggregate fair value of between $120.1 million and $120.4 million.

Prior to the Merger, CNT entered into an interest-rate swap agreement with a notional amount of $75 million that has the economic effect of modifying that dollar portion of the fixed interest obligations associated
with $75 million of the 3.00% Notes such that the interest payable effectively becomes variable based on the three-month LIBOR plus 69.5 basis points. The payment and reset dates of the swap are January 31, April 30, July 31 and
October 31 of each year, until maturity on February 15, 2007. At July 31, 2006, the three-month LIBOR setting for the swap was 5.49%, resulting in a combined effective rate of approximately 6.18%, which is effective until
October 31, 2006. The swap was designated as a fair value hedge, and as such, the gain or loss on the swap, as well as the fully offsetting gain or loss on the notes attributable to the hedged risk, are recognized in earnings. At July 31,
2006, the fair value of the interest rate swap had decreased to a negative $1.3 million and is included in short-term liabilities. As part of the agreement, we are also required to post collateral based on changes in the fair value of the
interest rate swap. This collateral, in the form of restricted cash, approximated $3.9 million at July 31, 2006.

On
July 11, 2006, we repurchased certain amounts of the 3.00% Notes with a face value of $2.0 million for $1.97 million plus accrued interest of $24,000. The gain that was recorded in other income in the Companys consolidated statement of
operations was insignificant.

Headquarters Lease Commitment

On September 9, 2004, we entered into a triple net office lease with Ridge Parkway Associates, LLC, a Delaware limited liability company, for the lease of office space at 11802 Ridge Parkway, Building 2,
Broomfield, Colorado (the New Premises). We moved our world headquarters location at 380 Interlocken Crescent, Broomfield, Colorado 80021 to the New Premises with the lease commencing in February of 2006. The term of the new lease is for
11 years (with two 5 year renewal options). The base annual lease rates per rentable square foot for the New Premises range from $0 in the first year to $14.15 in the last year of the lease, plus normal operating expenses. We began
recognizing rent expense in July 2005 upon the start of the build-out of the premises. The lease has customary terms and conditions.

We
received the certificate of occupancy on January 31, 2006, and because the project was substantially complete, we adjusted the amounts in Construction in progressleased assets, and Non-cash obligations for construction in
progresslease facilities in the long-term liability section of the accompanying balance sheet.



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Contractual Obligations

The following table summarizes our contractual obligations (including interest expense) and commitments as of January 31, 2006 (in thousands):



|                                   |  |       |         |                 |   |          |  |          |         |                  |   |         |  |   |       
|---------------------------------- |  | ----- | ------- | --------------- | - | -------- |  | -------- | ------- | ---------------- | - | ------- |  | - | ------
|                                   |  | Total |         | Less Than1 Year |   | 1-3Years |  | 3-5Years |         | More Than5 Years
|Convertible subordinated debt      |  | $     | 296,850 |                 | $ |         |  | $        | 124,350 |                  | $ | 172,500 |  | $ |      
|Interest on convertible debt       |  |       | 12,998  |                 |   | 4,967    |  |          | 5,316   |                  |   | 2,715   |  |   |      
|Non-cancelable operating leases    |  |       | 76,134  |                 |   | 11,889   |  |          | 17,145  |                  |   | 11,494  |  |   | 35,606
|Non-cancelable purchase agreements |  |       | 93,901  |                 |   | 82,401   |  |          | 7,667   |                  |   | 3,833   |  |   |      
|Capital leases, including interest |  |       | 7,074   |                 |   | 3,542    |  |          | 3,532   |                  |   |        |  |   |      
|                                   |  |       |         |                 |   |          |  |          |         |                  |   |         |  |   |       
|Total contractual obligations      |  | $     | 486,957 |                 | $ | 102,799  |  | $        | 158,010 |                  | $ | 190,542 |  | $ | 35,606
|                                   |  |       |         |                 |   |          |  |          |         |                  |   |         |  |   |       

Changes in our contractual obligations during the six month period ended July 31, 2006 include the purchase
of $2.0 million of our convertible CNT subordinate debt, and the change from long term to current of our $122.4 million of CNT convertible subordinate debt.

Off-Balance Sheet Arrangements

Other than facility and equipment leasing arrangements classified as operating leases, we do
not engage in off-balance sheet financing activities.

Ordinary Course Purchase and Sale Agreements

During our normal course of business, we may enter into agreements with, among others, customers, resellers, OEMs, systems integrators and distributors.
These agreements typically require the Company to indemnify the other party against third party claims or product infringements on patents or copyrights. The Company provides indemnifications of varying scope and size to certain customers against
claims of intellectual property infringement made by third parties arising for the use of our products. We have also indemnified our former parent, EMC, for any income taxes arising out of the distribution of our Class A common stock in
February 2001.

In addition, the majority of these indemnities, commitments and guarantees do not provide for any limitation of the maximum
potential future payments the Company could be obligated to make. The Company evaluates and estimates losses from such indemnification under SFAS No. 5, Accounting for Contingencies, as interpreted by FASB Interpretation No. 45
(FIN 45). To date, the Company has not incurred any material costs as a result of such obligations and has not accrued any liabilities related to such indemnification and guarantees in our financial statements.

Sale of Lumberton, New Jersey Manufacturing Operations

As described in Note 16, on June 24, 2005 the Company entered into a series of agreements with Solectron in connection with the sale of manufacturing operations and transfer of assets related to its Lumberton, New Jersey production
facility. As part of the Asset Purchase Agreement between the Company and Solectron, the Company has made a number of representations and has agreed to indemnify the buyer and hold them harmless from certain losses suffered in connection with their
purchase of assets and assumption of liabilities of the Lumberton facility. Although, there are no maximum potential indemnification amounts stated in the agreement for these representations, based on facts currently available, management estimates
the maximum potential amount of payments that could be required under these representations to be $5.3 million. Based on the probability of having to make payments under any one of the representations, management has calculated potential discounted
future cash flows of approximately $400,000, which has been recorded in the accompanying financial statements as a liability assumed in the acquisition of CNT, in accordance with FIN 45.



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SPX Tax Sharing Agreement

Inrange Technologies Corporation (Inrange) is subject to a tax sharing agreement with SPX Corporation (SPX) relating to previous tax years when Inrange was part of the SPX consolidated tax group (the SPX Agreement).
Inrange was acquired by CNT from SPX in May 2003. When CNT merged with McDATA, Inrange became a subsidiary of McDATA.

Pursuant to the SPX
Agreement, if the Internal Revenue Service (IRS) makes an adjustment to Inrange losses utilized in previous tax years by the SPX consolidated group, Inrange must compensate SPX for the lost tax benefits. The IRS is currently examining tax returns
filed by SPX for certain years that Inrange was included in the SPX consolidated return. At this time, we are not aware of any issues raised during the audit that would require Inrange to compensate SPX for lost tax benefits.

Recent Accounting Pronouncements

On July 13,
2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement 109 (FIN 48), which sets forth a specific recognition threshold and measurement method for the financial
statement recognition and measurement of a tax position taken or expected to be taken on a tax return. The effective date of FIN 48 is for fiscal years beginning after December 15, 2006. We have not completed an assessment of the impact of FIN
48 on its consolidated financial statements. We plan to adopt the provisions of FIN 48 on February 1, 2007.

In June 2006, the
FASB ratified a consensus on the EITF Issue No. 06-03 (EITF 06-03) related to the classification of certain sales, value added and excise taxes within the income statement. This EITF would become effective for us in the first quarter of our
fiscal year 2007. We are in the process of evaluating the impact of this EITF on the presentation of such taxes on the statement of operations.

Recently Adopted Accounting Pronouncements

On February 1, 2006, the Company adopted Statement of Financial Accounting
Standards No. 123 (revised 2004), Share-Based Payment, (SFAS 123(R)) which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors including employee stock
options and employee stock purchases related to the Employee Stock Purchase Plan (employee stock purchases) based on estimated fair values. SFAS 123(R) supersedes the Companys previous accounting under Accounting Principles Board Opinion
No. 25, Accounting for Stock Issued to Employees (APB 25) for periods beginning in fiscal 2006. In March 2005, the SEC issued Staff Accounting Bulletin No. 107 (SAB 107) relating to SFAS 123(R). The Company has applied the
provisions of SAB 107 in its adoption of SFAS 123(R).

Critical Accounting Policies

Inventories

Estimating obsolete, unmarketable or excess inventory requires us to forecast future
demand and market conditions. Changes in our product strategy can result in obsolete inventory. Inventories, which include material, labor, factory overhead and purchased finished goods, are stated using standard costs which approximate the lower of
cost (first-in, first-out method) or market. We evaluate the need for reserves associated with obsolete, slow-moving and non-salable inventory by reviewing net realizable values on a quarterly basis. We base our estimate on the difference between
the cost of held inventory and the expected market value of the inventory.

Investments

Our short- and long-term investments consist primarily of marketable debt and equity securities, all of which are classified as available-for-sale and
recorded at fair value. Fair values are determined using quoted market prices. Unrealized holding gains and losses are recorded, net of any tax effect, as a separate component of accumulated other comprehensive income. Securities with maturities of
one year or less are classified as short-term investments. Securities with remaining maturities longer than one year are classified as long-term investments, with the exception of auction rate securities. These investments are highly liquid,
variable-rate debt securities. While the underlying security typically has a stated maturity of 20 to 30 years, the interest rate is reset through Dutch auctions that are held every 7, 28 or 35 days, creating a highly liquid, short-term instrument.
The securities trade at par and are callable at par on any interest payment due date at the option of the issuer and as such are classified as short-term investments.



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Should the impairment of any of these securities become other-than-temporary, the adjusted cost basis of
the investment will be reduced and the resulting loss recognized in the consolidated statement of operations in the period the other-than-temporary impairment is identified.

Included in investment balances are certain derivatives used as economic hedges against positions held in certain marketable equity securities. Because
these are ineffective hedges, unrealized gains and losses are charged in the period they occur.

Fair Value of Financial Instruments

The carrying value of financial instruments, including cash equivalents, accounts receivable, accounts payable and accrued liabilities, approximate fair
value due to their short maturities. Based upon borrowing rates currently available to us, with similar terms, the carrying values of the capital lease obligations approximate their fair values. The fair values of our investments and convertible
debt are determined using quoted market prices for those securities. We recognize all derivatives as either assets or liabilities in the consolidated statement of financial position and measure those instruments at fair value, which is determined
using quoted market prices.

Interest Rate Swaps

We have entered into two interest rate swaps to address interest rate market risk exposure. The interest rate swaps are designated and qualify as a fair value hedge under SFAS No. 133, Accounting for
Derivative Instruments and Hedging Activities. For derivative instruments that are designated and qualify as a fair value hedge, the gains and losses on the derivative instrument, as well as the offsetting gain or loss on the hedged item
attributable to the hedged risk, are recognized in current earnings during the period of change in fair values. If the change in the value of the hedging instrument offsets the change in the value of the hedged item, the hedge is considered
perfectly effective. The accounting for hedge effectiveness is measured at least quarterly based on the relative change in fair value between the derivative contract and the hedged item over time. Any change in fair value resulting from
ineffectiveness, the amount by which the change in the value of the hedge does not exactly offset the change in the value of the hedged item, is recognized immediately in earnings. Our interest rate swaps qualify as perfectly effective fair value
hedges. As such, there is no ineffective portion to the hedge recognized in earnings. Adjustments to the fair value of the interest rate swap agreements are recorded as either an other asset or long-term liability. The differential to be paid or
received under these agreements is accrued consistently with the terms of the agreements and is recognized in interest expense over the term of the related debt. The related amounts payable to or receivable from counterparties are included in
accounts receivable or accrued liabilities.

Long-Lived Assets, Including Goodwill and Other Acquired Intangible Assets

We evaluate the carrying value of long-lived assets, excluding goodwill, at least annually for impairment or when events and circumstances indicate the
carrying amount of an asset may not be recoverable. The carrying value of a long-lived asset is considered impaired when the anticipated undiscounted cash flows from such asset (or asset group) are separately identifiable and less than the
assets (or asset groups) carrying value. In that event, a loss is recognized to the extent that the carrying value exceeds the fair value of the long-lived asset. Fair value is determined primarily using the anticipated cash flows
discounted at a rate commensurate with the risk involved. See Note 7 for discussion related to Matrix.

Goodwill and other indefinite lived
intangible assets are not subject to amortization, but are subject to an impairment test at least annually, or more frequently if events or circumstances indicate that impairment might exist. We completed our annual impairment analysis of goodwill
in the first quarter of 2006 and found no impairment. SFAS No. 142, Goodwill and Other Intangible Assets, also requires that intangible assets with definite lives be amortized over their estimated useful lives and reviewed for
impairment in accordance with SFAS No. 144, Accounting for the Impairment of Long-Lived Assets to Be Disposed Of. We are currently amortizing our acquired intangible assets with finite lives over periods ranging from one to seven
years.

Revenue Recognition

We are
required to estimate the collectibility of invoiced amounts based upon our assessment of the ability of the customer to pay. We recognize revenue when four basic criteria are met: (a) persuasive evidence of an arrangement exists,
(b) products are delivered or services rendered, (c) the sales price is fixed or determinable and (d) collectibility is probable. We determine whether collectibility is reasonably assured based on the customers current financial
condition and on possible credit deterioration, the indirect and OEM channels ability to sell through the products purchased and the relationship we have with our customers. Our revenue recognition policy is based on complex and dynamic rules
established by the Securities and Exchange Commission and other governing bodies. These rules require us to make judgments with regard to



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post delivery obligations. When significant post delivery obligations exist, revenue is deferred until such obligations are fulfilled or until we have
established sufficient history to estimate the cost of our obligation.

Product Revenue

Revenue from product sales to our resellers and end-user customers is recognized when title and risk of loss transfer to the customer, generally at the
time of shipment. Revenue from product sales to our OEMs and distributors is recognized when title and risk of loss transfer to the customer in accordance with the master agreement.

With respect to revenue from our configured products, we recognize revenue on shipment when we ship directly to an end user. When we ship to an OEM or
distributor we request evidence of sell-through from our OEM and distributor partners prior to recognizing revenue. In situations where our OEM and distributor partners refuse to provide sell-through information when requested, but all the criteria
under SEC Staff Accounting Bulletin (SAB) No. 104, Revenue Recognition (SAB No. 104) have been met, we recognize revenue for such configured products. These configured products represent high value, customized solutions of
directors, cabinets and various combinations of port cards ordered by our OEM and distributor partners as required by the end-user.

Non-configured products and components, such as our switch products, extension products, additional port cards, upgrades and stand alone directors, are recognized as revenue when the criteria for SAB No. 104 (as discussed above) have
been met, generally at time of shipment.

Revenue is reduced for estimated customer returns, price protection, rebates, and other offerings
that occur under sales programs established with the Companys OEMs, distributors and resellers. We accrue for estimated warranty costs at the time of revenue recognition based on our experience.

Service Revenue

Revenue from support or maintenance
contracts is recognized ratably over the contractual period. Amounts invoiced to customers in excess of revenue recognized on these contracts are recorded as deferred revenue until all revenue recognition criteria are met. Revenue from professional
services is recognized when such services are performed.

Software Revenue

Revenue from software is comprised of software licensing and post-contract customer maintenance and support. Software revenue is allocated to the license
and support elements using vendor specific objective evidence of fair value (VSOE). Revenue from software licenses is recognized when the four basic criteria above have been met. Revenue from post-contract support and maintenance is recognized
ratably over the term of the support contract, assuming the four basic criteria are met. The Company has software embedded in some of its products that is considered more than incidental to the product and represents a separate unit of accounting as
defined by the American Institute of Certified Public Accountants Statement of Position 97-2 Software Revenue Recognition(SOP 97-2).

Multiple Elements

We enter into certain arrangements where we are obligated to deliver multiple products and/or services.
In transactions that include multiple products, services and/or software, in most cases the Company allocates the revenue to each element based upon their VSOE of the fair value of the element, with any remaining elements allocated using the
residual method. VSOE of the fair value for an element is based upon the price charged when the element is sold separately. Revenue allocated to each element is then recognized when the basic revenue recognition criteria is met for each element. For
an element not yet being sold separately, a price is established by management having the relevant authority if it is probable that the price once established will not change before the separate introduction of the element into the marketplace.

Deferred Revenue

Total deferred
revenue consists primarily of unearned revenue from our customer support or maintenance contracts on our software and hardware products. These contracts are billed and collected either upfront or annually at the beginning of each service period. We
recognize revenue from these contracts ratably over the contractual period, generally one to three years. Although certain contracts are cancellable at the customers discretion, we reclassified certain deferred revenue amounts acquired in the
purchase of CNT from short to long-term based on our analysis of the future periods over which this revenue will be recognized.



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The remaining portion of the deferred revenue represents deferred revenue related to billings and
collections for which one or more of the four basic criteria under SAB No. 104 and the American Institute of Certified Public Accountants Statement of Position 97-2, as amended, have not been met. These balances are all classified as
short-term on the balance sheet as all four criteria have historically been met in less than twelve months.

Software Development Costs

We capitalize eligible computer software development costs upon the establishment of technological feasibility, which we have defined as completion of
designing, coding and testing activities or the completion of a working model as defined by our software and hardware engineering development processes. Costs incurred prior to the establishment of technological feasibility are expensed to research
and development. The establishment of technological feasibility and the ongoing assessment of recoverability of capitalized software development costs require considerable judgment by management with respect to certain external factors, including,
but not limited to, anticipated future revenues, estimated economic life and changes in software and hardware technologies. Upon the general release of the software product to customers, capitalization ceases and such costs are amortized (using the
straight-line method) on a product-by-product basis over the estimated life, which is generally one to three years. Capitalized software costs and accumulated amortization included in other long term assets at July 31, 2006 was approximately
$66.9 million and $31.0 million, respectively. Capitalized software costs and accumulated amortization included in other assets at January 31, 2006, were approximately $53.9 million and $23.1 million, respectively. Amortization expense included
in our cost of goods sold in our consolidated statement of operations of capitalized software for the three and six months ended July 31, 2006 was approximately $4.2 million and $7.9 million, respectively.

Restructuring Charges

We account for costs,
including termination benefits and facility closure costs, associated with restructuring activities in accordance with SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities which requires that the liability
for costs associated with exit or disposal of activities be recognized when the liability is incurred. See Note 5 for discussion of restructuring activities.

Income Taxes

We are required to estimate whether recoverability of deferred tax assets is more likely than not based on
forecasts of taxable earnings in the related tax jurisdictions. We estimate a provision for income taxes in each of the jurisdictions in which we operate. We estimate our actual current tax exposure including the risks associated with tax audits and
the temporary differences resulting from the different treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities which we include within our balance sheet. We evaluate the likelihood that our
deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery is not more likely than expiration of the deferred benefit, we establish a valuation allowance.



|ITEM 3. | Quantitative and Qualitative Disclosures about Market Risks
|------- | -----------------------------------------------------------

We are exposed to market risk, primarily from changes in interest rates, foreign currency exchange rates and credit risks.

Interest Rate Risk

We earn interest income on both our cash and cash equivalents and our investment portfolio. Our investment portfolio generally consists
of readily marketable investment-grade debt securities of various issuers and maturities ranging primarily from overnight to three years. All investments are denominated in U.S. dollars and are classified as available for sale. These
instruments are not leveraged, and are not held for trading purposes. As interest rates change, the amount of realized and unrealized gain or loss on these securities will change. The quantitative and qualitative disclosures about market risk are
discussed in Item 7AQualitative and Quantitative Disclosure About Market Risk, contained in our Form 10-K for fiscal year 2005.

Given our cash and cash equivalents and short- and long-term investments of approximately $375 million at July 31, 2006 a theoretical 1% change in interest rates and security prices would impact our net income positively or negatively
by approximately $3.75 million on an annualized basis.

Our convertible subordinated debt is subject to a fixed interest rate and the notes
are based on a fixed conversion ratio into Class A common stock. The Company has two interest-rate swap agreements covering its convertible debt. The first was entered into by the Company in July 2003 covering $155.3 million of its 2.25%
convertible subordinated notes (2.25% Notes) and is set at six-month LIBOR minus 152 basis points, and the second was assumed in the acquisition of CNT which



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covers $75.0 million of the 3.00% convertible subordinated notes (3.00% Notes) previously issued by CNT and is set at three-month LIBOR plus 69.5 basis
points. Both agreements have the economic effect of modifying the fixed interest obligations associated with the notes so that the interest payable on the majority of the notes effectively becomes variable. If interest rates on this variable rate
debt were to increase or decrease, our annual interest expense would increase or decrease accordingly. This increased or decreased interest expense would be partially offset by the effects of these interest rate changes on our cash and investment
portfolio. On July 31, 2006, the approximate bid and ask prices per $100 of our 2.25% Notes was $84.375 and $85.125, respectively, resulting in an aggregate fair value of between $145.5 million and $146.8 million. On July 31, 2006, the
approximate bid and ask prices per $100 of our 3.00% Notes was $98.125 and $98.375, respectively, resulting in an aggregate fair value of between $120.1 million and $120.4 million. Our Class A common stock is quoted on the Nasdaq National
Market under the symbol, MCDTA. On August 31, 2006, the last reported sale price of our Class A common stock on the NASDAQ National Market was $4.29 per share.

Foreign Currency Exchange Risk

We operate sales and support offices in several countries. We are
exposed to market risks related to fluctuations in foreign exchange rates because some sales transactions, and the assets and liabilities of our foreign subsidiaries, are denominated in foreign currencies, primarily the Euro and British pounds
sterling. As of July 31, 2006, we had no open forward exchange contracts.

Credit Risk

Financial instruments, which potentially subject us to concentrations of credit risk, consist principally of temporary cash investments, investments and
trade receivables. We place our temporary cash investments and investment securities in primarily investment grade instruments and limit the amount of investment with any one financial institution. We evaluate the credit risk associated with each of
our customers, including our largest customers, EMC and IBM, but generally do not require collateral. We depend on these two customers for most of our total revenue. They also comprise a significant portion of our trade receivables and, therefore,
expose us to a concentration of credit risk.

A small portion of our cash is invested in higher yielding investments, and within those
investments there may be small amounts invested in derivative financial instruments. These investments are diminimus relative to our overall cash portfolio, and are not subject to any risk beyond our principal investment. We mainly invest our cash,
cash equivalents and marketable securities in investment grade, highly liquid investments, consisting of money market instruments, bank certificates of deposits, government obligations and corporate debt instruments.

In conjunction with the issuance of our convertible subordinated notes, we also entered into share option transactions on our Class A common stock
with Bank of America, N.A. and /or certain of its affiliates. Subject to the movement in our Class A common stock price; we could be exposed to credit risk arising out of net settlement of these options in our favor. Based on our review of the
possible net settlements and the credit strength of Bank of America, N.A. and its affiliates, we have concluded that we do not have a material exposure to credit risk as a result of these share option transactions.

In July 2003, we entered into an interest-rate swap agreement with JPMorgan Chase Bank (JPMorgan). Subject to the movement in interest rates, we
could be exposed to credit risk arising out of net interest payments due to us from JPMorgan. Based on our review of the possible movement in interest rates and the credit strength of JPMorgan, we have concluded that we do not have a material
exposure to credit risk as a result of this interest-rate swap.

In January 2004, CNT entered into an interest-rate swap agreement with
Credit Suisse First Boston (CSFB). Subject to the movement in interest rates, we could be exposed to credit risk arising out of net interest payments due to us from CSFB. Based on our review of the possible movement in interest rates and the credit
strength of CSFB, we have concluded that we do not have a material exposure to credit risk as a result of this interest-rate swap.



|ITEM 4. | Controls and Procedures
|------- | -----------------------

Evaluation of Disclosure Controls and
Procedures

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be
disclosed in the Companys reports under Securities Exchange Act of 1934, as amended (the Exchange Act), is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms, and that such
information is accumulated and communicated to the management of McDATA Corporation (Management), including the Companys Chief Executive Officer (CEO) and Chief Financial Officer (CFO), as appropriate, to allow timely decisions regarding
required disclosure. In designing and evaluating the disclosure controls and procedures, Management recognizes that any controls and procedures, no matter how well designed and operated, can only provide reasonable assurance of achieving the desired
control objectives. As a result, the Companys CEO and CFO have concluded that, based upon the



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evaluation of disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) under the Exchange Act), the Companys disclosure controls
and procedures were effective as of the end of the period covered by this report.

Changes in Internal Control Over Financial Reporting

The Companys Management, with the participation of the CEO and CFO, have evaluated whether any change in the Companys internal control over
financial reporting occurred during the second quarter of fiscal 2006. Based on that evaluation, Management concluded that there has been no change in the Companys internal control over financial reporting during the second quarter of fiscal
2006 that has materially affected, or is reasonably likely to materially affect, the Companys internal control over financial reporting.

PART
IIOTHER INFORMATION



|ITEM 1. | Legal Proceedings
|------- | -----------------

From time to time, we become
involved in various lawsuits and legal proceedings that arise in the normal course of business. Litigation is subject to inherent risks and uncertainties and an adverse result in a matter that may arise from time to time may harm our business,
financial condition or results of operations. While it is the current opinion of management that the ultimate disposition of any of the lawsuits described in this Quarterly Report should not have a material adverse effect on our business, financial
condition or results of operations, we are incurring significant legal costs and expenses, and such litigation is subject to inherent risks and uncertainties. Please see Note 16 of the Notes to the Consolidated Financial Statements for a description
of significant litigation matters.



|ITEM 1A. | Risk Factors
|-------- | ------------

Cautionary StatementsRisk Factors

Our Quarterly Revenues and Operating Results Have Historically Fluctuated for a Number of Reasons, Which Has Also Caused Our Stock Price to
Fluctuate

Quarterly revenues and operating results from continuing operations have varied significantly in the past due to a number of
factors, which has caused our stock price to fluctuate. The primary factors that have historically affected our quarterly financial performance include the following:



| |  |  | fluctuations in demand for our products and services;
| | - |  | -----------------------------------------------------



| |  |  | increasing competition from competitors which have products similar to ours and the availability of alternative products that can address storage networking needs of customers;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | potentially negative financial impact related to our acquisition of CNT;
| | - |  | ------------------------------------------------------------------------



| |  |  | the timing of customer orders, which are often grouped toward the end of a quarter, particularly large orders from our significant customers and whether any orders are cancelled;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | sales mix among our storage networking products and services;
| | - |  | -------------------------------------------------------------



| |  |  | our traditionally long sales cycle, which can range from 90 days to 12 months or more;
| | - |  | --------------------------------------------------------------------------------------



| |  |  | the fact that our products and services are usually only part of an overall solution that our customers may have problems implementing or obtaining the required components or
services from other vendors;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our ability to successfully qualify our products with storage OEMs and our ability to source third party products that we resell;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------



| |  |  | announcements and new product introductions by our competitors and deferrals of customer orders in anticipation of new products, services or product enhancements introduced by us or
our competitors;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | decreases over time in the prices at which we can sell our products;
| | - |  | --------------------------------------------------------------------



| |  |  | our ability to obtain sufficient supplies of components, including limited sourced components, and products we supply at reasonable prices, or at all;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | communication costs and the availability of communication lines;
| | - |  | ----------------------------------------------------------------



| |  |  | increases in the prices of the components and supplied products we purchase;
| | - |  | ----------------------------------------------------------------------------



| |  |  | under utilization of consultants;
| | - |  | ---------------------------------



| |  |  | our ability to attain and maintain production volumes and quality levels for our products;
| | - |  | ------------------------------------------------------------------------------------------



| |  |  | increased expenses, particularly in connection with our strategy to continue to expand our relationships with the parties with whom we have entered into strategic
relationships; and
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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| |  |  | general economic and political conditions and related customer budget constraints.
| | - |  | ----------------------------------------------------------------------------------

Accordingly, you should not rely on the results of any past periods as an indication of our future performance. Because most of our expenses are fixed in the short-term or incurred in advance of anticipated revenue,
we may not be able to decrease our expenses in a timely manner to offset any unexpected shortfall in revenue.

Changing Market Conditions and Increased
Competitive Risks.

The competition in the data access and SAN, MAN, and WAN market for our products, software and solutions has grown
and will continue to become more competitive with (a) the recent introduction of competitive products (b) alternative competitive technologies offered by other network companies that can effectively network storage data, and
(c) pricing pressures resulting from this increased competition. As a result of these market changes, we anticipate continued lengthened sales cycles and price erosion in an environment where storage OEM certification of our products may still
be required for end-user customer acceptance. Given that a majority of our revenues are derived from our direct-assist sales model with distribution through our channel partners, we are still highly dependent upon our channel partners
relationships with end-user customers to promote the value of our products. If our channel partners do not promote the value of our products or competitors begin to control end-user customer preference, we may lose sales in key enterprise accounts
that would materially adversely affect our revenues. While our acquisition of CNT allows us to offer SAN extension products, third party products and services directly to end-user customers, and such offerings are generally not in conflict with our
channel partners, we are nonetheless cautious in our sales model to properly manage and leverage the existing channel relationships we have.

We may not
be able to successfully compete against existing or potential SAN competitors.

The market for our SAN switching products, software and
solutions is highly competitive, especially with the entrance of Cisco into the market in 2002. Our competitors are providing SAN switching hardware, server blade solutions and software that is multi-protocol capable (such as Fibre Channel over IP
(FCIP), SCSI over Internet (iSCSI), Internet Fibre Channel (iFCP) and InfiniBand). Our competitors in this market include Brocade, Cisco, QLogic Corp., Emulex Corporation (which acquired Vixel Corporation), Broadcom Corporation (which acquired the
assets of Gadzoox Networks), Fujitsu Softech and others, including storage hardware device providers. Given the market share gain by Cisco, other IP based switching companies such as Juniper, Extreme, Foundry and others may enter the market for SAN
products. Many of our competitors and potential competitors have longer operating histories, greater name recognition, access to larger customer bases, more established distribution channels and substantially greater financial and managerial
resources than McDATA. Given the highly competitive market, we anticipate continued lengthened sales cycles and continued downward pricing pressures. To be competitive, we acquired CNT to expand our Global Enterprise Data Infrastructure (GEDI)
strategy, which is to enable customers to consolidate their data assets in storage networks and to extend the boundary of those networks through network connectivity and distance products (i.e., SAN extension products previously offered by CNT).
These products and services are sold directly and through channels partners. Continued or increased competition could result in pricing pressures, reduced sales, reduced margins, reduced profits, reduced market share, further elongating of sales
cycles, or the failure of our products to achieve or maintain market acceptance.

We incurred a substantial loss for the three months ended
July 31, 2006 and for the fiscal year ended January 31, 2006 and may not be profitable in the future.

We incurred losses of
$20.6 million and $30.1 million, respectively, for the three months ended July 31, 2006 and for the fiscal year ended January 31, 2006. Our future operating results will depend on many factors, including the growth of the SAN market,
market acceptance of new products we introduce, demand for our products, levels of product and price competition and our reaching and maintaining targeted costs for our products. In addition, we expect to incur continued significant product
development, sales and marketing, and general and administrative expenses. We cannot provide assurance that we will generate sufficient revenue to achieve or sustain profitability.

The prices and gross margins of our products may decline, which would reduce our revenues and profitability.

In response to changes in product mix, competitive pricing pressures, increased sales discounts, introductions of new competitive products, product enhancements by our competitors, increases in manufacturing or labor costs or other
operating expenses, we may experience declines in the prices, gross margins and profitability. To maintain our gross margins we must maintain or increase current shipment volumes, develop and introduce new products and product enhancements and
reduce the costs to produce our products. Moreover, most of our expenses are fixed in the short-term or incurred in advance of receipt of corresponding revenue. As a result, we may not be able to decrease our spending to offset any unexpected
shortfall in revenues. If this occurs, we could incur losses, and our revenue, gross margins and operating results may be below our expectations and those of investors and stock market analysts.



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We depend on large distribution and end-user customer relationships.

We depend on EMC, IBM and HDS, for a significant portion of our total revenue. Sales for the six months ended July 31, 2006, to EMC, IBM and HDS
represented approximately 27%, 30% and 8%, respectively, of our revenue for the six months ended July 31, 2006. We anticipate that our future operating results will continue to depend heavily on sales to EMC, IBM and HDS. EMC, IBM and HDS
resell products offered by our competitors, and nothing restricts EMC, IBM and HDS from expanding those relationships in a manner that could be adverse to us. Therefore, the loss of either EMC, IBM or HDS as a channel customer, or a significant
reduction in sales to either EMC, IBM and HDS could significantly reduce our revenue. While we are aware that Dell sources some of our switch product through EMC, it is unclear whether this mitigates our dependency on EMC. Our product sales
agreements with sales partners do not provide for the purchase of a guaranteed minimum amount of product.

With our acquisition of CNT, a
significant portion of our total revenue is also dependent on large sale transactions with Fortune 500 customers in the financial services, telecommunications, information outsourcing and retail market segments. Failure to close a large SAN
extension or solutions sale with a single end-user customer may adversely affect our revenue in any particular fiscal quarter.

We currently have
limited product offerings and must successfully introduce new products (such as the Remote Office Consolidation Solution (ROC)) and product enhancements that respond to rapid technological changes and evolving industry standards.

We derive a substantial portion of our revenue from a limited number of products. As a result, we could have a significant decrease in revenue if one of
our products lines becomes obsolete, does not obtain and maintain market acceptance or if there is a decrease in demand for our products for any other reason.

For the three months ended July 31, 2006, we derived a significant portion of our revenue from sales of our director-class Intrepid switch products. We expect that revenue from our director-class Intrepid
products will continue to account for a substantial portion of our revenue for the foreseeable future. Factors such as performance, market positioning, the availability and price of competing products, the introduction of new technologies and the
success of our OEM, reseller and systems integrator customers will affect the market acceptance of our products. Therefore, continued market acceptance of these products and their successor products are critical to our future success.

In addition, our future success depends upon our ability to address the changing needs of customers and to transition to new technologies and industry
standards. The introduction of competing products embodying new technologies or the emergence of new industry standards could render our products non-competitive, obsolete or unmarketable and seriously harm our market share, revenue and gross
margin. Risks inherent in transitions to new technology, industry standards and new protocols include the inability to expand production capacity to meet demand for new products, write-downs of our existing inventory due to obsolescence, the impact
of customer demand for new products or products being replaced, and delays in the introduction or initial shipment of new products. There can be no assurance that we will successfully manage these transitions.

We are currently developing products that contain untested devices and subassemblies. During the quarter ended April 30, 2006, we introduced the
McDATA ROC a total solution for Remote Office Consolidation enabling consolidation, optimization and protection of remote corporate data without slowing the pace of real-time global business. The ROC offering allows corporations to
centralize their data and solve the latency issue by using special appliances and software to speed application response. The ROC offering allows remote users instant access to applications and data housed at the central data center while enabling
faster block data transfer over the wide area network.

As with any development, there are inherent risks should such devices or
subassemblies require redesign or rework. In particular, in conjunction with the transition of our products from fibre channel to multi-protocol, 2 Gb to 4 Gb to 8 Gb to 10 Gb transmission speed technology, higher port densities, and advanced
management capabilities, we will be introducing products with new features and functionality, such as our next generation director-class switch product, the Intrepid 10000 Director and our next generation switch, such as the Sphereon 4400 and
Sphereon 4700. We face risks relating to this product transition, including risks relating to getting storage and system OEMs to qualify such products, forecasting of demand, as well as possible product and software defects and a potentially
different sales and support environment due to the complexity of these new systems. Finally, if we fail to timely introduce new products, or to add new features and functions to existing products to compete against new entrants in the market, or if
there is no demand for these or our current products, our business could be seriously harmed.



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We may not successfully integrate or realize the benefits of the acquisition of Computer Network Technology
Corporation.

On June 1, 2005, we acquired CNT. While management believes that such acquisitions are an integral part of our
long-term strategy, there are risks and uncertainties related to acquiring companies. The integration of CNT is a complex, time-consuming and expensive process that, without proper planning and implementation, could significantly disrupt our
business, controls and procedures. We may not successfully integrate CNT and the failure to meet the challenges involved in integrating the operations of McDATA and CNT successfully or otherwise to realize any of the anticipated benefits of the
merger could seriously harm our business. The challenges involved in this integration include, but are not limited to, the following:



| |  |  | successfully combining product and service offerings;
| | - |  | -----------------------------------------------------



| |  |  | integrating and coordinating sales and marketing activities;
| | - |  | ------------------------------------------------------------



| |  |  | realizing the financial, operational and headcount synergies to improve the overall business model of the company;
| | - |  | ------------------------------------------------------------------------------------------------------------------



| |  |  | integrating and coordinating research and development activities to enhance existing or introduce new products and services;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------



| |  |  | preserving customer, distribution, reseller, OEM, manufacturing, supplier and other important relationships of both McDATA and CNT and resolving potential conflicts that may arise;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | minimizing the diversion of management attention from other strategic opportunities and operational matters;
| | - |  | ------------------------------------------------------------------------------------------------------------



| |  |  | integrating the diverse financial systems of both McDATA and CNT;
| | - |  | -----------------------------------------------------------------



| |  |  | addressing differences in the business cultures of McDATA and CNT, maintaining employee morale and retaining key employees; and
| | - |  | -------------------------------------------------------------------------------------------------------------------------------



| |  |  | coordinating and combining overseas operations, relationships and facilities, which may be subject to additional constraints imposed by geographic distance, local laws and
regulations.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The anticipated benefits of the merger are based on projections and assumptions, including successful
integration, not actual experience. In addition to the integration risks discussed above, our ability to realize these benefits could be adversely affected by practical or legal constraints on our ability to combine operations. Finally, if our stock
price decreases significantly, this may result in a reassessment of our goodwill (which includes significant goodwill related to the acquisition of CNT) to determine if an impairment is necessary.

Our business is subject to risks from global operations.

We conduct significant sales and customer support operations in countries outside of the United States and also depend on non-U.S. operations of our contract manufacturers, and our distribution partners. Further, we utilize an India based
firm, HCL Technologies, to provide certain software engineering services, and our virtualization chip supplier, Aarohi Communications, is also reliant on offshore engineering. We derived approximately 38% of our revenue for the six months ended
July 31, 2006, from customers located outside of the United States. We believe that our continued growth and profitability will require us to continue to expand marketing and selling efforts internationally. We have limited experience in
marketing, distributing and supporting our products internationally and may not be able to maintain or increase international market demand for our products. In addition, our international operations are generally subject to inherent risks and
challenges that could harm our operating results, including:



| |  |  | expenses associated with developing and customizing our products for foreign countries and different languages;
| | - |  | ---------------------------------------------------------------------------------------------------------------



| |  |  | difficulties in staffing and managing international operations, including recruiting qualified personnel in foreign markets and reliance on third parties to manage certain aspects
of our foreign operations, including hub inventory locations;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | unusually high expenses and timeliness with the hiring and termination of employees in foreign countries;
| | - |  | ---------------------------------------------------------------------------------------------------------



| |  |  | multiple, conflicting and changing governmental laws and regulations, including difficulty in enforcing our legal rights in foreign jurisdictions;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | tariffs, quotas and other import or export restrictions, trade protection measures and other regulatory requirements on computer peripheral equipment;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | longer sales cycles for our products;
| | - |  | -------------------------------------



| |  |  | reduced or limited protections of intellectual property rights;
| | - |  | ---------------------------------------------------------------



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| |  |  | adverse tax consequences, including imposition of withholding or other taxes on payments by subsidiaries and customers;
| | - |  | -----------------------------------------------------------------------------------------------------------------------



| |  |  | compliance with international standards that differ from domestic standards;
| | - |  | ----------------------------------------------------------------------------



| |  |  | risks surrounding any product and software outsourcing activities in foreign countries; and
| | - |  | -------------------------------------------------------------------------------------------



| |  |  | political, social and economic instability in a specific country or region.
| | - |  | ---------------------------------------------------------------------------

Any negative effects on our international business could harm our business, operating results and financial condition as a whole. To date, a large percentage of our international revenue has been denominated in U.S.
dollars. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make our products more expensive and thus less competitive in foreign markets. A portion of our international revenue may be denominated in
foreign currencies in the future, which will subject us to risks associated with fluctuations in those foreign currencies.

Unforeseen environmental
costs could impact our future net earnings.

Some of our operations use substances regulated under various federal, state and
international laws governing the environment, including those governing the discharge of pollutants into the air and water, the management and disposal of hazardous substances and wastes and the cleanup of contaminated sites. Certain of our products
are subject to various federal, state and international laws governing chemical substances in electronic products. We could incur costs, fines and civil or criminal sanctions, loss of revenue, third-party property damage or personal injury claims if
we were to violate or become liable under environmental laws. The ultimate costs under environmental laws and the timing of these costs are difficult to predict.

The European Union has finalized the Waste Electrical and Electronic Equipment Directive, which makes producers of electrical goods financially responsible for specified collection, recycling, treatment and disposal
of past and future covered products. This directive is being enacted and implemented by individual European Union governments (such legislation together with the directive, the WEEE Legislation), and certain producers are to be financially
responsible under the WEEE Legislation beginning in August 2005. In addition, the European Parliament has enacted a requirement for the elimination or reduction of hazardous substances (RoHS). This legislation governs the recovery of such substances
as mercury, lead, cadmium, and hexavalent chromium. We are currently reviewing the applicability of WEEE and RoHS Legislation to our electronic products. Accordingly, we cannot currently estimate the extent of increased costs resulting from the WEEE
and RoHS Legislation. Similar legislation may be enacted in other geographies, including federal and state legislation in the United States, the cumulative impact of which could be significant costs.

Increased international political instability may decrease customer purchases, increase our costs and disrupt our business.

Increased international political instability as demonstrated by the September 11, 2001 terrorist attacks, disruption in air transportation and
enhanced security measures as a result of the terrorist attacks and increasing tension in the Middle East, may hinder our ability to do business and may increase our costs. Additionally, this increased instability may, for example, negatively impact
the capital markets and the reliability and cost of transportation and adversely affect our ability to obtain adequate insurance at reasonable rates or require us to incur costs for extra security precautions for our operations. In addition, to the
extent that air transportation is delayed or disrupted, the operations of our contract manufacturers and suppliers may be disrupted, particularly if shipments of components and raw materials are delayed. If this international political instability
continues or increases, our business and results of operations could be seriously harmed and we may not be able to obtain financing in the capital markets.

Risks related to internal controls.

Public companies in the United States are required to review their internal controls
under the Sarbanes-Oxley Act of 2002. It should be noted that any system of controls, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system are met. In addition, the design of
any control system is based in part upon certain assumptions about the likelihood of future events. Because of these and other inherent limitations of control systems, there can be no assurance that any design will succeed in achieving its stated
goals under all potential future conditions, regardless of how remote. The acquisition of CNT in June, 2005 added significantly to the size, complexity and geographic reach of our operations and increased the risk that our control systems will not
be adequate to prevent or detect errors in our financial statements. If the internal controls put in place by us are not adequate or in conformity with the requirements of the Sarbanes-Oxley Act of 2002, and the rules and regulations promulgated by
the Securities and Exchange Commission, we may be forced to restate our financial statements and take other actions which will take significant financial and managerial resources, as well as be subject to fines and other government enforcement
actions.



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If we are unable to adequately protect our intellectual property, we may not be able to compete effectively.

We rely on a combination of patent, copyright, trademark and trade secret laws and restrictions on disclosure to protect our
intellectual property rights. We also enter into confidentiality and/or license agreements with our employees, consultants and corporate partners. Despite our efforts to protect our proprietary rights, unauthorized parties may copy or otherwise
obtain and use our products or technology. Monitoring unauthorized use of our products is difficult and we may not be aware that someone is using our rights without our authorization. In addition, the steps we have taken, and those we may take in
the future, may not prevent unauthorized use of our technology, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States. We may be a party to intellectual property litigation in the
future, either to protect our intellectual property or as a result of alleged infringements of others intellectual property.

These
or other claims and any resulting litigation or arbitration could subject us to significant costs, liability for damages or could cause our proprietary rights to be invalidated or deemed unenforceable, which could allow third parties to use our
rights without reservation. Litigation or arbitration, regardless of the merits of the claim or outcome, would likely be time consuming and expensive to resolve and would divert management time and attention. Any potential intellectual property
litigation filed against us could also force us to do one or more of the following:



| |  |  | stop using the challenged intellectual property or selling our products or services that incorporate it;
| | - |  | --------------------------------------------------------------------------------------------------------



| |  |  | obtain a license to use the challenged intellectual property or to sell products or services that incorporate it, which license may not be available on reasonable terms, or at all;
and
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | redesign those products or services that are based on or incorporate the challenged intellectual property.
| | - |  | ----------------------------------------------------------------------------------------------------------

If we are forced to take any of these actions, we may be unable to manufacture and sell our products, our customer relationships would be seriously
harmed and our revenue would be reduced.

If we fail to optimize our distribution channels and manage our distribution relationships, our revenue or
operating results could be significantly reduced. Our competitors may sell their products directly to end-user customers.

Our success
will depend on our continuing ability to develop and manage relationships with significant OEMs, resellers and systems integrators, as well as on the sales efforts and success of these customers. We cannot provide assurance that we will be able to
expand our distribution channels or manage our distribution relationships successfully or that our customers will market our products effectively. Our failure to expand our distribution channels or manage successfully our distribution relationships
or the failure of our OEM and reseller customers to sell our products could reduce our revenue and operating results.

We are dependent on a single or
limited number of suppliers for certain key components of our products, and the failure of any of those suppliers to meet our production needs could seriously harm our ability to manufacture our products, result in delays in the delivery of our
products and harm our revenue.

We currently purchase several key components from single or limited sources including IBM, LSI Logic and
eSilicon. We purchase application specific integrated circuits (ASICs), special purpose processors and power supplies from single sources, and gigabit interface converters and optic transceivers from limited sources. Additional sole or limited
sourced components may be incorporated into our products in the future. Delays in the delivery of components for our products could result in delays or the inability to meet our customers demands and result in decreased revenue. We do not have
any long-term supply contracts to ensure sources of supply of components. In addition, our suppliers may enter into exclusive arrangements with our competitors, stop selling their products or components to us at commercially reasonable prices or
refuse to sell their products or components to us at any price, which could harm our operating results. Further, we have purchased components from our suppliers from time to time that have been subsequently found not to meet the suppliers
published specifications. If our suppliers are unable to provide (or we are unable otherwise to obtain) components for our products on the schedule and in the quantities and quality we require, we will be unable to manufacture our products. We have
experienced and may continue to experience production delays and quality control problems with certain of our suppliers, which, if not effectively managed, could prevent us from satisfying our production requirements. If we fail to effectively
manage our relationships with these key suppliers, or if our suppliers experience delays, disruptions, capacity constraints or quality control problems in their manufacturing operations, our ability to manufacture and ship products to our customers
could be delayed, and our competitive position, reputation, business, financial condition and results of operations could be seriously harmed.



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The loss of our contract manufacturers, or the failure to forecast demand accurately for our products or to manage our
relationship with our contract manufacturers successfully, would negatively impact our ability to manufacture and sell our products.

We
rely on Sanmina SCI, Inc. (SSCI) and Solectron Corporation, together our contract manufacturers, to manufacture our products. Our contract manufacturers are not obligated to supply products to us for any specific period, or in any specific quantity,
except as may be provided in a particular purchase order. In addition, our contract manufacturers do not guarantee that adequate capacity will be available to us within the time required to meet additional demand for our products. We generally place
forecasts for products with our contract manufacturers approximately four to five months prior to the anticipated delivery date, with order volumes based on forecasts of demand for our products. We generally place purchase orders sixty calendar days
in advance of delivery. If we fail to forecast demand for our products accurately, we may be unable to obtain adequate manufacturing capacity from our contract manufacturers to meet our customers delivery requirements or unexpected increases
in customer purchase orders. As a result, we may not be able to benefit from any incremental demand and could lose customers. If we over-estimate demand for our product, we may accumulate excess inventories and obligations to our contract
manufacturers under binding purchase orders in excess of our needs. At July 31, 2006, the Companys commitment with our Contract Manufacturers for purchases over the next 60 days totaled $55.0 million, and $32.0 million for commitments
beyond 60 days.

In addition, we coordinate our efforts with those of our component suppliers and contract manufacturers in order to
rapidly achieve volume production. We have experienced and may continue to experience production delays and quality control problems with certain of our suppliers and with our contract manufacturers, which, if not effectively managed, could prevent
us from satisfying our production requirements on a timely basis and could harm our customer relationships. If we should fail to manage effectively our relationships with our component suppliers or contract manufacturers, or if any of our suppliers
or our manufacturers experience delays, disruptions, capacity constraints or quality control problems in their manufacturing operations, our ability to ship products to our customers could be delayed, and our competitive position and reputation
could be harmed. Qualifying a new contract manufacturer and commencing volume production can be expensive and time consuming. If we are required to change or choose to change contract manufacturers, we may lose significant revenue and seriously
damage our customer relationships.

Failure to manage expansion effectively could seriously harm our business, financial condition and prospects.

Our ability to successfully implement our business plan, develop and offer products, and manage expansion in a rapidly evolving market
requires a comprehensive and effective planning and management process. We continue to increase the scope of our operations domestically and internationally. In addition, in September 2003, we acquired Sanera and Nishan and in June 2005, we acquired
CNT, which significantly increased the size of our operations. Our growth in business and relationships with customers and other third parties has placed, and will continue to place, a significant strain on management systems, resources,
intercompany communication and coordination. As we grow, our failure to maintain and to continue to improve upon our operational, managerial and financial controls, reporting systems, processes and procedures, and/or our failure to continue to
expand, train, and manage our work force worldwide, could seriously harm our business and financial results.

If we fail to successfully develop the
McDATA brand, our revenue may not grow.

Our name is not widely recognized as a brand in the marketplace given our historical indirect
sales model. We believe that establishing and maintaining the McDATA brand is a critical component in maintaining and developing strategic OEM, reseller and systems integrator relationships, and the importance of brand recognition will increase as
the number of vendors of competitive products increases. Our failure to successfully develop our brand may prevent us from expanding our business and growing our revenue. Similarly, if we incur excessive expenses in an attempt to promote and
maintain the McDATA brand, our business, financial condition and results of operations could be seriously harmed.

Undetected software or hardware
defects in our products could result in loss of or delay in market acceptance of our products and could increase our costs or reduce our revenue.

Our products may contain undetected software or hardware errors when first introduced or when new versions are released. Our products are complex, and we have from time to time detected errors in existing products. In
addition, our products are combined with products from other vendors. As a result, should problems occur, it might be difficult to identify the source of the problem. These errors could result in a loss of or delay in market acceptance of our
products, cause delays in delivering our products or meeting customer demands and would increase our costs, reduce our revenue and cause significant customer relations problems. Errors could also result in the need for us to upgrade existing
products at customer locations, which would increase our costs or cause significant customer relations problems.



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We are defendants in class action lawsuits and we may be subject to further litigation in the future which could
seriously harm our business.

As more fully set forth our Consolidated Financial Statements, we are a defendant in several class action
lawsuits. We may become subject to additional class action litigation following a period of volatility in the market price of our common stock. Securities class action litigation results in substantial costs and diverts the attention of management
and our resources and seriously harms our business, financial condition and results of operations. In addition, and as a result of the CNT acquisition, CNT and its subsidiaries are involved in various lawsuits that we are now defending against.
Defense costs, an adverse judgment or even a significant settlement of these lawsuits may adversely affect our financial results in any given fiscal quarter.

We have an uneven sales pattern.

Our quarterly operating results may vary due to the following factors:



| |  |  | the size, timing, terms and fluctuations of customer orders, which are often grouped toward the end of a calendar quarter, particularly large orders from EMC, IBM or HDS;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | pricing discussions late in a quarter and a limited capability to ramp shipments near the end of that quarter;
| | - |  | --------------------------------------------------------------------------------------------------------------



| |  |  | sales mix among our storage network products and services;
| | - |  | ----------------------------------------------------------



| |  |  | fluctuations in our direct sales to customers;
| | - |  | ----------------------------------------------



| |  |  | our ability to attain and maintain market acceptance of our existing product and new products;
| | - |  | ----------------------------------------------------------------------------------------------



| |  |  | seasonal fluctuations in customer buying patterns;
| | - |  | --------------------------------------------------



| |  |  | the timing of the introduction of, or enhancement to, products by us, our significant OEM or reseller customers or our competitors (e.g., transition to higher speed, higher port
density and multi-protocol products);
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our ability to obtain sufficient supplies of third party products or single- or limited-source components for our own products; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------



| |  |  | increased operating expenses, particularly in connection with our strategies to increase customer touch and purchase preference for our products or to invest in research and
development.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Our uneven sales pattern makes it difficult for our management to predict near-term demand and adjust
manufacturing capacity. Further, our OEM and reseller partners may purchase certain of our products ahead of end-user customer demand, which could reduce subsequent purchases by those partners. Accordingly, if orders for our products vary
substantially from the predicted demand, our ability to assemble, test and ship orders received in the last weeks and days of each quarter may be limited, which could seriously harm quarterly revenue or earnings. Moreover, an unexpected decline in
revenue without a corresponding and timely reduction in expenses could intensify the impact of these factors on our business, financial condition and results of operations.

The sales cycle for our products is long, and we may incur substantial non-recoverable expenses and devote significant resources to prospects that do not produce revenues in the foreseeable future or at all.

Our OEMs, reseller and systems integrator customers typically conduct significant evaluation, testing, implementation and quality
acceptance procedures before they begin to market and sell new solutions that include our products. This evaluation process is lengthy and may extend up to one year or more. This process is complex and may require significant sales, marketing and
management efforts on our part. This process becomes more complex as we simultaneously qualify our products with multiple customers. As a result, we may expend significant resources to develop customer relationships before we recognize revenue, if
any, from these relationships. Products that are not qualified by storage and system OEMs and resellers may not gain market acceptance. Our OEM and reseller customers have multiple sources for products similar to ours, and as such, may not qualify
our products for any number of reasons.

We may engage in future acquisitions that dilute our stockholders ownership and cause us to use cash, incur
debt or assume contingent liabilities.

As part of our strategy, from time to time we expect to review opportunities to buy other
businesses or technologies that would complement our current products, expand the breadth of our markets or enhance our technical capabilities, or that may otherwise offer growth opportunities. We may buy businesses, products or technologies in the
future. In the event of any future purchases, we could:



| |  |  | issue stock that would dilute our current stockholders percentage ownership;
| | - |  | -----------------------------------------------------------------------------



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| |  |  | use cash, which may result in a reduction of our liquidity;
| | - |  | -----------------------------------------------------------



| |  |  | incur debt; or
| | - |  | --------------



| |  |  | assume liabilities.
| | - |  | -------------------

These purchases also involve
numerous risks, including:



| |  |  | problems combining and integrating the purchased operations, technologies, personnel or products;
| | - |  | -------------------------------------------------------------------------------------------------



| |  |  | unanticipated costs;
| | - |  | --------------------



| |  |  | diversion of managements attention from our core business;
| | - |  | -----------------------------------------------------------



| |  |  | adverse effects on existing business relationships with suppliers and customers;
| | - |  | --------------------------------------------------------------------------------



| |  |  | risks associated with entering markets in which we have no or limited prior experience; and
| | - |  | -------------------------------------------------------------------------------------------



| |  |  | potential loss of key employees of acquired organizations.
| | - |  | ----------------------------------------------------------

We may not be able to successfully integrate any businesses, products, technologies or personnel that we might acquire in the future. In addition, technology acquisitions of start-up companies could result in one-time charges related to
acquisition costs, severance costs, employee retention costs and in-process research and development.

We may require, or could elect, to seek
additional funding.

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 expansion of sales and marketing, the timing of new product introductions and enhancements to existing products, any acquisitions of businesses, and market acceptance of our products.
With changes in operating and industry expectations, we could require, or could elect, to seek additional funding including accessing the equity and debt markets. Moreover, we may have difficulty obtaining additional financing and our ability to
obtain financing will be dependent on our operating performance.

McDATA has guaranteed the payment of principal and interest on
approximately $124.4 million principal amount of CNTs 3.00 % convertible subordinated notes due 2007. In addition, McDATA has $172.5 million principal amount of outstanding 2.25% subordinated convertible notes due 2010. Unless
the price of our common stock increases significantly so that the holders of the convertible notes find it economically advantageous to exercise the conversion feature and receive common stock in lieu of a cash payment of the principal amount and
any accrued interest, we may have to repay the debt in cash. At present, we have sufficient resources to satisfy these obligations as they mature. However, in the future, we may lack the resources to satisfy these obligations as they mature, and
there can be no assurance that we will possess the resources or be able to secure the resources to satisfy these obligations on commercially reasonable terms, if at all. Any failure by us to satisfy these obligations when due would have a material
adverse effect on our business.

If we become subject to unfair hiring claims, we could incur substantial costs in defending ourselves.

Companies in our industry whose employees accept positions with competitors frequently claim that their competitors have engaged in unfair hiring
practices or that employees have misappropriated confidential information or trade secrets. Because we often seek to hire individuals with relevant experience in our industry, we may be subject to claims of this kind or other claims relating to our
employees in the future. We could incur substantial costs in defending ourselves or our employees against such claims, regardless of their merits. In addition, defending ourselves or our employees from such claims could divert the attention of our
management away from our operations.

Our products must comply with governmental regulation.

In the United States, our products comply with various regulations and standards defined by the Federal Communications Commission and Underwriters
Laboratories. Internationally, products that we develop will be required to comply with standards established by authorities in various countries. In the last several years, the European Union (EU) has adopted a number of initiatives (WEEE, RoHS,
etc.) related to equipment emissions, electronic waste, privacy of information and expanded consumer warranties. Failure to comply with existing or evolving industry standards or to obtain timely domestic or foreign regulatory approvals or
certificates could seriously harm our business.



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Providing telecommunications services to our customers subjects us to new risks.

Our provision of telecommunications and bandwidth to our customers subjects us to various risks. First, telecommunications networks and circuits can fail
which would make it difficult for us to attract and retain clients. In addition, we may experience difficulty in obtaining or developing circuits to provide to our clients. The telecommunications industry is heavily regulated by state and federal
governments, and changes in these regulations could make it difficult for us to compete. In addition, the regulatory framework under which we operate and new regulatory requirements or new interpretations of existing regulatory requirements could
require substantial time and resources for compliance, which could make it difficult for us to operate our business. Such regulation could also impede our ability to enter into change-of-control transactions.

Provisions in our charter documents, our rights agreement and Delaware law could prevent or delay a change in control of McDATA and may reduce the market price of our
common stock.

Provisions of our certificate of incorporation, by-laws and rights agreement may discourage, delay or prevent a merger,
acquisition or other business combination that a stockholder may consider favorable. These provisions include:



| |  |  | authorizing the issuance of preferred stock without stockholder approval;
| | - |  | -------------------------------------------------------------------------



| |  |  | providing for a classified board of directors with staggered three year terms;
| | - |  | ------------------------------------------------------------------------------



| |  |  | limiting the persons who may call special meetings of stockholders;
| | - |  | -------------------------------------------------------------------



| |  |  | requiring super-majority voting for stockholder action by written consent;
| | - |  | --------------------------------------------------------------------------



| |  |  | establishing advance notice requirements for nominations for election to the board of directors and for proposing other matters that can be acted on by stockholders at stockholder
meetings;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | prohibiting cumulative voting for the election of directors;
| | - |  | ------------------------------------------------------------



| |  |  | requiring super-majority voting to effect certain amendments to our certificate of incorporation and by-laws; and
| | - |  | -----------------------------------------------------------------------------------------------------------------



| |  |  | requiring parties to request board approval prior to acquiring 15% or more of the voting power of our common stock to avoid economic and voting dilution of their stock holdings.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

We are incorporated in Delaware and certain provisions of Delaware law may also discourage, delay or prevent someone from
acquiring or merging with us, which may cause the market price of our common stock to decline.

Our stock price is volatile.

The market price of our common stock has been volatile. Because we are a technology company, the market price of our common stock is usually subject to
similar volatility and fluctuations that occur in our sector and to our competitors. This volatility is often unrelated or disproportionate to the operating performance of our company and, as a result, the price of our common stock could fall
regardless of our performance.

Risks Related to Our Relationship With EMC

We have entered into agreements with EMC that, due to our prior parent-subsidiary relationship, may contain terms less beneficial to us than if they had been negotiated with unaffiliated third parties.

In October 1997, and in connection with the reorganization of our business, we entered into certain agreements with EMC relating to our
business relationship with EMC. In addition, we have entered into agreements with EMC relating to our relationship with EMC after the completion of our initial public offering in August 2000 and the distribution by EMC of our Class A common
stock in February 2001. We have also entered into an OEM Purchase and License Agreement with EMC that governs EMCs purchases of our products and grants EMC rights to use, support and distribute software for use in connection with these
products. The agreement does not provide for the purchase of a guaranteed minimum amount of product. These agreements were negotiated and made in the context of our prior parent-subsidiary relationship. As a result, some of these agreements may have
terms and conditions, including the terms of pricing, that are less beneficial to us than agreements negotiated with unaffiliated third parties. Sales and services revenue pursuant to these agreements with EMC represented approximately 27% of our
revenue for the three months ended July 31, 2006. In addition, in some instances, our ability to terminate these agreements is limited, which may prevent us from being able to negotiate more favorable terms with EMC or from entering into
similar agreements with third parties.



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Provisions of our agreements with EMC relating to our relationship with EMC after the distribution of our Class A
common stock to EMCs stockholders may prevent a change in control of our company.

Under the terms of the May 2000 Master
Confidential Disclosure and License Agreement between EMC and us, EMC has granted us a license to then existing EMC patents and we granted to EMC a license to then existing McDATA patents. If we are acquired, our acquirer will retain this license as
long as our acquirer grants to EMC a license under all of the acquirers patents for all products licensed under the agreement under the same terms as the license we have granted to EMC under the agreement. The potential loss of the license
from EMC under this agreement could decrease our attractiveness as an acquisition target.

We may be significantly harmed if we do not complete the
pending merger with Brocade

We may suffer adverse consequences if we do not complete the pending merger with Brocade. We may experience
difficulty in retaining key employees if the merger is not promptly consummated. In addition, we may experience reduced customer acceptance of our products if the merger is not promptly consummated. Consummation of the merger is subject to
significant conditions which have not yet been fulfilled.



|ITEM 4. | Submission of Matters to A Vote of Security Holders
|------- | ---------------------------------------------------

The annual meeting of the Companys stockholders was held on July 24, 2006. At that meeting, four proposals were submitted to a vote of the Companys stockholders. Proposal 1 was a proposal to elect four directors, Laurence
G. Walker, Charles C. Johnston, M. Alex Mendez and Dr. Renato A. DiPentima to serve until the 2009 Annual Meeting of Stockholders. Proposal 2 was a proposal to ratify the appointment of Deloitte & Touche LLP as the Companys
independent public accountants for the fiscal year ending January 31, 2007. Proposal 3 was a proposal to approve the 2006 McDATA Omnibus Equity Incentive Plan. Proposal 4 was a proposal to approve the amendment and restatement of the 2004
Inducement Equity Grant Plan. For further information regarding the annual meeting, please see the Companys Proxy Statement on Schedule 14A filed with the SEC.



|                                                                        |  |                 |  |                 |  |                  |  |    
|----------------------------------------------------------------------- |  | --------------- |  | --------------- |  | ---------------- |  | ---
|                                                                        |  | Number of Votes |  | BrokerNon-Votes
|Proposal                                                                |  | For             |  | Against         |  | Abstain/Withhold | 
|Proposal 1 - Election of director: Laurence G. Walker                   |  | 104,857,616     |  |                |  | 9,114,823        |  | N/A
|Proposal 1 - Election of director: Charles C. Johnston                  |  | 109,919,752     |  |                |  | 4,052,687        |  | N/A
|Proposal 1 - Election of director: M.Alex Mendez                        |  | 109,944,961     |  |                |  | 4,027,478        |  | N/A
|Proposal 1 - Election of director: Renato A. DiPentima                  |  | 105,541,610     |  |                |  | 8,430,829        |  | N/A
|Proposal 2 - Ratification of Deloitte & Touche LLP appointment          |  | 113,340,263     |  | 496,452         |  | 135,719          |  | N/A
|Proposal 3 - Approval of 2006 Omnibus Equity Incentive Plan             |  | 65,995,143      |  | 14,254,826      |  | 216,875          |  | N/A
|Proposal 4 - Approval of amendment of 2004 Inducement Equity Grant Plan |  | 67,197,930      |  | 13,025,609      |  | 243,303          |  | N/A

Consequently, all proposals were approved by stockholders. Broker non-votes are not counted as
votes cast or affect the outcome of Proposal 3 or Proposal 4.



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ITEMS 2, 3, and 5 are not applicable and have been omitted.



|ITEM 6. | Exhibits
|------- | --------



|(a) | Exhibits filed for the Company through the filing of this Form 10-Q.
|--- | --------------------------------------------------------------------



|     |  |                                                                     
|---- |  | --------------------------------------------------------------------
|31.1 |  | Certification of Chief Executive Officer                            
|     | 
|31.2 |  | Certification of Chief Financial Officer                            
|     | 
|32   |  | Certification of Chief Executive Officer and Chief Financial Officer



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SIGNATURE

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



McDATA CORPORATIONBy:

/s/ SCOTT BERMANScott Berman Executive Vice President of Finance and Chief Financial OfficerBy:

/s/ MICHAEL MORENOMichael Moreno Controller Chief Accounting Officer


September 11, 2006



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