**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

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**FORM 10-Q**

 

**(Mark One)**

 

| ý | **QUARTERLY  REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|--------|----------------------------------------------------------------------------------------------|

 

**For the quarterly period ended July 31, 2002**

 

**OR**

** **

| o | **TRANSACTION  REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|---|------------------------------------------------------------------------------------------------|

 

**For the transition period from N/A to N/A**

 

**Commission file number 0-1424**

 

**ADC Telecommunications, Inc.**

(Exact name of registrant asspecified in its charter)

 

| **Minnesota**                                                  |   | **41–0743912**                  |
|----------------------------------------------------------------|--------|--------------------------------------|
| (State or other jurisdiction of incorporation or organization) |   | (I.R.S. Employer Identification No.) |

 

**13625 Technology Drive, Eden Prairie, MN 55344-2252**

(Address of principal executiveoffices) (Zip code)

 

**(952) 938-8080**

(Registrant’s telephone number,including area code)

 

**N/A**

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

 

                Indicate by check mark whetherthe registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during thepreceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.

 
| YES  ý | NO  o |
|------------------|------------|

 

**APPLICABLE ONLY TO CORPORATE ISSUERS:**

 

 

Indicatethe number of shares outstanding of each of the issuer’s classes of commonstock, as of the latest practicable date.

 

                Common stock, $.20par value: 796,554,240 shares as of September 9, 2002

 

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# **PART I. FINANCIAL INFORMATION**

 

**ITEM 1.FINANICAL STATEMENTS**

 

**ADC TELECOMMUNICATIONS, INC. AND SUBSIDIARIESCONDENSED CONSOLIDATED BALANCE SHEETS—UNAUDITED**

 

**(In millions)**

 
|                                                    |   | **July 31,  2002** |       | **October  31,  2001** |       |
|---------------------------------------------------------|--------|--------------------|------------|------------------------|------------|
| **ASSETS:**                                             |   |               | ** ** |                   | ** ** |
|                                                    |   |               |       |                   |       |
| CURRENT ASSETS:                                         |   |               |       |                   |       |
| Cash and cash  equivalents                              |   | $                  | 271.8      |                   | $          | 348.6 |   |
| Available-for-sale  securities                          |   | 1.2                |       | 73.2                   |       |
| Accounts  receivable, net                               |   | 140.3              |       | 280.7                  |       |
| Unbilled revenue                                        |   | 41.4               |       | 36.4                   |       |
| Inventories, net                                        |   | 163.4              |       | 253.6                  |       |
| Prepaid income  taxes                                   |   | 116.1              |       | 142.0                  |       |
| Current deferred  tax assets                            |   | —             |       | 107.0                  |       |
| Prepaid and  other current assets                       |   | 51.8               |       | 63.7                   |       |
|                                                    |   |               |       |                   |       |
| Total current  assets                                   |   | 786.0              |       | 1,305.2                |       |
|                                                    |   |               |       |                   |       |
| PROPERTY AND  EQUIPMENT, net                            |   | 318.9              |       | 614.0                  |       |
| ASSETS HELD FOR  SALE                                   |   | 49.4               |       | 8.3                    |       |
| RESTRICTED CASH                                         |   | 276.5              |       | —                 |       |
| OTHER ASSETS:                                           |   |               |       |                   |       |
| Deferred tax  assets                                    |   | —             |       | 367.1                  |       |
| Goodwill                                                |   | 107.3              |       | 140.1                  |       |
| Other                                                   |   | 36.3               |       | 65.0                   |       |
|                                                    |   |               |       |                   |       |
|                                                    |   | $                  | 1,574.4    |                   | $          | 2,499.7 |   |
|                                                    |   |               |       |                   |       |
| **LIABILITIES AND SHAREOWNERS’  INVESTMENT:**      |   |               |       |                   |       |
|                                                    |   |               |       |                   |       |
| CURRENT  LIABILITIES:                                   |   |               |       |                   |       |
| Accounts payable                                        |   | $                  | 80.9       |                   | $          | 162.0 |   |
| Accrued  compensation and benefits                      |   | 88.8               |       | 109.1                  |       |
| Restructuring  accrual                                  |   | 139.4              |       | 120.8                  |       |
| Other accrued  liabilities                              |   | 145.4              |       | 205.8                  |       |
| Notes payable  and current maturities of long-term debt |   | 16.7               |       | 1.7                    |       |
|                                                    |   |               |       |                   |       |
| Total current  liabilities                              |   | 471.2              |       | 599.4                  |       |
|                                                    |   |               |       |                   |       |
| LONG-TERM DEBT,  less current maturities                |   | 0.8                |       | 3.0                    |       |
| OTHER LONG-TERM  LIABILITIES                            |   | 3.6                |       | 3.9                    |       |
|                                                    |   |               |       |                   |       |
| Total  liabilities                                      |   | 475.6              |       | 606.3                  |       |
|                                                    |   |               |       |                   |       |
| SHAREOWNERS’  INVESTMENT                           |   |               |       |                   |       |
| (796.5 and 792.0  shares outstanding, respectively)     |   | 1,098.8            |       | 1,893.4                |       |
|                                                    |   |               |       |                   |       |
|                                                    |   | $                  | 1,574.4    |                   | $          | 2,499.7 |   |

 

See accompanying notes tocondensed consolidated financial statements.

 

 

2

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**ADC TELECOMMUNICATIONS, INC. AND SUBSIDIARIES**

 

**CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS—UNAUDITED  (In millions, except per share amounts)**

 
|                                                   |   | **Three  Months Ended  July 31,** |   | **Nine  Months Ended  July 31,** |   |
|--------------------------------------------------------|--------|-----------------------------------|--------|----------------------------------|--------|
|                                                   |   | **2002**                          |   | **2001**                         |   | **2002** |   | **2001** |   |
| NET SALES                                              |   | $                                 | 235.1  |                             | $      | 547.5 |   | $ | 826.9 |   | $ | 2,011.2 |   |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| COST OF PRODUCT  SOLD                                  |   | 202.1                             |   | 369.8                            |   | 625.4 |   | 1,400.4 |   |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| GROSS PROFIT                                           |   | 33.0                              |   | 177.7                            |   | 201.5 |   | 610.8 |   |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| EXPENSES:                                              |   |                              |   |                             |   |   |   |   |   |
| Research and  development                              |   | 50.6                              |   | 66.1                             |   | 142.9 |   | 229.0 |   |
| Selling and  administration                            |   | 93.1                              |   | 152.3                            |   | 308.2 |   | 567.5 |   |
| Goodwill  amortization                                 |   | —                            |   | 11.3                             |   | — |   | 46.0 |   |
| Impairment  charges                                    |   | 149.5                             |   | 6.5                              |   | 159.1 |   | 415.5 |   |
| Non-recurring  charges                                 |   | 29.9                              |   | 35.5                             |   | 99.9 |   | 144.2 |   |
| Non-cash stock  compensation (1)                       |   | 3.4                               |   | 4.5                              |   | 10.8 |   | 14.3 |   |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| Total expenses                                         |   | 326.5                             |   | 276.2                            |   | 720.9 |   | 1,416.5 |   |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| OPERATING LOSS                                         |   | (293.5                            | )      | (98.5                            | )      | (519.4 | ) | (805.7 | ) |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| OTHER INCOME  (EXPENSE), NET:                          |   |                              |   |                             |   |   |   |   |   |
| Interest                                               |   | 2.3                               |   | (3.9                             | )      | 5.3 |   | (4.0 | ) |
| Gain (loss) on  sale of product lines                  |   | (4.8                              | )      | 5.9                              |   | (4.8 | ) | 5.9 |   |
| Gain (loss) on  write-down or sale of investments      |   | 13.7                              |   | 15.6                             |   | 22.6 |   | (729.6 | ) |
| Loss on sale of  fixed assets                          |   | (5.3                              | )      | —                           |   | (8.2 | ) | (0.3 | ) |
| Gain on patent  infringement settlement                |   | —                            |   | —                           |   | 26.2 |   | — |   |
| Loss on equity  investment                             |   | (3.0                              | )      | (3.3                             | )      | (6.5 | ) | (14.8 | ) |
| Other                                                  |   | (6.9                              | )      | (2.6                             | )      | (15.6 | ) | (8.1 | ) |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| LOSS BEFORE  INCOME TAXES                              |   | (297.5                            | )      | (86.8                            | )      | (500.4 | ) | (1,556.6 | ) |
| PROVISION  (BENEFIT) FOR INCOME TAXES                  |   | 331.6                             |   | (28.7                            | )      | 262.7 |   | (445.8 | ) |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| NET LOSS                                               |   | $                                 | (629.1 | )                                | $      | (58.1 | ) | $ | (763.1 | ) | $ | (1,110.8 | ) |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| AVERAGE COMMON  SHARES OUTSTANDING (BASIC AND DILUTED) |   | 796.4                             |   | 787.8                            |   | 794.9 |   | 785.5 |   |
|                                                   |   |                              |   |                             |   |   |   |   |   |
| LOSS PER SHARE  (BASIC AND DILUTED)                    |   | $                                 | (0.79  | )                                | $      | (0.07 | ) | $ | (0.96 | ) | $ | (1.41 | ) |

 

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(1)          Non-cash stock compensation expense resulted primarilyfrom stock options and restricted stock converted in connection with ouracquisition of Broadband Access Systems. If we had reported this non-cash stock compensation in existing expensecategories, research and development expense and selling and administrationexpense would have increased by $2.1 million and $1.3 million, respectively,for the three months ended July 31, 2002, $2.5 million and $2.0 million,respectively, for the three months ended July 31, 2001, $6.6 million and $4.2million, respectively, for the nine months ended April 30, 2002 and $6.3million and $8.0 million, respectively, for the nine months ended July 31,2001.

 

See accompanying notes tocondensed consolidated financial statements.

 

 

3

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**ADC TELECOMMUNICATIONS, INC. AND SUBSIDIARIES**

 

**CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS—UNAUDITED****(Inmillions)**

 
|                                                                                |   | **Nine  Months Ended  July 31,** |   |
|-------------------------------------------------------------------------------------|--------|----------------------------------|--------|
|                                                                                |   | **2002**                         |   | **2001** |   |
| OPERATING  ACTIVITIES:                                                              |   |                             |   |   |   |
| Net loss                                                                            |   | $                                | (763.1 | ) | $ | (1,110.8 | ) |
| Adjustments to  reconcile net loss to net cash from operating activities—      |   |                             |   |   |   |
| Depreciation and  amortization                                                      |   | 83.1                             |   | 141.9 |   |
| Inventory and  fixed asset impairment charges                                       |   | 156.6                            |   | 81.9 |   |
| Write off  purchased IPR&D                                                      |   | 10.5                             |   | — |   |
| Increase in  accounts receivable provisions                                         |   | 23.3                             |   | 63.8 |   |
| Increase in  inventory provisions                                                   |   | 29.0                             |   | 64.4 |   |
| Non-cash stock  compensation                                                        |   | 10.8                             |   | 14.4 |   |
| Change in  deferred income taxes                                                    |   | 474.1                            |   | (349.8 | ) |
| Goodwill  impairments                                                               |   | 36.6                             |   | 401.5 |   |
| Investment  impairments                                                             |   | 39.9                             |   | 814.8 |   |
| Gain on  ownership of investments                                                   |   | —                           |   | (3.7 | ) |
| Gain on sale of  investments                                                        |   | (66.5                            | )      | (76.3 | ) |
| Loss (gain) on  sale of business                                                    |   | 4.8                              |   | (5.9 | ) |
| Loss on sale of  fixed assets                                                       |   | 8.2                              |   | 6.5 |   |
| Other                                                                               |   | —                           |   | 9.7 |   |
| Changes in  operating assets and liabilities, net of acquisitions and divestitures: |   |                             |   |   |   |
| Accounts  receivable                                                                |   | 126.9                            |   | 243.4 |   |
| Inventories                                                                         |   | 60.9                             |   | (20.6 | ) |
| Prepaid and  other assets                                                           |   | 69.1                             |   | (145.0 | ) |
| Accounts payable                                                                    |   | (80.2                            | )      | (46.9 | ) |
| Accrued  liabilities                                                                |   | (59.0                            | )      | (71.2 | ) |
|                                                                                |   |                             |   |   |   |
| Total cash  provided by operating activities                                        |   | 165.0                            |   | 12.1 |   |
|                                                                                |   |                             |   |   |   |
| INVESTING  ACTIVITIES:                                                              |   |                             |   |   |   |
| Acquisitions,  net of cash acquired                                                 |   | (4.3                             | )      | (48.7 | ) |
| Divestitures,  net of cash disposed                                                 |   | 1.1                              |   | 23.6 |   |
| Property and  equipment additions, net of disposals                                 |   | (30.1                            | )      | (220.2 | ) |
| Increase in  restricted cash                                                        |   | (276.5                           | )      | — |   |
| Sale of  available-for-sale securities, net                                         |   | 68.7                             |   | 165.9 |   |
| Purchase of  long-term investments, net                                             |   | (3.0                             | )      | (2.8 | ) |
|                                                                                |   |                             |   |   |   |
| Total cash used  for investing activities                                           |   | (244.1                           | )      | (82.2 | ) |
|                                                                                |   |                             |   |   |   |
| FINANCING  ACTIVITIES:                                                              |   |                             |   |   |   |
| Repayments of  debt                                                                 |   | (4.1                             | )      | (34.6 | ) |
| Common stock  issued                                                                |   | 6.5                              |   | 33.9 |   |
|                                                                                |   |                             |   |   |   |
| Total cash  provided by (used for) financing activities                             |   | 2.4                              |   | (0.7 | ) |
|                                                                                |   |                             |   |   |   |
| EFFECT OF  EXCHANGE RATE CHANGES ON CASH                                            |   | (0.1                             | )      | (1.5 | ) |
|                                                                                |   |                             |   |   |   |
| DECREASE IN CASH  AND CASH EQUIVALENTS                                              |   | (76.8                            | )      | (72.3 | ) |
| CASH AND CASH  EQUIVALENTS, beginning of period                                     |   | 348.6                            |   | 217.3 |   |
|                                                                                |   |                             |   |   |   |
| CASH AND CASH EQUIVALENTS,  end of period                                           |   | $                                | 271.8  |   | $ | 145.0 |   |

 

See accompanying notes tocondensed consolidated financial statements.

 

 

4

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** **

**ADCTELECOMMUNICATIONS, INC. AND SUBSIDIARIES**

** **

**SUPPLEMENTALCONDENSED CONSOLIDATED FINANCIAL INFORMATION—UNAUDITED (In millions, except earnings per share)**

** **
|                                                    |   | **3rd  Quarter  2002** |   | **2nd  Quarter  2002** |   | **1st  Quarter  2002** |   | **4th  Quarter  2001** |   |
|---------------------------------------------------------|--------|------------------------|--------|------------------------|--------|------------------------|--------|------------------------|--------|
| NET SALES                                               |   | $                      | 235.1  |                   | $      | 298.3                  |   | $                      | 293.5  |   | $ | 391.6 |   |
| COST OF PRODUCT  SOLD                                   |   | 202.1                  |   | 224.6                  |   | 198.7                  |   | 277.4                  |   |
|                                                    |   |                   |   |                   |   |                   |   |                   |   |
| GROSS PROFIT                                            |   | 33.0                   |   | 73.7                   |   | 94.8                   |   | 114.2                  |   |
|                                                    |   |                   |   |                   |   |                   |   |                   |   |
| EXPENSES:                                               |   |                   |   |                   |   |                   |   |                   |   |
| Research and  development                               |   | 50.6                   |   | 49.8                   |   | 42.5                   |   | 49.6                   |   |
| Selling and  administration                             |   | 93.1                   |   | 106.0                  |   | 109.1                  |   | 137.8                  |   |
| Goodwill  amortization                                  |   | —                 |   | —                 |   | —                 |   | 10.6                   |   |
| Impairment  charges                                     |   | 149.5                  |   | 7.7                    |   | 1.9                    |   | 32.8                   |   |
| Non-recurring  charges                                  |   | 29.9                   |   | 67.0                   |   | 3.0                    |   | 104.6                  |   |
| Non-cash stock  compensation                            |   | 3.4                    |   | 3.7                    |   | 3.7                    |   | 4.4                    |   |
|                                                    |   |                   |   |                   |   |                   |   |                   |   |
| Total expenses                                          |   | 326.5                  |   | 234.2                  |   | 160.2                  |   | 339.8                  |   |
|                                                    |   |                   |   |                   |   |                   |   |                   |   |
| OPERATING LOSS                                          |   | (293.5                 | )      | (160.5                 | )      | (65.4                  | )      | (225.6                 | )      |
| OTHER INCOME  (EXPENSE), NET:                           |   |                   |   |                   |   |                   |   |                   |   |
| Interest                                                |   | 2.3                    |   | 2.2                    |   | 0.8                    |   | 1.8                    |   |
| Gain (loss) on  write-down or sale of investments       |   | 13.7                   |   | 4.3                    |   | 4.6                    |   | (47.2                  | )      |
| Gain (loss) on  sale of fixed assets                    |   | (5.3                   | )      | 1.4                    |   | (3.7                   | )      | —                 |   |
| Loss on sale of  product lines                          |   | (4.8                   | )      | (0.8                   | )      | —                 |   | (87.8                  | )      |
| Gain on patent  infringement settlement                 |   | —                 |   | 26.2                   |   | —                 |   | —                 |   |
| Loss on equity  investment                              |   | (3.0                   | )      | (0.1                   | )      | (3.4                   | )      | (3.5                   | )      |
| Other                                                   |   | (6.9                   | )      | (5.7                   | )      | (2.8                   | )      | (1.8                   | )      |
|                                                    |   |                   |   |                   |   |                   |   |                   |   |
| LOSS BEFORE  INCOME TAXES                               |   | (297.5                 | )      | (133.0                 | )      | (69.9                  | )      | (364.1                 | )      |
| PROVISION  (BENEFIT) FOR INCOME TAXES                   |   | 331.6                  |   | (43.8                  | )      | (25.1                  | )      | (187.3                 | )      |
|                                                    |   |                   |   |                   |   |                   |   |                   |   |
| NET LOSS                                                |   | $                      | (629.1 | )                      | $      | (89.2                  | )      | $                      | (44.8  | ) | $ | (176.8 | ) |
|                                                    |   |                   |   |                   |   |                   |   |                   |   |
| AVERAGE COMMON  SHARES OUTSTANDING  (BASIC AND DILUTED) |   | 796.4                  |   | 794.9                  |   | 793.4                  |   | 789.7                  |   |
|                                                    |   |                   |   |                   |   |                   |   |                   |   |
| LOSS PER SHARE  (BASIC AND DILUTED)                     |   | $                      | (0.79  | )                      | $      | (0.11                  | )      | $                      | (0.06  | ) | $ | (0.22 | ) |

 

See accompanying notes tocondensed consolidated financial statements.

 

 

5

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**ADC TELECOMMUNICATIONS, INC. AND SUBSIDIARIES**

 

**NOTES TO THE CONDENSED CONSOLIDATED FINANCIALSTATEMENTS—UNAUDITED**

 

**Note 1Basis of Presentation:**

 

                The interim informationfurnished in this report is unaudited but reflects all adjustments which arenecessary, in the opinion of our management, for a fair statement of theresults for the interim periods. Prior year financial information has beenrestated to reflect the acquisition of CommTech Corporation, which wascompleted in the second quarter of fiscal 2001 and accounted for as a poolingof interests. The operating results for the quarter ended July 31, 2002 are notnecessarily indicative of the operating results to be expected for the fullfiscal year. These statements should be read in conjunction with our mostrecent Annual Report filed on Form 10-K.

 

*                Recently Issued AccountingPronouncements.*  InOctober 2001, the Financial Accounting Standards Board issued SFASNo. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”SFAS 144 supersedes SFAS 121. SFAS 144 primarily addressessignificant issues relating to the implementation of SFAS 121 and developsa single accounting model for long-lived assets to be disposed of, whetherprimarily held, used or newly acquired. The provisions of SFAS 144 will beeffective for fiscal years beginning after December 15, 2001. We willapply this standard beginning in our 2003 fiscal year, which beginsNovember 1, 2002. This standard is not expected to materially impact ourfinancial results or financial position upon adoption.

 

**Note 2Inventories:**

 

Inventories includematerial, labor and overhead and are stated at the lower of first-in, first-outcost or market. Inventories consisted of (in millions):

 

|                                           |   | **July 31,  2002** |   | **October  31,  2001** |   |
|------------------------------------------------|--------|--------------------|--------|------------------------|--------|
| Purchased  materials and manufactured products |   | $                  | 148.4  |                   | $      | 226.5 |   |
| Work-in-process                                |   | 15.0               |   | 27.1                   |   |
|                                           |   |               |   |                   |   |
|                                           |   | $                  | 163.4  |                   | $      | 253.6 |   |

** **

**Note 3 Other Assets:**

 

*                Goodwill.*  On November 1, 2001, we adopted SFASNo. 142, “Goodwill and Other Intangible Assets.” Under this standard,purchased goodwill is no longer amortized over its useful life. Rather,goodwill is subject to a periodic impairment test based on its fair value. Aspart of adopting this standard, we obtained an independent appraisal to assessthe fair value of our business units to determine whether goodwill carried onour books was impaired and the extent of such impairment, if any. Theindependent appraisal used the income approach to measure the fair value of ourbusiness units. Under the income approach, value is dependent on the presentvalue of future economic benefits to be derived from ownership. Future net cashflows available for distribution are discounted at market–based rates ofreturn to provide indications of value. We used a discount rate of 19.9% in ourcalculations. Based upon this independent appraisal, we determined that ourcurrent goodwill balances were not impaired as of November 1, 2001.

 

                During the third quarter, wemade the decision to exit our optical components business due to the continueddownturn in the telecommunications industry coupled with future forecasts thatindicated continued losses in this area of the business.  As a result of our decision to exit theoptical components business, we re-evaluated the fair value of this businessand ultimately wrote off $36.6 million of goodwill we had recorded as a resultof optical component business acquisitions in prior years.  This write-off is reflected in the linecaptioned “Impairment charges” in our Statement of Operations.  See Note 7 for a further discussion of thischarge.  After this write-off, we haveno remaining goodwill recorded that relates to our optical components business.

 

 

6

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                We will continue to reassess thevalue of our business units and related goodwill balances at the beginning ofthe fourth quarter of each fiscal year or at other times if events haveoccurred or circumstances exist that indicate the carrying amount of goodwillmay not be recoverable.

 

                The following table reconcilesnet income for the three and nine months ended July 31, 2002 and 2001,excluding amortization expense recognized in those periods related to goodwill(in millions, except for earnings (loss) per share):

 

|                                           |   | **Three  Months Ended  July 31,** |   | **Nine  Months Ended  July 31,** |   |
|------------------------------------------------|--------|-----------------------------------|--------|----------------------------------|--------|
|                                           |   | **2002**                          |   | **2001**                         |   | **2002** |   | **2001** |   |
| Reported net  loss                             |   | (629.1                            | )      | (58.1                            | )      | (763.1 | ) | (1,110.8 | ) |
| Add back:  Goodwill amortization, net of taxes |   | —                            |   | 7.0                              |   | — |   | 32.4 |   |
|                                           |   |                              |   |                             |   |   |   |   |   |
| Adjusted net  income (loss)                    |   | (629.1                            | )      | (51.1                            | )      | (763.1 | ) | (1,078.4 | ) |
|                                           |   |                              |   |                             |   |   |   |   |   |
| Basic and  diluted earnings per share:         |   |                              |   |                             |   |   |   |   |   |
| Reported net  loss                             |   | (0.79                             | )      | (0.07                            | )      | (0.96 | ) | (1.41 | ) |
| Goodwill  amortization                         |   | —                            |   | 0.01                             |   | — |   | 0.04 |   |
| Adjusted net  income (loss)                    |   | (0.79                             | )      | (0.06                            | )      | (0.96 | ) | (1.37 | ) |

 

*                Deferred tax assets.* A deferred taxasset generally represents future tax benefits to be received when certainexpenses previously recognized in our U.S. GAAP-based income statement becomedeductible expenses under applicable income tax laws.  Thus, realization of a deferred tax asset is dependent on futuretaxable income against which these deductions can be applied.  Statement of Financial Accounting StandardsNo. 109 “Accounting for Income Taxes” requires that a valuation allowance beestablished when it is more likely than not that all or a portion of deferredtax assets will not be realized.  Areview of all available positive and negative evidence needs to be considered,including a company’s performance, the market environment in which the companyoperates, the utilization of past tax credits, length of carryback andcarryforward periods, and existing contracts or sales backlog that will resultin future profits. The accounting guidance further states that forming aconclusion that a valuation allowance is not needed is difficult when there isnegative evidence such as cumulative losses in recent years.  Therefore, cumulative losses weigh heavilyin the overall assessment.  As a resultof our cumulative losses over the past several quarters, the full utilizationof our loss carryback potential and the decline in our net sales from theprevious quarter, we concluded during the third quarter of fiscal 2002 that afull valuation allowance against our net deferred tax assets wasappropriate.  We recorded a valuationallowance of $453.4 million during the three and nine months ended July 31,2002.  This was partially offset by atax benefit on our pre-tax loss as well as tax benefit adjustments related totax law changes of $121.8 million and $190.7 million for the three and ninemonths ended July 31, 2002 respectively. This valuation allowance, net of the tax benefit and tax benefitadjustments, is reflected in the line captioned “Provision (Benefit) For IncomeTaxes” in our Statement of Operations. In addition, we expect to provide a full valuation allowance on anyfuture tax benefits until we can sustain a level of profitability thatdemonstrates our ability to utilize these assets.  Beginning in the fourth quarter of fiscal 2002, we will no longerrecord tax benefits or provisions for pre-tax income (loss) until our tax losscarryforwards and other deferred tax assets are fully applied against futuretaxable income.

 

**Note 4Comprehensive Loss:**

 

The following table presents thecalculation of comprehensive income (loss) as required by SFAS No. 130.Comprehensive income (loss) has no impact on ADC’s net income (loss), balancesheet or shareowners’ equity. The components of comprehensive loss are asfollows (in millions):

 

 

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|                                                                                                                 |   | **Three  Months Ended  July 31,** |   | **Nine  Months Ended  July 31,** |   |
|----------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------|--------|----------------------------------|--------|
|                                                                                                                 |   | **2002**                          |   | **2001**                         |   | **2002** |   | **2001** |   |
| Net loss                                                                                                             |   | $                                 | (629.1 | )                                | $      | (58.1 | ) | $ | (763.1 | ) | $ | (1,110.8 | ) |
| Changes in  cumulative translation adjustments                                                                       |   | 3.8                               |   | 1.2                              |   | (2.6 | ) | 2.9 |   |
| Changes in  market value of derivative financial instruments classified as cash flow  hedges, net of tax             |   | —                            |   | (0.3                             | )      | — |   | 2.3 |   |
| Reclassification  adjustment for realized (gains) losses on securities classified as available  for sale, net of tax |   | (22.2                             | )      | 26.4                             |   | (41.8 | ) | 499.9 |   |
| Unrealized gain  (loss) from securities classified as available for sale, net of tax                                 |   | 0.1                               |   | (86.8                            | )      | (2.3 | ) | (567.6 | ) |
|                                                                                                                 |   |                              |   |                             |   |   |   |   |   |
| Comprehensive  loss                                                                                                  |   | $                                 | (647.4 | )                                | $      | (117.6 | ) | $ | (809.8 | ) | $ | (1,173.3 | ) |

 

                Wemaintain investments of common stock in four publicly held companies in thetelecommunications and technology industries. The investments in two of thesecompanies, Vyyo, Inc. and Interwave Communications International Ltd.,have been written down to a nominal value. Our common stock investment inRedback Networks, Inc., where our ownership interest is less than 20%, isclassified as an available-for-sale security and, consequently, is recorded onthe balance sheet at its fair value with unrealized gains and losses reportedas a separate component of shareowners’ investment in accumulated othercomprehensive income (loss). As of July 31, 2002 the market value of thisinvestment was $1.2 million.

 

During the three and nine months ended July 31, 2002,we sold 1.3 million and 2.4 million shares respectively of ONI Systems andcompletely settled a related hedging arrangement for an aggregate pre-tax gainof $35.3 million and $66.5 million, respectively.  As of July 31, 2002, we have liquidated our entire investment inONI Systems.

 

**Note 5Loss Per Share:**

 

Basic loss per commonshare was calculated by dividing net loss by the weighted average number ofcommon shares outstanding during the period. Diluted loss per share wascalculated by dividing net loss by the sum of the weighted average number ofcommon shares outstanding plus all additional common shares that would havebeen outstanding if potentially dilutive common shares had been issued.  No such securities were included in thediluted loss per share calculation as their impact would have beenanti-dilutive due to our net loss.  Thefollowing table reconciles the number of shares utilized in the loss per sharecalculations for the periods ended July 31, 2002 and 2001(in millions, exceptloss per share):

 
|                                                  |   | **Three  Months Ended  July 31,** |   | **Nine  Months Ended  July 31,** |   |
|-------------------------------------------------------|--------|-----------------------------------|--------|----------------------------------|--------|
|                                                  |   | **2002**                          |   | **2001**                         |   | **2002** |   | **2001** |   |
| Net loss                                              |   | $                                 | (629.1 | )                                | $      | (58.1 | ) | $ | (763.1 | ) | $ | (1,110.8 | ) |
| Loss per common  share (basic)                        |   | $                                 | (0.79  | )                                | $      | (0.07 | ) | $ | (0.96 | ) | $ | (1.41 | ) |
| Loss per common  share (diluted)                      |   | $                                 | (0.79  | )                                | $      | (0.07 | ) | $ | (0.96 | ) | $ | (1.41 | ) |
| Weighted average  common shares outstanding (basic)   |   | 796.4                             |   | 787.8                            |   | 794.9 |   | 785.5 |   |
| Effect of dilutive  securities-stock options          |   | —                            |   | —                           |   | — |   | — |   |
|                                                  |   |                              |   |                             |   |   |   |   |   |
| Weighted average  common shares outstanding (diluted) |   | 796.4                             |   | 787.8                            |   | 794.9 |   | 785.5 |   |

 

**Note 6Segment Reporting:**

 

                The“management approach” required by SFAS No. 131, “Disclosures aboutSegments of an Enterprise and Related Information,” requires us to discloseselected financial data by operating segment. This approach is based upon theway we organize segments within an enterprise for making operating decisionsand assessing performance. We 

 

 

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have identified two reportable segments based on ourinternal organization structure, management of operations and performanceevaluation. These segments are Broadband Infrastructure and Access, and IntegratedSolutions. Segment detail is summarized as follows:

 
|                                  |   | **(In  millions)**                       |   |                      |   |                      |   |             |   |
|---------------------------------------|--------|------------------------------------------|--------|---------------------------|--------|---------------------------|--------|------------------|--------|
|                                  |   | **Broadband  Infrastructure and Access** |   | **Integrated  Solutions** |   | **Unallocated  Items(1)** |   | **Consolidated** |   |
| **Three  Months Ended July 31, 2002** |   |                                     |   |                      |   |                      |   |             |   |
| External sales                        |   | $                                        | 156.5  |                      | $      | 78.6                      |   | $                | — |   | $ | 235.1 |   |
| Operating loss                        |   | (77.3                                    | )      | (14.3                     | )      | (201.9                    | )      | (293.5           | )      |
| **Three  Months Ended July 31, 2001** |   |                                     |   |                      |   |                      |   |             |   |
| External sales                        |   | $                                        | 403.5  |                      | $      | 144.0                     |   | $                | — |   | $ | 547.5 |   |
| Operating loss                        |   | (32.9                                    | )      | (10.2                     | )      | (55.4                     | )      | (98.5            | )      |

 
|                                |   | **(In  millions)**                       |    |                      |   |                      |   |             |   |
|-------------------------------------|--------|------------------------------------------|---------|---------------------------|--------|---------------------------|--------|------------------|--------|
|                                |   | **Broadband  Infrastructure and Access** |    | **Integrated  Solutions** |   | **Unallocated  Items(2)** |   | **Consolidated** |   |
| **Nine Months Ended July 31, 2002** |   |                                     |    |                      |   |                      |   |             |   |
| External sales                      |   | $                                        | 559.0   |                      | $      | 267.9                     |   | $                | — |   | $ | 826.9 |   |
| Operating loss                      |   | (203.3                                   | )       | (25.9                     | )      | (290.2                    | )      | (519.4           | )      |
| **Nine Months Ended July 31, 2001** |   |                                     |    |                      |   |                      |   |             |   |
| External sales                      |   | $                                        | 1,550.1 |                      | $      | 461.1                     |   | $                | — |   | $ | 2,011.2 |   |
| Operating loss                      |   | (40.3                                    | )       | (65.9                     | )      | (699.5                    | )      | (805.7           | )      |

 

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(1)   Includes non-cash stockcompensation charges of $3.4 million and $4.5 million, non-recurring and otherrestructuring and impairment related charges of $193.2 million and $42.5million and other items not allocated to a specific segment for the threemonths ended July 31, 2002 and 2001, respectively. In addition, the 2001 amountincludes goodwill amortization of $11.3 million.

 

(2)   Includesnon-cash stock compensation charges of $10.8 million and $14.3 million,non-recurring and other restructuring and impairment related charges of $272.2million and $652.3 million and other items not allocated to a specific segmentfor the nine months ended July 31, 2002, and 2001 respectively. In addition,the 2001 amount includes goodwill amortization of $46.0 million.

 

**Note 7Impairment and Non-Recurring Charges:**

 

                Non-recurring and restructuringrelated charges by category of expenditures are as follows for the three andnine months ended July 31, 2002 and 2001, respectively (in millions):

 
| **Three  Months Ended July 31, 2002** |   | **Impairment  Charges** |   | **Non-recurring  Charges** |   | **Selling  and  Administrative  Charges** |   | **Total** |   |
|---------------------------------------|--------|-------------------------|--------|----------------------------|--------|-------------------------------------------|--------|-----------|--------|
| Employee  severance costs             |   | $                       | — |                       | $      | 18.9                                      |   | $         | — |   | $ | 18.9 |   |
| Fixed asset  write-downs              |   | 112.9                   |   | 10.6                       |   | —                                    |   | 123.5     |   |
| Goodwill  write-downs                 |   | 36.6                    |   | —                     |   | —                                    |   | 36.6      |   |
| Other                                 |   | —                  |   | 0.4                        |   | —                                    |   | 0.4       |   |
|                                  |   |                    |   |                       |   |                                      |   |      |   |
| Total                                 |   | $                       | 149.5  |                       | $      | 29.9                                      |   | $         | — |   | $ | 179.4 |   |

 
| **Three  Months Ended July 31, 2001**    |   | **Impairment  Charges** |   | **Non-recurring  Charges** |   | **Selling  and  Administrative  Charges** |   | **Total** |   |
|------------------------------------------|--------|-------------------------|--------|----------------------------|--------|-------------------------------------------|--------|-----------|--------|
| Employee  severance costs                |   | $                       | — |                       | $      | 29.7                                      |   | $         | — |   | $ | 29.7 |   |
| Facilities  consolidation                |   | —                  |   | 2.0                        |   | —                                    |   | 2.0       |   |
| Fixed asset  write-downs                 |   | 6.5                     |   | 1.7                        |   | —                                    |   | 8.2       |   |
| Committed sales contracts-administrative |   | —                  |   | —                     |   | 0.1                                       |   | 0.1       |   |
| Integration and  acquisition costs       |   | —                  |   | 2.1                        |   | —                                    |   | 2.1       |   |
|                                     |   |                    |   |                       |   |                                      |   |      |   |
| Total                                    |   | $                       | 6.5    |                       | $      | 35.5                                      |   | $         | 0.1    |   | $ | 42.1 |   |

 

 

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| **Nine  Months Ended July 31, 2002**      |   | **Impairment  Charges** |   | **Non-recurring  Charges** |   | **Selling  and  Administrative  Charges** |   | **Total** |   |
|-------------------------------------------|--------|-------------------------|--------|----------------------------|--------|-------------------------------------------|--------|-----------|--------|
| Employee  severance costs                 |   | $                       | — |                       | $      | 30.8                                      |   | $         | — |   | $ | 30.8 |   |
| Facilities  consolidation                 |   | —                  |   | 35.9                       |   | —                                    |   | 35.9      |   |
| Fixed asset  write-downs                  |   | 122.5                   |   | 19.6                       |   | —                                    |   | 142.1     |   |
| Committed sales  contracts-administrative |   | —                  |   | —                     |   | (1.3                                      | )      | (1.3      | )      |
| Goodwill  write-downs                     |   | 36.6                    |   | —                     |   | —                                    |   | 36.6      |   |
| In process  research and development      |   | —                  |   | 10.5                       |   | —                                    |   | 10.5      |   |
| Other                                     |   | —                  |   | 3.1                        |   | —                                    |   | 3.1       |   |
|                                      |   |                    |   |                       |   |                                      |   |      |   |
| Total                                     |   | $                       | 159.1  |                       | $      | 99.9                                      |   | $         | (1.3   | ) | $ | 257.7 |   |

 
| **Nine  Months Ended July 31, 2001**      |   | **Impairment  Charges** |   | **Non-recurring  Charges** |   | **Selling  and  Administrative  Charges** |   | **Total** |   |
|-------------------------------------------|--------|-------------------------|--------|----------------------------|--------|-------------------------------------------|--------|-----------|--------|
| Employee  severance costs                 |   | $                       | — |                       | $      | 72.9                                      |   | $         | — |   | $ | 72.9 |   |
| Facilities  consolidation                 |   | —                  |   | 42.2                       |   | —                                    |   | 42.2      |   |
| Fixed asset  write-downs                  |   | 133.2                   |   | 19.0                       |   | —                                    |   | 152.2     |   |
| Committed sales  contracts-administrative |   | —                  |   | —                     |   | 24.5                                      |   | 24.5      |   |
| Goodwill  write-downs                     |   | 282.3                   |   | —                     |   | —                                    |   | 282.3     |   |
| Integration and  acquisition costs        |   | —                  |   | 9.0                        |   | —                                    |   | 9.0       |   |
| Other                                     |   | —                  |   | 1.1                        |   | 3.2                                       |   | 4.3       |   |
|                                      |   |                    |   |                       |   |                                      |   |      |   |
| Total                                     |   | $                       | 415.5  |                       | $      | 144.2                                     |   | $         | 27.7   |   | $ | 587.4 |   |

 

 

                ***Non-recurring charges:**** *Employeeseverance costs relate to headcount reductions resulting from the closure offacilities and general terminations attributed to reduced sales forecasts. Theworkforce was reduced by approximately 1,000 employees during the three monthsended July 31, 2002. The costs of these reductions will be funded through cashfrom operations. These reductions have impacted both business segments.Additional workforce reductions are expected in the fourth quarter of fiscal 2002at levels not yet determined.

 

                The write-down of fixed assetsprimarily relates to fixtures and equipment that were written down to theirestimated realizable value and will no longer be used as a result ofdiscontinuation of certain product lines and facility closures.

 

Facility consolidation costs represent leasetermination costs and other costs associated with our decision to consolidateand close unproductive, duplicative or excess manufacturing and officefacilities.

 

Committed sales contracts—administrative representsthe administrative expenses necessary to complete or negotiate settlements withrespect to certain committed sales contracts, which costs would normally beclassified as selling and administration expenses.  These costs are a direct result of our decision to exit certainproduct lines.

 

                In addition, we also incurred inventory and committedsales contract related charges which represent losses incurred to write downthe carrying value of inventory and the direct costs of exiting and maintainingcertain 

 

 

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committed sales contractsfor product lines that have been discontinued. Revenues and gross margins from these product lines are not material toour consolidated operations.  For thethree months ended July 31, 2002 and 2001, these charges, which were includedas a component of Cost of Products Sold, were $13.8 million and $0.4 million,respectively.  For the nine months endedJuly 31, 2002 and 2001, these charges were $14.5 million and $64.9 million,respectively.

 

                The following table provides detail on the activityand remaining restructuring accrual balance by category as of July 31, 2002.(in millions)

 
| **Type of  Charge**                      |   | **Reserve****October 31, 2001** |   | **Net Additions** |   | **Cash Charges** |   | **Non-cash  Charges** |   | **Reserve****July 31,  2002** |   |
|------------------------------------------|--------|---------------------------------|--------|-------------------|--------|------------------|--------|-----------------------|--------|-------------------------------|--------|
| Employee severance costs                 |   | $                               | 22.3   |              | $      | 22.1             |   | $                     | 29.0   |                          | — |   | $ | 15.4 |   |
| Facilities consolidation                 |   | 83.6                            |   | 39.2              |   | 22.1             |   | —                |   | 100.7                         |   |
| Inventory and committed sales contracts  |   | 3.8                             |   | 14.5              |   | —           |   | 3.8                   |   | 14.5                          |   |
| Committed sales contracts-administrative |   | 11.1                            |   | —            |   | 2.3              |   | —                |   | 8.8                           |   |
|                                     |   |                            |   |              |   |             |   |                  |   |                          |   |
| Total                                    |   | $                               | 120.8  |              | $      | 75.8             |   | $                     | 53.4   |                          | $      | 3.8 |   | $ | 139.4 |   |
|                                          |        |                                 |        |                   |        |                  |        |                       |        |                               |        |  |  |  |  |  |

 

                Thetotal adjustment made to the restructuring accrual balance for changes inassumptions was a $15.3 million decrease as of July 31, 2002.  The adjustment was primarily related tochanges in the assumptions related to divested product lines as these productlines were sold or shut down prior to the completion of certain restructuringactivities.  This adjustment wasrecorded as an offset to the additions to the reserve, and thus is reflected inthe “Net Additions” column in the table above.

 

We expect that substantially allof the remaining $15.4 million of cash expenditures relating to employeeseverance costs incurred through July 31, 2002 will be paid by the end offiscal 2002. Restructuring costs resulting from the consolidation of facilitiesin the amount of $100.7 million at July 31, 2002, which also includes amountsaccrued in fiscal 2001, will be paid over the respective lease terms of thefacilities ending through 2006.  Weexpect that of this $100.7 million to be paid, approximately $60 million willbe funded through the use of existing restricted cash with the balance fromunrestricted cash.  The remainingbalance consists of $23.3 million of which cash charges of $8.8 million forcommitted sales contracts — administrative will be paid out through fiscal 2002as the committed sales contracts are completed.  The remaining $14.5 million represents non-cash inventorycharges.  Based on our intention tofurther reduce our cost structure, we expect to incur additional non-recurringand restructuring charges (both cash and non-cash) in future periods, whichcharges may be material in amount.

 

***Impairment Charges:*** As a result of our intention to sell, scale-back or exit non-strategicbusinesses, we evaluated the intangibles and long-lived assets (principallygoodwill and facilities) associated with our non-strategic businesses forimpairment in accordance with Statement of Financial Accounting Standards No.121, “Accounting for the Impairment of Long-Lived Assets.” We used estimates ofundiscounted cash flows to evaluate any possible impairment of long-livedassets. As a result of this evaluation, we concluded that a significant impairmentof long-lived assets had occurred. We used discounted cash flow models orestimated market values obtained from appropriate external sources to determinethe fair value of the assets. In accordance with our ordinary businesspractices, projected future cash flows were discounted at a rate correspondingto our estimated cost of capital, which is also the rate we use in evaluatingour business investment decisions and performance assessments. Because theestimated fair value was less than the carrying value of the assets, a non-cashimpairment charge was required. Accordingly, for the three months ended July31, 2002, we recorded total  impairmentcharges of $149.5 million ($96.7 million net of tax), which consisted of $36.6million ($23.7 million net of tax) for the write-off of goodwill associatedwith our optical components business, and $112.9 million ($73.0 million net oftax) for fixed asset write-downs, the majority of which was related to ouroptical components business.  For thethree months ended July 31, 2001, the total impairment charges were $6.5million ($4.1 million net of tax), consisting solely of fixed assetwrite-downs.  For the nine months endedJuly 31, 2002 and 2001, we recorded an impairment charge of  $159.1 million ($102.9 million net of tax)and $415.5 million ($377.9 million net of tax), respectively.  This charge consisted of goodwillwrite-downs associated with non-strategic businesses of $36.6 million ($23.7million net of tax) for the nine months ended July 31, 2002 and $282.3 million($278.0 million net of tax) for the nine months ended July 31, 2001, and fixedasset write-downs of $122.5 million ($79.2 million net of tax) for the ninemonths ended July 31, 2002, and $133.2 million ($99.9 million net of tax) 

 

 

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for the nine months ended July 31, 2001.  The fair value of the non-strategic businesses is based onmanagement estimates, and actual impairment charges could vary significantlyfrom these estimates.

 

**Note 8Joint Ventures:**

 

                In January 2001, we enteredinto two joint ventures with Competence Research and Development Ltd., anindependent company. The joint ventures were established to share developmentrisk and capital resources associated with the ongoing development of technologyused in our iANTM, BroadAccessTM and Small Subscriber product lines. The jointventures were successful in advancing the development of technology related tothese product lines.

 

                When the joint ventures wereestablished we held 34% and 20% interests, respectively, in the two jointventure entities. In December 2001, we purchased Competence’s 66% interestin one of the joint ventures for $3.9 million in cash and we assumedapproximately $16.5 million in debt owed by that joint venture, theproceeds of which were being used to fund the development of technology. Wethen entered into a new joint venture with Competence in which our ownershipinterest was 49%. Because we did not have majority control over the jointventures, these investments were accounted for using the equity method.Therefore, a pro rata portion of the joint ventures’ profits or losses isreflected in our consolidated income statement as Other Income (Expense).  For the nine months ended July 31, 2001 weincurred approximately $7 million in charges related to these joint ventures.

 

                In February 2002 wepurchased Competence’s remaining interests in both joint ventures forapproximately $350,000 in cash and assumed approximately $4.2 million indebt, the proceeds of which were used to fund the development of thetechnology.  The debt was paid offimmediately following the purchase.  Werecorded expense for in-process research and development projects associatedwith the purchase of Competence’s interest in these ventures in the secondquarter of fiscal 2002 of $10.5 million based on the results ofindependent appraisals.  In addition,$10.3 million was allocated to developed technology, which will be amortizedover a period of seven years. Appraisals for purchased in-process and developed technology weredetermined using the income approach, discounted based on the estimatedlikelihood that the project ultimately will succeed. Since the purchase we haveincurred an additional $12.5 million of research and development expense tofurther develop this technology.

 

## **Note 9Lease Commitments:**

 

                We are a party to four long-termoperating lease agreements related to certain of our facilities. These leaseshave expiration dates ranging from 2004 to 2009, depending on whether weexercise our renewal options. These operating leases contain purchase optionsand minimum residual value guarantees at the end of the lease term. If wechoose to retain the property at the end of the lease term, we must pay thepurchase option price. If we dispose of the property at the end of the leaseterm, we must pay any shortfall of the sales proceeds as compared to theresidual value guarantee to the lessor. The aggregate purchase option price andminimum residual value guarantees from all of these leases are approximately $251.8million and $204.6 million, respectively. We have pledged cash collateral in the aggregate amount of $254.0million under these four leases.  Inexchange for this, the lessors have agreed to amend, and in certaincircumstances delete, various financial and operating covenants and to reducethe minimum lease payments.  SeeManagement’s Discussion and Analysis—Liquidity and Capital Resources for afurther discussion of these lease commitments.

 

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

** **

**Business**

** **

                We are a leading global supplierof broadband network equipment, software and systems integration services thatenable communications service providers to deliver high-speed Internet, data,video and voice services to consumers and businesses worldwide. Our productsenable telephone companies, cable television operators, Internet and dataservice providers, wireless service providers and other communications serviceproviders to build and upgrade the broadband network infrastructure required tooffer high-speed Internet access as well as data, video, telephony and otherinteractive multimedia services. Our product offerings and development effortsare focused on increasing the 

 

 

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speedand efficiency of the last mile/kilometer portion of broadband communicationsnetworks, and our product and service offerings help connect communicationsservice providers’ offices to businesses and end users’ homes as well as to wirelesscommunications devices.

 

                Our customers include local andlong-distance telephone companies, cable television operators, wireless serviceproviders, new competitive service providers, broadcasters, governments,businesses, system integrators and communications equipment manufacturers anddistributors. We offer copper– and fiber–connectivity componentsand systems, broadband access and network equipment, software and systemsintegration services to our customers through the following two segments of productand service offerings:

 

•                                            BroadbandInfrastructure and Access; and

 

•                                            IntegratedSolutions.

 

                Broadband Infrastructure andAccess focuses on Internet Protocol (IP)–based offerings for the cableindustry, Digital Subscriber Line (DSL) offerings for the communicationsequipment industry, and broadband connectivity products for a variety ofcommunications network applications. Broadband Infrastructure and Access products consist of:

 

•                                            connectivity devicesthat provide the physical contact points needed to connect differentcommunications network elements and gain access to communications systemchannels, and

 

•                                            access and transportsystems that provide broadband, multiservice delivery capabilities withinservice provider networks.

 

                Connectivity devices assist inthe installation, testing, monitoring, accessing, managing, reconfiguring,splitting and multiplexing of communications systems channels within serviceproviders’ serving offices and the last mile/kilometer portion ofcommunications networks. These products include broadband connection and accessdevices for copper, coaxial cable, fiber, wireless and broadcast communicationsnetworks.  Access and transport systemsdeliver broadband, multiservice communications to consumers and businesses overcopper, coaxial cable and fiber networks. Broadband Infrastructure and Accessproducts are used throughout the world in telephone, cable television, Internetand wireless communications networks to deliver Internet, data, video and voiceservices to businesses and consumers.

 

                Integrated Solutions productsand services consist of systems integration services and operations supportsystems (OSS) software that is designed to aid communications service providersin the provisioning, delivery and billing of broadband, multiservicecommunications over wireline and wireless networks. Systems integrationservices are used to design, equip and build communications networks thatdeliver Internet, data, video and voice services to consumers and businesses.OSS software includes communications provisioning, activation, billing,customer management, network performance and service–level assurancesoftware used by service providers to operate communications networks.

 

**MarketplaceConditions**

 

                Our operating results during thethree and nine months ended July 31, 2002 continued to be adversely affected bythe downturn in general economic conditions, and adverse conditions in thecommunications equipment industry in particular. In this economic environment,many of our communications service provider customers have deferred capitalspending, reduced their telecommunications equipment purchases, and announcedplans to further reduce capital expenditures. A majority of our revenuescontinue to be derived from telecommunications service providers.  These companies in particular havedrastically reduced their spending on communications equipment, resulting insignificant reductions in our revenues. Moreover, some of our customers have experienced serious financialdifficulties, resulting in bankruptcy filings by several of our customers.  One of our customers who recently filed forbankruptcy protection is Velocita Corp., a company in which one of ourdirectors, Robert Annunziata, is also a director and Executive Chairman.  The total amount owing to us by Velocita isapproximately $0.4 million relating to software licensed to 

 

 

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Velocita andrelated services under an agreement entered into in the ordinary course of ourbusiness prior to the time Mr. Annunziata joined our board of directors.  While we continue to pursue collectionefforts on all of our accounts, some accounts may ultimately beuncollectible.  We believe that we haveadequate reserves for doubtful accounts relating to our customers who arecurrently experiencing financial difficulties.

 

                When the downturn incommunications equipment spending first became evident in fiscal 2001, weimplemented a cost restructuring plan through which we took steps to reduceoperating expenses and capital spending. As it became evident in 2002 that our industry was experiencing a morepronounced and prolonged economic downturn, we have taken additional costrestructuring measures to realize further cost savings. Our cost-saving actionsto date have included the sale of non-strategic product lines, the dispositionof certain assets and consolidation of facilities as well as reductions in ouremployee base, elimination of contractor positions and unreplaced employeeattrition. In particular, during the third quarter of fiscal 2002, we decidedto sell or close our optical components business and to cease all operationswith respect to our Avidia Multiplexer product in response to reduced demandfor these products.  Neither our opticalcomponents business nor our Avidia Multiplexer product have accounted for amaterial portion of our revenues. Despite these actions, if we are unable to meet expected revenue levelsin any particular quarter, there may be a material adverse impact on ouroperating results for that period because we may not be able to further reduceour expenses quickly in response to short-term business changes. Our expenselevels are based in part on our expectations of future revenues. Although ourmanagement has and will continue to take measures to adjust expense levels, ifrevenue levels in a particular period fluctuate, our operating results may beaffected adversely.

 

                Our results of operations havehistorically been subject to seasonal factors, with stronger demand for our productsduring the fourth fiscal quarter ending October 31, primarily as a resultof customer budget cycles and our fiscal year-end incentives, and weaker demandfor our products during the first fiscal quarter ending January 31,primarily as a result of the number of holidays in late November, December andearly January and a general industry slowdown during that period. There can beno assurance that these historical seasonal trends will continue in the future.For instance, these historical trends were not evident in fiscal 2001 as ourrevenue levels dropped sequentially each quarter. Further, based upon theannounced intentions of many of our customers to reduce or defer future capitalspending the historical trend may not resume for some time, if at all. A moredetailed description of the risks to our business related to seasonality, alongwith other risk factors associated with our business, can be found inExhibit 99-a to our Annual Report on Form 10-K for fiscal 2001.

 

**NON-RECURRING AND OTHER RESTRUCTURING RELATED CHARGES**

 

                In connection with our prior andcurrent fiscal year initiative to focus our business on strategic and coreoperations and improve our operating performance by restructuring andstreamlining our operations, we have recorded non-recurring restructuring andimpairment charges.  Restructuringcharges represent the direct costs of exiting certain product lines orbusinesses and the costs of downsizing our business.  Impairment charges represent a write-down of the carrying valueof long-lived assets (principally goodwill and facilities) to their estimatedfair market value, which was estimated by external sources or by discountingexpected future cash flows.  SeeNote 7 to the Condensed Consolidated Financial Statement for a further discussionof these charges.

 

                ***Three Months Ended July 31, 2002.***  For the three months ended July 31, 2002,our non-recurring restructuring and impairment charges related principally toour workforce reductions and our decision to cease operations with respect toour Avidia Multiplexer product and to sell or close our optical componentsbusiness.  The total charges to earningsfor the quarter for these items was $193.2 million, consisting of $149.5million of impairment charges (which relates principally to the write-down ofthe carrying value of goodwill and facilities related to our optical componentsbusiness), $29.9 million of non-recurring charges ($18.9 million of whichrelates to involuntary workforce reduction costs for approximately 1,000employees, with the remainder relating primarily to the write-down of fixturesand equipment associated with excess capacity and discontinued product lines),and $13.8 million of inventory write-down charges (which is included in Cost ofProduct Sold) associated with our remaining Avidia Multiplexer inventory.

 

                Of the total non-recurringrestructuring and impairment charges of $193.2 million, $173.3 million is anon-cash charge and $19.9 million resulted or will result in a cash outlay.

 

                ***Three Months Ended July 31, 2001.***  For the three months ended July 31, 2001,the total non-recurring restructuring and impairment charges were $42.5million, consisting of $35.5 million of non-recurring charges ($29.7 million ofwhich relates to involuntary workforce reduction costs for approximately 2,700employees, with the remainder consisting principally of facilitiesconsolidation costs and acquisition and related integration costs), $6.5million of impairment charges associated with the write-down of fixed assetsassociated with the anticipated exit from non-strategic product lines, and $0.5million of inventory and committed sales contract charges (which is included inCost of Product Sold and Selling and Administrative expense) associated withdiscontinued product lines.

 

                Of the total non-recurring andimpairment charges of $42.5 million, $40.9 million was a non-cash charge and$1.6 million resulted or will result in a cash outlay.

 

                ***Nine Months Ended July 31, 2002.***  During the nine months ended July 31, 2002,the total non-recurring restructuring and impairment charges were $272.2million, consisting of $159.1 million of impairment charges, $99.9 million ofnon-recurring charges (which consists primarily of $30.8 million forinvoluntary workforce reduction costs for approximately 1,600 employees, $35.9million for facilities consolidation costs, $19.6 million 

 

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for fixed assetwrite-downs, and $10.5 million of in-process research and development chargesassociated with the purchase of our partner’s interest in two technology jointventures), and $13.2 million of net inventory and committed sales contractcharges (which is included in Cost of Product Sold and Selling andAdministrative expense) associated with discontinued product lines.

 

                Of the total non-recurring andimpairment charges of $272.2 million, $214.8 million is a non-cash charge and$57.4 million resulted or will result in a cash outlay.

 

                ***NineMonths Ended July 31, 2001.***  During thenine months ended July 31, 2001, the total non-recurring restructuring andimpairment charges were $652.3 million, consisting of $415.5 million ofimpairment charges related to the write-down of goodwill and facilities relatedto non-strategic product lines, $144.2 of non-recurring charges (consistingprimarily of workforce reduction costs of $72.9 million for 6,300 employees,facilities consolidation costs of $42.2 million and $19.0 million for fixedasset write-downs), $64.9 million of inventory write-downs (which is includedin Cost of Product Sold) for discontinued products, and $27.7 million ofcommitted sales contract charges (which is included in Selling andAdministrative expense) for discontinued products.

 

                Of the total non-recurring and impairment charges of$652.3 million, $486.9 million was a non-cash charge and $165.4 millionresulted or will result in a cash outlay.

 

                ***Effect of Restructuring Charges on Future Cash Flow.***  The cash portion of restructuring chargesthat were expensed in fiscal 2001 and through the end of the third quarter of2002, but were not paid as of July 31, 2002, were $124.9 million. Of thisamount, we expect that substantially all of the remaining $15.4 million of cashexpenditures relating to our workforce reductions through July 31, 2002 and$8.8 million of cash expenditures relating to committed sales contracts will bepaid by the end of fiscal 2002. Of the remaining amount of $100.7 million,which relates to the costs of consolidating facilities, approximately $60million will be funded through the use of existing restricted cash with thebalance funded from our unrestricted cash. These facilities consolidation costs will be paid over the respectivelease terms of the facilities ending through 2006.

 

                We expect to realize significantcash savings from our restructuring initiatives which began in fiscal2001.  These savings, which are expectedto be realized primarily in the form of lower manufacturing costs and operatingexpenses, largely relate to reduced labor costs and more focused operations. Weintend to continue our initiative to achieve more cost-efficient operationsthroughout the remainder of fiscal 2002. Our overall restructuring initiativeis expected to result in significant additional restructuring expenses (bothcash and non-cash) in amounts that have not yet been determined.

 

**RESULTS OF OPERATIONS**

 

The following tablecontains information regarding the percentage to net sales of certain incomeand expense items for the three and nine months ended July 31, 2002 and 2001and the percentage changes in these income and expense items between periods:

 

 

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|                                            |   | **Percentage  of Net Sales**      |   | **Percentage  Increase  (Decrease) Between  Periods** |   |
|-------------------------------------------------|--------|-----------------------------------|--------|-------------------------------------------------------|--------|
|                                            |   | **Three  Months Ended  July 31,** |   | **Nine  Months Ended  July 31,**                      |   | **Three  Months  Ended  July 31,  2002** | ** ** | **Nine  Months  Ended  July 31,  2002** | ** ** |
|                                            |   | **2002**                          |   | **2001**                                              |   | **2002** |   | **2001** |   |
| **Net sales**                                   |   | 100.0                             | %      | 100.0                                                 | %      | 100.0 | % | 100.0 | % | (57.1 | )% | (58.9 | )% |
| **Cost of product sold**                        |   | (86.0                             | )      | (67.5                                                 | )      | (75.6 | ) | (69.6 | ) | (45.4 | ) | (55.3 | ) |
|                                            |   |                              |   |                                                  |   |   |   |   |   |   |   |   |   |
| **Gross profit**                                |   | 14.0                              |   | 32.5                                                  |   | 24.4 |   | 30.4 |   | (81.4 | ) | (67.0 | ) |
| **Expenses:**                                   |   |                              |   |                                                  |   |   |   |   |   |   |   |   |   |
| Research and development                        |   | (21.5                             | )      | (12.1                                                 | )      | (17.3 | ) | (11.4 | ) | (23.4 | ) | (37.6 | ) |
| Selling and administration                      |   | (39.6                             | )      | (27.8                                                 | )      | (37.3 | ) | (28.2 | ) | (38.9 | ) | (45.7 | ) |
| Goodwill amortization                           |   | —                            |   | (2.1                                                  | )      | — |   | (2.3 | ) | (100.0 | ) | (100.0 | ) |
| Impairment charges                              |   | (63.7                             | )      | (1.2                                                  | )      | (19.2 | ) | (20.7 | ) | 2,200.0 |   | (61.7 | ) |
| Non-recurring charges                           |   | (12.7                             | )      | (6.5                                                  | )      | (12.1 | ) | (7.2 | ) | (15.8 | ) | (30.7 | ) |
| Non-cash stock compensation                     |   | (1.4                              | )      | (0.8                                                  | )      | (1.3 | ) | (0.7 | ) | (24.4 | ) | (24.5 | ) |
|                                            |   |                              |   |                                                  |   |   |   |   |   |   |   |   |   |
| **Total expenses**                              |   | (138.9                            | )      | (50.5                                                 | )      | (87.2 | ) | (70.5 | ) | 18.2 |   | (49.1 | ) |
|                                            |   |                              |   |                                                  |   |   |   |   |   |   |   |   |   |
| **Operating loss**                              |   | (124.9                            | )      | (18.0                                                 | )      | (62.8 | ) | (40.1 | ) | (198.0 | ) | (35.5 | ) |
| **Other income (expense), net:**                |   |                              |   |                                                  |   |   |   |   |   |   |   |   |   |
| Interest                                        |   | 1.0                               |   | (0.7                                                  | )      | 0.6 |   | (0.2 | ) | (159.0 | ) | (232.5 | ) |
| Gain (loss) on sale of product lines            |   | (2.0                              | )      | 1.1                                                   |   | (0.6 | ) | 0.3 |   | (181.4 | ) | (181.4 | ) |
| Gain (loss) on write-down or sale of investment |   | 5.8                               |   | 2.8                                                   |   | 2.7 |   | (36.3 | ) | (12.2 | ) | (103.1 | ) |
| Loss on sale of fixed assets                    |   | (2.3                              | )      | —                                                |   | (1.0 | ) | — |   | — |   | 2,633.3 |   |
| Gain on patent infringement settlement          |   | —                            |   | —                                                |   | 3.2 |   | — |   | — |   | — |   |
| Loss on equity investment                       |   | (1.3                              | )      | (0.6                                                  | )      | (0.8 | ) | (0.7 | ) | (9.1 | ) | (56.1 | ) |
| Other                                           |   | (2.9                              | )      | (0.5                                                  | )      | (1.8 | ) | (0.4 | ) | 165.4 |   | 92.6 |   |
|                                            |   |                              |   |                                                  |   |   |   |   |   |   |   |   |   |
| **Loss before income taxes**                    |   | (126.6                            | )      | (15.9                                                 | )      | (60.5 | ) | (77.4 | ) | 242.7 |   | (67.9 | ) |
| **Provision (benefit) for income taxes**        |   | 141.0                             |   | (5.3                                                  | )      | 31.8 |   | (22.2 | ) | (1,255.4 | ) | (158.9 | ) |
|                                            |   |                              |   |                                                  |   |   |   |   |   |   |   |   |   |
| **Net loss**                                    |   | (267.6                            | )%     | (10.6                                                 | )%     | (92.3 | )% | (55.2 | )% | (982.8 | )% | (31.3 | )% |

 

**NetSales:** Thefollowing table sets forth ADC’s net sales for the three and nine months endedJuly 31, 2002 and 2001, respectively, for each of ADC’s functional product andservice segments described above (in millions):

 
|                                    |   | **Three  Months Ended July 31,** |   | **Nine  Months Ended July 31,** |   |
|-----------------------------------------|--------|----------------------------------|--------|---------------------------------|--------|
|                                    |   | **2002**                         |   | **2001**                        |   | **2002** |   | **2001** |   |
| **Product  Group**                      |   | **Net  Sales**                   |   | **%**                           |   | **Net  Sales** |   | **%** |   | **Net  Sales** |   | **%** |   | **Net  Sales** |   | **%** |   |
| **Broadband Infrastructure and Access** |   | $                                | 156.5  |                            | 66.6   | % | $ | 403.5 |   | 73.7 | % | $ | 559.0 |   | 67.6 | % | $ | 1,550.1 |   | 77.1 | % |
| **Integrated Solutions**                |   | 78.6                             |   | 33.4                            |   | 144.0 |   | 26.3 |   | 267.9 |   | 32.4 |   | 461.1 |   | 22.9 |   |
|                                    |   |                             |   |                            |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Total**                               |   | $                                | 235.1  |                            | 100.0  | % | $ | 547.5 |   | 100.0 | % | $ | 826.9 |   | 100.0 | % | $ | 2,011.2 |   | 100.0 | % |

 

Net sales for the three and nine months ended July 31,2002 were $235.1 million and $826.9 million, respectively, reflecting a 57.1%and 58.9% decrease over the comparable 2001 time periods.  Prioryear amounts for the three and nine-month periods include $100.1 million and$326.1 million, respectively, of net sales from product lines divested infiscal 2001. International revenues comprised approximately 28.6% and 27.7% ofADC’s sales for the 

 

 

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three and nine month periods ended July 31, 2002and 28.5% and 28.7% for the comparable 2001 time periods.  The decline in net sales from the comparableprior year periods (other than that attributable to divested product lines) wascaused by a dramatic reduction in capital spending by our customers,particularly telecommunication service providers.  Our future revenues remain dependent on the level of capitalspending by our customers.

 

During the three and nine months ended July 31, 2002,net sales of Broadband Infrastructure and Access products declined by 61.2% and63.9% over the comparable 2001 time periods. Thedecrease primarily resulted from lower sales for copper- and fiber-connectivitysystems due to a weakened communications equipment industry and lower carrierspending budgets. Sales of most other products, except our cable telephony/dataproducts, which had increased sales over the comparable prior year, declined bysmaller dollar amounts and percentages. Prior year amounts include $74.1million and $247.5 million of net sales from product lines divested ordiscontinued during fiscal 2001, which represented 18.4% and 16.0% of net sales,respectively. For the three months ended July 31, 2002, BroadbandInfrastructure and Access sales represent approximately 67% of our total netsales. We expect that future sales of Broadband Infrastructure and Accessproducts will continue to account for a substantial portion of our net sales.

 

                During the three and nine months ended July 31, 2002,Integrated Solutions net sales decreased by 45.4% and 41.9% over the comparable2001 time periods. This decrease wassubstantially the result of lower sales in system integration services andsoftware solutions. Prior year amounts include $26.0 million and $78.6 millionof net sales from product lines divested or discontinued during fiscal 2001,which represented 18.1% and 17.0% of net sales, respectively.

 

                During the three-month periodsended July 31, 2002 and 2001, gross profit percentages were 14.0% and 32.5%,respectively. The decrease in gross profit percentage is primarily due to adecrease in sales volume, which results in higher manufacturing costs perproduct due to the allocation of fixed factory expenses, and a shift in salesmix to lower margin products and services. Also, in the three-month periodsending July 31, 2002 and 2001, $13.8 million and $0.4 million of inventorywrite-offs and other costs to exit certain sales contracts in connection withour restructuring efforts were included in cost of product sold,respectively.  During the nine-monthperiods ended July 31, 2002 and 2001, gross profit percentages were 24.4% and30.4%, respectively. The decrease in gross profit percentage is primarily dueto a decrease in sales volume and a shift in sales mix to lower margin productsand services. Also, in the nine-month periods ending July 31, 2002 and 2001,$14.5 million and $64.9 million of inventory write-offs and other costs to exitcertain sales contracts in connection with our restructuring efforts wereincluded in cost of product sold. We anticipate that our future gross profitpercentage will continue to be affected by many factors, including sales mix,competitive pricing, timing of new product introductions and manufacturingvolume.

 

                Total operating expenses for thethree months ended July 31, 2002 and 2001 were $326.5 million and $276.2million, representing 138.9% and 50.5 % of net sales, respectively. Theseoperating expenses included non-recurring and restructuring related charges,non-cash stock compensation charges, and asset impairment charges of $182.8million and $46.6 million for the three months ended July 31, 2002 and 2001,respectively.  Total operating expensesfor the nine months ended July 31, 2002 and 2001 were $720.9 million and$1,416.5 million, representing 87.2% and 70.4 % of net sales, respectively.These operating expenses included non-recurring and restructuring related charges,non-cash stock compensation charges, and asset impairment charges of $268.6million and $601.7 million forthe nine months ended July 31, 2002 and 2001, respectively. The 2002 and 2001non-recurring charges represent costs associated with initiatives to reduceworkforce headcount, discontinue product lines that no longer fit our currentfocus and growth strategy and consolidate unproductive and duplicativefacilities.  Included in operatingexpenses for 2002 and 2001 are non-cash stock compensation charges associatedwith our acquisition of Broadband Access Systems. The 2001 operating expensesinclude non-cash stock compensation charges related to our acquisition ofCentigram Communications Corporation. Centigram related costs are not included in operating expenses for thethree and nine-month periods ended July 31, 2002 because we divested theCentigram operations through the sale of our Enhanced Services Division infiscal 2001.

 

                Operatingexpenses, before non-recurring and restructuring related charges and non-cashstock compensation charges, for the three months ended July 31, 2002 and 2001were $143.7 million and $229.6 million, representing 61.1% and 41.9% of netsales, respectively.  For the ninemonths ended July 31, 2002 and 2001, operating expenses, before non-recurringand restructuring related charges and non-cash stock compensation charges, were$452.3 million and $814.8 million, representing 54.7% and 40.5% of net salesrespectively.  The 

 

 

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decrease in absolute dollars ofoperating expenses, before non-recurring and restructuring related charges andnon-cash stock compensation charges, was primarily due to restructuring effortsas well as the divestiture of certain business units and product lines. Theincrease in operating expenses as a percentage of net sales was primarily dueto fixed and variable costs incurred by us that are not easily adjustable givena swift downturn in net sales. We currently are evaluating these costs and intendto take further actions to reduce these costs through additional restructuringefforts throughout fiscal 2002.  Theseadditional restructuring efforts are likely to result in significant additionalrestructuring charges (both cash and non-cash) in amounts that have not yetbeen determined.

 

                Research and developmentexpenses were $50.6 million for the three months ended July 31, 2002,representing a decrease of 23.4*%*from $66.1 million for the three monthsended July 31, 2001. For the nine months ended July 31, 2002 and 2001, researchand development expenses were $142.9 million and $229.0 million, representing a37.6% decrease over the prior year. We believe, given the rapidly changingtechnology and competitive environment in the communications equipmentindustry, continued commitment to product development efforts will be requiredfor us to remain competitive. Accordingly, we intend to continue to allocatesubstantial resources to product development for each of our product groups.  In connection with the discontinuance of ourjoint ventures related to our iAN, BroadAccess, and Small Subscriber productlines in fiscal 2002, we expect to incur additional research and developmentexpenses of approximately $4 million during the fourth quarter of fiscal 2002 forthese products.

 

                Selling and administrationexpenses were $93.1 million for the three months ended July 31, 2002,representing a decrease of 38.9% from $152.3 million for the three months endedJuly 31, 2001. For the nine months ended July 31, 2002 and 2001 selling andadministrative expenses were $308.2 million and $567.5 million, representing a45.7% decrease over the prior year. This decrease reflects a beneficial realization of our restructuringefforts, which were initiated in the prior fiscal year. In addition, sellingand administration expenses decreased $37.6 million and $139.7 million from thecomparable 2001 three and nine month periods due to the divestiture ordiscontinuance of certain business units and product lines in fiscal 2001.  Also included in the 2001 amounts were $0.1million and $27.7 million, respectively, in selling and administration expensesincurred to complete certain non-cancelable sales contracts and contractcancellation payments to customers as a result of our decision to exit certainproduct lines.

 

                On November 1, 2001, weadopted SFAS No. 142, “Goodwill and Other Intangible Assets.” Under thisstandard, purchased goodwill is no longer amortized over its useful life.Rather, goodwill is subject to a periodic impairment test based on its fairvalue. Therefore, we did not recognize any goodwill amortization during thethree month and nine month periods ended July 31, 2002 compared to $11.3million and $46.0 million in goodwill amortization for the three and nine monthperiods ended July 31, 2001, respectively.

 

**                OtherIncome (Expense), Net.**  For the three and nine months ended July31, 2002 and 2001, the net interest income (expense) category represented netinterest income on cash and cash equivalents. During the three and nine months ended July 31, 2002, interest incomewas partially offset by fees associated with the establishment of an accountsreceivable securitization arrangement, and restructuring of some of ouroperating lease agreements.  See“Liquidity and Capital Resources” below for a discussion of cash levels.

 

                Other expense primarilyrepresents the gain or loss on foreign exchange transactions, the gain or losson the sale of fixed assets and investments, investment impairment charges andour share of the net operating results of our investments in other companiesaccounted for under the equity method.

 

**                IncomeTaxes.**The effectiveincome tax rate for the three and nine months ended July 31, 2002 and 2001 wasaffected by lower effective tax benefit rates applied to restructuringexpenses. Excluding the impact of the lower rates used for the restructuringcharges, the effective income tax rate was 38% for the three and nine monthperiods ended on July 31, 2002 and 2001.  As a result of our cumulative losses overthe past several quarters, the full utilization of our loss carryback potentialand the decline in net sales from the previous quarter, we concluded during thethird quarter of fiscal 2002 that a full valuation allowance against our netdeferred tax assets was appropriate.  Werecorded a valuation allowance of $453.4 million during the three and ninemonths ended July 31, 2002.  This waspartially offset by a tax benefit on our pre-tax loss as well as tax benefitadjustments related to tax law changes of $121.8 million and $190.7 million forthe three and nine months ended July 31, 2002 respectively.  In addition, we 

 

 

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expectto provide a full valuation allowance on any future tax benefits until we can sustaina level of profitability that demonstrates our ability to utilize theseassets.  Beginning in the fourth quarterof fiscal 2002, we will no longer accrue tax benefits or provisions for pre-taxincome (loss) until our tax loss carryforwards and other deferred tax assetsare fully applied against future taxable income.

 

**Net Loss:** Net loss was $629.1 million (or $0.79 per dilutedshare) for the three months ended July 31, 2002, compared to net loss of $58.1million (or $0.07 per diluted share) for the three months ended July 31, 2001.Net loss was $763.1 million (or $0.96 per diluted share) for the nine monthsended July 31, 2002, compared to net loss of $1,110.8 million (or $1.41 perdiluted share) for the nine months ended July 31, 2001.

### ** **

**APPLICATION OFCRITICAL ACCOUNTING POLICIES AND ESTIMATES**

 

                Our consolidated financial statements arebased on the selection and application of accounting principles generallyaccepted in the United States, which require us to make estimates andassumptions about future events that affect the amounts reported in ourfinancial statements and the accompanying notes. Future events and theireffects cannot be determined with absolute certainty. Therefore, thedetermination of estimates requires the exercise of judgment. Actual resultscould differ from those estimates, and any such differences may be material tothe financial statements. A description of the significant accounting policiesused are described in Note 1 of the Notes to Consolidated Financial Statementsincluded in our Annual Report on Form 10-K for the fiscal year ended October31, 2001. We believe that the following accounting policies may involve ahigher degree of judgment and complexity in their application and represent thecritical accounting policies used in the preparation of our financialstatements. If different assumptions or conditions were to prevail, the resultscould be materially different from our reported results.

 

**Revenue recognition and sales returns**

 

We recognize revenue when persuasive evidence of afinal agreement exists, delivery has occurred, the selling price is fixed ordeterminable and collectibility is reasonably assured.  Revenue from product sales is primarilyrecognized at the time of delivery and acceptance, and after consideration ofall the terms and conditions of the customer contract.  Revenue from services consists of fees forsystems requirements, system design and analysis, customization andinstallation services, ongoing system management, system enhancements, servicebureau processing, facilities management and maintenance.  Services revenue is recognized as theservices are performed, primarily on a time and materials basis and to a lesserextent on a fixed fee basis over the term of the services provided.  Revenue from maintenance contracts isrecognized ratably over the term of the agreement, generally one year.  Revenue from the licensing of softwarerights is recognized at the time of delivery of the software to the customer,provided that we have no remaining service obligations, collectibility isreasonably assured and the fees are fixed and determinable.  Where there are service obligations that areessential to the functionality of the software installed, license fees are recordedover the term of the initial customization period.

 

The assessment of collectibility is particularlycritical in determining whether or not revenue should be recognized in thecurrent market environment. As part of the revenue recognition process, wedetermine whether trade and notes receivable are reasonably assured ofcollection based on various factors, including an evaluation of whether therehas been deterioration in the credit quality of our customers, which couldresult in us being unable to collect or sell the receivables.  In situations where it is unclear as towhether we will be able to sell or collect the receivable, revenue and relatedcosts are deferred. Revenue is deferred and costs are recognized when it hasbeen determined that the collection or sale of the receivable is unlikely.  At July 31, 2002 we had unbilled revenues of$41.4 million.

 

We record provisions against our gross revenue forestimated product returns and allowances in the period when the related revenueis recorded. These estimates are based on factors that include, but are notlimited to, historical sales returns, analyses of credit memo activities,current economic trends and changes in our customers’ demand. Should our actualproduct returns and allowances exceed our estimates, additional reductions toour revenue would result.

 

 

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**Allowance for uncollectibleaccounts**

 

We are required to estimate the collectibility of ourtrade receivables and notes receivable. A considerable amount of judgment isrequired in assessing the realization of these receivables including thecurrent credit-worthiness of each customer and related aging of the past duebalances. In order to assess the collectibility of these receivables, weperform ongoing credit evaluations of our customers’ financial condition.  Through these evaluations, we may becomeaware of a situation where a customer may not be able to meet its financialobligations due to a deterioration of its financial viability, credit ratingsor bankruptcy. The reserve requirements are based on the best facts availableto us and reevaluated and adjusted as additional information is received. Ourreserves are also based on amounts determined by using percentages applied tocertain aged receivable categories. These percentages are determined by avariety of factors including, but are not limited to, current economic trends,historical payment and bad debt write-off experience. Significant increases inreserves have been recorded in recent periods and may occur in the future dueto evolving market conditions.  We arenot able to predict changes in the financial condition of our customers, and ifcircumstances related to our customers deteriorate, our estimates of therecoverability of our receivables could be materially affected and we may berequired to record additional allowances. Alternatively, if we provide moreallowances than we need, we may reverse a portion of such provisions in futureperiods based on our actual collection experience.  As of July 31, 2002 we had $45.7 million reserved against ouraccount receivables and note receivables.

 

**Inventories**

 

We are required to state our inventories at the lowerof cost or market. In assessing the ultimate realization of inventories, we arerequired to make judgments as to future demand requirements and compare thatwith the current or committed inventory levels. Our reserve requirementsgenerally increase as our projected demand requirements decrease due to marketconditions, technological and product life cycle changes as well as longer thanpreviously expected usage periods. We have experienced significant changes inrequired reserves in recent periods due primarily to declining marketconditions.  It is possible thatsignificant changes in required inventory reserves may continue to occur in thefuture if there is a further decline in market conditions.  As of July 31, 2002 we had $71.5 millionreserved against our inventories.

 

**Investments**

 

We hold equity interestsin both publicly traded and privately held companies. When the carrying valueof an investment exceeds its fair value and the decline in value is deemed tobe other-than-temporary, we write down the value of the investment andestablish a new cost basis. Fair values for investments in public companies aredetermined using quoted market prices. Fair values for investments in privatelyheld companies are estimated based upon one or more of the following factors:the values of the most recent round of financing, quoted market prices ofcomparable public companies, or analyses of historical and forecasted financialinformation. We regularly evaluate our investments based on criteria thatinclude, but are not limited to, the duration and extent to which the fairvalue has been less than the carrying value, the current economic environmentand the duration of any market decline, and the financial health and businessoutlooks of the portfolio’s companies. We generally believe another-than-temporary decline occurs when the fair value of a publicly tradedinvestment is below the carrying value for nine consecutive months. Futureadverse changes in these or other factors could result in another-than-temporary decline in the value of our investments, thereby requiringus to write down such investments. Our ability to liquidate our positions inthe investments in privately held companies will be affected to a significantdegree by the lack of an actively traded market, and we may not be able todispose of these investments in a timely manner.  As of July 31, 2002, our investments in publicly traded andprivately held companies had a current cost basis (after giving effect to otherthan temporary impairment charges) and estimated fair value of $11.3 millionand $6.3 million, respectively.

 

**Warranty**

 

We provide reserves for the estimated costs of productwarranties at the time revenue is recognized. We estimate the costs of ourwarranty obligations based on our warranty policy or applicable contractualwarranty, our historical experience of known product failure rates, and use ofmaterials and service delivery costs incurred in correcting product failures.In addition, from time to time, specific warranty accruals may be made ifunforeseen technical problems arise. Should our actual experience relative tothese factors differ from our estimates, we may be 

 

 

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required to record additional warranty reserves. Alternatively, if weprovide more reserves than we need, we may reverse a portion of such provisionsin future periods.  As of July 31, 2002we reserved $18.8 million related to future estimated warranty costs.

 

**Deferred taxes**

 

We regularly assess the likelihood that our deferredtax assets will be recovered from future taxable income, and we record avaluation allowance to reduce our deferred tax assets to the amount we believeto be realizable. We consider projected future taxable income and ongoing taxplanning strategies in assessing the amount of the valuation allowance. If wedetermine we will not realize all or part of our deferred tax assets, anadjustment to the deferred tax asset will be charged to earnings in the periodsuch determination is made.  As a result of our cumulative losses over the pastseveral quarters, the full utilization of our loss carryback potential and the declinein net sales from the previous quarter, we concluded during the third quarterof fiscal 2002 that a full valuation allowance against our net deferred taxassets was appropriate.  We recorded avaluation allowance of $453.4 million during the three and nine months endedJuly 31, 2002.  In addition, we expectto provide a full valuation allowance on any future tax benefits until we cansustain a level of profitability that demonstrates our ability to utilize theseassets.  Beginning in the fourth quarterof fiscal 2002, we will no longer accrue tax benefits or provisions for pre-taxincome (loss) until our tax loss carryforwards and other deferred tax assetsare fully applied against future taxable income.

 

**Long-lived assets**

 

                We evaluate the carrying value of our long-livedassets, consisting primarily of goodwill and identifiable intangible assets,and property, plant and equipment, whenever certain events or changes incircumstances indicate that the carrying amount of these assets may not berecoverable. Such events or circumstances include, but are not limited to, aprolonged industry downturn, a significant decline in our market value, orsignificant reductions in projected future cash flows. In assessing therecoverability of our long-lived assets, we compare the carrying value to theundiscounted future cash flows the assets are expected to generate. If thetotal of the undiscounted future cash flows is less than the carrying amount ofthe assets, we write down such assets based on the excess of the carryingamount over the fair value of the assets. Fair value is generally determined bycalculating the discounted future cash flows using a discount rate based uponour weighted average cost of capital. Significant judgments and assumptions are required in the forecast offuture operating results used in the preparation of the estimated future cashflows, including long-term forecasts of the amounts and timing of overallmarket growth and our percentage of that market, groupings of assets, discount rateand terminal growth rates. Changes in these estimates could have a materialadverse effect on the assessment of our long-lived assets, thereby requiring usto write down the assets.  See Note 7for details on our impairment charges.  We will continue to reassess the value of ourbusiness units and related goodwill balances at the beginning of the fourthquarter of each fiscal year or at other times if events have occurred orcircumstances exist that indicate the carrying amount of goodwill may not be recoverable.  If we determine goodwill is impaired, thiswill result in a non-recurring charge to earnings to reflect the differencebetween the carrying value of certain assets and their fair value.

 

**Restructuring**

 

During fiscal year 2001 and for the nine months endedJuly 31, 2002, we recorded significant charges in connection with ourrestructuring program. The related reserves reflect many estimates includingthose pertaining to involuntary workforce reduction and facility consolidationcosts, fixed assets, inventory, and settlements of contractual obligations. Wereassess the reserve requirements to complete each individual plan under ourrestructuring program at the end of each reporting period. Actual experiencehas and may continue to be different from these estimates.  See Note 7 for details on our non-recurringand other restructuring charges.

 

**Commitments and contingencies**

 

We are subject to the possibility of various losscontingencies arising in the ordinary course of business. We consider the likelihoodof the loss or impairment of an asset or the incurrence of a liability as wellas our ability to reasonably estimate the amount of loss in determining losscontingencies. An estimated loss contingency is accrued when it is probablethat a liability has been incurred or an asset has been impaired and the amountof loss 

 

 

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can be reasonably estimated. We regularly evaluate current informationavailable to us to determine whether such accruals should be adjusted.

 

Theimpact of changes in the estimates and judgments pertaining to revenuerecognition, receivables, inventories and warranties are directly reflected inour segments’ operating income (loss). Although any charges related to our netdeferred tax assets, investments, restructuring and goodwill and other acquiredintangibles are not reflected in the segment results, the long-term forecastssupporting the realization of those assets and changes in them aresignificantly impacted by the actual and expected results of each segment.  We have discussed the application of thesecritical accounting policies with our Board of Directors and Audit Committee.During the nine months ended July 31, 2002, we initially adopted SFAS No. 142,“Goodwill and Other Intangible Assets” which is further described in Note 3 tothe condensed consolidated financial statements.  There was no initial adoption of any other accounting policiesduring this period.

 

**LIQUIDITY AND CAPITAL RESOURCES**

 

**Cash From Operations**

 

                Cash and cash equivalents, primarily short-terminvestments in commercial paper with maturities of less than 90 days and othershort-term investments, (decreased)/increased by ($37.7) million and $27.9million during the three months ended July 31, 2002 and 2001, respectively.  The major elements of the 2002 changeincluded a $16.4 million increase in restricted cash, $8.3 million in property,plant and equipment additions and $49.4 million used for operating activitiespartially offset by $36.4 million provided by the sales of available-for-salesecurities.  The major elements of the2001 change included $71.6 million provided by operating activities, $23.6million in net proceeds from divestitures, and $106.5 million provided by thesale of available-for-sale securities. These amounts were partially offset by $126.1 million used to pay downoutstanding amounts under a revolving credit facility and $45.1 million inproperty, plant and equipment additions.

 

                Cash and cash equivalents decreased $76.8 million and$72.3 million during the nine months ended July 31, 2002 and 2001,respectively. The major elements of the 2002change included a $276.5 million increase in restricted cash and $30.1 millionin property, plant and equipment additions partially offset by $165.0 millionprovided by operating activities and $68.7 million provided by the sale ofavailable-for-sale securities. The major elements of the 2001 change included$48.7 million used for acquisitions, and $220.2 million in property, plant andequipment additions.  These amounts werepartially offset by $12.1 million provided by operating activities, $23.6million in net proceeds from divestitures, and $165.9 million provided by thesale of available-for-sale securities during the nine months ended July 31, 2001.

 

As of July 31, 2002, we hadunrestricted cash of $271.8 million and restricted cash of $276.5 million.  Restricted cash represents cash pledged tovarious financial institutions to secure certain of our obligations, and thusis not available to us for working capital. The majority of this restricted cash relates to four long-term operatingleases, with the remainder representing cash collateral for letters of credit,guarantees relating to vendor financing transactions, and foreign currencyhedging activities.  We expect thatsubstantially all of our restricted cash will be used to settle the obligationswhich it secures, and accordingly will never become available to us for generalworking capital purposes.

 

**Investments**

 

                We maintain investments of commonstock in four publicly held companies. The investments in two of thesecompanies, Vyyo, Inc. and Interwave Communications International Ltd.,have been written down to a nominal value. We hold less than a 20% interest inRedback Networks, Inc. and accordingly this investment is classified as anavailable-for-sale security. Consequently, it is recorded on our balance sheet at fair value, withunrealized gains and losses reported as a separate component of shareholders’investment in accumulated other comprehensive income (loss). As of July 31,2002, the market value of our investment in Redback Networks, Inc. was $1.2million. In addition we own an approximate 21.9% interest in MIND C.T.I. Ltd.As of July 31, 2002, our investment in MIND had a market value of approximately$5.2 million. This investment is accounted for using the equity method.  In July 2002, we entered into an agreementto sell substantially all of our shares in MIND in a privately negotiated transaction.  We expect to close this sale during thefourth quarter of fiscal 2002.

 

 

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During the three and ninemonths ended July 31, 2002, we sold 1.3 million and 2.4 million sharesrespectively of ONI Systems and completely settled a related hedgingarrangement for an aggregate pre-tax gain of $35.3 million and $66.5 million,respectively.  As of July 31, 2002, wehave liquidated our entire investment in ONI Systems.

 

                We also maintain a venture capital fund that isfocused on investing in emerging and start-up companies throughout the worldthat are engaged in the development of high-performance broadband communicationtechnologies. This fund is recorded as a long-term asset on our balance sheet.The fund’s investments are stated at cost (subject to periodic review forimpairment) until a public market develops for the investments, at which timethe investments are stated at market value with the aggregate valuationadjustments classified as shareowners’ investment.  During the three and nine months ended July 31, 2002, we incurred$21.6 million ($13.4 million net-of-tax) and $43.9 million ($27.2 millionnet-of-tax) in other than temporary non-cash write downs of our venture capitalfund.  This was a result of the downturnin market conditions in the technology and telecommunications sectors of themarket.  As of July 31, 2002, the fundhad a balance of $5.1 million after write-downs.

 

**Finance-relatedTransactions**

 

                At July 31, 2002, we hadapproximately $17.5 million of debt outstanding. We are also a party to fouroperating lease agreements related to certain of our facilities, including ourEden Prairie, Minnesota headquarters facility. These leases have expirationdates ranging from 2004 to 2009, depending on whether we exercise our renewaloptions. These operating leases, which are sometimes referred to as “syntheticleases,” contain minimum residual value guarantees by us at the end of thelease term and also give us a purchase option at the end of the lease term. Ifwe choose to retain the property at the end of the lease term, or if the leaseis terminated prematurely, we must pay the purchase option price. If we disposeof the property at the end of the lease term, we must pay any shortfall of thesales proceeds as compared to the residual value guarantee to the lessor. Theaggregate purchase option price and minimum residual value guarantees from allof these leases are approximately $252 million and $205 million,respectively. Our obligations under these leases are secured by $254.0 millionin cash collateral, which is classified as restricted cash on our balancesheet.   Two of these leases, includingour headquarters facility lease, require us to maintain a minimum net worth of$1 billion.

 

                With the exception of ourheadquarters facility, we do not intend to continue to occupy the leasedfacilities for the full lease term. Accordingly, we are attempting to sell these facilities.  In order to sell these leased facilities wemust first purchase the facilities from the lessor for the purchase optionprice (which we will fund through the use of restricted cash).  As the fair market value of these facilitiesis likely to be less than the amount payable to the lessor for the purchaseoption price, we may incur non-recurring charges related to the disposal ofthese leased facilities as early as the fourth quarter of fiscal 2002.  The net sales proceeds obtained from a buyerof these facilities would be available to us as unrestricted cash.  

 

                Although we expect to occupy ourheadquarters facility for the full lease term, we believe that the fair marketvalue of this facility is less than the residual value guarantee amount.  Accordingly, in the quarter ended July 31,2002, we began amortizing the difference between the estimated fair marketvalue and the residual value guarantee over the remaining lease term.  The amortization charges in this quarterwere $1.2 million.  We expect tocontinue this amortization, or, alternatively, purchase the property at thepurchase option price or restructure the lease to reduce the purchase optionprice.  Any such purchase orrestructuring of the lease will involve a cash payment to the lessor  (which we will fund through the use of restrictedcash) and also may result in a non-recurring charge to earnings to reflect thedifference between the current purchase option price and the fair market valueof the property.  The amount of any suchcash payment and charge to earnings has not yet been determined but may besignificant in amount.

 

                In December 2001, weentered into an accounts receivable securitization arrangement with a financialinstitution. This arrangement functions much like a revolving line of credit,but has a lower cost of funds than a traditional revolving line of credit.Pursuant to this arrangement we may sell certain of our U.S. sourced accountsreceivable to the financial institution without recourse to us. The sales mayoccur either on a one-time basis or on a continuous basis, provided that theaggregate sales proceeds less the uncollected receivables may not exceed$160 million at any point in time. We will continue to service, administerand collect the receivables with respect to this arrangement. The receivablesare sold at a discount to their face amount, with such discount representing afinancing charge. The financing charge is based on an A1-P1 Commercial Paperrate plus an interest spread for the 

 

 

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usedand unused portion of the amount available under this arrangement. The actualamount of receivables that can be sold depends on certain attributes of theunderlying receivables, thus the actual amount that may be available under thisarrangement may be less than the maximum of $160 million. During the ninemonths ended July 31, 2002, the amount available under this arrangement rangedfrom $3 million to $54 million.

 

                The purpose of thissecuritization arrangement is to allow us to accelerate the cash realized fromour receivables, and to provide an additional liquidity resource. We will accountfor any sales of receivables to the financial institution as a sale, andaccordingly any discount from the face value of such receivables as well ascertain fees will be included in interest and other financing expense. As iscustomary with these arrangements, we utilize a wholly owned special purposeentity to facilitate these sales, the purpose of which is to isolate and holdtitle to the receivables for the benefit of the financial institution. As ofJuly 31, 2002, there have been no sales of receivables under this arrangement.This arrangement expires on December 12, 2004, subject to possible earliertermination under certain circumstances.

 

**CapitalCommitments**

 

                As of July 31, 2002 we hadcommitments (both cancelable and non-cancelable) for capital expendituresrelated to the ongoing operation of our business of approximately $21.1million. These commitments primarily reflect future equipment purchases as wellas improvements for existing buildings and facilities. The commitments arepayable over three years with approximately $5.0 million to become due andpayable during the fourth quarter of fiscal 2002, and $4.0 million is expectedto become due and payable during the first quarter of fiscal 2003. We intend tofund these expenditures from cash on hand.

 

**Vendor Financing**

 

                We have worked with customersand third-party financiers to find a means of financing projects by negotiatingfinancing arrangements. As of July 31, 2002 and 2001, we had commitments toextend credit of approximately $58 million and $203.0 million, respectively,for such arrangements. The total amount drawn and outstanding under thecommitments, including recourse obligations under customer notes that have beensold, was approximately $14.0 million and $69.0 million as of July 31, 2002 and2001, respectively. The commitments to extend credit are conditional agreementsgenerally having fixed expiration or termination dates and specific interestrates, conditions and purposes. These commitments may expire without beingdrawn.   Some of these commitmentsenable the customer to draw on the commitment after the customer has madepayment to us for the products we sold, up to the amount the customerpreviously paid to us.  Accordingly,amounts committed may effect future cash flows. We regularly review alloutstanding commitments, and the results of these reviews are considered inassessing the overall risk for possible credit losses. At July 31, 2002, wehave recorded approximately $4.0 million in loss reserves in the event ofnon-performance related to these financing arrangements. We consider these lossreserves to be adequate.  In addition tothe foregoing commitments, we also have a participation obligation in amulti-vendor credit facility which has committed long term financing to a customer.  Our commitment under this participation isup to approximately $65 million, and is tied to the value of products we sellto the customer.  No amount has beendrawn on this commitment.  The customeris currently in default of the terms of this facility and cannot utilize thefinancing while the default exists.  Ifthis default is cured or waived, or if the facility is amended, we may beobligated to provide long-term financing in amounts which equal the value ofproducts we sell to the customer, up to the $65 million maximum.

 

                During the quarter ended July31, 2002, we sold a participation interest in one of our vendor financing notesreceivable for cash equal to $10.5 million. This sale was without any discount to the face amount of the receivable,was with full recourse to us, and our recourse obligation is secured by aletter of credit.  This recourseobligation is included in the amounts drawn and outstanding listed above.

 

**Working CapitalOutlook**

 

**               **Ourmain source of liquidity continues to be our cash on hand.  In addition, based on our recent operatinglosses, we expect to receive a federal income tax refund of approximately $100million during the first calendar quarter of 2003.

 

 

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                Although we expect to continueto use cash to fund operating losses and restructuring charges in the nearterm, we believe that our current cash on hand and cash from the expectedfederal income tax refund should be adequate to fund our working capitalrequirements, planned capital expenditures and restructuring costs throughfiscal 2003 and beyond. However, if our operating losses are more severe thanexpected or continue longer than expected, we may find it necessary ordesirable to seek other sources of financing to support our capital needs andprovide available funds for working capital. In addition, should we determine to make any significant acquisitions,additional sources of capital may be required. Given the current state of the communications equipment industry, thereare few alternatives available as sources of financing.  Commercial bank financing is not availableat this time to us or to many companies in our industry.  Accordingly, any plan to raise additionalcapital would likely involve an equity-based or equity-linked financing, suchas the issuance of convertible debt, common stock or preferred stock, whichwould be dilutive to existing shareholders.

 

**CautionaryStatement for Purposes of the “Safe Harbor” Provisions of the PrivateSecurities Litigation Reform Act of 1995**

 

The foregoing Management’s Discussion and Analysis ofFinancial Condition and Results of Operations, as well as the Notes to theCondensed Consolidated Financial Statements, contains various “forward-lookingstatements” within the meaning of Section 27A of the Securities Act of 1933, asamended, and Section 21E of the Securities Exchange Act of 1934, as amended.Forward-looking statements represent our expectations or beliefs concerningfuture events, including the following: any statements regarding future sales,profit percentages, earnings per share and other results of operations, anystatements regarding the continuation of historical trends, any statementsregarding the sufficiency of our cash balances and cash generated from operatingand financing activities for our future liquidity and capital resource needs,any statements regarding the effect of regulatory changes and any statementsregarding the future of the communications equipment industry andcommunications services on our business.  We caution that any forward-looking statements made by us in this reportor in other announcements made by us are further qualified by important factorsthat could cause actual results to differ materially from those in theforward-looking statements.  Theseinclude, without limitation, significant difficulties in forecasting sales andmarket trends, uncertainties regarding the level of capital spending bytelecommunications service providers, as the majority of our revenues arederived from these companies; the overall demand for our products or services;the demand for particular products or services within the overall mix ofproducts sold, as our products and services having varying profit margins;changing market conditions and growth rates either within our industry orgenerally within the economy; our ability to complete our restructuringinitiative and streamline our operations successfully; our ability to disposeof non-strategic product lines and excess assets on a timely and cost-effectivebasis; new competition and technologies; increased costs associated withprotecting intellectual property rights; the impact of customer financingactivities; the retention of key employees; pressures on the pricing ofproducts or services we offer; the availability of materials to make products;variations in the value of assets held or used by us in the operation of ourbusiness and other risks and uncertainties, including those identified inExhibit 99-a to our Report on Form 10-K for the fiscal year ended October 31,2001.  We disclaim any intention orobligation to update or revise any forward-looking statements, whether as aresult of new information, future events or otherwise.

**ITEM 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

                We are exposed to market riskfrom changes in security prices, foreign exchange rates and interest rates.Market fluctuations could affect our results of operations and financialcondition adversely. We reduce this risk through the use of derivative financialinstruments. We do not enter into derivative financial instruments for thepurpose of speculation. Changes in interest rates are not expected to have amaterial adverse effect on our financial condition or results of operations.

 

                As described in “Liquidity andCapital Resources” and Note 4 to the Condensed Consolidated FinancialStatements, we maintain an investment portfolio of common stock in fourpublicly held companies in the telecommunications or technology industries.This portfolio was developed primarily through investments in privately heldcompanies, which later became publicly traded. The common stock investments intwo of these companies, Vyyo, Inc. and Interwave CommunicationsInternational, Ltd., have been written down to a nominal value. The commonstock investments in one other company where we hold less than 20% interest,Redback Networks, is classified as an available-for-sale security and,consequently, is recorded on the balance sheet at fair value, with 

 

 

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unrealized gainsand losses reported as a separate component of shareowners’ investment inaccumulated other comprehensive income (loss). The investment in the lastcompany, MIND, is accounted for using the equity method and a pro-rata portionof MIND’s profits or loss is reflected in our consolidated income statement.The values recorded for the publicly traded companies are subject to marketprice volatility. Assuming an immediate decrease of 20%, 50% and 80% in ourpublicly traded investments, the hypothetical reduction in shareowners’investment related to these holdings is estimated to be $0.2 million, $0.6million and $1.0 million, respectively, as of July 31, 2002. As a result ofchanges in the fair value of these investments since acquisition, we recorded a$5.0 million unrealized loss, $3.2 million net of tax, in shareowners’investment as of July 31, 2002. We also hold minority investments in a numberof companies that are not publicly traded. These investments are included inlong-term assets and are carried at cost. We monitor these investments forimpairment and make appropriate reductions in carrying value when necessary.

 

We areexposed to market risk from changes in foreign exchange rates. To mitigate therisk from these exposures, we have instituted a balance sheet hedging program.The objective of this program is to protect our net monetary assets andliabilities from fluctuations due to movements in foreign exchange rates. Thisprogram operates in markets where hedging costs are beneficial. We attempt tominimize exposure to currencies in which hedging instruments are unavailable orprohibitively expensive by managing our operating activities and net assetpositions. The majority of hedging instruments utilized are forward contractswith maturities of less than one year. Foreign exchange contracts reduce our overall exposure to exchange ratemovements, since gains and losses on these contracts offset losses and gains onthe underlying exposure. Our hedging program prohibits the use of derivativefinancial instruments for trading and other speculative purposes.

 

**PART II. OTHER INFORMATION**

 

**ITEM 1.LEGAL PROCEEDINGS**

 

We area defendant in various suits, claims, proceedings and investigations arising inthe ordinary course of business.  Atthis time, we cannot determine our total aggregate amount of monetary liabilityor the financial impact of these matters. Therefore, we do not know whetherthese actions, suits, claims, proceedings and investigations will, individuallyor collectively, have a material adverse effect on our business, results ofoperations, and financial condition. We intend to vigorously defend theseactions, suits, claims, proceedings and investigations.

 

**ITEM 2. CHANGES IN SECURITIES**

 

None.

 

**ITEM 3. DEFAULTS UPON SENIOR SECURITIES**

 

None.

 

**ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS**

 

None.

 

**ITEM 5. OTHER INFORMATION**

 

None.

 

**ITEM 6.EXHIBITS AND REPORTS ON FORM 8-K**

 

a.             Exhibits

 
| 4-a |   | Form of certificate for shares  of Common Stock of ADC Telecommunications, Inc. (Incorporated by  reference to Exhibit 4-a to ADC’s Form 10-Q for the quarter ended  January 31, 1996.)                                        |
|-----|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4-b |   | Restated Articles of  Incorporation of ADC Telecommunications, Inc., as amended prior to  January 20, 2000. (Incorporated by reference to Exhibit 4.1 to  ADC’s Registration Statement on Form S-3 dated April 15, 1997.) |

 

 

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| 4-c  |   | Articles of Amendment to  Restated Articles of Incorporation of ADC Telecommunications, Inc. dated  January 20, 2000. (Incorporated by reference to Exhibit 4.6 to  ADC’s Registration Statement on Form S-8 dated March 14, 2000.)                                                                                                                                                                                                                                         |
|------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4-d  |   | Articles of Amendment to  Restated Articles of Incorporation of ADC Telecommunications, Inc.,  dated June 30, 2000. (Incorporated by reference to Exhibit 4-g to  ADC Quarterly Report on Form 10-Q for the quarter ended July 31,  2000.)                                                                                                                                                                                                                                       |
| 4-e  |   | Restated Bylaws of ADC  Telecommunications, Inc., as amended effective July 30, 2002.                                                                                                                                                                                                                                                                                                                                                                                                                |
| 4-f  |   | Second Amended and Restated  Rights Agreement, amended and restated as of November 28, 1995, between  ADC Telecommunications, Inc. and Norwest Bank Minnesota, N.A. (amending  and restating the Rights Agreement dated as of September 23, 1986, as  amended and restated as of August 16, 1989), which includes as  Exhibit A thereto the form of Right Certificate. (Incorporated by  reference to Exhibit 4 to ADC’s Form 8-K dated December 11,  1995.) |
| 4-g  |   | Amendment to Second Amended and  Restated Rights Agreement dated as of October 6, 1999. (Incorporated by  reference to Exhibit 4-c to ADC’s Form 10-K for the fiscal year  ended October 31, 1999.)                                                                                                                                                                                                                                                                              |
| 4-h  |   | Amendment No. 2, dated as  of November 15, 2000, to Second Amended and Restated Rights Agreement  among ADC Telecommunications, Inc., Wells Fargo Bank Minnesota, N.A.  (formerly Norwest Bank Minnesota, N.A.) and Computershare Investment  Services, LLC. (Incorporated by reference to Exhibit 4.8 to ADC’s  Registration Statement on Form S-8 dated February 28, 2001.)                                                                                          |
| 99-a |   | Certification Required by  Section 906 of Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                                                                                                                                                              |

 

b.             Reports on Form 8-K

 

Thefollowing reports on Form 8-K were filed during the quarter ended July 31,2002:

 

•                    April 18, 2002 (filed May 1,2002)—Item 5 and Item 7, Other Events and Exhibits re: updated informationregarding certain long-term lease obligations of the Company.

•                    May 21, 2002 (filed May 22,2002)—Item 4 and Item 7, Changes in Registrant’s Certifying Accountant andExhibits re: change in independent auditor from Arthur Andersen LLP to Ernst& Young LLP for the fiscal year ending October 31, 2002.

 

**SIGNATURES**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this amended report to be signed on its behalf by the undersigned,thereunto duly authorized.

 
| Dated: September 11, 2002 | ADC TELECOMMUNICATIONS, INC. |
|---------------------------|------------------------------|
|                      |                         |   |
|                      | By:                          | /s/ Robert E. Switz |
|                      |                         | Robert E. Switz |
|                      |                         | Executive Vice President, Chief Financial Officer |

 

 

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# **CERTIFICATIONS**

 

I, Richard R. Roscitt, the Chief Executive Officer of ADCTelecommunications, Inc., certify that:

 

1.               I have reviewed this quarterly report on Form 10-Q ofADC Telecommunications, Inc.;

 

2.               Based on my knowledge, this quarterly report does notcontain any untrue statement of a material fact or omit to state a materialfact necessary to make the statements made, in light of the circumstances underwhich such statements were made, not misleading with respect to the periodcovered by this quarterly report;

 

3.               Based on my knowledge, the financial statements, andother financial information included in this quarterly report, fairly presentin all material respects the financial condition, results of operations andcash flows of the registrant as of, and for, the periods presented in thisquarterly report.

 

Date:  September 11, 2002

 

| /s/ Richard R. Roscitt  |
|-------------------------|
| Richard R. Roscitt      |
| Chief Executive Officer |

 

 

 

I, Robert E. Switz, the Chief Financial Officer of ADCTelecommunications, Inc., certify that:

 

1.               I have reviewed this quarterly report on Form 10-Q ofADC Telecommunications, Inc.;

 

2.               Based on my knowledge, this quarterly report does notcontain any untrue statement of a material fact or omit to state a materialfact necessary to make the statements made, in light of the circumstances underwhich such statements were made, not misleading with respect to the periodcovered by this quarterly report;

 

3.               Based on my knowledge, the financial statements, andother financial information included in this quarterly report, fairly presentin all material respects the financial condition, results of operations andcash flows of the registrant as of, and for, the periods presented in thisquarterly report.

 

Date:  September 11, 2002

 

| /s/ Robert E. Switz     |
|-------------------------|
| Robert E. Switz         |
| Chief Financial Officer |

 

 

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**ADC TELECOMMUNICATIONS, INC.**

 

**EXHIBIT INDEX TO FORM 10-QFOR THE THREE MONTHS ENDED APRIL 30, 2002**

 
| **Exhibit No.** |   | **Description**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|-----------------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|            |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| 4-a             |   | Form of certificate for shares  of Common Stock of ADC Telecommunications, Inc. (Incorporated by  reference to Exhibit 4-a to ADC’s Form 10-Q for the quarter ended  April 30, 1996.)                                                                                                                                                                                                                                                                                            |
| 4-b             |   | Restated Articles of  Incorporation of ADC Telecommunications, Inc., as amended prior to  January 20, 2000. (Incorporated by reference to Exhibit 4.1 to  ADC’s Registration Statement on Form S-3 dated April 15, 1997.)                                                                                                                                                                                                                                                   |
| 4-c             |   | Articles of Amendment to  Restated Articles of Incorporation of ADC Telecommunications, Inc. dated  January 20, 2000. (Incorporated by reference to Exhibit 4.6 to  ADC’s Registration Statement on Form S-8 dated March 14, 2000.)                                                                                                                                                                                                                                         |
| 4-d             |   | Articles of Amendment to  Restated Articles of Incorporation of ADC Telecommunications, Inc.,  dated June 30, 2000. (Incorporated by reference to Exhibit 4-g to  ADC Quarterly Report on Form 10-Q for the quarter ended July 31,  2000.)                                                                                                                                                                                                                                       |
| 4-e             |   | Restated Bylaws of ADC  Telecommunications, Inc., as amended effective July 30, 2002.                                                                                                                                                                                                                                                                                                                                                                                                                |
| 4-f             |   | Second Amended and Restated  Rights Agreement, amended and restated as of November 28, 1995, between  ADC Telecommunications, Inc. and Norwest Bank Minnesota, N.A. (amending  and restating the Rights Agreement dated as of September 23, 1986, as  amended and restated as of August 16, 1989), which includes as  Exhibit A thereto the form of Right Certificate. (Incorporated by  reference to Exhibit 4 to ADC’s Form 8-K dated December 11,  1995.) |
| 4-g             |   | Amendment to Second Amended and  Restated Rights Agreement dated as of October 6, 1999. (Incorporated by  reference to Exhibit 4-c to ADC’s Form 10-K for the fiscal year  ended October 31, 1999.)                                                                                                                                                                                                                                                                              |
| 4-h             |   | Amendment No. 2, dated as  of November 15, 2000, to Second Amended and Restated Rights Agreement  among ADC Telecommunications, Inc., Wells Fargo Bank Minnesota, N.A.  (formerly Norwest Bank Minnesota, N.A.) and Computershare Investment  Services, LLC. (Incorporated by reference to Exhibit 4.8 to ADC’s Registration  Statement on Form S-8 dated February 28, 2001.)                                                                                          |
| 99-a            |   | Certification Required by  Section 906 of Sarbanes-Oxley Act                                                                                                                                                                                                                                                                                                                                                                                                                                              |

 

 

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