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SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

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FORM 10-Q

(Mark One)

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

For the quarterly period ended June 30, 2001
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(State or other jurisdiction of incorporation of organization)

84-1421844(I.R.S. Employer Identification No.)380 Interlocken Crescent, Broomfield, Colorado

80021(Address of principal executive offices)

(zip code)


(303) 460-9200(Registrant's telephone number, including area code)

310 Interlocken Parkway, Broomfield, Colorado 80021(Former name, former address and former fiscal year, if changed since last report)

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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 / /

At
July 31, 81,000,000 shares of the registrant's Class A Common Stock were outstanding and 30,540,759 shares of the registrant's Class B Common Stock were
outstanding.

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McDATA CORPORATION

FORM
10-Q
QUARTER ENDED JUNE 30, 2001

TABLE
OF CONTENTS

|Item                         |  |                                                                                       |                                                                                                                   |    | Page
|---------------------------- |  | ------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------------------- | -- | ----
|PART 1FINANCIAL INFORMATION |  |                                                                                      
|1.                           |  | Financial Statements                                                                  |                                                                                                                   |   
|                             |  |                                                                                       | Consolidated Balance SheetsJune 30, 2001 (unaudited) and December 31, 2000                                       |    | 1   
|                             |  |                                                                                       | Consolidated Income StatementsThree and Six Months ended June 30, 2001 (unaudited) and June 30, 2000 (unaudited) |    | 2   
|                             |  |                                                                                       | Consolidated Statements of Cash FlowsSix Months ended June 30, 2001 (unaudited) and June 30, 2000 (unaudited)    |    | 3   
|                             |  |                                                                                       | Notes to Consolidated Financial Statements (unaudited)                                                            |    | 4   
|2.                           |  | Management's Discussion and Analysis of Financial Condition and Results of Operations |                                                                                                                   | 9 
|3.                           |  | Quantitative and Qualitative Disclosures About Market Risks                           |                                                                                                                   | 21
|PART IIOTHER INFORMATION    |  |                                                                                      
|1.                           |  | Legal Proceedings                                                                     |                                                                                                                   | 22
|2.                           |  | Changes in Securities and Use of Proceeds                                             |                                                                                                                   | 22
|3.                           |  | Defaults Upon Senior Securities                                                       |                                                                                                                   | 22
|4.                           |  | Submission of Matters to A Vote of Security Holders                                   |                                                                                                                   | 22
|5.                           |  | Other Information                                                                     |                                                                                                                   | 22
|6.                           |  | Exhibits and Reports on Form 8-K                                                      |                                                                                                                   | 23

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Special Note Regarding Forward-Looking Statements

Some of the information presented in this Quarterly Report 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:



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        CONSOLIDATED BALANCE SHEETS        (in thousands, except share data)

|                                                                                                                                                                                                |                                           | June 30,
2001                              |         | December 31,
2000 |        
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------------------------------------- | ------------------------------------------ | ------- | ----------------- | -------
|
|Assets                                                                                                                                                                                          |                                           |                                            |         |                   |        
|Current assets:                                                                                                                                                                                 |                                           |                                            |         |                   |        
|                                                                                                                                                                                                | Cash and cash equivalents                 |                                            | $       | 100,929           |        
|                                                                                                                                                                                                | Short-term investments                    |                                            |         | 177,157           |        
|                                                                                                                                                                                                | Accounts receivable, net                  |                                            |         | 75,381            |        
|                                                                                                                                                                                                | Inventories, net                          |                                            |         | 45,700            |        
|                                                                                                                                                                                                | Deferred tax asset                        |                                            |         | 12,097            |        
|                                                                                                                                                                                                | Prepaid expenses and other current assets |                                            |         | 5,035             |        
|                                                                                                                                                                                                |                                           |                                            |         |                   |        
|Total current assets                                                                                                                                                                            |                                           |                                            | 416,299 |                   |        
|Property and equipment, net                                                                                                                                                                     |                                           |                                            | 36,220  |                   |        
|Long-term investments                                                                                                                                                                           |                                           |                                            | 52,226  |                   |        
|Restricted investments                                                                                                                                                                          |                                           |                                            | 25,200  |                   |        
|Other assets, net                                                                                                                                                                               |                                           |                                            | 1,867   |                   |        
|                                                                                                                                                                                                |                                           |                                            |         |                   |        
|                                                                                                                                                                                                |                                           | Total assets                               |         | $                 | 531,812
|                                                                                                                                                                                                |                                           |                                            |         |                   |        
|Liabilities and Stockholders' Equity                                                                                                                                                            |                                           |                                            |         |                   |        
|Current liabilities:                                                                                                                                                                            |                                           |                                            |         |                   |        
|                                                                                                                                                                                                | Accounts payable                          |                                            | $       | 23,718            |        
|                                                                                                                                                                                                | Accrued liabilities                       |                                            |         | 10,362            |        
|                                                                                                                                                                                                | Deferred revenue                          |                                            |         | 9,653             |        
|                                                                                                                                                                                                | Income taxes payable                      |                                            |         | 8,246             |        
|                                                                                                                                                                                                | Obligations under capital leases          |                                            |         | 2,401             |        
|                                                                                                                                                                                                |                                           |                                            |         |                   |        
|Total current liabilities                                                                                                                                                                       |                                           |                                            | 54,380  |                   |        
|Obligations under capital leases                                                                                                                                                                |                                           |                                            | 1,557   |                   |        
|                                                                                                                                                                                                |                                           |                                            |         |                   |        
|                                                                                                                                                                                                |                                           | Total liabilities                          |         |                   | 55,937 
|Commitments and Contingencies(Notes 7, 8 and 9)                                                                                                                                                 |                                           |                                            |         |                   |        
|Stockholders' Equity:                                                                                                                                                                           |                                           |                                            |         |                   |        
|Preferred stock, $0.01 par value, 25,000,000 shares authorized, no shares issued or outstanding                                                                                                 |                                           |                                            |        |                   |        
|Common stock, Class A, $0.01 par value, 250,000,000 shares authorized, 81,000,000 shares issued and outstanding                                                                                 |                                           |                                            | 810     |                   |        
|Common stock, Class B, $0.01 par value, 200,000,000 shares authorized, 30,484,459 and 28,907,689 shares issued and outstanding at June 30, 2001 (unaudited) and December 31, 2000, respectively |                                           |                                            | 305     |                   |        
|Additional paid-in-capital                                                                                                                                                                      |                                           |                                            | 460,175 |                   |        
|Deferred compensation                                                                                                                                                                           |                                           |                                            | (20,179 | )                 |        
|Accumulated other comprehensive income                                                                                                                                                          |                                           |                                            | 413     |                   |        
|Retained earnings                                                                                                                                                                               |                                           |                                            | 34,351  |                   |        
|                                                                                                                                                                                                |                                           |                                            |         |                   |        
|Total stockholders' equity                                                                                                                                                                      |                                           |                                            | 475,875 |                   |        
|                                                                                                                                                                                                |                                           |                                            |         |                   |        
|                                                                                                                                                                                                |                                           | Total liabilities and stockholders' equity |         | $                 | 531,812
|                                                                                                                                                                                                |                                           |                                            |         |                   |        

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

1

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McDATA CORPORATION        CONSOLIDATED INCOME STATEMENTS        (in thousands, except per share data)        (unaudited)

|                                                                                                                                                               |                    | Three Months Ended
June 30, |         | Six Months Ended
June 30, |  
|-------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------ | --------------------------- | ------- | ------------------------- | -
|
|Revenue                                                                                                                                                        |                    | $                           | 81,289  |                           | $
|Cost of revenue                                                                                                                                                |                    |                             | 47,194  |                           |  
|                                                                                                                                                               |                    |                             |         |                           |  
|                                                                                                                                                               | Gross profit       |                             |         | 34,095                    |  
|Operating expenses:                                                                                                                                            |                    |                             |         |                           |  
|Research and development                                                                                                                                       |                    |                             | 11,359  |                           |  
|Selling and marketing                                                                                                                                          |                    |                             | 15,499  |                           |  
|General and administrative                                                                                                                                     |                    |                             | 3,923   |                           |  
|Amortization of deferred compensation (excludes amortization of deferred compensation included in cost of revenue of $496, $496, $992, and $936, respectively) |                    |                             | 1,659   |                           |  
|                                                                                                                                                               |                    |                             |         |                           |  
|                                                                                                                                                               | Operating expenses |                             |         | 32,440                    |  
|                                                                                                                                                               |                    |                             |         |                           |  
|Income from operations                                                                                                                                         |                    |                             | 1,655   |                           |  
|Interest income                                                                                                                                                |                    |                             | 3,779   |                           |  
|Interest expense                                                                                                                                               |                    |                             | (83     | )                         |  
|                                                                                                                                                               |                    |                             |         |                           |  
|Income before income taxes                                                                                                                                     |                    |                             | 5,351   |                           |  
|Income tax expense                                                                                                                                             |                    |                             | 1,980   |                           |  
|                                                                                                                                                               |                    |                             |         |                           |  
|Net income                                                                                                                                                     |                    | $                           | 3,371   |                           | $
|                                                                                                                                                               |                    |                             |         |                           |  
|Basic net income per share                                                                                                                                     |                    | $                           | 0.03    |                           | $
|                                                                                                                                                               |                    |                             |         |                           |  
|Shares used in computing basic net income per share                                                                                                            |                    |                             | 111,331 |                           |  
|                                                                                                                                                               |                    |                             |         |                           |  
|Diluted net income per share                                                                                                                                   |                    | $                           | 0.03    |                           | $
|                                                                                                                                                               |                    |                             |         |                           |  
|Shares used in computing diluted net income per share                                                                                                          |                    |                             | 117,198 |                           |  
|                                                                                                                                                               |                    |                             |         |                           |  

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

2

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

|                                                                            |                                          | Six Months Ended June 30,                 |         
|--------------------------------------------------------------------------- | ---------------------------------------- | ----------------------------------------- | --------
|
|Cash flows from operating activities:                                       |                                          |                                           |         
|Net income                                                                  |                                          | $                                         | 10,913  
|Adjustments to reconcile net income to cash flows from operating activities |                                          |                                           |         
|                                                                            | Depreciation and amortization            |                                           |         
|                                                                            | Inventory provisions                     |                                           |         
|                                                                            | Non-cash compensation expense            |                                           |         
|                                                                            | Tax benefit from stock options exercised |                                           |         
|                                                                            | Changes in net assets and liabilities:   |                                           |         
|                                                                            |                                          | Accounts receivable                       |         
|                                                                            |                                          | Inventories                               |         
|                                                                            |                                          | Deferred tax asset                        |         
|                                                                            |                                          | Prepaid expenses and other current assets |         
|                                                                            |                                          | Other assets, net                         |         
|                                                                            |                                          | Accounts payable                          |         
|                                                                            |                                          | Accrued liabilities                       |         
|                                                                            |                                          | Deferred revenue                          |         
|                                                                            |                                          | Accrued income taxes                      |         
|                                                                            |                                          | Deferred tax liability                    |         
|                                                                            |                                          |                                           |         
|Net cash provided (used) by operating activities                            |                                          |                                           | (21,770 
|Cash flows from investing activities:                                       |                                          |                                           |         
|Purchases of property and equipment                                         |                                          |                                           | (12,705 
|Purchases of investments                                                    |                                          |                                           | (324,394
|Proceeds from disposition of investments                                    |                                          |                                           | 283,608 
|                                                                            |                                          |                                           |         
|Net cash used in investing activities                                       |                                          |                                           | (53,491 
|Cash flows from financing activities:                                       |                                          |                                           |         
|Payment of obligations under capital leases                                 |                                          |                                           | (1,511  
|Proceeds from the exercise of stock options                                 |                                          |                                           | 3,071   
|                                                                            |                                          |                                           |         
|Net cash provided (used) by financing activities                            |                                          |                                           | 1,560   
|                                                                            |                                          |                                           |         
|Net decrease in cash and cash equivalents                                   |                                          |                                           | (73,701 
|Cash and cash equivalents, beginning of period                              |                                          |                                           | 174,630 
|                                                                            |                                          |                                           |         
|Cash and cash equivalents, end of period                                    |                                          | $                                         | 100,929 
|                                                                            |                                          |                                           |         
|Supplemental Disclosure of Non-Cash Investing and Financing Activities      |                                          |                                           |         
|Capital lease obligations incurred                                          |                                          | $                                         | 1,399   
|                                                                            |                                          |                                           |         
|Transfer of inventory to fixed assets                                       |                                          | $                                         | 2,588   
|                                                                            |                                          |                                           |         

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

3

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McDATA CORPORATION        NOTES TO CONSOLIDATED FINANCIAL STATEMENTS        (unaudited)

Note 1Background and Basis of Presentation

McDATA Corporation ("McDATA" or "the Company") designs, develops, manufactures and sells Fibre Channel switching devices that enable enterprise-wide high
performance storage area networks. The Company sells its products through original equipment manufacturers ("OEM") and resellers, including EMC Corporation ("EMC"), Hewlett-Packard, Co., Hitachi Data
Systems Corp., and IBM, as well as systems integrators. The Company also provides services for EMC's proprietary mainframe protocol (ESCON) switch business under a service agreement with EMC.

As
of December 31, 2000, EMC owned 81 million shares of the Company's Class A common stock, or approximately 74% of the outstanding common stock of the Company.
Each share of the Company's Class A common stock entitles its holder to one vote, and each share of the Company's Class B common stock entitles its holder to one-tenth (1/10) of one vote
per share. Therefore, EMC's ownership of the Class A common stock as of December 31, 2000 represented approximately 97% of the combined voting power of the Company's Class A and B
common stock.

On
February 7, 2001, EMC distributed its shares in McDATA Class A common stock to EMC's shareholders of record as of January 24, 2001. EMC has received a ruling
from the Internal Revenue Service that the distribution to EMC stockholders will be tax free for U.S. federal income tax purposes. The Company currently believes that the distribution of its
Class A common stock by EMC was tax-free. The Class A common stock now trades on the NASDAQ National Market under the symbol "MCDTA". As a result of this distribution, EMC no longer has
any ownership or voting power in McDATA and, therefore, is no longer considered a related party.

The
accompanying consolidated financial statements of McDATA and its subsidiaries have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission
(the "Commission"). Certain information and footnote disclosures normally included in the Company's annual consolidated financial statements have been condensed or omitted. The consolidated balance
sheet as of December 31, 2000 has been derived from the audited financial statements as of that date, but does not include all disclosures required by generally accepted accounting principles. For
further information, please refer to and read these interim consolidated financial statements in conjunction with the Company's audited financial statements for the year ended December 31,
2000.

Certain
amounts in the Consolidated Balance Sheet as of December 31, 2000 and certain amounts in the Consolidated Income Statements for the six months ended
June 30, 2000 have been reclassified in order to conform to the current presentation.

The
interim consolidated financial statements, in the opinion of management, reflect all adjustments (consisting only of normal recurring adjustments) necessary for a fair
presentation of the financial position, results of operations and cash flows of the Company for the periods presented. The results of operations for the interim periods are not necessarily indicative
of the results of operations to be expected for the entire fiscal year or future periods.

Recent Accounting Pronouncements

In July 2001, the Financial Accounting Standards Board issued SFAS No. 141, "Business Combinations" and SFAS No. 142, "Goodwill and Other
Intangible Assets." SFAS No. 141 is effective immediately and SFAS 142 will be effective January 2002. The new standards are not expected to have a significant impact on our financial
statements.

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Note 2Net Income per Share

Calculation of net income per share (in thousands, except per share information):

|                                                                                                 |  | Three Months Ended
June 30, |         | Six Months Ended
June 30,
|------------------------------------------------------------------------------------------------ |  | --------------------------- | ------- | -------------------------
|
|Net income                                                                                       |  | $                           | 3,371   |                          
|Weighted average shares of common stock outstanding used in computing basic net income per share |  |                             | 111,331 |                          
|Effect of dilutive stock options                                                                 |  |                             | 5,867   |                          
|                                                                                                 |  |                             |         |                          
|Weighted average shares of common stock used in computing diluted net income per share           |  |                             | 117,198 |                          
|                                                                                                 |  |                             |         |                          
|Basic net income per share                                                                       |  | $                           | 0.03    |                          
|                                                                                                 |  |                             |         |                          
|Diluted net income per share                                                                     |  | $                           | 0.03    |                          
|                                                                                                 |  |                             |         |                          

Potentially
dilutive securities totaling 578,205 were excluded from the June 30, 2001 diluted income per common share calculations because of their anti-dilutive effect.

Note 3Restricted Investments

On February 9, 2001 (and amended on May 18, 2001), the Company entered into a lease for an approximately 167,000 square foot multi-story office
and engineering building to be constructed on a 106 acre parcel of land located in Broomfield, Colorado (see note 8). As part of the lease, the Company has agreed to restrict a portion of its
investment securities as collateral for specified obligations under the lease. As of June 30, 2001, the Company had restricted investments totaling $25,200,000.

Note 4Comprehensive Income

Comprehensive income consisted of the following (in thousands):

|                                           |  | Three Months Ended
June 30, |       | Six Months Ended
June 30,
|------------------------------------------ |  | --------------------------- | ----- | -------------------------
|
|Net income                                 |  | $                           | 3,371 |                          
|Unrealized gain on investments, net of tax |  |                             | 150   |                          
|                                           |  |                             |       |                          
|Comprehensive income                       |  | $                           | 3,521 |                          
|                                           |  |                             |       |                          

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Note 5Inventories

The components of inventory were as follows (in thousands):

|                 |                           | June 30,
2001 |        | December 31,
2000 |  
|---------------- | ------------------------- | ------------- | ------ | ----------------- | -
|Raw materials    |                           | $             | 36,144 |                   | $
|Work-in-progress |                           |               | 4,067  |                   |  
|Finished goods   |                           |               | 10,909 |                   |  
|                 |                           |               |        |                   |  
|                 | Total inventories at cost |               |        | 51,120            |  
|Less reserves    |                           |               | (5,420 | )                 |  
|                 |                           |               |        |                   |  
|                 | Total inventories, net    |               | $      | 45,700            |  
|                 |                           |               |        |                   |  

Note 6Stockholders' Equity

On May 18, 2001, the Company's Board of Directors approved a Stockholder Rights Plan, which became effective on June 5, 2001. A dividend of one
Right per common share was distributed to stockholders of record on June 5, 2001. Each Right, expiring June 5, 2011, represents a right to buy from the Company one ten-thousandth
(1/10,000) of a share of Series A Junior Participating Preferred Stock, $0.01 par value, at a price of $200 per Right. This dividend distribution of the Rights was not taxable to the Company or
its stockholders.

Separate
certifications for Rights will not be distributed, nor will the Rights be exercisable, unless a person or group acquires 15 percent or more, or announces an offer that could
result in acquiring 15 percent or more, of the aggregate number of votes entitled to be cast by all then outstanding shares of Common Stock (a Stock Acquisition). Following a Stock Acquisition, each
Right holder, except the 15 percent or more stockholder, has the right to receive, upon exercise, common shares valued at twice the then applicable exercise price of the Right (or, under certain
circumstances, cash, property or other Company securities), unless the 15 percent or more stockholder has offered to acquire all of the outstanding shares of the Company under terms that a majority of
the independent directors of the Company have determined to be fair and in the best interest of the Company and its stockholders. Similarly, unless certain conditions are met, if the Company engages
in a merger or other business combination following a Stock Acquisition where it does not survive or survives with a change or exchange of its common shares or if 50 percent or more of its assets,
earning power, or cash flow is sold or transferred, the Rights will become exercisable for shares of the acquirer's stock having a value of twice the exercise price (or under certain circumstances,
cash or property). The Rights are not exercisable, however, until the Company's right of redemption described below has expired. Generally, Rights may be redeemed for $0.01 each (in cash, common
shares or other consideration the Company deems appropriate) until the earlier of (i) the tenth day following public announcement that a 15 percent or greater position has been acquired in the
Company's stock or (ii) the final expiration of the Rights. Until exercise, a Right holder, as such, has no rights as a stockholder of the Company.

Note 7Contingencies

From time to time, the Company is subject to claims arising in the ordinary course of business. In the opinion of management, no such matter, individually or
in the aggregate, exists which is expected to

6

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have a material effect on the Company's consolidated results of operations, financial position or cash flows.

The
Company has contracted with various manufacturers for the manufacture of printed circuit boards and box build assembly for specific Fibre Channel directors and switches. The
agreement with these entities requires the Company to submit purchasing forecasts, place orders and reschedule orders for products as necessary. At June 30, 2001 and December 31, 2000,
the entities had on hand materials purchased on behalf of McDATA valued at approximately $37,351,000 and $33,205,000, respectively. In addition, these entities have purchase commitments related to
materials that they have also ordered on McDATA's behalf. The Company may be liable for materials purchased 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. Management does not currently expect these commitments to have a material adverse effect on the Company's business, results of operations,
financial position or cash flows, however, this assumes the Company meets or exceeds its forecasts going forward. The agreements renew monthly and all parties have customary termination rights.

The
Company has various commitments for sales, purchases and employee benefit plans in the ordinary course of business. In the aggregate, such commitments do not differ significantly
from current market prices or anticipated usage requirements.

Note 8Commitments

On February 9, 2001 (and amended on May 18, 2001), the Company entered into a lease for an approximately 167,000 square foot multi-story office
and engineering building to be constructed on a 106 acre parcel of land located in Broomfield, Colorado. Construction of the building has commenced and is scheduled to be completed no later than
February 2003. The initial term of the lease is for 78 months, with an option to renew the lease for additional 12 month terms, subject to certain conditions. The Company, at its option,
may purchase the facility during or at the end of the term of the lease at approximately the amount expended by the lessor to acquire the land and construct the building (approximately
$60 million). If the Company does not renew the lease, exercise the purchase option by the end of the lease, or arrange for the sale of the property to a third-party, the Company has guaranteed
a residual value of the facility as a percentage of the original costs (approximately 85% of such original costs). As part of the lease, the Company has agreed to restrict up to $63 million of
its investment securities as collateral for specified obligations under the lease. In addition, the lease agreement requires that the Company maintain compliance with certain affirmative and negative
covenants, representations and warranties, including certain defined financial covenants. Management believes the Company is in compliance with all covenants at June 30, 2001.

The
Company's die-cast chassis supplier for its new low-end and mid range switch products has experienced financial difficulties during 2001. To ensure continued product supply, the
Company has provided an interim financing guarantee in the amount of $675,000 to the lender of that supplier (which was increased to $850,000 on July 18, 2001). The Company's obligation to pay
amounts due under the guarantee when and if it is drawn upon is fully secured by cash collateral on deposit with an escrow agent. The Company is not obligated to provide any additional financing for
the benefit of the supplier and will evaluate the need to do so based on the ability to secure additional chassis supply sources.

7

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Note 9Subsequent Event

The Company, an officer, and a former officer have been 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, Merrill Lynch, Pierce Fenner &
Smith Incorporated, Bear, Stearns & Co., Inc., FleetBoston Robertson Stephenset al., No. 01 CIV. 6627. Three other similar suits
have been filed against the Company. The complaints are substantially identical to numerous other complaints filed against other companies that went public over the last several years. 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 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 ("IPOs") and (b) that certain of the underwriters had 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 relating to the Company
allege claims against the Company, one of the Company's officers,
a former officer of the Company and Credit Suisse First Boston, the lead underwriter of the Company's August 9, 2000 initial public offering, under Sections 11 and 15 of the Securities
Act of 1933, as amended. The complaints also allege claims solely against Credit Suisse First Boston and the other underwriter defendants under Section 12(a)(2) of the Securities Act of
1933, as amended, and claims against the individual defendants under Section 10(b) of the Securities Exchange Act of 1934, as amended. The Company believes that the lawsuits are without
legal merit and intends to defend them vigorously.

8

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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 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 March 2, 2001.

Results of Operations

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

|                               |                                       | Three Months Ended
June 30, |      | Six Months Ended
June 30, |     
|------------------------------ | ------------------------------------- | --------------------------- | ---- | ------------------------- | ----
|
|Revenue                        |                                       | 100.0                       | %    | 100.0                     | %   
|Cost of revenue                |                                       | 58.1                        |      | 49.0                      |     
|                               |                                       |                             |      |                           |     
|Gross profit                   |                                       | 41.9                        |      | 51.0                      |     
|Operating expenses:            |                                       |                             |      |                           |     
|                               | Research and development              |                             | 14.0 |                           | 16.9
|                               | Selling and marketing                 |                             | 19.1 |                           | 14.4
|                               | General and administrative            |                             | 4.8  |                           | 2.8 
|                               | Amortization of deferred compensation |                             | 2.0  |                           | 2.9 
|                               |                                       |                             |      |                           |     
|                               |                                       | Total operating expenses    |      | 39.9                      |     
|Income from operations         |                                       | 2.0                         |      | 14.0                      |     
|Interest income (expense), net |                                       | 4.5                         |      | 0.1                       |     
|                               |                                       |                             |      |                           |     
|Income before income taxes     |                                       | 6.5                         |      | 14.1                      |     
|Income tax expense             |                                       | 2.4                         |      | 5.8                       |     
|                               |                                       |                             |      |                           |     
|Net income                     |                                       | 4.1                         | %    | 8.3                       | %   
|                               |                                       |                             |      |                           |     

Three Months ended June 30, 2001 and 2000



Total revenue increased by approximately 44% to $81.3 million for the quarter ended June 30, 2001 from $56.5 million for the quarter ended
June 30, 2000. For the quarter and six months ended June 30, 2001, approximately 68% of our revenues came from sales to EMC, excluding ESCON service revenues. Although we
anticipate this percentage to decrease as we increase our revenue from other sources, we expect a majority of our revenues in the foreseeable future to be derived from EMC.

Approximately
88% of the increase in revenues from June 30, 2000 relates to product revenue which increased to $72.4 million for the quarter ended June 30, 2001
from $50.6 million for the quarter ended June 30, 2000. This increase reflects our continued leadership in the Director-class products, as well as acceptance of our new switch products
introduced in 2001. Software and professional services revenue increased 210% to $4.8 million for the quarter ended June 30, 2001 from $1.6 million for the quarter ended June 30,
2000. Other revenues for the quarter, including the ESCON service fee, decreased 6% to $4.1 million for the quarter ended June 30, 2001 from $4.3 million for the quarter ended
June 30, 2000. We anticipate that service revenue from EMC under the ESCON service agreement will continue
to decrease in the future. As ESCON service fee revenue continues to decrease, we anticipate that it will represent an increasingly smaller percentage of total revenue.

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Gross profit increased by approximately 18% to $34.1 million for the quarter ended June 30, 2001 from $28.8 million for the quarter ended
June 30, 2000. The gross profit percentage decreased to 42% at June 30, 2001 from 51% at June 30, 2000. This decrease in gross profit percentage was attributable primarily to increased
manufacturing and inventory costs related to the introduction and initial production of our new products, increased costs of expediting delivery of components and higher than expected costs related to
our die-cast chassis supplier.



Research and Development.Research and development expenses were $11.4 million in the quarter ended June 30,
2001 compared with $9.6 million in the quarter ended June 30, 2000. The $1.8 million or 19% increase in expenses was primarily attributable to increased staffing levels, and to
expenditures for prototype materials, design consulting services and other materials and services related to the design and development of new technology, new products and enhancements to our existing
products.

Selling and Marketing Expenses.Selling and marketing expenses increased by approximately 91% to $15.5 million
for the second quarter of 2001 from $8.1 million for the second quarter of 2000. This increase was primarily attributable to increased sales force staffing, as the number of our sales force employees
increased to 183 at June 30, 2001 from 80 at June 30, 2000. There were also increases in costs of marketing and public relations programs and expansion of our field offices and labs used
for product demonstration and systems integration testing. This increase was part of the planned ramp-up of our direct assist sales organization and brand marketing in support of new products and
distribution channel expansion.

General and Administrative Expenses.General and administrative expenses increased by approximately 152% to
$3.9 million for the second quarter of 2001 from $1.6 million for the second quarter of 2000.
This increase was due primarily to increased staffing levels and costs of operating as a public company, including proxy filing and annual meeting costs.

Amortization of Deferred Compensation.In prior periods, we recorded deferred compensation in connection with stock
options grants. We are amortizing these amounts on a straight-line basis over the vesting period of the applicable options, resulting in amortization expense of $2.2 million during the quarter
ended June 30, 2001 and $2.2 million during the quarter ended June 30, 2000 (of which approximately $0.5 million was included in cost of revenue for the three months ended
June 30, 2001 and 2000).

Interest Income, net.Interest income consisted primarily of interest earnings on our cash, cash equivalents and
various investment holdings. Increases in interest income were due primarily from the investment of the net proceeds from our initial public offering in August 2000. Net interest income
increased to $3.7 million for the quarter ended June 30, 2001 from negligible interest income for the quarter ended June 30, 2000. If interest rates continue to decrease, interest
income may decrease in future periods.

Provision for Income Taxes.The effective tax rates for the quarters ended June 30, 2001 and 2000 were 37.0% and
41.0%, respectively. The effective tax rate in 2001 decreased primarily due to a higher percentage of our investments held in tax-exempt instruments. As we liquidate our tax-exempt investments, our
effective tax rate may increase.

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Six Months ended June 30, 2001 and 2000



Total revenue increased by approximately 59% to $164.3 million for the six months ended June 30, 2001 from $103.6 million for the
six months ended June 30, 2000. Approximately 92% of the increase in revenues from June 30, 2000 relates to product revenue which increased to $147.3 million for the
six months ended June 30, 2001 from $91.6 million for the six months ended June 30, 2000. This increase reflects our continued leadership in the Director-class
products, as well as acceptance of our new switch products introduced in 2001. Software and professional services revenue increased 136% to $8.5 million for the six months ended June 30,
2001 from $3.6 million for the six months ended June 30, 2000. Other
revenues for the six months ended June 30, 2001, including the ESCON service fee, increased 2% to $8.5 million for the six months ended June 30, 2001 from
$8.4 million for the six months ended June 30, 2000. We anticipate that service revenue from EMC under the ESCON service agreement will decrease in the future. As ESCON service
fee revenue continues to decrease, we anticipate that it will represent an increasingly smaller percentage of total revenue.



Gross profit increased by approximately 34% to $71.6 million for the six months ended June 30, 2001 from $53.3 million for the
six months ended June 30, 2000. The gross profit percentage decreased to 44% at June 30, 2001 from 51% at June 30, 2000. This decrease in gross profit percentage was attributable
primarily to increased manufacturing and inventory costs related to the introduction and initial production of our new products, increased costs of expediting delivery of components and higher than
expected costs related to our die-cast chassis supplier.



Research and Development.Research and development expenses were $21.5 million in the six months ended
June 30, 2001 compared with $17.2 million in the six months ended June 30, 2000. The $4.3 million or 25% increase in expenses was primarily attributable to increased
staffing levels, and to expenditures for prototype materials, design consulting services and other materials and services related to the design and development of new technology, new products and
enhancements to our existing products.

Selling and Marketing Expenses.Selling and marketing expenses increased by approximately 110% to $29.3 million
for the six months ended June 30, 2001 from $14.0 million for the six months ended June 30, 2000. This increase was primarily attributable to increased sales force
staffing, as the number of our sales force employees increased to 183 at June 30, 2001 from 80 at June 30, 2000. There were also increases in costs of marketing and public relations
programs and expansion of our field offices and labs used for product demonstration and systems integration testing. This increase was part of the planned ramp-up of our direct assist sales
organization and brand marketing in support of new products and channel expansion.

General and Administrative Expenses.General and administrative expenses increased by approximately 190% to
$8.5 million for the six months ended June 30, 2001 from $2.9 million for the six months ended June 30, 2000. This increase was due primarily to increased staffing
levels, expenses related to the distribution of McDATA common stock by EMC, and costs of operating as a public company.

Amortization of Deferred Compensation.In prior periods, we recorded deferred compensation in connection with stock
options grants. We are amortizing these amounts on a straight-line basis over the vesting period of the applicable options, resulting in amortization expense of $4.4 million during the six

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months ended June 30, 2001 and $3.9 million during the six months ended June 30, 2000 (of which approximately $1.0 million was included in cost of revenue for these
six month periods).

Interest Income, net.Interest income consisted primarily of interest earnings on our cash, cash equivalents and
various investment holdings. Increases in interest income were due primarily from the investment of the net proceeds from our initial public offering in August 2000. Net interest income
increased to $8.4 million for the six months ended June 30, 2001 from a negligible interest income for the six months ended June 30, 2000. If interest rates continue
to decrease, interest income may decrease in future periods.

Provision for Income Taxes.The effective tax rates for the six months ended June 30, 2001 and 2000 were
37.0% and 41.3%, respectively. The effective tax rate in 2001 decreased primarily due to a higher percentage of our investments held in tax-exempt instruments. As we liquidate our tax-exempt
investments, our effective tax rate may increase.

Liquidity and Capital Resources

Net cash used by operating activities was $21.8 million for the first six months of 2001, reflecting net increases in working capital components,
particularly inventory related to introduction and initial shipments of products introduced in 2001, partially offset by net income for the first six months of 2001.

Net
cash used in investing activities for the first six months of 2001 was $53.5 million, primarily related to net purchases of long-term investments and purchases of
equipment.

Net
cash provided by financing activities for the first six months of 2001 totaled $1.6 million, reflecting proceeds from the exercise of employee stock options,
partially offset by repayment of capital lease obligations.

Our
principal sources of liquidity at June 30, 2001 consisted of our cash and short-term investment securities on hand, which totaled approximately $278.1 million, and our
equipment financing arrangements, which totaled approximately $4.0 million. Borrowings under our equipment financing arrangements are secured by the related capital equipment and are payable through
2004.

We
believe our existing cash and short-term investment balances 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.

On
February 9, 2001 and amended on May 18, 2001, we entered into a lease and associated agreements with Deutsche Bank AG, New York Branch ("Deutsche Bank") for the lease
of a 167,000 (approx.) square foot multi-story office and engineering building to be constructed on a 106 acre parcel of land located in Broomfield, Colorado. Construction must be completed no later
than February 2003. As part of the transaction, we have guaranteed a residual value of the facility to Deutsche Bank of approximately 85% of the total original cost. We have agreed to restrict
up to $63 million of our investment securities as collateral for our specified obligations under the lease. These investment securities are restricted as to withdrawal and are managed by a
third party subject to certain limitations. In addition, the lease agreement requires that the Company maintain compliance with certain affirmative and negative covenants, representations and
warranties, including certain defined financial covenants.

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.

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Risk Factors

RISKS
RELATED TO OUR BUSINESS

Recent risks related to the economy and manufacturing

During 2001, the U.S. economy experienced some slowdown which may continue and could delay purchasing decisions by our customers. During the first quarter of
2001, we experienced increased manufacturing and component costs related to the transition to multiple product lines, and quality issues on parts. Specifically, we incurred costs and delays related to
some mechanical features of our new low-end and mid-range switch products. Also, we incurred additional costs related to our new die-cast chassis for such products. All of these items slowed
manufacturing ramp-up and throughput during the second quarter. Finally, our die cast chassis supplier for our new low-end and mid range switch products experienced financial difficulties and, during
2001, we have had to supply an interim financing guarantee in the amount of $850,000 to the lender of that supplier. The Company's obligation to pay amounts due under the guarantee, when and if it is
drawn upon, is fully secured by cash collateral on deposit with an escrow agent. We are securing a second chassis supply source.

We have incurred losses in the past and may not sustain profitability in the future.

We have incurred losses in all but the seven most recent fiscal quarters since 1997, when we focused our business on the design, development and manufacture of
Fibre Channel switching devices. We may incur losses in the future. We cannot be certain that we can sustain our revenue growth rates or that we can sustain profitability. Our future operating results
will depend on many factors, including the growth of the Fibre Channel market, market acceptance of new products, demand for our products and levels of product and price competition. In addition, we
expect to incur continued significant product development, sales and marketing, and general and administrative expenses and, as a result, we may not be able to sustain profitability.

We depend on two key distribution relationships for most of our revenue and the loss of either of them could significantly reduce our revenues.

We depend on EMC for most of our total revenue. Sales and services to EMC, which is an original equipment manufacturer customer, represented approximately 68%
of our revenue, excluding ESCON service revenue, for the quarter ended June 30, 2001. In addition, IBM represented approximately 16% of our total revenue for the same period. We anticipate that
our future operating results will continue to depend heavily on sales to EMC and IBM. Therefore, the loss of either EMC or IBM as a customer, or a significant reduction in sales to either EMC or IBM
in any fiscal period, could significantly reduce our revenue.

A large percentage of our quarterly sales occur at the end of the quarter, contributing to possible quarterly fluctuations in revenue that could adversely affect our operating
results.

Our quarterly results have historically reflected an uneven pattern in which a disproportionate percentage of a quarter's total sales occurs in the last month,
weeks or even days of each quarter. This pattern makes the prediction of revenue, earnings and working capital for each financial period especially difficult and increases the risk of
unanticipated variations from budgeted quarterly results and financial condition. Additional factors that affect us which could cause our revenue and operating results to vary in future periods
include:



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Our
uneven sales pattern makes it difficult for our management to predict near-term demand and adjust manufacturing capacity 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.

We currently have limited product offerings and must successfully introduce new and enhanced products that respond to rapid technological changes and evolving industry
standards.

During the quarter ended June 30, 2001, we derived approximately 77% of our revenue from sales of our Director-class products. We expect that revenue
from our Director-class products will continue to account for a substantial portion of our revenue for the foreseeable future. Therefore, continued market acceptance of this product and its successor
products is critical to our future success. Factors such as performance, market positioning, the availability and price of competing products, the introduction of new technologies and the success of
our original equipment manufacturers, reseller and systems integrator customers will affect the market acceptance of our products.

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 this transition include the inability to expand production capacity to meet demand for new products, the impact of customer demand for new products or
products being replaced, and delays in the initial shipment of new products. There can be no assurance that we will successfully manage these transitions.

If we fail to expand our distribution channels and manage our distribution relationships, our revenue could be significantly reduced.

Our success will depend on our continuing ability to develop and manage relationships with significant original equipment manufacturers, resellers and systems
integrators, as well as on the sales efforts and success of these customers. We cannot assure you that we will be able to expand our distribution channels, 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.

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. We purchase application specific integrated circuits, or ASICs, printed circuit
boards and power supplies from single

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sources, and gigabit interface converters and 1x9 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 decreased revenue. We do not have any long-term supply contracts to ensure sources of supply. 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. If our suppliers are unable to provide, or we are unable otherwise to obtain these components for our products on the schedule and in the quantities 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.

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

We rely on a third-party manufacturer to manufacture all of our circuit boards and to perform extensive testing and assembly of our products. We do not have a
long-term supply contract with this manufacturer and, therefore, it is 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. We generally place orders for circuit boards with our contract manufacturer approximately four to five months prior to the anticipated delivery date, with order
volumes based on forecasts of demand for our products. If we fail to forecast demand for our products accurately, we may be unable to obtain adequate manufacturing capacity from our contract
manufacturer to meet our customers' delivery requirements, or we may accumulate excess inventories. We may be unable to respond adequately to unexpected increases in customer purchase orders, and
therefore be unable to benefit from this incremental demand. Our contract manufacturer has not provided assurances to us that adequate capacity will be available to us within the time required to meet
additional demand for our products.

In
addition, we coordinate our efforts with those of our component suppliers and our contract manufacturer 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 manufacturer, which, if not effectively managed, could prevent us from
satisfying our production requirements. If we should fail to manage effectively our relationships with our component suppliers and our contract manufacturer, or if any of our suppliers or our
manufacturer 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 revenue and damage our customer relationships.

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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. We have operated substantially as a separate company from EMC only since October 1997.
EMC, which currently accounts for the majority of our revenue, markets our products under its own brand name. As a result, we have not fully established our brand name. We believe that establishing
and maintaining the McDATA brand is a critical component in maintaining and developing strategic original equipment manufacturer, 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.

The storage area network market in which we compete is still developing, and if this market does not continue to develop and expand as we anticipate, our business will suffer.

The market for storage area networks, or SANs, and related products has only recently begun to develop and continues to evolve. Because this market is
relatively new, it is difficult to predict its potential size or future growth rate. Our Director-class products, from which we derived approximately 77% of our total revenues in the quarter ended
June 30, 2001, are used extensively in SANs. Accordingly, continued widespread adoption of SANs as an integral part of data-intensive enterprise computing environments is critical to our future
success. Potential end-user customers who have invested substantial resources in their existing data storage and management systems may be reluctant or slow to adopt a new approach, like SANs. Our
success in generating net revenue in this developing market will depend on, among other things, our ability to:



The sales cycle for our products is long, and we may incur substantial non-recoverable expenses and devote significant resources to sales that do not occur when anticipated or
at all.

Our original equipment manufacturers, reseller and systems integrator customers typically conduct significant evaluation, testing, implementation and
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 any revenue from these relationships.

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, and we may from time to time find errors in our existing, new or enhanced 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 and
would increase our costs, reduce our revenue and cause significant customer relations problems.

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If we lose key personnel or are unable to hire additional qualified personnel, we may not be successful.

Our success depends to a significant degree upon the continued contributions of our key management, technical, sales and marketing, finance and operations
personnel, many of whom would be difficult to replace. In particular, we believe that our future success is highly dependent on John F. McDonnell, our President and Chief Executive Officer and the
Chairman of our Board of Directors. In addition, our engineering and product development teams are critical in developing our products and have developed important relationships with customers and
their technical staffs. The loss of any of these key personnel could harm our operations and customer relationships. We do not have key person life insurance on any of our key personnel.

We
believe our future success will also depend in large part upon our ability to attract and retain highly skilled managerial, engineering, sales and marketing, and finance and
operations personnel. As we increase our production and sales levels, we will need to attract and retain additional qualified skilled workers for our operations. In recent years there has been
great demand among companies in the
technology industry for these personnel. In particular, competition for these personnel has become increasingly intense in the greater Denver, Colorado metropolitan area, where we have our
headquarters and certain of our manufacturing facilities, and the greater Toronto, Canada metropolitan area, where we have an engineering group. We cannot assure you that we will continue to be able
to attract and retain qualified personnel, or that delays in hiring required personnel, particularly engineers, will not delay the development or introduction of products or negatively impact our
ability to sell our products.

If we cannot compete successfully in the future against existing or potential competitors, our operating results will suffer.

The market for our Fibre Channel switching products is competitive, and is likely to become even more so. Our primary competitor in the Fibre Channel switch
market is Brocade Communications Systems, Inc. Other companies are also providing Fibre Channel switches and other products to the SAN market, including Qlogic Corporation, Gadzoox
Networks, Inc., Vixel Corporation and INRANGE Technologies Corporation. In the future, we may also compete with networking companies that may develop SAN products or other companies in related
or other industries for which future direct participation in the market for switching devices may become strategic.

EMC
has agreed not to develop or manufacture products that compete with our products for two years beginning in August 2000. Upon the expiration of the two-year period,
we have no agreement that would restrict EMC from competing with us in the development or manufacture of these products. In addition, EMC has recently agreed to resell certain products offered by two
of our competitors. Moreover, under a cross license agreement between us and EMC, we have granted EMC a license under our patents to make, use and sell any products that EMC was selling or
distributing up to August 9, 2000, including products that compete with ours.

Continued
or increased competition could result in pricing pressures, reduced sales, reduced margins, reduced profits, reduced market share or the failure of our products to achieve
or maintain market acceptance. Some of our competitors and potential competitors have longer operating histories, greater name recognition, access to larger customer bases, more established
distribution channels or substantially greater resources than we have. As a result, they may be able to respond more quickly than we can to new or changing opportunities, technologies, standards or
customer requirements.

We do not have significant experience in international markets and may have unexpected costs and difficulties in developing international revenue.

We intend to expand the marketing and sales of our products internationally. We have limited experience in marketing, distributing and supporting our products
internationally and may not be able

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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:



Any
negative effects on our international business could harm our business, operating results and financial condition as a whole. To date, none of our international revenue or costs
have been denominated in foreign currencies. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make 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.

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 the steps we have taken 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 claims and any resulting litigation could subject us to significant liability for damages or could cause our proprietary rights to be invalidated. Litigation, 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 could also force us to
do one or more of the following:



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

In
March 1999, we, as an EMC subsidiary, granted IBM a license to all of our patents under a cross license agreement between IBM and EMC. Under the terms of that agreement,
effective upon EMC's February 7, 2001 distribution of our Class A common stock indirectly held by it to its stockholders, the sublicense we previously held to those IBM patents
terminated. We believe that the

18

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termination of the sublicense does not materially affect our business. We are not aware of any issued or pending IBM patents that are infringed by our products, but if IBM were to allege any such
infringement, we may have difficulty negotiating a settlement. If we were unable to negotiate a settlement with IBM, our ability to produce an infringing product could be affected, which could
materially and adversely affect 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. We may receive claims of this kind or other claims relating to our employees in the future as we seek to hire qualified
personnel. 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 stock price is volatile.

Since the initial public offering of our Class B common stock in August 2000 and the distribution of our Class A common stock by EMC in
February 2001, the market price of our stock has been volatile. Because we are a technology company, the market price of our stock is usually subject to the same volatility and fluctuations
that have recently characterized the stock prices of other technology companies. This volatility is often unrelated or disproportionate to the operating performance of these companies and, as a
result, the price of our stock could fall regardless of our performance.

Defending Lawsuits

As described in Part II, Item 1 of this Quarterly Report, several purported securities class action lawsuits have been filed against us. Even though we believe
the suits are without legal merit, we could incur substantial costs in defending ourselves. In addition, defending ourselves from such claims could divert the attention of management away from our
operations.

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, in connection with the reorganization of our business, we entered into certain agreements with EMC relating to our business
relationship with EMC after the 1997 reorganization. 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 McDATA 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, in the case of the OEM agreement, including the terms of pricing, that are less beneficial to us than agreements negotiated with unaffiliated third parties. Sales and
services revenue from EMC represented approximately 68% of our revenue, excluding ESCON service revenue, for the quarter ended June 30, 2001. 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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We depend heavily on EMC as our key OEM customer; if our relationship with EMC adversely changes, our revenue will be significantly reduced.

For the quarter ended June 30, 2001, our revenues from EMC represented approximately 68% of our total revenue, excluding ESCON service revenue. In
addition, during the same period, revenue under our service agreement with EMC Corporation, pursuant to which we manufacture and supply ESCON switching devices for IBM, represented approximately 3% of
our total revenue. EMC has recently agreed to resell products offered by two of our competitors, and nothing restricts EMC from expanding those relationships in a manner that could be adverse to us.
If our business relationship with EMC ends or significantly changes, resulting in reduced sales to EMC, our revenue will be significantly reduced.

Provisions of our agreements with EMC relating to our relationship with EMC after the distribution by EMC of our Class A common stock indirectly held by it to its
stockholders may affect the operation of our business, limit our ability to finance our operations or prevent a change in control of our company.

Under the terms of the Tax Sharing Agreement between EMC and us, until 27 months after the date of EMC's distribution of our Class A common stock
indirectly held by it to its stockholders, we may not, without the consent of EMC or the receipt by EMC of a private letter ruling from the Internal Revenue Service that the tax treatment of the
distribution will not be adversely affected:



These
restrictions may prevent us from being acquired, either in a negotiated transaction or otherwise, from using shares of our common stock as payment in the acquisition by us of
other companies or from financing our operations through sales of securities.

Under
the terms of the Master Confidential Disclosure and License Agreement between EMC and us, EMC has granted us a license under existing EMC 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 after an acquisition of us by a third party may make an acquisition of us by a third party unlikely.

We may be obligated to indemnify EMC if the distribution is not tax free.

The Tax Sharing Agreement that we have entered into with EMC obligates us to indemnify EMC from taxes relating to the failure of EMC's distribution to EMC's
stockholders of our Class A common stock (that it indirectly holds) to be tax free if that failure results from, among other things:



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As
a result, we may be liable to EMC under the Tax Sharing Agreement upon the occurrence of events that are beyond our control. If the distribution of our Class A common stock
fails to qualify as a tax-free distribution, EMC would incur tax liability as if our Class A common stock that was distributed by EMC had been sold by EMC for its fair market value in a taxable
transaction. In the event that we are required to indemnify EMC because the distribution of our Class A common stock fails to qualify as a tax-free distribution, our liability could exceed 35%
of the value of the Class A common stock distributed by EMC as determined on the date of the distribution.

ITEM 3. Quantitative and Qualitative Disclosures about Market Risks

We are is 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 consists of readily marketable
investment-grade debt securities of various issuers and maturities ranging from overnight to two 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 7Quantitative and Qualitative Disclosure About Market Risk, contained in our Form 10-K.

Foreign Currency Exchange Risk

We operate sales and support offices in several countries. All of our sales contracts have been denominated in U.S. dollars, therefore our transactions in
foreign currencies are limited to operating expense transactions. Due to the limited nature and amount of these transactions, we do not believe we have had or will have material exposure to foreign
currency exchange risk.

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 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 and have concluded that we do not have a material exposure to credit risk with our customers.

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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
uncertainties and an adverse result in a matter that may arise from time to time may harm our business, financial condition or results of operation. In the opinion of management, the ultimate
disposition of any of the claims will not have a material adverse effect on our consolidated results of operations, financial position or cash flow.

The
Company, an officer and a former officer have been 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, Merrill Lynch, Pierce Fenner & Smith
Incorporated, Bear, Stearns & Co., Inc., FleetBoston Robertson Stephenset al., No. 01 CIV. 6627. Three other similar suits have
been filed against the Company. The complaints are substantially identical to numerous other complaints filed against other companies that went public over the last several years. 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 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 ("IPOs") and (b) that certain of the underwriters had 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 relating to the Company
allege claims against the Company, one of the Company's officers, a former officer of the Company, and Credit Suisse First Boston, the lead underwriter of the Company's August 9, 2000 initial
public offering, under Sections 11 and 15 of the Securities Act of 1933, as amended. The complaints also allege claims solely against Credit Suisse First Boston and the other underwriter
defendants under Section 12(a)(2) of the Securities Act of 1933, as amended, and claims against the individual defendants under Section 10(b) of the Securities Exchange Act
of 1934, as amended. We believe that the lawsuits are without legal merit and intends to defend them vigorously.

ITEM 2. Changes in Securities and Use of Proceeds

On May 19, 2001, our Board of Directors approved a Stockholder Rights Plan, which became effective on June 5, 2001. For additional information on
the Stockholder Rights Plan, you are encouraged to review our Current Report on Form 8-K filed with the Securities and Exchange Commission on May 21, 2001.

ITEM 3. Defaults Upon Senior Securities

None

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

None

ITEM 5. Other Information

On June 21, 2001, we entered into an amendment to the OEM Purchase and License Agreement with EMC Corporation, a copy of which is filed herewith.

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ITEM 6. Exhibits and Reports on Form 8-K

|(3.1)    |  | Amended and Restated Certificate of Incorporation of the Company                                                                                                                                         
|-------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(3.2)    |  | Amended and Restated By-laws of the Company                                                                                                                                                              
|(4.1)    |  | Form of Company's Class B Common Stock Certificates                                                                                                                                                      
|(4.1.1)  |  | Form of Company's Class A Common Stock Certificates                                                                                                                                                      
|(4.2)    |  | Investors' Rights Agreement dated as of October 1, 1997 by and among the Company, EMC Corporation, McDATA Holdings Corporation and Certain Investors                                                     
|(4.3)    |  | Amendment No. 1 to the Investors' Rights Agreement dated May 23, 2000 by and among the Company, McDATA Holdings Corporation and certain Investors                                                        
|(4.4)    |  | Rights Agreement dated as of May 18, 2001, by and between the Company and the Bank of New York, as rights agent (Filed in Form 8-K dated May 21, 2001).                                                  
|(10.1)   |  | Asset Transfer Agreement dated as of October 1, 1997 by and among the Company, EMC Corporation, and McDATA Holdings Corporation                                                                          
|(10.2)   |  | Investors' Rights Agreement dated as of October 1, 1997 by and among the Company, EMC Corporation, McDATA Holdings Corporation and certain Investors (see Exhibit 4.2)                                   
|(10.3)   |  | Amendment No. 1 to the Investors' Rights Agreement dated May 23, 2000 by and among the Company, McDATA Holdings Corporation and certain Investors (see Exhibit 4.3)                                      
|(10.3.1) |  | Termination of Investors' Rights Agreement, dated as of January 24, 2001, by and among the Company, McDATA Holdings Corporation and Certain Investors (Filed in Form 10-K for the fiscal year ended 2000)
|(10.4)   |  | Services Agreement dated as of October 1, 1997 by and among EMC Corporation, McDATA Holdings Corporation and the Company                                                                                 
|(10.5)   |  | Letter Agreement dated April 19, 1999 by and between the Company and McDATA Holdings Corporation                                                                                                         
|(10.6)   |  | Technology Rights Agreement dated as of October 1, 1997 by and among the Company, EMC Corporation and McDATA Holdings Corporation                                                                        
|(10.7)   |  | Amended and Restated Tax Sharing Agreement dated as of May 31, 2000 by and among EMC Corporation, McDATA Holdings Corporation and the Company                                                            
|(10.8)   |  | Form of Master Transaction Agreement entered into by and among the Company and EMC Corporation dated May 31, 2000                                                                                        
|(10.9)   |  | Form of Indemnification and Insurance Matters Agreement entered into by and among the Company and EMC Corporation dated May 31, 2000                                                                     
|(10.10)  |  | Master Confidential Disclosure and License Agreement dated as of May 31, 2000 by and among the Company and EMC Corporation                                                                               
|(10.11)+ |  | Reseller Agreement dated as of February 22, 2000 by and between International Business Machines Corporation and the Company                                                                              
|(10.12)  |  | Amendment Number One to the Resale Agreement dated June 30, 2000 by and between International Business Machines Corporation and the Company                                                              
|(10.13)+ |  | OEM Purchase and License Agreement dated as of May 19, 2000 by and between EMC Corporation and the Company                                                                                               

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|10.13.1+  |  | Amendment to OEM Purchase and License Agreement dated as of June 21, 2001, by and between EMC Corporation and the Company                          
|--------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------
|(10.14)+  |  | Development Agreement dated as of May 19, 2000 by and between EMC Corporation and the Company                                                      
|(10.15)+  |  | Manufacturing Agreement dated as of June 17, 1992 by and between SCI Systems, Inc. and the Company                                                 
|(10.16)+  |  | OEM and License Agreement dated as of April 27, 1999 by and between Brocade Communication Systems, Inc. and the Company                            
|(10.17)   |  | Lease dated September 12, 1997 by and between the Company and WHLNF Real Estate Limited Partnership                                                
|(10.18)   |  | Lease dated November 2, 1999 by and between the Company and the Mills Family LLC                                                                   
|(10.19)   |  | Lease dated May 28, 1997 by and between the Company and 1211486 Ontario Limited                                                                    
|(10.19.1) |  | Lease dated October 6, 2000, by and between the Company and Amber Drive I, LLC (Filed in Form 10-Q for the fiscal quarter ended September 30, 2000)
|(10.19.2) |  | Lease dated February 9, 2001 by and between the Company and Deutsche Bank (Filed in Form 10-K for the fiscal year ended 2000)                      
|(10.19.3) |  | Participation Agreement dated February 9, 2001 by and between the Company and Deutsche Bank (Filed in Form 10-K for the fiscal year ended 2000)    
|(10.20)*  |  | Form of Severance Agreement                                                                                                                        
|(10.21)*  |  | 1997 Stock Option Plan                                                                                                                             
|(10.22)*  |  | Form of Stock Option Agreement for 1997 Stock Option Plan                                                                                          
|(10.23)*  |  | Description of the Company's Management Bonus Program                                                                                              

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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 CORPORATION
| |  | ------------------
| |  | By:               

August 7,
2001

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