1

# UNITED STATES

# SECURITIES AND
EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

_________________

# FORM 10-Q

| |           
| | ----------
| | (Mark One)

| | þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
| | - | ------------------------------------------------
| |   | OF THE SECURITIES EXCHANGE ACT OF 1934          

| |                                              
| | ---------------------------------------------
| | For the quarterly period ended March 31, 2007

| |   |                                                  
| | - | -------------------------------------------------
| | o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
| |   | OF THE SECURITIES EXCHANGE ACT OF 1934           

| |                                   
| | ----------------------------------
| | For the transition period from

to

| |                               
| | ------------------------------
| | Commission File Number 0-31857

|                                                      
|------------------------------------------------------
|ALLIANCE FIBER OPTIC PRODUCTS, INC.                   
|                                                      
|(Exact name of registrant as specified in its charter)

| |                                 |  |                        | 
| | ------------------------------- |  | ---------------------- | 
| | Delaware                        |  | 77-0554122             | 
| |                                 |  |                        | 
| | (State or other jurisdiction of |  | (I.R.S. employer       | 
| | Incorporation or organization)  |  | identification number) | 

|                                                
|------------------------------------------------
|275 Gibraltar Drive, Sunnyvale, California 94089
|                                                
|(Address of Principal Executive Offices)        

|                                                   
|---------------------------------------------------
|(408) 736-6900                                     
|                                                   
|(Registrant's telephone number including area code)

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

Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer, or a non-accelerated filer. See
definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act).
 Large Accelerated Filer  o Accelerated Filer  o   Non-Accelerated Filer  þ

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

On April 30,  2007,  40,637,003  shares of the  registrant's  Common  Stock,  $0.001  par  value  per  share,  were
outstanding.



---

# ALLIANCE FIBER OPTIC
PRODUCTS, INC.

# FORM 10-Q

# QUARTERLY PERIOD ENDED
March 31, 2007

# INDEX

|                                                                                              | Page
|--------------------------------------------------------------------------------------------- | ----
|                                                                                              |     
|PART I: FINANCIAL INFORMATION                                                                 | 1   
|                                                                                              |     
|ITEM 1: FINANCIAL STATEMENTS                                                                  | 1   
|                                                                                              |     
|Condensed Consolidated Balance Sheets at March 31, 2007 (unaudited)                           |     
|and December 31, 2006                                                                         | 1   
|                                                                                              |     
|Condensed Consolidated Statements of Operations for the                                       |     
|Three Months Ended March 31, 2007 and 2006 (unaudited)                                        | 2   
|                                                                                              |     
|Condensed Consolidated Statements of Cash Flows for the                                       |     
|Three Months Ended March 31, 2007 and 2006 (unaudited)                                        | 3   
|                                                                                              |     
|NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS                                          | 4   
|                                                                                              |     
|ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS | 11  
|                                                                                              |     
|ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                            | 17  
|                                                                                              |     
|ITEM 4: CONTROLS AND PROCEDURES                                                               | 17  
|                                                                                              |     
|PART II: OTHER INFORMATION                                                                    | 19  
|                                                                                              |     
|ITEM 1A: RISK FACTORS                                                                         | 19  
|                                                                                              |     
|ITEM 6: EXHIBITS                                                                              | 30  
|                                                                                              |     
|SIGNATURE                                                                                     | 31  

i

---

# PART I: FINANCIAL INFORMATION

# ITEM 1: FINANCIAL STATEMENTS

ALLIANCE FIBER OPTIC
PRODUCTS, INC. Condensed Consolidated
Balance Sheets(In
thousands, except share data)

|                                                               | March 31,2007 | December 31,2006
|-------------------------------------------------------------- | ------------- | ----------------
|Assets                                                         |               |                 
|Current assets:                                                |               |                 
|Cash and cash equivalents                                      |               |                 
|Short-term investments                                         |               |                 
|Accounts receivable, net                                       |               |                 
|Inventories, net                                               |               |                 
|Prepaid expense and other current assets                       |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Total current assets                                           |               |                 
|                                                               |               |                 
|Property and equipment, net                                    |               |                 
|Other assets                                                   |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Total assets                                                   |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Liabilities and Stockholders' Equity                           |               |                 
|Current liabilities:                                           |               |                 
|Accounts payable                                               |               |                 
|Accrued expenses                                               |               |                 
|Current portion of bank loan                                   |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Total current liabilities                                      |               |                 
|Other long-term liabilities                                    |               |                 
|Bank loan                                                      |               |                 
|Other long-term liabilities                                    |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Total long term liabilities                                    |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Total liabilities                                              |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Commitments and contingencies (Note 8)                         |               |                 
|Stockholders' equity:                                          |               |                 
|Common stock, $0.001 par value: 250,000,000 shares authorized; |               |                 
|40,624,353 and 40,540,128 shares issued and outstanding at     |               |                 
|March 31, 2007 and December 31, 2006, respectively             |               |                 
|Additional paid-in-capital                                     |               |                 
|Accumulated deficit                                            |               |                 
|Accumulated other comprehensive loss                           |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Stockholders' equity                                           |               |                 
|                                                               |               |                 
|                                                               |               |                 
|Total liabilities and stockholders' equity                     |               |                 
|                                                               |               |                 
|                                                               |               |                 

The
accompanying notes are an integral part of these Condensed Consolidated Financial
Statements.

1

---

ALLIANCE FIBER OPTIC
PRODUCTS, INC. Condensed Consolidated Statements of Operations(unaudited, in thousands, except per share data)

|                                                                      | Three Months Ended March 31,
|--------------------------------------------------------------------- | ----------------------------
|
|Revenues                                                              |                             
|Cost of revenues                                                      |                             
|                                                                      |                             
|Gross profit                                                          |                             
|                                                                      |                             
|Operating expenses:                                                   |                             
|Research and development                                              |                             
|Sales and marketing                                                   |                             
|General and administrative                                            |                             
|                                                                      |                             
|Total operating expenses                                              |                             
|                                                                      |                             
|Loss from operations                                                  |                             
|Interest and other income, net                                        |                             
|                                                                      |                             
|Net income (loss)                                                     |                             
|                                                                      |                             
|Net income (loss) per share:                                          |                             
|Basic                                                                 |                             
|Diluted                                                               |                             
|                                                                      |                             
|Shares used in computing net income (loss) per share:                 |                             
|Basic                                                                 |                             
|Diluted                                                               |                             
|                                                                      |                             
|Included in costs and expenses above:Stock based compensation charges |                             
|Cost of revenues                                                      |                             
|Research and development                                              |                             
|Sales and marketing                                                   |                             
|General and administrative                                            |                             
|                                                                      |                             
|Total                                                                 |                             
|                                                                      |                             

The
accompanying notes are an integral part of these Condensed Consolidated Financial
Statements.

2

---

ALLIANCE FIBER OPTIC
PRODUCTS, INC. Condensed Consolidated Statements of Cash Flows(unaudited, in thousands)

|                                                             | Three Months Ended March 31,
|------------------------------------------------------------ | ----------------------------
|
|Cash flows from operating activities:                        |                             
|Net income (loss)                                            |                             
|Adjustments to reconcile net income (loss) to net cash used  |                             
|in operating activities:                                     |                             
|Depreciation                                                 |                             
|Amortization of stock-based compensation                     |                             
|Loss on disposal of property and equipment                   |                             
|Provision for inventory valuation                            |                             
|Changes in assets and liabilities:                           |                             
|Accounts receivable                                          |                             
|Inventories                                                  |                             
|Prepaid expenses and other current assets                    |                             
|Accounts payable                                             |                             
|Accrued expenses                                             |                             
|Other assets                                                 |                             
|Other long-term liabilities                                  |                             
|                                                             |                             
|Net cash provided by (used in) operating activities          |                             
|                                                             |                             
|Cash flows from investing activities:                        |                             
|Purchase of short-term investments                           |                             
|Proceeds from sales and maturities of short-term investments |                             
|Purchase of property and equipment                           |                             
|                                                             |                             
|Net cash (used in) provided by investing activities          |                             
|                                                             |                             
|Cash flows from financing activities:                        |                             
|Proceeds from the exercise of common stock options           |                             
|Repayment of bank borrowings                                 |                             
|                                                             |                             
|Net cash provided by financing activities                    |                             
|                                                             |                             
|Effect of exchange rate changes on cash and cash equivalents |                             
|                                                             |                             
|Net(decrease) or increase in cash and cash equivalents       |                             
|Cash and cash equivalents at beginning of period             |                             
|                                                             |                             
|Cash and cash equivalents at end of period                   |                             
|                                                             |                             

The
accompanying notes are an integral part of these Condensed Consolidated Financial
Statements.

3

---

# ALLIANCE FIBER OPTIC
PRODUCTS, INC.NOTES TO CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS

# (Unaudited)

# 1. Summary of
Significant Accounting Policies

The Company

Alliance Fiber Optic Products, Inc.
(the Company) was incorporated in California on December 12, 1995 and
reincorporated in Delaware on October 19, 2000. The Company designs, manufactures and
markets fiber optic components for communications equipment manufacturers. The
Companys headquarters are located in Sunnyvale, California, and it has operations in
Taiwan and China.

Basis of presentation

The condensed consolidated financial
information as of March 31, 2007 included herein is unaudited, has been prepared by the
Company in accordance with generally accepted accounting principles in the United States
of America, and reflects all adjustments, consisting only of normal recurring adjustments,
which in the opinion of management are necessary to state fairly the Companys
consolidated financial position, results of its consolidated operations, and consolidated
cash flows for the periods presented.

The
preparation of financial statements in conformity with accounting principles generally
accepted in the United States of America requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and the disclosure
of contingent assets and liabilities at the date of the financial statements as well as
the reported amounts of revenue and expenses during the reporting period. Actual results
could differ from those estimates, and such differences may be material to the financial
statements.

These financial statements should be
read in conjunction with the Companys audited consolidated financial statements
included in the Companys Annual Report on Form 10-K for the year ended December 31,
2006. The results of operations for the three months ended March 31, 2007 are not
necessarily indicative of the results to be expected for any future periods.

Revenue Recognition

The Company recognizes revenue upon
shipment of its products to its customers, provided that the Company has received a
purchase order, the price is fixed, collection of the resulting receivable is reasonably
assured and transfer of title and risk of loss has occurred. Subsequent to the sale of its
products, the Company has no obligation to provide any modification or customization
upgrades, enhancements or post contract customer support.

Allowances are provided for estimated
returns. A provision for estimated sales return allowances is recorded at the time revenue
is recognized based on historical returns, current economic trends and changes in customer
demand. Such allowances are adjusted periodically to reflect actual and anticipated
experience. Such adjustments, which are recorded against revenue in the period, could be
material.

Cash and Cash Equivalents

The Company considers all highly
liquid instruments with a maturity of three months or less when purchased to be cash
equivalents. Cash equivalents consist primarily of market rate accounts, municipal bonds,
and highly rated commercial paper that are stated at cost, which approximates fair value.

4

---

Concentrations of Risk

Our dense wavelength division
multiplexing (DWDM) related products contributed revenues of $2.0 million and
$2.1 million for the quarters ended March 31, 2007 and 2006, respectively. In the quarters
ended March 31, 2007 and 2006, our top 10 customers comprised 63.9% and 59.0% of our
revenues, respectively. For the three months ended March 31, 2007, three customers
accounted for 19.3%, 11.8%, and 11.3% of our total revenues, respectively. For the three
months ended March 31, 2006, one customer accounted for 10.7% of our total revenues.

# 2. Recent Accounting
Pronouncements

In February 2007, the Financial
Accounting Standards Board (FASB) issued SFAS No. 159, The Fair Value
Option for Financial Assets and Financial Liabilities. SFAS No. 159 permits entities
to elect to measure many financial instruments and certain other items at fair value that
are not currently required to be measured at fair value. This election is irrevocable.
SFAS No. 159 will be effective for the Company on January 1, 2008. The Company is
currently assessing the potential impact that the adoption of SFAS 159 will have on its
financial statements.

In  September  2006,  the FASB issued SFAS No. 157,  "Fair Value  Measurements"  (SFAS  157),  which  defines  fair value,  establishes
guidelines for measuring fair value and expands disclosures  regarding fair value measurements.  SFAS 157 does not require any new fair
value  measurements but rather eliminates  inconsistencies  in guidance found in various prior accounting  pronouncements.  SFAS 157 is
effective for fiscal years beginning after November 15, 2007.  Earlier  adoption is permitted,  provided the company has not yet issued
financial  statements,  including for interim  periods,  for that fiscal year.  The Company is currently  evaluating the impact of SFAS
157,  but does not expect the  adoption  of SFAS 157 to have a  material  impact on its  consolidated  financial  position,  results of
operations or cash flows.

In July 2006, the FASB issued FASB  Interpretation  48,  "Accounting for Uncertainty in Income Taxes" (FIN 48) an  interpretation  of
FASB No. 109,  "Accounting  for Income  Taxes." FIN 48 prescribes a  comprehensive  model for  recognizing,  measuring,  presenting and
disclosing in the financial  statements  tax positions  taken or expected to be taken on a tax return,  including a decision on whether
or not to file in a particular  jurisdiction.  FIN 48 clarifies  the  accounting  for  uncertainty  in income  taxes  recognized  in an
enterprise's  financial  statements in accordance with FASB Statement No. 109,  "Accounting for Income Taxes." The provisions of FIN 48
are to be applied to all tax positions upon initial  adoption of this standard.  Only tax positions that meet a  "more-likely-than-not"
recognition  threshold at the effective  date may be recognized or continue to be recognized  upon adoption of FIN 48.  The  cumulative
effect of applying  the  provisions  of FIN 48 is reported as an  adjustment  to the opening  balance of retained  earnings.  FIN 48 is
effective for years beginning after December 15,  2006;  therefore,  the Company has adopted FIN 48 as of January 1,  2007. The Company
expects the adoption of this  accounting  standard will increase the level of disclosure  that the Company  provides  regarding its tax
positions.  The adoption of FIN 48 is not  expected to have a material  impact on the  Company's  consolidated  financial  position and
results of operations.

Other recent accounting
pronouncements issued by the FASB (including its Emerging Issues Task Force), the American
Institute of Certified Public Accountants (AICPA) and the SEC did not or are
not believed by management to have a material impact on the Companys present or
future consolidated financial statements.

# 3. Stock-based
Compensation

Effective January 1, 2006, the
Company adopted the provisions of FASB Statement No. 123 (revised 2004),
Share-Based Payment and the Securities and Exchange Commission Staff
Accounting Bulletin No. 107 (collectively, Statement No. 123(R)),
which establish accounting for share-based payment (SBP) awards exchanged for
employee services and requires companies to expense the estimated fair value of these
awards over the requisite employee service period.

Statement No. 123(R) requires
companies to record compensation expense for stock options measured at fair value, on the
date of grant, using an option-pricing model. The fair value of stock options is
determined using the Binomial Lattice Model instead of the Black-Scholes Model previously
utilized under Statement No. 123. The Company believes that the revised model
represents a more likely projection of actual outcomes.

Statement No. 123(R) requires
that the realized tax benefit related to the excess of the deductible amount over the
compensation expense recognized be reported as a financing cash flow rather than as an
operating cash flow, as required under previous accounting guidance. The Company does not
recognize any tax benefit related to this based on the Companys historical operating
performance, lack of taxable income and the accumulated deficit.

As of March 31, 2007, there was $0.8
million of total unrecognized compensation cost related to non-vested share-based
compensation arrangements granted under the Companys various option plans; that cost
is expected to be recognized over a period of 2.75 years.

The following table sets forth the
fair value of SBP awards estimated using the Binomial-Lattice valuation model, with the
following weighted-average assumptions and fair values as follows:

5

---

|                                       | Three Months Ended March 31,
|-------------------------------------- | ----------------------------
|
|Volatility (percent)*                  |                             
|Expected term (in years)**             |                             
|Risk-free interest rate (percent)***   |                             
|Expected dividend rate (percent)       |                             
|Forfeiture rate (percent)****          |                             
|Weighted-average fair value per option |                             
|Granted                                |                             

* Volatility is projected using Industry Analysis forecasts for earnings, EPS, and stock price, and the Company's earning forecast.

** The expected term  represents the weighted  average period the option is expected to be  outstanding  and is based  primarily on the
historical exercise behavior of employees.

*** The risk free interest rate is based on the U.S.  Treasury  zero-coupon  yield with a maturity that  approximates the expected life
of the option.

**** Forfeiture rate is the estimated percentage of options forfeited by employees by leaving or being terminated before vesting.

At March 31,  2007,  the  Company had two  stock-based  compensation  plans.  They are:  (a) 1997 Stock  Option Plan and (b) 2000 Stock
Incentive Plan, which are described below.

(a) 1997 Stock Option Plan

In May 1997, the Company adopted its
1997 Stock Plan under which 3,000,000 shares of common stock were reserved for issuance to
eligible employees, directors and consultants upon exercise of stock options and stock
purchase rights. During the year ended December 31, 2000, an additional 5,200,000
shares were reserved for issuance under the 1997 Stock Plan. Incentive stock options are
granted at a price not less than 100% of the fair market value of the Companys
common stock and at a price of not less than 110% of the fair market value for grants to
any person who owned more than 10% of the voting power of all classes of stock on the date
of grant. Nonstatutory stock options are granted at a price not less than 85% of the fair
market value of the common stock and at a price not less than 110% of the fair market
value for grants to a person who owned more than 10% of the voting power of all classes of
stock on the date of the grant. Options granted under the 1997 Stock Plan generally vest
over four years and are exercisable for not more than ten years (five years for grants to
any person who owned more than 10% of the voting power of all classes of stock on the date
of the grant). In November 2000, the 1997 Stock Plan was replaced by the 2000 Stock
Incentive Plan.

(b) 2000 Stock Incentive
Plan

In November 2000, the Company adopted
its 2000 Stock Incentive Plan under which 1,500,000 shares of common stock were reserved
for issuance to eligible employees, directors and consultants upon exercise of stock
options and stock purchase rights. On January 1 of each year, beginning on January 1,
2001, the number of shares available for grant will automatically increase by the lesser
of: (i) 1,700,000 shares; (ii) 5% of the fully diluted outstanding shares of
stock on that date; or (iii) a lesser amount as may be determined by the Board of
Directors. The Board of Directors determined not to increase the number of shares
available under the Plan on January 1, 2006 and 2007, respectively. Incentive stock
options and nonstatutory stock options are granted at 100% of the fair market value of the
Companys common stock on the date of grant.

6

---

Options granted under the 2000 Stock
Incentive Plan generally vest over four years and are exercisable for not more than ten
years.

The following information relates to
the stock option activity for the three months ended March 31, 2007:

|Options                                       | Shares | WeightedAverageExercisePrice | WeightedAverageRemainingContractualLife | AggregateIntrinstcValue
|--------------------------------------------- | ------ | ---------------------------- | --------------------------------------- | -----------------------
|Outstanding at December 31, 2006              |        |                              | 5,046,083                               | $                      
|Granted                                       |        |                              | 185,500                                 |                        
|Exercised                                     |        |                              | (84,225)                                |                        
|Forfeited                                     |        |                              | (15,600)                                |                        
|Outstanding at March 31, 2007                 |        |                              | 5,131,758                               | $                      
|Vested and expected to vest at March 31, 2007 |        |                              | 5,131,758                               | $                      
|Exercisable at March 31, 2006                 |        |                              | 4,431,979                               | $                      

The aggregate intrinsic value in the table
above represents the total pre-tax intrinsic value (the difference between the
Companys closing stock price on the last trading day of the first quarter of fiscal
2007 and the exercise price, multiplied by the number of in-the-money options) that would
have been received by the option holders had all option holders exercised their options on
March 31, 2007. This amount changes based on the fair market value of the Companys
stock. The total intrinsic value of options exercised for the three months ended March 31,
2007 and 2006 was $87,000 and $267,000, respectively.

The weighted average grant date fair
value of options granted during the quarter ended March 31, 2007 and 2006 was $382,000 and
$123,900, respectively.

Expected dividend rate is 0% for both
three month periods ended March 31, 2007 and 2006 respectively.

Cash received from option exercises
during the three months ended March 31, 2007 and 2006 was $72,000 and $96,000,
respectively. They are included within the financing activities section in the
accompanying consolidated statements of cash flows.

# 4.Inventories, net (in thousands)

|                | March 31, 2007 | December 31, 2006
|--------------- | -------------- | -----------------
|                |                | (unaudited)      
|                |                |                  
|Finished goods  |                | $   1,544        
|Work-in-process |                | 2,116            
|Raw materials   |                | 1,283            
|                |                |                  
|                |                | $   4,943        
|                |                |                  
|                |                |                  

# 5. Net Income (Loss) Per
Share

Basic net income (loss) per share is
computed by dividing net income (loss) for the period by the weighted average number of
shares of common stock outstanding during the period. Diluted net income (loss) per share
is computed by dividing the net income (loss) for the period by the combination of
dilutive common share equivalents, comprised of shares issuable under the Companys
stock-based compensation plans, and the weighted average number of common shares
outstanding during the period. There were no incremental dilutive common share equivalents
in the periods presented.

7

---

The following table sets forth the
computation of basic and diluted net income (loss) per share for the periods indicated (in
thousands, except per share data):

|                                                       | Three Months Ended March 31,
|------------------------------------------------------ | ----------------------------
|
|Numerator:                                             |                             
|Net income (loss)                                      |                             
|                                                       |                             
|Denominator:                                           |                             
|Shares used in computing net loss per share:           |                             
|Weighted average of common shares outstanding          |                             
|Less: Weighted average of shares subject to repurchase |                             
|                                                       |                             
|Basic                                                  |                             
|                                                       |                             
|Diluted                                                |                             
|                                                       |                             
|Net income (loss) per share:                           |                             
|Basic                                                  |                             
|                                                       |                             
|Dulited                                                |                             
|                                                       |                             

All outstanding stock options and
shares subject to repurchase by the Company have been excluded from the calculation of
diluted net income (loss) per share as all such securities were anti-dilutive for all
periods presented. The total number of shares excluded from the calculation of diluted net
income (loss) per share is as follows (in thousands):

|                                     | Three Months Ended March 31,
|------------------------------------ | ----------------------------
|
|Options to purchase common stock and |                             
|shares subject to repurchase         |                             
|                                     |                             
|                                     |                             

# 6. Comprehensive
Income/(Loss)

Comprehensive income (loss) is
defined as the change in equity of a company during a period resulting from transactions
and other events and circumstances, excluding transactions resulting from investments by
owners and distributions to owners. The difference between net income (loss) and
comprehensive income (loss) for the Company is due to foreign exchange translations
adjustments and unrealized gain on available-for-sale securities.

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

|                                          | Three Months Ended March 31,
|----------------------------------------- | ----------------------------
|
|Net income (loss)                         |                             
|Cumulative translation adjustments        |                             
|Unrealized gain on short-term investments |                             
|                                          |                             
|Total comprehensive income (loss)         |                             
|                                          |                             
|                                          |                             

8

---

# 7. Income Taxes

The Company adopted the provisions of
FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes on
January 1, 2007.  FIN 48 prescribes a recognition threshold and measurement attribute
for financial statement recognition and measurement of a tax position taken or expected to
be taken in a tax return, and also provides guidance on derecognition, classification,
interest and penalties, accounting in interim periods, disclosure, and transition. The
Company has determined the impact of the adoption of FIN 48 is insignificant to the
Companys consolidated financial position, results of operations and cash flows.

# 8. Commitments and
Contingencies

# Litigation:

From time to time, the Company may be
involved in litigation in the normal course of business. As of the date of these financial
statements, the Company is not aware of any material legal proceedings pending or
threatened against the Company.

# Indemnification and
Product Warranty:

The Company indemnifies certain
customers, suppliers and subcontractors for attorney fees and damages and costs awarded
against these parties in certain circumstances in which products are alleged to infringe
third party intellectual property rights, including patents, trade secrets, trademarks or
copyrights. In all cases, there are limits on and exceptions to the potential liability
for indemnification relating to intellectual property infringement claims. The Company
cannot estimate the amount of potential future payments, if any, that it might be required
to make as a result of these agreements. To date, the Company has not paid any claim or
been required to defend any action related to indemnification obligations, and
accordingly, the Company has not accrued any amounts for such indemnification obligations.
However, the Company may record charges in the future as a result of these indemnification
obligations.

The Company generally warrants
products against defects in materials and workmanship and non-conformance to
specifications for varying lengths of time. If there is a material increase in customer
claims compared with historical experience, or if costs of servicing warranty claims are
greater than expected, the Company may record a charge against cost of revenues.

# Operating Leases:

The Company leases certain office
space under long-term operating leases expiring at various dates through 2011.

The Companys aggregate future
minimum facility lease payments are as follows (in thousands):

|                                     | 
|------------------------------------ | 
|Nine months ending December 31, 2007 | 
|Years ending December 31:            | 
|2008                                 | 
|2009                                 | 
|2010                                 | 
|2011                                 | 
|                                     | 
|Total                                | 
|                                     | 
|                                     | 
|                                     | 

# Letter of Credit:

The Company had a letter of credit of
$0.4 million outstanding as of March 31, 2007. The letter of credit is collateralized by
short-term investments of $0.4 million.

9

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# 8. Bank Loan

In November 2004, the Company entered
into a ten-year loan of $0.5 million in Taiwan with a fixed interest rate of 2.3% for the
first two years and 3.6% for the following years. In November 2006, the Company entered
into a nine-year loan of $0.2 million in Taiwan with a fixed interest rate of 2.8% for the
first year.Both loans are secured by the Companys building in Taiwan. The
net book value of the building was $0.6 million as of March 31, 2007.

In April 2005, the Company entered
into a five-year equipment loan of $0.2 million in Taiwan with a fixed interest rate of
2.9% for the first year and 3.7% for the following years.

Payments due under bank loans as of
March 31, 2007 are as follows (in thousands):

|                                        | 
|--------------------------------------- | 
|Years ending December 31,               | 
|2007                                    | 
|2008                                    | 
|2009                                    | 
|2010                                    | 
|2011                                    | 
|2012 and after                          | 
|                                        | 
|Total payment                           | 
|Less: Amounts representing interest     | 
|                                        | 
|Present value of net remaining payments | 
|Less: current portion                   | 
|                                        | 
|Long-term portion                       | 
|                                        | 
|                                        | 

# 9. Related Party
Transactions

As of March 31, 2007, Foxconn Holding
Limited was a holder of 19.7% of the Companys common stock, based on share ownership
information set forth in a Schedule 13G filed by Foxconn Holding Limited on January 4,
2002. The Company sells products and purchases raw materials from Hon Hai Precision
Company Limited, who is the parent company of Foxconn Holding Limited, in the normal
course of business. These transactions were made at prices and terms consistent with those
with unrelated third parties. Sales of products to Hon Hai Precision Industry Company
Limited were $0.1 million in the quarter ended March 31, 2007. Purchases of raw materials
from Hon Hai Precision Company Limited were $0.6 million in the quarter ended March 31,
2007. Amounts due from Hon Hai Precision Company Limited were $0.1 million at March 31,
2007. Amounts due to Hon Hai Precision Company Limited were $0.6 million at March 31,
2007.

# 10. Geographic Segment
Information

The Company operates in a single
industry segment. This industry segment is characterized by rapid technological change and
significant competition.

The following is a summary of the
Companys revenues generated by geographic segments, revenues generated by product
lines and identifiable assets located in these segments (in thousands):

10

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|              | Three Months Ended March 31,
|------------- | ----------------------------
|
|Revenues      |                             
|North America |                             
|Europe        |                             
|Asia          |                             
|              |                             
|              |                             
|              |                             
|              |                             
|              |                             

|                                       | Three Months Ended March 31,
|-------------------------------------- | ----------------------------
|
|Revenues                               |                             
|Optical path multiplexing solution     |                             
|Dense wavelength division multiplexing |                             
|                                       |                             
|                                       |                             
|                                       |                             
|                                       |                             

|                       | March 312007 | March 312006
|---------------------- | ------------ | ------------
|                       |              |             
|Property and Equipment |              |             
|United States          |              |             
|Taiwan                 |              |             
|China                  |              |             
|                       |              |             
|                       |              |             
|                       |              |             
|                       |              |             
|                       |              |             

# ITEM 2:
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

When used in this Report, the words
expects, anticipates, believes, estimates,
plans, intends, could, will,
may and similar expressions are intended to identify forward-looking
statements. These are statements that relate to future periods and include statements as
to our operating results, revenues, sources of revenues, cost of revenues, gross profit,
net operating losses, profitability, the amount and mix of anticipated investments,
expenditures and expenses, our liquidity and the adequacy of our capital resources,
exposure to interest rate or currency fluctuation, anticipated working capital and capital
expenditures, reliance on our OPMS products, our cash flow, trends in average selling
prices, our reliance on the commercial success of our DWDM-related products, plans for
future products and enhancements of existing products, features, benefits and uses of our
products, demand for our products, our success being tied to relationships with key
customers, industry trends and market demand, our efforts to protect our intellectual
property, potential indemnification agreements, increases in the number of possible
license offers and patent infringement claims, our competitive position, sources of
competition, consolidation in our industry, our international strategy, inventory
management, our plans for a reverse stock split, our employee relations, the adequacy of
our internal controls, the effect of recent accounting pronouncements and our critical
accounting policies, estimates, models and assumptions. Forward-looking statements are
subject to risks and uncertainties that could cause actual results to differ materially
from those projected. These risks and uncertainties include, but are not limited to, those
risks discussed elsewhere in this report, as well as risks related to the development of
the metropolitan, last mile access, and enterprise networks, customer acceptance of our
products, our ability to retain and obtain customers, industry-wide overcapacity and
shifts in supply and demand for optical components and modules, our ability to meet
customer demand and manage inventory, fluctuations in demand for our products, declines in
average selling prices, development of new products by us and our competitors, increased
competition, inability to obtain sufficient quantities of a raw material product, loss of
a key supplier, integration of acquired businesses or technologies, financial stability in
foreign markets, foreign currency exchange rates, interest rates, costs associated with
being a public company, delisting from the Nasdaq Capital Market, failure to meet customer
requirements, our ability to license intellectual property on commercially reasonable
terms, economic stability, and the risks set forth below under Part II, Item 1A,
Risk Factors. These forward-looking statements speak only as of the date
hereof. The Company expressly disclaims any obligation or undertaking to release publicly
any updates or revisions to any forward-looking statements contained herein to reflect any
change in the Companys expectations with regard thereto or any change in events,
conditions or circumstances on which any such statement is based.

11

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This Managements Discussion and
Analysis of Financial Condition and Results of Operations should be read in conjunction
with the section entitled Managements Discussion and Analysis of Financial
Condition and Results of Operations in the Companys Annual Report on Form
10-K, its Consolidated Financial Statement and the notes thereto, for the year ended
December 31, 2006.

The following discussion should be
read in conjunction with our Condensed Consolidated Financial Statements and Notes
thereto.

# Critical Accounting
Policies and Estimates

Stock-based Compensation
Expense

On January 1, 2006, we adopted
Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based
Payment, (SFAS 123(R)) which requires the measurement and recognition of
compensation expense for all share-based payment awards made to our employees and
directors including employee stock options and employee stock purchases pursuant to our
Employee Stock Purchase Plan (ESPP) based on estimated fair values. We adopted
SFAS 123(R) using the modified prospective transition method, which requires the
application of the accounting standard as of January 1, 2006, the first day of our
2006 fiscal year.

Stock-based compensation expense
recognized under SFAS 123(R) for the three months ended March 31, 2007 and 2006 was
$124,000 and $77,000, respectively, determined by the Binomial Lattice valuation model,
and represents stock-based compensation expense related to employee stock options. As of
March 31, 2007 total unrecognized compensation costs related to unnvested stock options
was $0.8 million which is expected to be recognized as an expense over a weighted average
period of approximately 2.75 years.

Managements discussion and
analysis of financial condition and results of operations is based on our Condensed
Consolidated Financial Statements, which have been prepared in accordance with accounting
principles generally accepted in the United States of America. The preparation of these
financial statements requires us to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. On an ongoing basis, we evaluate our estimates,
including those related to revenue recognition, bad debts, inventories, asset impairments,
income taxes, contingencies, and litigation. We base our estimates on historical
experience and on various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgments about the carrying
values for assets and liabilities that are not readily apparent from other sources. Actual
results may differ from these estimates under different assumptions or conditions.

For additional information regarding
our critical accounting policies and estimates, see the section entitled
Managements Discussion and Analysis of Financial Condition and Results of
Operations in our Annual Report on Form 10-K for the year ended December 31,
2006.

# Overview

We were founded in December 1995 and
commenced operations to design, manufacture and market fiber optic interconnect products,
which we call our Optical Path Management Solution, or OPMS, products. We started selling
our dense wavelength division multiplexing, or DWDM, and other wavelength management
products in July 2000. Since introduction, sales of DWDM-related products have fluctuated
with the overall market for these products.

12

---

Our DWDM-related products contributed
revenues of $2.0 million and $2.1 million for the quarters ended March 31, 2007 and March
31, 2006, respectively. In the quarters ended March 31, 2007 and March 31, 2006, our
top 10 customers comprised 63.9% and 59.0% of our revenues, respectively. For the three
months ended March 31, 2007, three customers accounted for 19.3%, 11.8%, and 11.3% of our
total revenues, respectively. For the three months ended March 31, 2006, one customers
accounted for 10.7% of our total revenues. We market and sell our products predominantly
through our direct sales force.

Our cost of revenues consists of raw
materials, components, direct labor, manufacturing overhead and production start-up costs.
We expect that our cost of revenues as a percentage of revenues will fluctuate from period
to period based on a number of factors including:

o   changes in manufacturing volume;

o   costs incurred in establishing additional manufacturing lines and facilities;

o   inventory write-downs and impairment charges related to manufacturing assets;

o   mix of products sold;

o   changes in our pricing and pricing from our competitors;

o   mix of sales channels through which our products are sold; and

o   mix of domestic and international sales.

Research and development expenses
consist primarily of salaries and related personnel expenses, fees paid to outside service
providers, materials costs, test units, facilities, overhead and other expenses related to
the design, development, testing and enhancement of our products. We expense our research
and development costs as they are incurred. We believe that a significant level of
investment for product research and development is required to remain competitive.

Sales and marketing expenses consist
primarily of salaries, commissions and related expenses for personnel engaged in
marketing, sales and technical support functions, as well as costs associated with trade
shows, promotional activities and travel expenses. We intend to continue to invest in our
sales and marketing efforts, both domestically and internationally, in order to increase
market awareness and to generate sales of our products. However, we cannot be certain that
our expenditures will result in higher revenues. In addition, we believe that our future
success depends upon establishing successful relationships with a variety of key
customers.

General and administrative expenses
consist primarily of salaries and related expenses for executive, finance, administrative,
accounting and human resources personnel, insurance and professional fees for legal and
accounting support.

# Results of Operations

The following table sets forth the
relationship between various components of operations, stated as a percentage of revenues
for the periods indicated:

13

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|                                  | Three Months Ended March 31,
|--------------------------------- | ----------------------------
|
|Revenues                          |                             
|Cost of revenues                  |                             
|                                  |                             
|Gross profit                      |                             
|Operating expenses:               |                             
|Research and development          |                             
|Sales and marketing               |                             
|General and administrative        |                             
|                                  |                             
|Total operating expenses          |                             
|Loss from operations              |                             
|Interest and other income, net    |                             
|                                  |                             
|Income (loss) before income taxes |                             
|                                  |                             

Revenues. Revenues were $6.7 million and $5.2 million for the three months ended
          March 31, 2007 and 2006, respectively. Revenues increased 28% in the quarter
          ended March 31, 2007 from the same period in 2006, primarily due to increased
          volume shipments of our Fiber to the Premise (FTTP) related products.

Cost of Revenues.Cost of
revenues was $4.6 million and $3.9 million for the three months ended March 31, 2007 and
2006, respectively. Cost of revenues as a percentage of revenues decreased to 68.7% for
the three months ended March 31, 2007 from 74.4% for the three months ended March 31,
2006. Cost of revenues for the period ended March 31, 2007 benefited from increased
factory utilization and improved manufacturing overhead absorption as a result of
increased volume shipments of our products.

Gross Profit.Gross profit
increased to $2.1 million, or 31.3% of revenues, for the three months ended March 31, 2007
from $1.3 million, or 25.6% of revenues, for the same period in 2006. For the period
ended March 31, 2007, higher utilization of our factories as a result of increased volume
shipments of our products resulted in an improved gross margin. We expect our gross profit
as a percentage of revenues continue to improve with higher production volumes, which we
anticipate will result in improved absorption of overhead expenses. However, decreasing
average selling prices will negatively impact our gross profit and may offset any benefits
from improved absorption.

Research and Development
Expenses. Research and development expenses decreased to $0.7 million for the three
months ended March 31, 2007 from $0.8 million for the same period in 2006. As a percentage
of revenues, research and development expenses decreased to 10.3% in the three months
ended March 31, 2007 from 14.5% for the same period in 2006. We expect to increase
research and development expenses slightly as we intend to continue to invest in our
research and product development efforts.

Sales and Marketing Expenses.
Sales and marketing expenses remained at $0.6 million for the three months ended March 31,
2007 and for the same period in 2006. As a percentage of revenues, sales and marketing
expenses decreased to 8.5% in the three months ended March 31, 2007 from 11.2% in the
three months ended March 31, 2006. We expect sales and marketing expenses to decline
slightly in the next few quarters as a result of fewer trade show activities.

General and Administrative
Expenses. General and administrative expenses increased to $0.9 million for the three
months ended March 31, 2007 from $0.8 million for the same period in 2006. As a percentage
of revenues, general and administrative expenses decreased to 12.8% in the three months
ended March 31, 2007 from 14.6% for the same period in 2006. We expect to increase general
and administrative expenses due to higher fees and costs associated with compliance with
laws and regulations such as the Sarbanes-Oxley Act of 2002 and the regulations
promulgated thereunder.

14

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Stock-Based Compensation.
Total stock based compensation increased to $124,000 for the three months ended March 31,
2007 from $77,000 for the same period in 2006. This increase was due to higher volatility
rate projected for the year of 2007.

Interest and Other Income, Net.Interest and other income, net, was $0.4 million for the three months ended March 31,
2007 and 2006, respectively.

# Liquidity and Capital
Resources

At March 31, 2007, we had cash and
cash equivalents of $3.2 million and short-term investments of $28.0 million.

Net cash provided by operating
activities was $0.2 million for the three months ended March 31, 2007. Net cash provided
by operating activities was primarily due to net income of $0.4 million and total
depreciation and amortization expenses of $0.4 million, which was offset by $0.4 million
increase in accounts receivable and $0.4 million increase in inventory. Accounts payable
increased by $0.7 million offset by a $0.4 million decrease in accrued expenses. Net cash
used in operating activities was $50,000 for the three months ended March 31, 2006. Net
cash used in operating activities was primarily due to net loss of $0.4 million, which was
offset by depreciation expenses of $0.4 million and $0.2 million of inventory provision.
Accounts receivable decreased by $0.4 million and accounts payable increased by $0.1
million offset by a $0.4 million increase in inventory and a $0.3 million increase in
accrued expenses.

Cash used in investing activities was
$1.3 million for the three months ended March 31, 2007. In the three months ended March
31, 2007, we spent a net $1.1 million for the purchase of short-term securities, and we
used $0.2 million to acquire property and equipment. Net cash provided by investing
activities was $0.3 million for the three months ended March 31, 2006. This resulted from
$0.4 million in net proceeds from sales of short-term investment offset by $0.1 million
spending on equipment purchases.

Cash provided by financing activities
was $48,000 and $78,000 for the three months ended March 31, 2007 and 2006, respectively,
resulting from proceeds from exercise of options to purchase common stock and repayment of
bank borrowings.

We believe that our current cash,
cash equivalents and short-term investments will be sufficient to meet our anticipated
cash needs for working capital and capital expenditures for at least the next 12 months.
However, our future growth, including any potential acquisitions, may require additional
funding. If cash generated from operations is insufficient to satisfy our long-term
liquidity requirements, we may need to raise capital through additional equity or debt
financings, additional credit facilities, strategic relationships or other arrangements.
If additional funds are raised through the issuance of securities, these securities could
have rights, preferences and privileges senior to holders of common stock, and the terms
of any debt facility could impose restrictions on our operations. The sale of additional
equity or debt securities could result in additional dilution to our stockholders, and
additional financing may not be available in amounts or on terms acceptable to us, if at
all. If we are unable to obtain additional financing, we may be required to reduce the
scope of our planned product development and marketing efforts. Strategic arrangements, if
necessary to raise additional funds, may require us to relinquish our rights to certain of
our technologies or products. Our failure to raise capital when needed could harm our
business, financial condition and operating results.

# Contractual Obligations

Our corporate headquarters are in
Sunnyvale, California where we lease the facilities from a third party. The lease has a
six-year term and expires in 2010. The facility is 34,800 square feet and the current
monthly rent is $31,668.

15

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In December 2000, we purchased
approximately 8,200 square feet of space immediately adjacent to our leased facility in
Tu-Cheng City, Taiwan for $0.8 million. In August 2002, we entered into a lease for 62,000
square foot facility in the Shenzhen area of China, which will expire in July 2007. We
intend to renew this lease prior to its expiration date.

Additionally, In February 2006, we
entered into a new lease for a total of 21,600 square feet facility located in Hu-Kou,
Taiwan. This lease will expire in January 2009.

# Recent Accounting
Pronouncements

In February 2007, the Financial
Accounting Standards Board (FASB) issued SFAS No. 159, The Fair Value
Option for Financial Assets and Financial Liabilities. SFAS No. 159 permits entities
to elect to measure many financial instruments and certain other items at fair value that
are not currently required to be measured at fair value. This election is irrevocable.
SFAS No. 159 will be effective for the Company on January 1, 2008. The Company is
currently assessing the potential impact that the adoption of SFAS 159 will have on its
financial statements.

In  September  2006,  the FASB issued SFAS No. 157,  "Fair Value  Measurements"  (SFAS  157),  which  defines  fair value,  establishes
guidelines for measuring fair value and expands disclosures  regarding fair value measurements.  SFAS 157 does not require any new fair
value  measurements but rather eliminates  inconsistencies  in guidance found in various prior accounting  pronouncements.  SFAS 157 is
effective for fiscal years beginning after November 15, 2007.  Earlier  adoption is permitted,  provided the company has not yet issued
financial  statements,  including for interim  periods,  for that fiscal year.  The Company is currently  evaluating the impact of SFAS
157,  but does not expect the  adoption  of SFAS 157 to have a  material  impact on its  consolidated  financial  position,  results of
operations or cash flows.

In July 2006, the FASB issued FASB  Interpretation  48,  "Accounting for Uncertainty in Income Taxes" (FIN 48) an  interpretation  of
FASB No. 109,  "Accounting  for Income  Taxes." FIN 48 prescribes a  comprehensive  model for  recognizing,  measuring,  presenting and
disclosing in the financial  statements  tax positions  taken or expected to be taken on a tax return,  including a decision on whether
or not to file in a particular  jurisdiction.  FIN 48 clarifies  the  accounting  for  uncertainty  in income  taxes  recognized  in an
enterprise's  financial  statements in accordance with FASB Statement No. 109,  "Accounting for Income Taxes." The provisions of FIN 48
are to be applied to all tax positions upon initial  adoption of this standard.  Only tax positions that meet a  "more-likely-than-not"
recognition  threshold at the effective  date may be recognized or continue to be recognized  upon adoption of FIN 48.  The  cumulative
effect of applying  the  provisions  of FIN 48 is reported as an  adjustment  to the opening  balance of retained  earnings.  FIN 48 is
effective for years beginning after December 15,  2006;  therefore,  the Company has adopted FIN 48 as of January 1,  2007. The Company
expects the adoption of this  accounting  standard will increase the level of disclosure  that the Company  provides  regarding its tax
positions.  The adoption of FIN 48 is not  expected to have a material  impact on the  Company's  consolidated  financial  position and
results of operations.

Other recent accounting
pronouncements issued by the FASB (including its Emerging Issues Task Force), the American
Institute of Certified Public Accountants (AICPA) and the SEC did not or are
not believed by management to have a material impact on the Companys present or
future consolidated financial statements.

16

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# ITEM 3: QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT MARKET RISK

# Interest Rate Sensitivity

We currently maintain our funds
primarily in money market funds and highly liquid marketable securities. We do not have
any derivative financial instruments. As of March 31, 2007, $22.1 million, or
76% of our investments, had maturities of less than three months. We expect to continue to
invest a significant portion of our existing cash in interest bearing, investment grade
securities, with maturities of less than 12 months pending their need for other uses. We
do not believe that our investments, in the aggregate, have significant exposure to
interest rate risk and we do not believe that a 10% change in interest rates will have a
significant impact on our investments or interest income.

# Exchange Rate Sensitivity

We currently have operations in the
United States, Taiwan and China. The functional currency of our subsidiaries in Taiwan and
China are the local currencies, and we are subject to foreign currency exchange rate
fluctuations associated with the translation to United States dollars. Though some
expenses are incurred by our Taiwan and China operations, substantially all of our sales
are made in United States dollars; hence, we have minimal exposure to foreign currency
rate fluctuations relating to sales transactions. We do not believe that a hypothetical
change of 10% in the foreign currency exchange rates would have a material impact on our
financial results.

While we expect our international
revenues to continue to be denominated predominately in United States dollars, an
increasing portion of our international revenues may be denominated in foreign currencies
in the future. In addition, we plan to continue to expand our overseas operations. As a
result, our operating results may become subject to significant fluctuations based upon
changes in exchange rates of certain currencies in relation to the United States dollar.
We will analyze our exposure to currency fluctuations and may engage in financial hedging
techniques in the future to attempt to minimize the effect of these potential
fluctuations; however, exchange rate fluctuations may adversely affect our financial
results in the future.

# ITEM 4: CONTROLS AND
PROCEDURES

(a)    
          Evaluation of disclosure controls and procedures. We maintain
          disclosure controls and procedures, as such term is defined in Rule
          13a-15(e) under the Securities Exchange Act of 1934 (the Exchange
          Act), that are designed to ensure that information required to be
          disclosed by us in reports that we file or submit under the Exchange Act is
          recorded, processed, summarized, and reported within the time periods specified
          in Securities and Exchange Commission rules and forms, and that such information
          is accumulated and communicated to our management, including our Chief Executive
          Officer and Acting Chief Financial Officer, as appropriate, to allow timely
          decisions regarding required disclosure. In designing and evaluating our
          disclosure controls and procedures, management recognized that disclosure
          controls and procedures, no matter how well conceived and operated, can provide
          only reasonable, not absolute, assurance that the objectives of the disclosure
          controls and procedures are met. Our disclosure controls and procedures have
          been designed to meet reasonable assurance standards. Additionally, in designing
          disclosure controls and procedures, our management necessarily was required to
          apply its judgment in evaluating the cost-benefit relationship of possible
          disclosure controls and procedures. The design of any disclosure controls and
          procedures also is based in part upon certain assumptions about the likelihood
          of future events, and there can be no assurance that any design will succeed in
          achieving its stated goals under all potential future conditions. Based on their
          evaluation as of the end of the period covered by this Quarterly Report on Form
          10-Q, our Chief Executive Officer and Acting Chief Financial Officer have
          concluded that, as of such date, our disclosure controls and procedures were
          effective to ensure that material information relating to us, including our
          consolidated subsidiaries, is made known to them by others within those
          entities, particularly during the period in which this Quarterly Report on Form
          10-Q was being prepared.

17

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(b)    
          Changes in internal controls. There was no change in our internal control
          over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act)
          identified in connection with the evaluation described in Item 4(a) above that
          occurred during our last fiscal quarter that has materially affected, or is
          reasonably likely to materially affect, our internal control over financial
          reporting.

18

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# PART II: OTHER
INFORMATION

# ITEM 1A: RISK FACTORS

We have a history of losses, may
experience future losses and may not be able to generate sufficient revenues in the future
to achieve and sustain profitability.

We had net income of approximately
$0.4 million in the first quarter of fiscal 2007. We incurred net loss of approximately
$0.4 million in the first quarter of fiscal 2006. Although we generated a profit in the
first quarter of fiscal 2007, we may not be able to sustain profitability in the future.
Although our cash and cash equivalents increased in the first quarter of fiscal 2007, we
could find our cash flows to be negative again in the future as we continue to invest in
our business. As of March 31, 2007, we had an accumulated deficit of approximately $71.4
million.

We continue to experience fluctuating
demand for our products. If demand for our products increases in the future, we expect we
will incur significant and increasing expenses for expansion of our manufacturing
operations, research and development, sales and marketing, and administration, and in
developing direct sales and distribution channels. Given the rate at which competition in
our industry intensifies and the fluctuations in demand for our products, we may not be
able to adequately control our costs and expenses or achieve or maintain adequate
operating margins. As a result, to maintain profitability, we will need to generate and
sustain substantially higher revenues while maintaining reasonable cost and expense
levels. We may not be able to sustain profitability on a quarterly or an annual basis.

Our Optical Path Management
Solution, or OPMS, products have historically represented a significant part of our
revenues, and if we are unsuccessful in commercially selling our DWDM-related products,
our business will be seriously harmed.

Sales of our OPMS products accounted
for over 70% of our revenues in the quarter ended March 31, 2007 and substantially all of
our historical revenues. We expect to substantially depend on these products for our
near-term revenues. Any significant decline in the price of, or demand for, these
products, or failure to increase their market acceptance, would seriously harm our
business. In addition, we believe that our future growth and a significant portion of our
future revenues will depend on the commercial success of our DWDM-related products, which
we began shipping commercially in July 2000. Demand for these products has fluctuated over
the past few years, declining sharply starting in mid fiscal 2001 and then increasing
beginning in 2003. If demand for these products does not continue to increase and our
target customers do not continue to adopt and purchase our DWDM-related products, our
revenues may decline and we may have to write-off additional inventory that is currently
on our books.

We depend on a small number
of customers for a significant portion of our total revenue and the loss of, or a
significant reduction in orders from, any of these customers, would significantly reduce
our revenue and harm our operating results.

In the quarters ended March 31, 2007
and 2006, our top 10 customers comprised 63.9% and 59.0% of our revenues, respectively.
For the three months ended March 31, 2007, three customers accounted for 19.3%, 11.8%, and
11.3% of our total revenues, respectively. For the three months ended March 31, 2006, one
customer accounted for 10.7% of our total revenues.

We derive a significant portion of
our revenue from a small number of customers, and we anticipate that we will continue to
do so in the foreseeable future. These customers may decide not to purchase our products
at all, to purchase fewer products than they did in the past, or to alter their purchasing
patterns in some other way. The loss of any significant customer, a significant reduction
in sales we make to them, or any problems collecting receivables from them would likely
harm our financial condition and results of operations.

19

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Our quarterly and annual financial
results have historically fluctuated due primarily to introduction of, demand for, and
sales of our products, and future fluctuations may cause our stock price to decline.

We believe that period-to-period
comparisons of our operating results are not a good indication of our future performance.
Our quarterly operating results have fluctuated in the past and are likely to fluctuate
significantly in the future due to a number of factors. For example, the timing and
expenses associated with product introductions and establishing additional manufacturing
lines and facilities, changes in manufacturing volume, declining average selling prices of
our products, the timing and extent of product sales, the mix of domestic and
international sales, the mix of sales channels through which our products are sold, the
mix of products sold and significant fluctuations in the demand for our products have
caused our operating results to fluctuate in the past. Because we incur operating expenses
based on anticipated revenue trends, and a high percentage of our expenses are fixed in
the short term, any delay in generating or recognizing revenues or any decrease in
revenues could significantly harm our quarterly results of operations. Other factors, many
of which are more fully discussed in other risk factors below, may also cause our results
to fluctuate. Many of the factors that may cause our results to fluctuate are outside of
our control. If our quarterly or annual operating results do not meet the expectations of
investors and securities analysts, the trading price of our common stock could
significantly decline.

If we cannot attract more optical
communications equipment manufacturers to purchase our products, we may not be able to
increase or sustain our revenues.

Our future success will depend on our
ability to migrate existing customers to our new products and our ability to attract
additional customers. Some of our present customers are relatively new companies. The
growth of our customer base could be adversely affected by:



     o           customer unwillingness to implement our products;

     o           any delays or  difficulties  that we may incur in
completing  the  development  and  introduction  of our planned  products or
         product enhancements;

     o           the success of our customers;

     o           excess inventory in the telecommunications industry;

     o           new product introductions by our competitors;

     o           any failure of our products to perform as expected; or

     o           any difficulty we may incur in meeting customers' delivery requirements
or product specifications.

The fluctuations in the economy have
affected the telecommunications industry. Telecommunications companies have cut back on
their capital expenditure budgets, which has and may continue to further decrease demand
for equipment and parts, including our products. This decrease has had and may continue to
have an adverse effect on the demand for fiber optic products and negatively impact the
growth of our customer base.

We are exposed to risks and
increased expenses and business risk as a result of new Restriction on Hazardous
Substances, or RoHS directives.

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Following the lead of the European
Union, or EU, various governmental agencies have either already put into place or are
planning to introduce regulations that regulate the permissible levels of hazardous
substances in products sold in various regions of the world. For example, the RoHS
directive for EU took effect on July 1, 2006. The labeling provisions of similar
legislation in China went into effect on March 1, 2007. Consequently, many suppliers of
products sold into the EU countries have required their suppliers to be compliant with the
new directive. Many of our customers have adopted this approach and have required our full
compliance. Though we have devoted a significant amount of resources and effort planning
and executing our RoHS program, it is possible that some of our products might be
incompatible with such regulations. In such event, we could experience the following
consequences: loss of revenue, damaged reputation, diversion of resources, monetary
penalties, and legal action.

The market for fiber optic
components is increasingly competitive, and if we are unable to compete successfully our
revenues could decline.

The market for fiber optic components
is intensely competitive. We believe that our principal competitors are the major
manufacturers of optical components and integrated modules, including vendors selling to
third parties and business divisions within communications equipment suppliers. Our
principal competitors in the components market include Avanex Corp., DiCon Fiberoptics,
Inc., JDS Uniphase Corp., Oplink Communications Inc., Stratos International, Inc. and Tyco
Electronics Corporation. We believe that we primarily compete with diversified suppliers
for the majority of our product line and to a lesser extent with niche companies that
offer a more limited product line. Competitors in any portion of our business may also
rapidly become competitors in other portions of our business. In addition, our industry
has recently experienced significant consolidation, and we anticipate that further
consolidation will occur. This consolidation has further increased competition.

Many of our current and potential
competitors have significantly greater financial, technical, marketing, purchasing,
manufacturing and other resources than we do. As a result, these competitors may be able
to respond more quickly to new or emerging technologies and to changes in customer
requirements, to devote greater resources to the development, promotion and sale of
products, to negotiate lower prices on raw materials and components, or to deliver
competitive products at lower prices.

Several of our existing and potential
customers are also current and potential competitors of ours. These companies may develop
or acquire additional competitive products or technologies in the future and subsequently
reduce or cease their purchases from us. In light of the consolidation in the optical
networking industry, we also believe that the size of suppliers will be an increasingly
important part of a purchasers decision-making criteria in the future. We may not be
able to compete successfully with existing or new competitors, and we cannot ensure that
the competitive pressures we face will not result in lower prices for our products, loss
of market share, or reduced gross margins, any of which could harm our business.

New and competing technologies are
emerging due to increased competition and customer demand. The introduction of products
incorporating new or competing technologies or the emergence of new industry standards
could make our existing products noncompetitive. For example, there are technologies for
the design of wavelength division multiplexers that compete with the technology that we
incorporate in our products. If our products do not incorporate technologies demanded by
customers, we could lose market share causing our business to suffer.

If we fail to effectively manage
our operations, specifically given the past history of sudden and dramatic downturn in
demand for our products, our operating results could be harmed.

As of March 31, 2007, we had a total
of 43 full-time employees in Sunnyvale, California, 351 full-time employees in Taiwan, and
319 full-time employees in China. Matching the scale of our operations with demand
fluctuations, combined with the challenges of expanding and managing geographically
dispersed operations, has placed, and will continue to place, a significant strain on our
management and resources. To manage the expected fluctuations in our operations and
personnel, we will be required to:

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o           improve existing and implement new operational, financial and management controls,
 reporting systems and procedures;

     o           hire,  train,  motivate and manage  additional  qualified  personnel,  especially
 if we  experience a significant  increase in
         demand for our products;

     o           effectively expand or reduce our manufacturing capacity, attempting to adjust
it to customer demand; and

     o           effectively manage relationships with our customers, suppliers, representatives
and other third parties.

In addition, we will need to
coordinate our domestic and international operations and establish the necessary
infrastructure to implement our international strategy. If we are not able to manage our
operations in an efficient and timely manner, our business will be severely harmed.

Our success also depends, to a large
degree, on the efficient and uninterrupted operation of our facilities. We have expanded
our manufacturing facilities in Taiwan and manufacture many of our products there. Our
facility in China also houses a substantial portion of our manufacturing operations. There
is significant political tension between Taiwan and China. If there is an outbreak of
hostilities between Taiwan and China, our manufacturing operations may be disrupted or we
may have to relocate our manufacturing operations. Tensions between Taiwan and China may
also affect our facility in China. Relocating a portion of our employees could cause
temporary disruptions in our operations and divert managements attention.

Because of the time it takes to
develop fiber optic components, we incur substantial expenses for which we may not earn
associated revenues.

The development of new or enhanced
fiber optic products is a complex and uncertain process. We may experience design,
manufacturing, marketing and other difficulties that could delay or prevent the
development, introduction or marketing of new products and enhancements. Development costs
and expenses are incurred before we generate revenues from sales of products resulting
from these efforts. Our total research and development expenses were approximately $0.7
million and $0.8 million for the quarters ended March 31, 2007 and 2006, respectively. We
intend to continue to invest in our research and product development efforts, which could
have a negative impact on our earnings in future periods if we do not earn associated
revenue from such efforts.

If we are unable to develop new
products and product enhancements that achieve market acceptance, sales of our fiber optic
components could decline, which could reduce our revenues.

The communications industry is
characterized by rapidly changing technology, frequent new product introductions, changes
in customer requirements, evolving industry standards and, more recently, significant
variations in customer demand. Our future success depends on our ability to anticipate
market needs and develop products that address those needs. As a result, our products
could quickly become obsolete if we fail to predict market needs accurately or develop new
products or product enhancements in a timely manner. Our failure to predict market needs
accurately or to develop new products or product enhancements in a timely manner will harm
market acceptance and sales of our products. If the development or enhancement of these
products or any other future products takes longer than we anticipate, or if we are unable
to introduce these products to market, our sales will not increase. Even if we are able to
develop and commercially introduce them, these new products may not achieve the widespread
market acceptance necessary to provide an adequate return on our investment.

Current and future demand for our
products depends on the continued growth of the Internet and the communications industry,
which is experiencing rapid consolidation, realignment, oversupply of product inventory
and fluctuating demand for fiber optic products.

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Our future success depends on the
continued growth of the Internet as a widely used medium for communications and commerce,
and the growth of optical networks to meet the increased demand for capacity to transmit
data, or bandwidth. If the Internet does not continue to expand as a medium for
communications and commerce, the need to significantly increase bandwidth across networks
and the market for fiber optic components may not continue to develop. If this growth does
not continue, sales of our products may continue to decline, which would adversely affect
our revenues. Our customers have experienced an oversupply of inventory due to fluctuating
demand for their products that has resulted in inconsistent demand for our products.
Future demand for our products is uncertain and will depend heavily on the continued
growth and upgrading of optical networks, especially in the metropolitan, last mile, and
enterprise access segments of the networks.

Inconsistent spending by
telecommunication companies over the past three years has resulted in fluctuating demand
for our products. The rate at which communication service providers and other fiber optic
network users have built new fiber optic networks or installed new systems in their
existing fiber optic networks has fluctuated in the past and these fluctuations may
continue in the future. These fluctuations may result in reduced demand for new or
upgraded fiber optic systems that utilize our products and therefore, may result in
reduced demand for our products. Declines in the development of new networks and
installation of new systems have resulted in the past in a decrease in demand for our
products, an increase in our inventory, and erosion in the average selling prices of our
products.

The communications industry is
experiencing continued consolidation and realignment, as industry participants seek to
capitalize on the rapidly changing competitive landscape developing around the Internet
and new communications technologies such as fiber optic networks. As the communications
industry consolidates and realigns to accommodate technological and other developments,
our customers may consolidate or align with other entities in a manner that results in a
decrease in demand for our products.

We are experiencing fluctuations
in market demand due to overcapacity in our industry and an economy that is stymied by
international terrorism, war and political instability.

Since 2001, the United States economy
has experienced and continues to experience significant fluctuations in consumption and
demand. During the past several years, telecommunication companies have mostly decreased
their spending, which has resulted in excess inventory, overcapacity and a decrease in
demand for our products. We may experience further decreases in the demand for our
products due to a weak domestic and international economy as the fiber optics industry
copes with the effects of oversupply of products, international terrorism, war and
political instability. Even if the general economy experiences a recovery, the activity of
the United States telecommunications industry may lag behind the recovery of the overall
United States economy.

The optical networking component
industry has in the past, is now, and may in the future experience declining average
selling prices, which could cause our gross margins to decline.

The optical networking component
industry has in the past experienced declining average selling prices as a result of
increasing competition and greater unit volumes as communication service providers
continue to deploy fiber optic networks. Average selling prices are currently decreasing
and may continue to decrease in the future in response to product introductions by
competitors, price pressures from significant customers, greater manufacturing
efficiencies achieved through increased automation in the manufacturing process and
inventory build-up due to decreased demand. Average selling price declines may contribute
to a decline in our gross margins, which could harm our results of operations.

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We will not attract new orders for
our fiber optic components unless we can deliver sufficient quantities of our products to
optical communications equipment manufacturers.

Communications service providers and
optical systems manufacturers typically require that suppliers commit to provide specified
quantities of products over a given period of time. If we are unable to commit to deliver
quantities of our products to satisfy a customers anticipated needs, we will lose
the order and the opportunity for significant sales to that customer for a lengthy period
of time. In addition, we would be unable to fill large orders if we do not have sufficient
manufacturing capacity to enable us to commit to provide customers with specified
quantities of products. However, if we build our manufacturing capacity and inventory in
excess of demand, as we have done in the past, we may produce excess inventory that may
have to be reserved or written off.

We depend on a limited number of
third parties to supply key materials, components and equipment, such as ferrules, optical
filters and lenses, and if we are not able to obtain sufficient quantities of these items
at acceptable prices, our ability to fill orders would be limited and our operating
results could be harmed.

We depend on third parties to supply
the raw materials and components we use to manufacture our products. To be competitive, we
must obtain from our suppliers, on a timely basis, sufficient quantities of raw materials
and components at acceptable prices. We obtain most of our critical raw materials and
components from a single or limited number of suppliers and generally do not have
long-term supply contracts with them. As a result, our suppliers could terminate the
supply of a particular material or component at any time without penalty. Finding
alternative sources may involve significant expense and delay, if these sources can be
found at all. Difficulties in obtaining raw materials or components in the future may
delay or limit our product shipments, which could result in lost orders, increase our
costs, reduce our control over quality and delivery schedules and require us to redesign
our products. If a supplier became unable or unwilling to continue to manufacture or ship
materials or components in required volumes, we would have to identify and qualify an
acceptable replacement. A delay or reduction in shipments or any need to identify and
qualify replacement suppliers would harm our business.

Because we experience long lead
times for materials and components, we may not be able to effectively manage our inventory
levels and manufacturing capacity, which could harm our operating results.

Because we experience long lead times
for materials and components and are often required to purchase significant amounts of
materials and components far in advance of product shipments, we may not effectively
manage our inventory levels, which could harm our operating results. Alternatively, if we
underestimate our raw material requirements, we may have inadequate inventory, which could
result in delays in shipments and loss of customers. If we purchase raw materials and
increase production in anticipation of orders that do not materialize or that shift to
another quarter, we will, as we have in the past, have to carry or write off excess
inventory and our gross margins will decline. Both situations could cause our results of
operations to be below the expectations of investors and public market analysts, which
could, in turn, cause the price of our common stock to decline. The time our customers
require to incorporate our products into their own can vary significantly and generally
exceeds several months, which further complicates our planning processes and reduces the
predictability of our forecasts. Even if we receive these orders, the additional
manufacturing capacity that we add to meet our customers requirements may be
underutilized in a subsequent quarter.

We are exposed to risks and
increased expenses as a result of recent legislation requiring companies to evaluate
internal controls over financial reporting.

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Section 404 of the Sarbanes-Oxley Act
of 2002 requires our management to perform an assessment of our internal controls by
December 31, 2007, and our independent auditors to attest to the effectiveness of our
internal controls over financial reporting beginning with our year ending December 31,
2008. We have implemented an ongoing program to perform the system and process evaluation
and testing we believe to be necessary to comply with these requirements, however, we
cannot assure you that we will be successful in our efforts. We expect to incur increased
expense and to devote additional management resources to Section 404 compliance. In the
event that our chief executive officer, acting chief financial officer or independent
registered public accounting firm determine that our internal controls over financial
reporting are not effective as defined under Section 404, investor perceptions of our
company may be adversely affected and this could cause a decline in the market price of
our stock.

Changes to financial accounting
standards may affect our results of operations and cause us to change our business
practices.

We prepare our financial statements to
conform with generally accepted accounting principles,
or GAAP, in the United States. These accounting principles are subject to interpretation
by the American Institute of Certified Public Accountants, the Securities and Exchange
Commission and various bodies formed to interpret and create appropriate accounting
policies. A change in those policies can have a significant effect on our reported results
and may affect our reporting of transactions completed before a change is announced.
Changes to those rules or the questioning of current practices may adversely affect our
reported financial results or the way we conduct our business. For example, accounting
policies affecting many aspects of our business, including rules relating to employee
stock option grants, have recently been revised. The Financial Accounting Standards Board
and other agencies have finalized changes to U.S. generally accepted accounting principles
that required us, starting in our first quarter of 2006, to record a charge to earnings
for employee stock option grants and other equity incentives. As a result of adopting
Statement No. 123(R), on January 1, 2006, the Companys income before income tax
and net income for the year ended December 31, 2006 was $657,000, or $298,000 lower than
if it had continued to account for share-based compensation under APB Opinion 25. The
adoption of Statement No. 123(R) did not impact basic and diluted income and loss per
share for the year ended December 31, 2006. In addition, since we historically have used
equity-related compensation as a component of our total employee compensation program, the
accounting change could make the use of equity-related compensation less attractive to us
and therefore make it more difficult to attract and retain employees.

We depend on key personnel to
operate our business effectively in the rapidly changing fiber optic components market,
and if we are unable to hire and retain appropriate management and technical personnel,
our ability to develop our business could be harmed.

Our success depends to a significant
degree upon the continued contributions of the principal members of our technical sales,
marketing, engineering and management personnel, many of whom perform important management
functions and would be difficult to replace. We particularly depend upon the continued
services of our executive officers, particularly Peter Chang, our President and Chief
Executive Officer; David Hubbard, our Vice President, Sales and Marketing; Wei-shin Tsay,
our senior Vice President of Product Development; Anita Ho, our Acting Chief Financial
Officer and Corporate Controller; and other key engineering, sales, marketing, finance,
manufacturing and support personnel. In addition, we depend upon the continued services of
key management personnel at our Taiwanese subsidiary. None of our officers or key
employees is bound by an employment agreement for any specific term, and may terminate
their employment at any time. In addition, we do not have key person life
insurance policies covering any of our employees.

Our ability to continue to attract
and retain highly skilled personnel will be a critical factor in determining whether we
will be successful in the future. We may have difficulty hiring skilled engineers at our
manufacturing facilities in the United States, Taiwan, and China. If we are not successful
in attracting, assimilating or retaining qualified personnel to fulfill our current or
future needs, our business may be harmed.

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If we are not able to achieve
acceptable manufacturing yields and sufficient product reliability in the production of
our fiber optic components, we may incur increased costs and delays in shipping products
to our customers, which could impair our operating results.

Complex and precise processes are
required for the manufacture of our products. Changes in our manufacturing processes or
those of our suppliers, or the inadvertent use of defective materials, could significantly
reduce our manufacturing yields and product reliability. Because the majority of our
manufacturing costs are relatively fixed, manufacturing yields are critical to our results
of operations. Lower than expected production yields could delay product shipments and
impair our operating results. We may not obtain acceptable yields in the future.

In some cases, existing manufacturing
techniques, which involve substantial manual labor, may not allow us to cost-effectively
meet our production goals so that we maintain acceptable gross margins while meeting the
cost targets of our customers. We may not achieve adequate manufacturing cost
efficiencies.

Because we plan to introduce new
products and product enhancements, we must effectively transfer production information
from our product development department to our manufacturing group and coordinate our
efforts with those of our suppliers to rapidly achieve volume production. In our
experience, our yields have been lower during the early stages of introducing new product
to manufacturing. If we fail to effectively manage this process or if we experience
delays, disruptions or quality control problems in our manufacturing operations, our
shipments of products to our customers could be delayed.

Because the qualification and
sales cycle associated with fiber optic components is lengthy and varied, it is difficult
to predict the timing of a sale or whether a sale will be made, which may cause us to have
excess manufacturing capacity or inventory and negatively impact our operating results.

In the communications industry,
service providers and optical systems manufacturers often undertake extensive
qualification processes prior to placing orders for large quantities of products such as
ours, because these products must function as part of a larger system or network. This
process may range from three to six months and sometimes longer. Once they decide to use a
particular suppliers product or component, these potential customers design the
product into their system, which is known as a design-in win. Suppliers whose products or
components are not designed in are unlikely to make sales to that customer until at least
the adoption of a future redesigned system. Even then, many customers may be reluctant to
incorporate entirely new products into their new systems, as this could involve
significant additional redesign efforts. If we fail to achieve design-in wins in our
potential customers qualification processes, we will lose the opportunity for
significant sales to those customers for a lengthy period of time.

In addition, some of our customers
require that our products be subjected to standards-based qualification testing, which can
take up to nine months or more. While our customers are evaluating our products and before
they place an order with us, we may incur substantial sales and marketing and research and
development expenses, expend significant management efforts, increase manufacturing
capacity and order long lead-time supplies. Even after the evaluation process, it is
possible a potential customer will not purchase our products. In addition, product
purchases are frequently subject to unplanned processing and other delays, particularly
with respect to larger customers for which our products represent a very small percentage
of their overall purchase activity. Accordingly, our revenues and operating results may
vary significantly and unexpectedly from quarter to quarter.

If our customers do not qualify
our manufacturing lines for volume shipments, our optical networking components may be
dropped from supply programs and our revenues may decline.

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Customers generally will not purchase
any of our products, other than limited numbers of evaluation units, before they qualify
our products, approve our manufacturing process and approve our quality assurance system.
Our existing manufacturing lines, as well as each new manufacturing line, must pass
through various levels of approval with our customers. For example, customers may require
that we be registered under international quality standards. Our products may also have to
be qualified to specific customer requirements. This customer approval process determines
whether the manufacturing line achieves the customers quality, performance and
reliability standards. Delays in product qualification may cause a product to be dropped
from a long-term supply program and result in significant lost revenue opportunity over
the term of that program.

Our fiber optic components are
deployed in large and complex communications networks and may contain defects that are not
detected until after our products have been installed, which could damage our reputation
and cause us to lose customers.

Our products are designed for
deployment in large and complex optical networks. Because of the nature of these products,
they can only be fully tested for reliability when deployed in networks for long periods
of time. Our fiber optic products may contain undetected defects when first introduced or
as new versions are released, and our customers may discover defects in our products only
after they have been fully deployed and operated under peak stress conditions. In
addition, our products are combined with products from other vendors. As a result, should
problems occur, it may be difficult to identify the source of the problem. If we are
unable to fix defects or other problems, we could experience, among other things: 

     o           loss of customers;

     o           damage to our reputation;

     o           failure to attract new customers or achieve market acceptance;

     o           diversion of development and engineering resources; and

     o           legal actions by our customers.

The occurrence of any one or more of
the foregoing factors could negatively impact our revenues.

The market for fiber optic
components is new and unpredictable, characterized by rapid technological changes,
evolving industry standards, and significant changes in customer demand, which could
result in decreased demand for our products, erosion of average selling prices, and could
negatively impact our revenues.

The market for fiber optic components
is new and characterized by rapid technological change, frequent new product
introductions, changes in customer requirements and evolving industry standards. Because
this market is new, it is difficult to predict its potential size or future growth rate.
Widespread adoption of optical networks, especially in the metropolitan, last mile, and
enterprise access segments of the networks, is critical to our future success. Potential
end-user customers who have invested substantial resources in their existing copper lines
or other systems may be reluctant or slow to adopt a new approach, such as optical
networks. Our success in generating revenues in this market will depend on:

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o           the education of potential end-user customers and network service providers
 about the benefits of optical networks; and

     o           the continued growth of the metropolitan, last mile, and enterprise access
segments of the communications network.If we fail to address changing market
conditions, sales of our products may decline, which would adversely impact our revenues.

We may be unable to successfully
integrate acquired businesses or assets with our business, which may disrupt our business,
divert managements attention and slow our ability to expand the range of our
proprietary technologies and products.

To expand the range of our
proprietary technologies and products, we may acquire complementary businesses,
technologies or products, if appropriate opportunities arise. We may be unable to identify
other suitable acquisitions at reasonable prices or on reasonable terms, or consummate
future acquisitions or other investments, any of which could slow our growth strategy. We
may have difficulty integrating the acquired products, personnel or technologies of any
company or acquisition that we may make. Similarly, we may not be able to attract or
retain key management, technical or sales personnel of any other companies that we acquire
or from which we acquire assets. These difficulties could disrupt our ongoing business,
distract our management and employees and increase our expenses.

If our common stock is not
relisted on the Nasdaq Global Market, we will be subject to certain provisions of the
California General Corporation Law that may affect our charter documents and result in
additional expenses.

Beginning at the commencement of
trading on November 8, 2002, the listing of our common stock was transferred from the
Nasdaq Global Market to the Nasdaq Capital Market. As a result, we may become subject to
certain sections of the California General Corporation Law that will affect our charter
documents if our common stock is not returned to being listed on the Nasdaq Global Market.
A recent Delaware decision has called into question the applicability of the California
General Corporation Law to Delaware corporations. However, if the California General
Corporation Law applies to our Company, we will not be able to continue to have a
classified board or continue to eliminate cumulative voting by our stockholders. In
addition, certain provisions of our Certificate of Incorporation that call for
supermajority voting may need to be approved by stockholders every two years or be
eliminated. Also, in the event of a reorganization, stockholders will have dissenting
stockholder rights under both California and Delaware law. Any of these changes will
result in additional expense as we will have to comply with certain provisions of the
California General Corporation Law as well as the Delaware General Corporation Law. We
included these provisions in our charter documents in order to delay or discourage a
change of control or changes in our management. Because of the California General
Corporation Law, we may not be able to avail ourselves of these provisions.

If we fail to protect our
intellectual property rights, competitors may be able to use our technologies, which could
weaken our competitive position, reduce our revenues or increase our costs.

The fiber optic component market is a
highly competitive industry in which we, and most other participants, rely on a
combination of patent, copyright, trademark and trade secret laws, confidentiality
procedures and licensing arrangements to establish and protect proprietary rights. The
competitive nature of our industry, rapidly changing technology, frequent new product
introductions, changes in customer requirements and evolving industry standards heighten
the importance of protecting proprietary technology rights. Since the United States Patent
and Trademark Office keeps patent applications confidential until a patent is issued, our
pending patent applications may attempt to protect proprietary technology claimed in a
third party patent application. Our existing and future patents may not be sufficiently
broad to protect our proprietary technologies as policing unauthorized use of our products
is difficult and we cannot be certain that the steps we have taken will prevent the
misappropriation or unauthorized use of our technologies, particularly in foreign
countries where the laws may not protect our proprietary rights as fully as United States
laws. Our competitors and suppliers may independently develop similar technology,
duplicate our products, or design around any of our patents or other intellectual
property. If we are unable to adequately protect our proprietary technology rights, others
may be able to use our proprietary technology without having to compensate us, which could
reduce our revenues and negatively impact our ability to compete effectively.

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Litigation may be necessary to
enforce our intellectual property rights or to determine the validity or scope of the
proprietary rights of others. As a result of any such litigation, we could lose our
proprietary rights and incur substantial unexpected operating costs. Any action we take to
protect our intellectual property rights could be costly and could absorb significant
management time and attention. In addition, failure to adequately protect our trademark
rights could impair our brand identity and our ability to compete effectively.

We may be subject to intellectual
property infringement claims that are costly to defend and could limit our ability to use
some technologies in the future.

Our industry is very competitive and
is characterized by frequent intellectual property litigation based on allegations of
infringement of intellectual property rights. Numerous patents in our industry have
already been issued, and as the market further develops and participants in our industry
obtain additional intellectual property protection, litigation is likely to become more
frequent. From time to time, third parties may assert patent, copyright, trademark and
other intellectual property rights to technologies or rights that are important to our
business. In addition, we have and we may continue to enter into agreements to indemnify
our customers for any expenses or liabilities resulting from claimed infringements of
patents, trademarks or copyrights of third parties. Any litigation arising from claims
asserting that our products infringe or may infringe the proprietary rights of third
parties, whether the litigation is with or without merit, could be time-consuming,
resulting in significant expenses and diverting the efforts of our technical and
management personnel. We do not have insurance against our alleged or actual infringement
of intellectual property of others. These claims could cause us to stop selling our
products, which incorporate the challenged intellectual property, and could also result in
product shipment delays or require us to redesign or modify our products or to enter into
licensing agreements. These licensing agreements, if required, would increase our product
costs and may not be available on terms acceptable to us, if at all.

Although we are not aware of any
intellectual property lawsuits filed against us, we may be a party to litigation regarding
intellectual property in the future. We may not prevail in any such actions, given their
complex technical issues and inherent uncertainties. Insurance may not cover potential
claims of this type or may not be adequate to indemnify us for all liability that may be
imposed. If there is a successful claim of infringement or we fail to develop
non-infringing technology or license the proprietary rights on a timely basis, our
business could be harmed.

If we fail to increase sales of
our products to optical communications equipment manufacturers outside of North America,
growth of our business may be harmed.

For the year ended December 31, 2006
and the three months ended March 31, 2007, sales to customers located outside of North
America were 30.6% and 34.5% of our revenues, respectively. In order to expand our
business, we must increase our sales to customers located outside of North America. We
have limited experience in marketing and distributing our products internationally and in
developing versions of our products that comply with local standards. Our international
sales will be limited if we cannot establish relationships with international
distributors, establish additional foreign operations, expand international sales
channels, hire additional personnel and develop relationships with international
communications equipment manufacturers. Even if we are able to successfully continue
international operations, we may not be able to maintain or increase international market
demand for our products.

Because our manufacturing
operations are located in active earthquake fault zones in California and Taiwan, and our
Taiwan locations are susceptible to the effects of a typhoon, we face the risk that a
natural disaster could limit our ability to supply products.

29

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Two of our primary manufacturing
operations in Taiwan and our headquarters in California are located in active earthquake
fault zones. These regions have experienced large earthquakes in the past and may likely
experience them in the future. In September 2001, a typhoon hit Taiwan causing businesses,
including our manufacturing facility, and the financial markets to close for two days.
Because the majority of our manufacturing operations are located in Taiwan, a large
earthquake or typhoon in Taiwan could disrupt our manufacturing operations for an extended
period of time, which would limit our ability to supply our products to our customers in
sufficient quantities on a timely basis, harming our customer relationships.

# ITEM 6: EXHIBITS

Exhibits

Exhibits

|Exhibit Number      | Title                                                                                                              
|------------------- | -------------------------------------------------------------------------------------------------------------------
|31.1                | Rule 13a-14(a) certification of Chief Executive Office                                                             
|                    |                                                                                                                    
|31.2                | Rule 13a-14(a) certification of Acting Chief Financial Officer                                                     
|                    |                                                                                                                    
|32.1*               | Statement of Chief Executive Officer under Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. § 1350).       
|                    |                                                                                                                    
|32.2*               | Statement of Acting Chief Financial Officer under Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. § 1350).
|                    |                                                                                                                    
|___________________ |                                                                                                                    

** In accordance with Item 601(b)(32)(ii) of Regulation S-K and SEC Release Nos. 33-8238 and 34-47986, Final Rule:  Management's
Reports on Internal Control Over Financial Reporting and Certification of Disclosure in Exchange Act Periodic Reports, the
certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-Q and will not be deemed "filed" for
purpose of Section 18 of the Exchange Act.  Such certifications will not be deemed to be incorporated by reference into any filing
under the Securities Act or the Exchange Act, except to the extent that the registrant specifically incorporates it by reference.

30

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# SIGNATURE

In
accordance with the requirements of the Exchange Act, the registrant caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.

Dated:
May 11, 2007

| |                                                              
| | -------------------------------------------------------------
| | ALLIANCE FIBER OPTIC PRODUCTS, INC.                          
| |                                                              
| | By/s/ Anita K. Ho                                            
| | Anita K. Ho                                                  
| | Acting  Chief   Financial Officer  and Corporate   Controller
| | (Principal Financial and Accounting Officer and Duly         
| | Authorized Signatory)                                        

31

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Exhibit 31.1

Certification of the Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of
 2002 for the Period Ended March 31, 2007

# CERTIFICATION

I, Peter C. Chang, certify that:

1.       
          I have reviewed this quarterly report on Form 10-Q of Alliance Fiber Optic
          Products, Inc.;

2.       
          Based on my knowledge, this report does not contain any untrue statement of a
          material fact or omit to state a material fact necessary to make the statements
          made, in light of the circumstances under which such statements were made, not
          misleading with respect to the period covered by this report;

3.       
          Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all
material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods
presented in this report;

4.       
          The registrant's  other certifying  officer and I are responsible for establishing and maintaining  disclosure  controls and procedures
(as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

| | a)       
              Designed  such  disclosure  controls and  procedures,  or caused such  disclosure  controls  and  procedures  to be designed  under our
supervision,  to ensure that material information relating to the registrant,  including its consolidated  subsidiaries,  is made known
to us by others within those entities, particularly during the period in which this report is being prepared;
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | b)       
               Evaluated the effectiveness of the registrant's  disclosure  controls and procedures and presented in this report our conclusions about
the  effectiveness  of the  disclosure  controls  and  procedures,  as of the end of the period  covered by this  report  based on such
evaluation; and
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | c)       
               Disclosed  in this  report  any  change in the  registrant's  internal  control  over  financial  reporting  that  occurred  during the
registrant's most recent fiscal quarter that has materially  affected,  or is reasonably likely to materially  affect, the registrant's
internal control over financial reporting; and
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

5.       
          The  registrant's  other  certifying  officer and I have  disclosed,  based on our most recent  evaluation  of  internal  control  over
financial  reporting,  to the  registrant's  auditors  and the audit  committee  of the  registrant's  board of  directors  (or persons
performing the equivalent functions):

| | a)       
               All significant  deficiencies  and material  weaknesses in the design or operation of internal  control over financial  reporting which
are reasonably  likely to adversely affect the registrant's  ability to record,  process,  summarize and report financial  information;
and
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | b)       
               Any fraud,  whether or not material,  that  involves  management or other  employees  who have a significant  role in the  registrant's
internal control over financial reporting.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                              
| | -----------------------------
| | Date: May 11, 2007           
| |                              
| | By:/s/ Peter C. Chang        
| | Peter C. Chang               
| | Chief Executive Officer      
| | (Principal Executive Officer)

32

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Exhibit 31.2

Certification of the Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of
 2002 for the Period Ended March 31, 2007

# CERTIFICATION

I, Anita K. Ho, certify that:

1.       
          I have reviewed this quarterly report on Form 10-Q of Alliance Fiber Optic
          Products, Inc.;

2.       
          Based on my knowledge, this report does not contain any untrue statement of a
          material fact or omit to state a material fact necessary to make the statements
          made, in light of the circumstances under which such statements were made, not
          misleading with respect to the period covered by this report;

3.       
          Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all
material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods
presented in this report;

4.       
          The registrant's  other certifying  officer and I are responsible for establishing and maintaining  disclosure  controls and procedures
(as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

| | a)       
              Designed  such  disclosure  controls and  procedures,  or caused such  disclosure  controls  and  procedures  to be designed  under our
supervision,  to ensure that material information relating to the registrant,  including its consolidated  subsidiaries,  is made known
to us by others within those entities, particularly during the period in which this report is being prepared;
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | b)       
               Evaluated the effectiveness of the registrant's  disclosure  controls and procedures and presented in this report our conclusions about
the  effectiveness  of the  disclosure  controls  and  procedures,  as of the end of the period  covered by this  report  based on such
evaluation; and
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | c)       
               Disclosed  in this  report  any  change in the  registrant's  internal  control  over  financial  reporting  that  occurred  during the
registrant's most recent fiscal quarter that has materially  affected,  or is reasonably likely to materially  affect, the registrant's
internal control over financial reporting; and
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

5.       
          The  registrant's  other  certifying  officer and I have  disclosed,  based on our most recent  evaluation  of  internal  control  over
financial  reporting,  to the  registrant's  auditors  and the audit  committee  of the  registrant's  board of  directors  (or persons
performing the equivalent functions):

| | a)       
               All significant  deficiencies  and material  weaknesses in the design or operation of internal  control over financial  reporting which
are reasonably  likely to adversely affect the registrant's  ability to record,  process,  summarize and report financial  information;
and
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | b)       
               Any fraud,  whether or not material,  that  involves  management or other  employees  who have a significant  role in the  registrant's
internal control over financial reporting.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                                                        
| | -------------------------------------------------------
| | Date: May 11, 2007                                     
| |                                                        
| | By:/s/ Anita K. Ho                                     
| | Anita K. Ho                                            
| | Corporate Controller and Acting Chief Financial Officer
| | (Principal Accounting Officer)                         

33

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Exhibit 32.1

# STATEMENT OF CHIEF
EXECUTIVE OFFICER UNDER 18 U.S.C. §1350

I,
Peter C. Chang, the chief executive officer of Alliance Fiber Optic Products, Inc. (the
Company), certify for the purposes of section 1350 of chapter 63 of title
18 of the United States Code that, to the best of my knowledge,

(i)       
          the Quarterly Report of the Company on Form 10-Q for the period ended March 31, 2007 (the "Report"), fully complies with the
requirements of section 13(a) of the Securities Exchange Act of 1934, and

(ii)       
         the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations
of the Company.

| |                     
| | --------------------
| | By/s/ Peter C. Chang
| | Peter C. Chang      
| |                     
| | May 11, 2007        

34

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Exhibit 32.2

# STATEMENT OF ACTING
CHIEF FINANCIAL OFFICER UNDER 18 U.S.C.§1350

I,
Anita K. Ho, the acting chief financial officer of Alliance Fiber Optic Products, Inc.
(the Company), certify for the purposes of section 1350 of chapter 63 of
title 18 of the United States Code that, to the best of my knowledge,

(i)       
          the Quarterly Report of the Company on Form 10-Q for the period ended March 31, 2007 (the "Report"), fully complies with the
requirements of section 13(a) of the Securities Exchange Act of 1934, and

(ii)       
          the information contained in the Report fairly presents, in all material
          respects, the financial condition and results of operations of the Company.

| |                  
| | -----------------
| | By/s/ Anita K. Ho
| | Anita K. Ho      
| |                  
| | May 11, 2007     

35

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