---

---

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended January 31, 2005

Commission file number: 0-13994

COMPUTER NETWORK TECHNOLOGY CORPORATION

(Exact Name of Registrant as Specified in its Charter)

(763) 268-6000

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act: Common Stock $.01 par value

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

      Indicate by check mark if disclosure of delinquent filers pursuant to item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.     o

      Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).     Yes  X  No            

      State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter: $138,186,743.

      As of April 1, 2005, Registrant had 29,519,470 shares of Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE: NONE

---

---

TABLE OF CONTENTS

PART I

Overview

      We are a leading provider of today’s cost-effective and reliable storage networking solutions. For over 20 years, businesses around the world have depended on us to improve business efficiency, increase data availability and manage their business-critical information. We apply our technology, products and expertise in open storage networking architecture and business continuity to help companies build end-to-end storage solutions, including hardware and software products, analysis, planning and design, multi-vendor integration, implementation and ongoing remote management. We focus primarily on helping our customers design, develop, deploy and manage storage and data networks, including storage area networks, or SANs, a high speed network within a business’ existing computer system that allows the business to manage its data storage needs with greater efficiency and less disruption to its overall network. We currently design, manufacture, market and support a wide range of solutions that provide fast and reliable connections among networks of computer and related devices, allowing customers to manage and expand large, complex storage networks efficiently, without geographic limitations, including applications such as remote data replication, or the real-time backup of data to remotely located disks, and remote tape vaulting, or the backup of data to remotely archived tapes.

      On January 17, 2005, Computer Network Technology Corporation, or (“CNT”), entered into a definitive agreement to be merged with a wholly-owned subsidiary of McDATA Corporation (“McDATA”). We believe the proposed merger will create a combined company that will establish a leading position in enterprise storage networking, encompassing world-class products, services and software. Under the terms of the agreement, CNT will be merged into a wholly-owned subsidiary of McDATA, and CNT will survive the merger as a wholly owned subsidiary of McDATA. Each issued and outstanding share of common stock of CNT will be converted into the right to receive 1.3 shares of McDATA Class A common stock, together with cash in lieu of fractional shares. Consummation of the merger is subject to satisfaction of significant conditions, and there can be no assurance the merger will be consummated. The joint proxy statement/ prospectus is filed as part of a registration statement on Form S-4 (Registration No. 333-122758) filed with the SEC and available at the SEC’s internet site www.sec.gov. In several circumstances involving a change in CNT’s board’s recommendation in favor of the merger agreement, breaches of certain provisions of the merger agreement or a third party acquisition proposal, CNT may become obligated to pay McDATA up to $11 million in termination fees. In other circumstances, CNT must reimburse McDATA for expenses incurred in connection with the merger.

      On May 5, 2003, we completed the acquisition of Inrange Technologies Corporation (“Inrange”) for $190 million in cash plus transaction costs. As part of the acquisition, we also assumed the 2000 Inrange stock compensation plan. The options granted under the plan were valued at $10.3 million using the Black-Scholes option-pricing model, and the amount was deemed to be part of the Inrange purchase price. Inrange designed, manufactured, marketed and supported switching and networking products for storage and data networks. The acquisition of Inrange made us one of the world’s largest providers of complete storage networking products, solutions and services. The acquisition significantly broadened and strengthened our portfolio of storage networking products and solutions, increased our global size and scope, expanded our customer base, and we believe provided us with significant opportunities for both revenue growth and cost reduction synergies.

      Our revenues were $366.3 million, $354.7 million and $211.5 million for the years ended January 31, 2005, 2004 and 2003, respectively. Our revenues for the year ended January 31, 2004 include the acquisition of Inrange from May 5, 2003.

      Our storage networking solutions enable businesses to cost-effectively design, implement, monitor and manage their storage requirements, connect geographically dispersed storage networks, provide continuous availability to greater amounts of data and protect increasing amounts of data more efficiently. We market our storage networking products and services directly to customers through our sales force and worldwide

distributors. We also have strategic marketing and supply relationships with leading storage, telecommunications and fibre switching companies, including Brocade, EMC, Hewlett-Packard, Hitachi Data Systems, IBM, StorageTek, and Dell Computer Corporation.

      We are a provider of the following storage networking solutions:

      In addition to our internally developed proprietary products, we have expanded our range of solutions by offering third party products manufactured by others, coupled with our proprietary consulting, integration, monitoring, and management services that allow our customers to rapidly design, implement and manage complex storage environments. As a result, we believe we are able to capture more of our customers’ spending dollars on storage solutions. We also offer telecommunications bandwidth thereby enabling us to design and offer end-to-end storage networking solutions for our customers.

      Our storage networking solutions operate across most business computing environments, including open systems and mainframes. Open systems are server-based systems that are easy to scale, or expand, and use hardware and software standards not proprietary to any vendor. Mainframes are computer systems with high processing power that have historically been used by large businesses for storing and processing large amounts of data. Compared to available alternatives, we believe our storage networking products offer greater ability to connect various applications and heterogeneous environments using different interfaces,

protocols and standards, and to connect and link devices in storage networks transparently, meaning with little or no alteration of other vendors’ hardware or software products.

      Our Fibre Channel and FICON director solutions can be used as the backbone or core of businesses high-speed SAN, LAN, MAN or WAN environments. With the ability to support multiple protocols, interfaces, operating systems, management platforms and topologies, our solutions offer the port capacity, bandwidth, and extensibility required for data intensive, anytime, anywhere applications. Our solutions support the following applications: data and resource sharing to provide availability to crucial data remotely, when and where businesses need it, helping to drive business efficiency; shared storage enabling better storage utilization, since more servers are able to access more storage; clustering to enable continuous, reliable operation and to provide fault tolerance; storage consolidation, providing connectivity across most protocols and standards and better resource utilization, managed growth, and reduce storage hardware requirements.

      We believe our solutions that enable storage networking applications over IP-based networks will benefit existing customers and attract new customers, including mid-sized businesses. These solutions extend the “bandwidth on demand” advantages of IP-based networks to storage applications and allow customers to access telecommunications capacity only as needed through a virtual private network, or VPN, connection, as opposed to leasing expensive dedicated lines. By deploying storage networks over IP-based networks, companies can leverage their existing bandwidth, and can rely on their existing IP network knowledge. We believe that these cost savings, along with the generally expected decreasing costs of telecommunications capacity, will create high-growth opportunities for us in remote data replication, remote tape vaulting and other storage networking applications we enable.

      Our storage networking products consist primarily of our Ultranet Multi-Service Director or UMD, family of Fibre Channel and FICON director class switches, and our UltraNet® family of products that connect storage devices. We also market proprietary consulting, integration, monitoring, and management services that allow our customers to rapidly design, implement and manage complex storage environments, and provide support services for our proprietary products, and products manufactured by others. Our solution offerings, including our proprietary products, third party products, and our proprietary service offerings, help our customers design, deploy and manage enterprise storage solutions by supplying products and expertise for implementing storage applications. Our solution offerings include consulting and integration services for disaster recovery, business continuance, storage infrastructure and network performance. We also offer integration services for data replication, enterprise backup and restore, SAN implementation and network performance monitoring.

Market Opportunities

      International Data Corporation, or IDC, estimates that the worldwide revenue for SAN-attached disk storage systems will grow from $6.68 billion in 2003 to $9.98 billion in 2007, a compound annual growth rate of 10%. Another indication of demand for our storage networking solutions is the growth of the Fibre Channel industry. The Dell’Oro Group forecasts that revenues from the FibreChannel (FC) SAN Market will increase from $2.0 billion in 2004 to $3.4 million by 2009, for a compounded annual growth rate of 12%. Gartner predicts that an improving 2005 worldwide economy could create a 7% annual growth for storage services through 2008, bringing the worldwide opportunity for storage services to almost $30 billion. We believe these industry trends, in addition to the specific foregoing factors, will continue to drive demand for our products, and provide us with future growth opportunities.

Storage Networking Overview

Storage Networking Industry Background

      The volume of enterprise data is increasing due to the proliferation of Web-based content, digital media, e-mail, supply chain management, customer relations management and other data-driven business applications.

      The growth of the size and amount of data stored has presented organizations with significant data management challenges and increased storage related costs. As the volume of data stored, and the number of users that require access to the data continue to increase, storage systems and servers are burdened by an increased number of input/output, or I/ O, transactions they must perform. Hence users are moving to Fibre Channel and FICON protocols that dramatically improve the speed of data I/ O between existing storage devices, and the ability to connect additional devices to storage networks. However, traditional storage architecture has inherent speed, distance, capacity and performance constraints. For example, depending on the standards and protocols used, the following constraints may exist:

      Storage networking is necessary for the effective use of large data-intensive applications such as enterprise resource planning, customer relationship management, and digital media. Our current and potential customers have a growing need to access and protect the business critical data created by these types of applications. As a result, we expect increased demand for the purchase and installation of storage networks, which will drive demand for products and demand for consulting, integration, and managed services for end-to-end storage solutions. As a result of the installation of these solutions, we expect there will also be increased demand for support services.

      Complexity and interoperability issues associated with storage networks, coupled with budgetary constraints, cause customers to struggle with the effective implementation of storage networking environments. We believe this will cause many potential customers to look outside their organization for help. Thorough knowledge across a wide variety of proprietary technologies and standards, combining storage expertise and networking knowledge, is not easily found in the marketplace. We anticipate companies such as ours, with comprehensive expertise and skill sets in disaster recovery, business continuity, storage resource management, database, tuning, troubleshooting, switches, Fibre Channel and FICON protocols, networking and storage arrays, will be able to fill in the void for these customers with consulting and integration services. We believe customers may also look to contract out the management of these storage networks as a result of outsourcing the design and implementation of these solutions.

Our Storage Networking Solutions

      Our storage networking solutions, consist of products and services that address the limitations of traditional storage architecture in the following ways:

      Our Fibre Channel and FICON storage networking solutions are at the core of applications spanning local, metropolitan, and wide area environments, and offer the port capacity, bandwidth, and extensibility required for data intensive anytime, anywhere applications, including support for backup and recovery of data to enable cost-effective business continuity; data and resource sharing to provide availability to crucial data remotely; shared storage enabling better storage utilization; data mining and data imaging requiring the transfer of large amounts of data; storage consolidation providing better resource utilization and E-commerce applications with critical demands for continual uptime.

      Our UltraNet® storage networking solutions are used for immediate, or real-time, backup and recovery, and support a technology known as remote data replication. Data replication avoids the serious threat to businesses posed by the loss of data between data system backups by simultaneously creating up-to-the-minute images of business-critical data on multiple backup storage disks. Tape backup over long distances, or tape pipelining, using our UltraNet® Edge Storage Router dramatically improves the performance of remote tape backup, making it a viable solution for business continuity and disaster recovery. Our remote data replication technology permits the backups to be transmitted to a separate geographic location, thereby reducing the risk of natural and site-wide disasters. This technique also permits rapid recovery of data when needed.

      We also enhance continuous business operations. Traditional LAN-based storage management requires manual handling and transportation of storage to an off-site location. While this ensures a physically-separated copy of valuable corporate data, it requires additional time and expense for handling and transportation. By bridging the storage network over the WAN, backups can be instantly made to remote locations on disk media, including by data replication, or on tape, known as electronic tape vaulting. This allows for more secure archiving and timely retrieval of the correct business critical data.

Our Storage Networking Products

      Our storage networking products include the UMD family of Fibre Channel and FICON director products we acquired with the acquisition of Inrange in May 2003, and the UltraNet® family of storage director products.

      UltraNet Multi-service Director (UMD) a new generation storage networking infrastructure platform that provides high levels of scalability, flexibility, and serviceability to support SAN consolidation, tiered storage, and other applications. The UMD provides the ability to integrate a variety of services as needed by the enterprise, including protocols, security, WAN and MAN extension, and management services.

      UltraNet® Storage Director is a high performance switching product that enables storage networks to establish a direct connection between storage elements and servers and share data among diverse servers and storage systems, and networks that are local and geographically dispersed. The switch provides connectivity among SCSI, ESCON, bus and tag, Fibre Channel, FICON and WANs.

      UltraNet® Edge Storage Router complements the UltraNet® Storage Director by meeting the needs of a broader customer base. It provides a new price and performance entry point, which do not require high port-density and mixed platform support offered by the UltraNet® Storage Director. The UltraNet® Edge Storage Router is designed to reduce the total cost of ownership of enterprise-wide storage networking solutions by leveraging the lower-cost bandwidth offered by IP networks and the performance improvements provided by Fibre Channel.

      Third party manufactured storage networking products supplied by us that are designed and manufactured by others, include the following:

Our Storage Networking Services

      Our storage networking services help our clients design, deploy, monitor and manage end-to-end storage solutions. We believe these solutions allow our customers to better manage risk and reduce the cost of storage solutions in the enterprise.

Consulting Services

      Our consulting services analyze a company’s storage needs, determine a storage networking solution to meet those needs, and assist in the development of a business case to justify the storage networking solution. With our consulting, we assist our customers in making their existing networks more flexible and easier to manage. Our consulting expertise is focused on business continuation, disaster recovery, storage infrastructure and network performance to assist information technology managers and corporate executives responsible for planning and funding resources in making sound data management and storage decisions.

Integration Services

      Our integration services help companies implement storage networking solutions. These services include project planning, analyzing, designing and documenting a detailed network, installing storage components, integrating storage components, and testing the functionality of the implemented storage solution. Our storage networking products are at the core of our storage architecture implementations, and our long-standing relationships with well-known and successful storage equipment and software manufacturers place us at the forefront of storage management solutions. Our integration services focus on data replication, enterprise backup and restore, SAN implementation and network management.

Managed Services and Telecommunications

      We offer outsourced storage management services that complement our current storage networking products on a 24x7x365 basis. These services consisting of solutions, implementation, proactive management and maintenance satisfy a businesses complete storage networking requirements, all for a single monthly fee. Our network management service helps our customers monitor their UltraNet® and UMD and other director products, third party manufactured products, and third-party telecommunication lines, and allows them to quickly respond to and resolve storage network issues.

      Our managed services include a network management service. We monitor our customers’ UMD and other director products, UltraNet® products, third party manufactured products and telecommunications networks 24x7x365. We believe this service allows our customers to optimize network performance, decreases the chance of downtime and reduces recovery time after failures. Our data migration services help our customers migrate large amounts of data from one data center or storage facility to another during consolidation or expansion of data centers. We also offer telecommunications services to our customers whereby we combine telecommunications circuits with our products to offer a bundled solution for end users and resellers.

Support Services

      We offer standard maintenance contracts for our proprietary storage networking products. The contracts generally have a one-year term and provide for advance payment. Our products generally include a one-year limited warranty. Customers purchasing our UltraNet® Director products generally purchase maintenance contracts to supplement their one-year limited warranty. Customers are offered a variety of

contracts to choose from to suit their particular needs. For instance, current options allow a customer to choose support 7 days a week, 24 hours per day, or 5 days per week, 11 hours a day. Other options offer the customer the choice to select air shipment for replacement parts, with the part being installed by the customer’s staff, or on site support with spare parts and service being provided by a local parts distributor.

Strategic Storage Networking Relationships

      Offering customers effective storage networking solutions requires implementing diverse components, including disk and tape storage devices, storage management software, network management products and Fibre Channel products. Our storage networking relationships include those with key storage vendors, storage management software providers and manufacturers of optical networking products. We market our storage networking products directly and through worldwide distributors. We have strategic marketing and supplier relationships with leading storage, telecommunications and fibre switching companies, including Brocade, EMC, Hewlett-Packard, Hitachi Data Systems, IBM, StorageTek, Dell Computer Corporation and Veritas. These relationships allow us to provide complete end-to-end storage solutions for our customers.

Sales and Marketing

      We market our Fibre Channel and FICON director switching products to end user customers through our direct sales forces and through our relationships with storage system vendors.

      We market our other storage networking products and services in the United States through a direct sales force. We have established representative offices in Canada, the United Kingdom, France, Germany, Belgium, Italy, Switzerland, Australia, Japan, and the Netherlands. We also market these products and services in the United States and throughout the world through systems integrators and independent distributors.

      We maintain our own marketing staff and direct sales force. As of January 31, 2005, we had approximately 291 persons in our marketing and sales organization.

Customers

      Our customers include:

      IBM and its affiliates accounted for 20%, 22% and 10% of our revenue in fiscal 2004, 2003 and 2002, respectively. IBM re-sells the UMD product. Metlife accounted for 14% of our revenue in fiscal 2004.

Research and Development

      The markets in which we operate are characterized by rapidly changing technology, new standards and changing customer requirements. Our long-term success in these markets depends upon our continuing ability to develop advanced network hardware and software technologies.

      To meet the future demands of our customers, we expect to:

      Engineering and development expenses were 14%, 12%, and 13% of total revenue for the years ended January 31, 2005, 2004, and 2003 respectively. We intend to continue to apply a significant portion of our resources to product enhancements and new product development for the foreseeable future. We cannot assure you that our research and development activities will be successful.

Manufacturing and Suppliers

      We purchase our printed circuit boards and product chassis from third party manufacturers. Our in-house manufacturing activities include the addition of parts and components to printed circuit boards. Other in-house manufacturing activities include quality assurance testing of completed boards and subassemblies, and final system assembly, integration and quality assurance testing. We became ISO 9002 certified in 1993. In fiscal 2002, we achieved certification under the ISO 2000 standard.

      We manufacture our products based on forecasted orders. Forecasting orders is difficult as most shipments occur at the end of each quarter. Our customers generally place orders for immediate delivery, not in advance of need. Customers may generally cancel or reschedule orders without penalties. At January 31, 2005 we had a backlog for products and professional services of $47.4 million. We believe approximately $34.0 million of our backlog will be recognized as revenue during the next 12 months in fiscal 2005. Our backlog at January 31, 2004 was $38.4 million.

      We manufacture our UMD and UltraNet® products from subassemblies, parts and components, such as integrated circuits, printed circuit boards, power supplies and metal parts, manufactured by others. Some items manufactured by suppliers are made to our specific design criteria.

      At January 31, 2005, we held $861,000 of net inventory for parts that our vendors no longer manufacture. Products in which those parts are included accounted for $47.6 million in revenue during the year ended January 31, 2005. We expect that this inventory will be used in the ordinary course of our business over the next five years. Relevant parts will have to be redesigned after the inventory is used.

      We believe that we currently have adequate supply channels. Components and subassemblies used in our products and systems are generally available from a number of different suppliers. However, certain components in our products are purchased from a limited number of sources and in the case of certain components used in our UMD, from a sole provider. We do not anticipate any difficulty in obtaining an adequate supply of such products and required components. An interruption in our existing supplier relationships or delays by some suppliers, however, could result in production delays and harm our results of operations.

Competition

      Computer storage is a very large, multi-billion dollar, multi-faceted, industry that has spawned the need for a diverse set of products, services and management solutions to address the needs of the large enterprise.

      This market has a diverse set of needs, often dictated by the total cost of ownership, that include high availability, archive, large scale, high volume growth, flexibility, heterogeneous and interoperability requirements for a spectrum of solutions for the enterprise. Data movement and replication (mirroring) are two key applications that every customer must use a spectrum of products and services to get the job done. Customers have varying degrees of needs based upon: the peculiar requirements for various vendor and technology platforms; capacity; performance; access; back up and recovery time for the application user, for auditors and regulators; and risk and cost management for the entire enterprise. These needs have a further communications and distance dimension in their requirement to be local (same building) to each other, on a campus, across the city, across the country or even internationally interconnected. These needs often need to be satisfied across a diverse set of communications capabilities, including low and high speed lines from T1 to OC48+, to diverse protocols from point to point, ATM and IP, to free space optics and wireless, as well as the availability of dark fiber or wave length services.

      Finally, customers often use existing technologies (including multi-generations of products) and methods that must be compared and integrated for total enterprise storage management. These data movement solutions would include: manual truck and archive storage, server based software for data movement and replication, SAN, LAN, MAN and WAN fabric switching products and technologies, wave division multiplexing, or WDM, products and technologies, and services across an array of providers both in house and outsourced to the customer.

      Our products are sold in an environment where other participants have significantly greater revenues and internationally known brand names. Many of those market participants do not currently sell products identical to ours today, but address customer needs from one vantage point or another, usually evolving as they and general customer requirements mature. However, such participants may do so in the future, and new products we develop may compete with products sold by well-known participants.

      While the Fibre Channel and FICON switching markets have yet to develop fully, the market for our UMD Fibre Channel and FICON director switching products is competitive, continually evolving and subject to rapid technology change. Our competitors in Fibre Channel and FICON switching include Brocade Communications Systems, McData Corporation, Cisco Systems, Inc., Qlogic Corporation, MaXXan Systems, Inc., and Maranti Inc. as well as storage system vendors who may resell the Fibre Channel and FICON switching products manufactured by our competitors. We may also face competition from new market entrants, and potentially disruptive new technologies, such as iSCSI. In 2004, we believe Cisco significantly increased its sales of fibre channel switches, and further competitive gains by Cisco could significantly harm our business.

      Our competitors for our other storage networking products, primarily our UltraNet® family of products, include storage system vendors and others including Akara, which is owned by Ciena, and McData, Cisco, EMC, Alcatel SA, Celion Networks, Inc., Lightsand Communications Corp., Lucent Technologies Inc., Nortel Networks Corp., Packetlight Networks, RBN Inc., Network Executive Software Inc., Reliable Data Technology Inc. and SAN Valley Systems, Inc. Cisco, EMC and others have made significant competitive gains with products that provide functionality similar to ours, and further competitive gains could significant harm our business. In addition, IBM and others continue to push the distance, performance and price performance capabilities of channels using FICON and GDPS technologies, which reduces demand for our products. Software vendors, such as Veritas, Legato and Tivoli/IBM offer data movement and replication capabilities today at lower speeds and/or shorter distances, and provide an effective substitute for our products in those environments. We also face competition from competing solutions, such as dense wave division multiplexers and course wave division multiplexers. We may also face competition from new market entrants and from new technologies.

      Our storage solution services have numerous competitors, including consulting and integration services offered by other storage solutions providers, telephone companies, and various other types of service providers. In addition, nearly every major storage vendor, including EMC, IBM, HP, Sun, and Hitachi, provide various capabilities in full service offerings for the design, implementation and operation of storage infrastructures.

      The markets in which we operate are characterized by rapidly changing technology and evolving industry standards, resulting in rapid product obsolescence and frequent product and feature introductions and improvements. We compete with many companies that have greater engineering and development resources, marketing resources, financial resources, manufacturing capability, customer support resources and name recognition. As a result, our competitors may have greater credibility with existing and potential customers. They also may be able to adopt more aggressive pricing policies and devote greater resources to the development, promotion and sale of their products than we can to ours, which would allow them to respond more quickly than we could to new or emerging technologies and changes in customer requirements. These competitive pressures may materially harm our business.

      The competitive environments of markets in which our storage networking solutions are sold are continuing to develop rapidly. We are not in a position to prepare long-range plans in response to unknown competitive pressures. As these markets grow, we anticipate other companies will enter with competing products. In addition, our customers and business partners may develop and introduce competing products. We anticipate the markets will be highly competitive.

      The principal competitive factors affecting our products include total cost of ownership, customer service, flexibility, price, performance, reliability, ease of use, bundling of features and capabilities and functionality. In many situations, the potential customer has an installed base of a competitor’s products, which can be difficult to dislodge. IBM, Cisco, EMC, Nortel, Microsoft and others can significantly influence customers and control technology in our markets.

Intellectual Property Rights

      We rely on a combination of trade secret, copyright, patent and trademark laws, nondisclosure agreements and technical measures to establish and protect our intellectual property rights. That protection may not preclude competitors from developing products with features similar to our products.

      We currently own 29 patents and have 45 patent applications filed or in the process of being filed in the United States with respect to our continuing operations. We currently own 7 patents and have 32 patent applications filed or in the process of being filed in foreign countries. Our pending patent applications, however, may not be issued. Not all of our unique products and technology are patented. Our issued patents may not adequately protect our technology from infringement or prevent others from claiming that our technology infringes that of third parties. Failure to protect our intellectual property could materially harm our business. We believe that patent and copyright protection are less significant to our competitive position because of the rapid pace of technological change in the markets in which our products are sold and because of the effectiveness and quality of our support services, the knowledge, experience and ability of our employees and the frequency of our enhancements.

      We rely upon a patent license agreement to manufacture our UltraNet®products that use ESCON. This license expires on December 31, 2010. Historically, the license has been renewable every three years. We renewed the license on commercially reasonable terms at the end of the first license period, and we anticipate that we will be able to do so again under commercially reasonable terms.

      We have from time to time received, and may in the future receive, communications from third parties asserting that our products infringe on their patents. We believe that we possess or license all required proprietary rights to the technology included in our products and that our products, trademarks and other intellectual property rights do not infringe upon the proprietary rights of others. However, there can be no assurance that others will not claim a proprietary interest in all or a part of the technology we

use or assert claims of infringement. Any such claim, regardless of its merits, could involve us in costly litigation and materially harm our business.

      The existence of a large number of patents in the markets in which our products are sold, the rapid rate of issuance of new patents and short product development cycles means it is not economically practical to determine in advance whether a product infringes patent rights of others. We believe that, based upon industry practice, any necessary license or rights under such patents may be obtained on terms that would not materially harm our consolidated financial position or results of operations. However, there can be no assurance in this regard.

Employees

      As of January 31, 2005, we had 1,011 full-time employees. We consider our ability to attract and retain qualified employees and to motivate such employees to be essential to our future success. Competition for highly skilled personnel is particularly intense in the computer and data communications industry, and we cannot assure that we will continue to attract and retain qualified employees.

Website Access to Reports

      The company’s website is located at www.cnt.com. The “Financial” link at this website provides, free of charge, access to the Company’s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all related amendments as soon as reasonably practicable after such material is electronically filed with, or furnished to, the SEC.

Special Note Regarding Forward-Looking Statements

      This Form 10-K contains “forward-looking statements” within the meaning of the securities laws. These forward-looking statements are subject to a number of risks and uncertainties, many of which are beyond our control. All statements other than statements of historical facts included or incorporated by reference in this Form 10-K, including the statements under “Business” and elsewhere in this Form 10-K regarding our strategy, future operations, financial position, estimated revenues, projected costs, prospects, plans and objectives of management are forward-looking statements. When used herein, the words “will,” “believe,” “anticipate,” “plan,” “intend,” “estimate,” “expect,” “project” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. Although we believe that our plans, intentions and expectations reflected in or suggested by the forward-looking statements we make in this Form 10-K are reasonable, we can give no assurance that these plans, intentions or expectations will be achieved. Actual results may differ materially from those stated in these forward-looking statements due to a variety of factors, including those described in “Cautionary Statements — Risk Factors” to this Form 10-K and from time to time in our filings with the SEC. All forward-looking statements speak only as of the date of this Form 10-K. We assume no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. These statements are only predictions. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. The cautionary statements qualify all forward-looking statements, whether attributable to us, or persons acting on our behalf.

      Our principal administrative, manufacturing, engineering and development functions are located in leased facilities in the Minneapolis, Minnesota suburb of Plymouth, and in the Philadelphia, Pennsylvania suburb of Lumberton New Jersey. In addition, we lease office space in England, France, Germany, Belgium, Italy, Switzerland, Japan, and the Netherlands. We also lease space for sales offices for our direct sales staff and systems consultants in a number of locations throughout the United States and Canada. We believe our facilities are adequate to meet our current needs.

SBC Litigation

      Inrange Technologies Corporation, which is now a wholly owned subsidiary of the Company, has been named as a defendant in the case SBC Technology Resources, Inc. v. Inrange Technologies Corp., Eclipsys Corp. and Resource Bancshares Mortgage Group, Inc., No. 303-CV-418-N, pending in the United States District Court for the Northern District of Texas, Dallas Division (“the Litigation”). The Litigation was commenced on February 27, 2003. The Complaint claims that Inrange is infringing U.S. Patent No. 5,530,845 (“‘845 patent”) by manufacturing and selling storage area networking equipment, in particular the FC/9000, that is used in storage networks. The Complaint asks for judgment that the ‘845 patent is infringed by the defendants in the case, an accounting for actual damages, attorney’s fees, costs of suit and other relief. Inrange has answered the Complaint, denying SBC’s allegations. The case is in the discovery phase, and a claim construction of the asserted patent is pending. However, on or about February 1, 2005, SBC requested leave of court (i) to amend its Complaint to assert that the UltraNet Multi-service Director (“UMD”) infringes the ‘845 patent, and (ii) for a continuance of the trial to permit discovery and related proceedings concerning the UMD. The court has denied this motion. Management is evaluating the litigation. At this point, it is too early to form a definitive opinion concerning the ultimate outcome of this matter.

      Eclipsys Corp. (“Eclipsys”) settled with SBC for an undisclosed sum. Eclipsys has demanded that Inrange indemnify and defend Eclipsys pursuant to documentation under which it acquired certain allegedly infringing products from Inrange. Hitachi Data Systems Corporation (a non-party to the Litigation) has also informed Inrange that it received a demand from Eclipsys that Hitachi indemnify and defend Eclipsys in connection with the Litigation. Hitachi has put Inrange on notice that it will tender to Inrange any claim by Eclipsys for indemnification and defense of any aspect the Litigation. Inrange is evaluating the indemnification demands asserted by Eclipsys and Hitachi.

Shareholder Litigation

      Following the announcement of the proposed merger with McDATA, an action was commenced purporting to challenge the merger. The case, styled Jack Gaither v. Thomas G. Hudson et al. (File No. MC 05-003129) was filed in the District Court of Hennepin County, State of Minnesota. The complaint asserts claims on behalf of a purported class of CNT stockholders, and it names CNT and certain of its directors on claims of breach of fiduciary duty in connection with the merger on the grounds that the defendants allegedly failed to take appropriate steps to maximize the value of a merger transaction for CNT stockholders. Additionally, the plaintiff claims that the defendants have made insufficient disclosures in connection with the merger. The lawsuit is in its preliminary stages. At this point, it is too early to form a definitive opinion concerning the ultimate outcome of this matter. CNT and the directors intend to defend themselves vigorously in respect of the claims asserted.

IPO Litigation

      A shareholder class action was filed against Inrange and certain of its officers on November 30, 2001, in the United States District Court for the Southern District of New York, seeking recovery of damages caused by Inrange’s alleged violation of securities laws, including section 11 of the Securities Act of 1933 and section 10(b) of the Exchange Act of 1934. The complaint, which was also filed against the various underwriters that participated in Inrange’s initial public offering (IPO), is identical to hundreds of shareholder class actions pending in this court in connection with other recent IPOs and is generally referred to as In re Initial Public Offering Securities Litigation. The complaint alleges, in essence, (a) that the underwriters combined and conspired to increase their respective compensation in connection with the IPO by (i) receiving excessive, undisclosed commissions in exchange for lucrative allocations of IPO shares, and (ii) trading in Inrange’s stock after creating artificially high prices for the stock post-IPO through “tie-in” or “laddering” arrangements (whereby recipients of allocations of IPO shares agreed to purchase shares in the aftermarket for more than the public offering price for Inrange shares) and

dissemination of misleading market analysis on Inrange’s prospects; and (b) that Inrange violated federal securities laws by not disclosing these underwriting arrangements in its prospectus. The defense has been tendered to the carriers of Inrange’s director and officer liability insurance, and a request for indemnification has been made to the various underwriters in the IPO. At this point the insurers have issued a reservation of rights letter and the underwriters have refused indemnification. The court has granted Inrange’s motion to dismiss claims under section 10(b) of the Securities Exchange Act of 1934 because of the absence of a pleading of intent to defraud. The court granted plaintiffs leave to replead these claims, but no further amended complaint has been filed. The court denied Inrange’s motion to dismiss claims under section 11 of the Securities Act of 1933. The court has also dismissed Inrange’s individual officers without prejudice, after they entered into a tolling agreement with the plaintiffs. On July 25, 2003, the Company’s board of directors conditionally approved a proposed partial settlement with the plaintiffs in this matter. The settlement would provide, among other things, a release of Inrange and of the individual defendants for the conduct alleged in the action to be wrongful in the complaint. Inrange would agree to undertake other responsibilities under the partial settlement, including agreeing to assign away, not assert, or release certain potential claims Inrange may have against its underwriters. Any direct financial impact of the proposed settlement is expected to be borne by Inrange’s insurers. In June 2004, an agreement of settlement was submitted to the court for preliminary approval. The underwriters objected to the proposed settlement and the plaintiffs and issuer defendants separately filed replies to the underwriter defendants’ objections. The court granted the preliminary approval motion on February 15, 2005, subject to certain modifications. If the parties are able to agree upon the required modifications, and such modifications are acceptable to the court, notice will be given to all class members of the settlement, a “fairness” hearing will be held and if the court determines that the settlement is fair to the class members, the settlement will be approved. There can be no assurance that this proposed settlement would be approved and implemented in its current form, or at all.

      None.

PART II

PRICE RANGE OF COMMON STOCK

      Our common stock is traded on the Nasdaq National Market under the symbol “CMNT.” As of April 1, 2005, there were 29,519,470 shares of our common stock outstanding. The following table sets forth for the indicated periods the range of high and low per share sales prices for our common stock as reported on the Nasdaq National Market:

      On April 1, 2005, the closing price of our common stock, as reported by the Nasdaq National Market, was $4.47. Shareholders are urged to obtain current market quotations for our common stock. As of April 1, 2005 there were approximately 1,000 shareholders of record. We estimate that approximately an additional 10,500 shareholders own stock held for their accounts at brokerage firms and financial institutions.

DIVIDEND POLICY

      We have not paid any cash dividends since our inception, and we do not intend to pay any cash dividends in the future.

      The following section should be read in conjunction with Item 1: Business; Item 6: Selected Consolidated Financial Data; and Item 8: Consolidated Financial Statements and Supplementary Data.

Overview

      We are a leading provider of today’s cost-effective and reliable storage networking solutions. For over 20 years, businesses around the world have depended on us to improve business efficiency, increase data availability and manage their business-critical information. We apply our technology, products and expertise in open storage networking architecture and business continuity to help companies build end-to-end storage solutions, including hardware and software products, analysis, planning and design, multi-vendor integration, implementation and ongoing remote management. We focus primarily on helping our customers design, develop, deploy and manage storage and data networks, including storage area networks, or SANs, a high speed network within a business’ existing computer system that allows the business to manage its data storage needs with greater efficiency and less disruption to its overall network. We currently design, manufacture, market and support a wide range of solutions that provide fast and reliable connections among networks of computers and related devices, allowing customers to manage and expand large, complex storage networks efficiently, without geographic limitations, including applications such as remote data replication, or the real-time backup of data to remotely located disks, and remote tape vaulting, or the backup of data to remotely archived tapes.

      On January 17, 2005, Computer Network Technology Corporation, or (“CNT”), entered into a definitive agreement to be merged with a wholly-owned subsidiary of McDATA Corporation (“McDATA”). We believe the proposed merger will create a combined company that will establish a leading position in enterprise storage networking, encompassing world-class products, services and software. Under the terms of the agreement, CNT will be merged into a wholly-owned subsidiary of McDATA, and CNT will survive the merger as a wholly owned subsidiary of McDATA. Each issued and outstanding share of common stock of CNT will be converted into the right to receive 1.3 shares of McDATA Class A common stock, together with cash in lieu of fractional shares. Consummation of the merger is subject to satisfaction of significant conditions, and there can be no assurance the merger will be consummated.

      On May 5, 2003, we completed the acquisition of Inrange Technologies Corporation (“Inrange”) for $190 million in cash plus transaction costs. Inrange designed, manufactured, marketed and supported switching and networking products for storage and data networks. The acquisition of Inrange made us one of the world’s largest providers of complete storage networking products, solutions and services. The acquisition significantly broadened and strengthened our portfolio of storage networking products and solutions, increased our global size and scope, expanded our customer base, and we believe provided us with significant opportunities for both revenue growth and cost reduction synergies.

      Our storage networking solutions enable businesses to cost-effectively design, implement, monitor and manage their storage requirements, connect geographically dispersed storage networks, provide continuous availability to greater amounts of data and protect increasing amounts of data more efficiently. We market our storage networking products and services directly to customers through our sales force and worldwide distributors. We also have strategic marketing and supply relationships with leading storage, telecommunications and fibre switching companies, including Brocade, EMC, Hewlett-Packard, Hitachi Data Systems, IBM, StorageTek, and Dell Computer Corporation.

      Our revenues were $366.3 million, $354.7 million and $211.5 million for the years ended January 31, 2005, 2004 and 2003, respectively. Our revenues for the year ended January 31, 2004 include the acquisition of Inrange from May 5, 2003. The markets in which we operate are characterized by rapidly changing technology and evolving industry standards, resulting in rapid product obsolescence and frequent product and feature introductions and improvements. We compete with several companies that have greater engineering and development resources, marketing resources, financial resources, manufacturing capability, customer support resources and name recognition. As a result, our competitors may have greater credibility with existing and potential customers. They also may be able to adopt more aggressive

pricing policies and devote greater resources to the development, promotion and sale of their products than we can to ours, which would allow them to respond more quickly than we can to new or emerging technologies and changes in customer requirements.

      While the Fibre Channel and FICON switching markets have yet to develop fully, the market for our UMD Fibre Channel and FICON director switching products is competitive, continually evolving and subject to rapid technology change. Our competitors in Fibre Channel and FICON switching include Brocade Communications Systems, McDATA, Cisco Systems, Inc., Qlogic Corporation, MaXXan Systems and Maranti Inc. as well as storage system vendors who may re-sell the Fibre Channel and FICON switching products manufactured by our competitors. We may also face competition from new market entrants and potentially disruptive new technology, such as iSCSI. In 2004, we believe Cisco significantly increased its sales of fibre channel switches, and further competitive gains by Cisco could significantly harm our business.

      Our competitors for our other storage networking products, primarily our UltraNet® family of products, include storage system vendors and others including Akara, which is owned by Ciena, and McData, Cisco, EMC, Alcatel SA, Celion Networks, Inc., Lightsand Communications Corp., Lucent Technologies Inc., Nortel Networks Corp., Packetlight Networks, RBN Inc., Network Executive Software Inc., Reliable Data Technology Inc. and SAN Valley Systems, Inc. Cisco, EMC and others have made significant competitive gains with products that provide functionality similar to ours, and further competitive gains could significantly harm our business. In addition, IBM and others continue to push the distance, performance and price performance capabilities of channels using FICON and GDPS technologies, which reduces customer demand for our products. Software vendors, such as Veritas, Legato and Tivoli/ IBM offer data movement and replication capabilities today at lower speeds and/or shorter distances, and provide an effective substitute for our products in those environments. We also face competition from competing solutions, such as dense wave division multiplexers and course wave division multiplexers. We may also face competition from new market entrants and from new technologies.

      Our revenue can be significantly impacted by general economic trends in the global economy and capital spending plans for information technology equipment. Our revenue can also be impacted by the introduction or phasing-out of products and services, either by us, or competitors. The introductions of new technologies by other companies, including the large storage vendors with whom we do business, can also impact our quarterly revenue. The level of product sales reported by us in any given period will continue to be affected by the receipt and fulfillment of sizable new orders in both domestic and international markets.

      In fiscal 2003, we achieved cost synergies in most functional areas of our business due to the Inrange acquisition. We consolidated our manufacturing operations, including the in-house capability to add parts and components to printed circuit boards.

Significant Events — 2004

Merger with McData Corporation

      On January 17, 2005, Computer Network Technology Corporation, or (“CNT”), entered into a definitive agreement to be merged with a wholly-owned subsidiary of McDATA Corporation (“McDATA”). We believe the proposed merger will create a combined company that will establish a leading position in enterprise storage networking, encompassing world-class products, services and software. Under the terms of the agreement, CNT will be merged into a wholly-owned subsidiary of McDATA, and CNT will survive the merger as a wholly owned subsidiary of McDATA. Each issued and outstanding share of common stock of CNT will be converted into the right to receive 1.3 shares of McDATA Class A common stock, together with cash in lieu of fractional shares. Consummation of the merger is subject to satisfaction of significant conditions and there can be no assurance the merger will be consummated.

Cost Reduction Actions — Fiscal 2004

      During the first half of 2004 we experienced a continued slow-down in the IT spending environment, competitive pressures and customers’ desire for more flexibility in financing terms, particularly for large investments, such as remote storage networking solutions. We also experienced a decline in traditional large-scale ESCON projects, while FICON extension, the new mainframe channel technology, has not grown as fast as anticipated. These trends have negatively impacted our UltraNet® wide area extension business. As a result, during our third quarter, we adjusted our expense levels to reflect the current outlook for our markets. In August of 2004 we had a reduction of approximately 220 employees and consultants, along with a reduction in other discretionary expenses. We anticipate these reductions will ultimately result in approximately $7.5 million of quarterly expense savings. Our results include charges related to our cost reduction actions of approximately $4.7 million for severance, and $0.2 million for facility closure costs.

      Charges related to the cost reduction actions are reflected in our consolidated statement of operations for the year ended January 31, 2005 as follows:

Discontinued Operations

      In connection with the acquisition of Inrange in May 2003, we acquired a non-complementary business focused on enterprise resource planning (ERP) consulting services. In April 2004, substantially all of the business and its net assets totaling approximately $1.7 million were sold for cash proceeds of $934,000 and installments payments having a discounted value of approximately $1.2 million. The business was divested to allow us to focus on our core storage networking solutions business. Revenue for the ERP business in fiscal 2004 and 2003 totaled approximately $2.2 million and $6.2 million, respectively. Expense for the ERP business in fiscal 2004 and 2003 totaled approximately $2.9 million and $7.3 million, respectively. The business has been accounted for as a discontinued operation in the accompanying financial statements, meaning that its revenues and expenses are not included in results from continuing operations, and the net loss of the ERP business has been included under the discontinued operations caption in the statement of operations.

Restatement of Fiscal 2004 Quarterly Earnings; Weaknesses In Internal Controls

      On March 7, 2005, our management, after consultation with the Audit Committee of our Board of Directors, determined that our consolidated financial statements for our first fiscal quarter ended April 30, 2004, second fiscal quarter ended July 31, 2004 and third fiscal quarter ended October 31, 2004 should no longer be relied upon, including the consolidated financial statements and other financial information in the Form 10-Qs filed for those quarters. The determination was made as a result of errors discovered when reconciling offsite finished goods inventory between the general ledger and our materials requirement planning, or MRP, system. We believe the errors began to occur in February 2004 when we transitioned manufacturing of certain products from our Plymouth, Minnesota headquarters to our facility in Lumberton, New Jersey. As a result of the transition, there were procedural changes for the tracking and recording of certain offsite finished goods inventory that resulted in inventory items for certain transactions being double counted. The effect of the errors was to overstate inventory and understate cost of goods sold and operating expenses in the first, second and third quarters of fiscal 2004 by $499,000, $408,000 and

$538,000, respectively. The unaudited interim financial information included under the caption “Item 8 — Consolidated Financial Statements and Supplementary Data” have been restated to reflect these matters.

      We have determined that our failure to properly reconcile the general ledger to the MRP system was a material weakness in our internal controls over financial reporting as of January 31, 2005. See “Item 9A. — Controls and Procedures” for management’s report on internal controls over financial reporting for more information.

      In August 2004, our market capitalization fell substantially below recorded net book value, indicating that goodwill and other long-lived assets may be impaired, including developed technology, trademarks and customer lists. As part of our evaluation and analysis, we engaged an independent third party to appraise these assets. Our evaluation and analysis indicated that impairment charges for developed technology, trademarks and goodwill of $11.2 million, $911,000 and $73.3 million, respectively, should be reflected in results of operations for our fiscal third quarter ended October 31, 2004.

Significant Events — 2003

Acquisition of Inrange Corporation

      On April 6, 2003, we entered into an agreement whereby a wholly-owned subsidiary agreed to acquire all of the shares of Inrange that were owned by SPX Corporation. The shares acquired constituted approximately 91% of the issued and outstanding shares of Inrange for a purchase price of approximately $2.31 per share and $173 million in the aggregate. On May 5, 2003 we completed the acquisition of Inrange and pursuant to the agreement, the subsidiary merged into Inrange, and the remaining capital stock owned by the other Inrange shareholders was converted into the right to receive approximately $2.31 per share in cash, resulting in a total payment of $190 million for both the stock purchase and merger. During fiscal 2003, we incurred integration charges related to the acquisition of $5.4 million, primarily for wages and severance for terminated employees, and extra travel costs for integration activities. We also recorded a $1.6 million charge for the write-down of inventory resulting from the integration of the product strategies for the new combined entity, and a $19.7 million charge for in-process research and development related to the acquisition of Inrange. The integration of Inrange was completed in 2003, and no further integration charges are anticipated. See the following caption “Impact of Inrange Integration” for further discussion regarding the impact of the integration on fiscal 2003. Our consolidated financial statements include the results of Inrange from May 5, 2003. See footnote 2 per the accompanying financial statements for a summary of the purchase price allocation and pro forma results of operations for fiscal 2004 and 2003 as if the acquisition of Inrange took place on February 1, 2003.

Impact of Inrange Integration

      As part of our integration strategy related to the Inrange acquisition, employees were terminated in most functional areas to obtain cost synergies. Severance costs for terminated Inrange employees were treated as an acquired liability and effectively increased the purchase price. Severance costs for terminated CNT employees were recorded as an expense in our statement of operations. During fiscal 2003, we incurred $5.4 million of integration charges related to the Inrange acquisition for wages and severance related to terminated employees, and travel costs for integration activities. We also incurred a $1.6 million charge to write-down inventory purchased by us prior to the acquisition, related to the integration of

product strategies for the new combined entity. The following table sets forth the impact of the integration charges on our statements of operations for fiscal 2003:

      We also incurred a $19.7 million charge related to the Inrange acquisition for in-process research and development.

      Our integration strategy for Inrange included the closing of various duplicative facilities and office space. All of the properties that were closed were part of the pre-acquisition Inrange business, and our accrual for the future rents associated with these properties was treated as an acquired liability and effectively increased the purchase price. Our initial accrual for closed facilities was $7.4 million. During fiscal 2004 and 2003, we made rent payments for these facilities of $2.2 million and $2.0 million, respectively, and received sublease income for certain facilities of $136,000 and $107,000, respectively. At January 31, 2005, our ending accrual, net of estimated sublease income, for abandoned facilities related to the Inrange acquisition was $3.5 million

Significant Events — 2002

Restructuring Charge

      During fiscal 2002, we integrated our networking and storage solutions sales, support and service functions into a single unit. The integration was intended to better enable us to execute our strategy for continued growth and enhanced customer service, while achieving improved efficiency and profitability. As a result, customers have a single point of contact for their networking and storage solutions requirements. In addition, it is no longer possible to allocate costs and prepare separate meaningful statements for what had been our networking and storage solutions segments. Our management now reviews and makes decisions utilizing financial information for the consolidated business.

      Improved efficiencies within our service organization, a reduction in the need for future upgrades to our legacy products, along with the integration of our Networking and Storage Solutions sales, support and service functions, allowed us to reduce our worldwide workforce by 80 people or about 10%. The reduction in workforce was necessary to improve anticipated future efficiency and profitability. In the fourth quarter of fiscal 2002, we recorded a $1.7 million restructuring charge for severance resulting from the reduction in workforce and professional fees related to canceled acquisition activity. Of this amount, $1.3 million was paid prior to January 31, 2003, with the balance being paid prior to April 30, 2003.

Acquisition of BI-Tech Solutions, Inc.

      In June 2002, we acquired all of the outstanding stock of Business Impact Technology Solutions Limited (BI-Tech), a leading provider of storage management solutions and services, for $12 million in cash, plus the assumption of approximately $3.6 million of liabilities and the acquisition of approximately $8.7 million of tangible assets. The accompanying financial statements include the results of BI-Tech since June 24, 2002. The agreement also provided for an earn-out based on profitability. Goodwill and compensation expense recorded under this earn-out between July 1, 2002 and January 31, 2004 totaled $7.7 million and $1.1 million, respectively. There was no earn-out in fiscal 2004.

Valuation Allowance for Deferred Tax Assets

      Significant management judgment is required in determining the provision for incomes taxes, deferred tax assets and liabilities and any valuation allowance recorded against net deferred tax assets. We are required to estimate our income taxes in each jurisdiction where we operate. This process involves estimating our actual current tax exposure together with assessing temporary differences resulting from differing treatment of items, such as the depreciable life of fixed assets for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included in our consolidated balance sheet. We then assess the likelihood that our deferred tax assets will be recovered from future taxable income, and to the extent we believe recovery is unlikely, we must establish a valuation allowance. To the extent we establish a valuation allowance or increase the valuation allowance in a given period, we must increase tax expense within our statement of operations.

      In the fourth quarter of fiscal 2002, we recognized a non-cash charge of $23.6 million to provide a full valuation allowance for our United States deferred tax assets. The establishment of the valuation allowance does not impair our ability to use the deferred tax assets upon achieving profitability. As we generate taxable income in future periods, we do not expect to record significant income tax expense in the United States until we have utilized our net operating loss and credit carryforwards. Our federal net operating loss carryforwards and research tax credits do not expire for the next 15 to 20 years.

Convertible Subordinated Debt Offering

      In February 2002, we sold $125 million of 3% convertible subordinated notes due February 2007, raising net proceeds of $122 million. The notes are convertible into our common stock at a price of $19.17 per share. We may redeem the notes upon payment of the outstanding principal balance, accrued interest and a make whole payment if the closing price of our common stock exceeds 175% of the conversion price for at least 20 consecutive trading days within a period of 30 consecutive trading days ending on the trading day prior to the date we mail the redemption notice. The make whole payment represents additional interest payments that would be made if the notes were not redeemed prior to their due date.

Cumulative Effect of Change in Accounting Principle — Impairment Charge

      Effective February 1, 2002, we adopted SFAS No. 142 “Goodwill and Other Intangible Assets.” In connection with the adoption of SFAS No. 142, we engaged a third party appraisal firm to determine the fair value of one of the reporting units within our former storage solutions segment. This valuation indicated that the goodwill associated with our acquisition of Articulent in April of 2001 was impaired, resulting in a $10.1 million non-cash charge. This non-cash charge was recognized as a cumulative effect of change in accounting principle in our first quarter ended April 30, 2002.

Discontinued Operations — Divestiture of Propelis Software, Inc. — 2001 — 2003

      Propelis Software, Inc., formerly known as our Enterprise Integration Solutions Division, developed and sold our enterprise application integration, or EAI, software that automates the integration of computer software applications and business workflow processes. In August 2000, we determined to divest Propelis Software, Inc. and focus on our core storage networking business. As a result, Propelis Software, Inc. has been accounted for as discontinued operations in the accompanying financial statements, meaning that the division’s revenues and expenses are not shown and its net income (loss) for all periods are included under the “Discontinued Operations” caption in our statement of operations. During 2001, we sold substantially all of the assets of Propelis Software in a series of transactions. These included the sale of our IntelliFrame subsidiary to webMethods and the sale of other assets to Jacada Ltd. All outstanding options to purchase stock of Propelis Software have been cancelled or have lapsed.

      In fiscal 2003, we recognized $715,000 of income from discontinued operations related to the reversal of an accrual for an abandoned facility which was subleased in fiscal 2003. This facility was previously used by Propelis Software which we accounted for as a discontinued operation.

      In fiscal 2002, we received $207,000 of royalty income, net of tax, related to the discontinued operations sold in fiscal 2001.

Fiscal Year End

      References in this Form 10-K to fiscal 2004, 2003 and 2002 represent the twelve months ended January 31, 2005, 2004 and 2003, respectively.

Critical Accounting Policies

      In preparing the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, management must make decisions which impact the reported amounts and the related disclosures. Such decisions include the selection of the appropriate accounting principles to be applied and the assumptions on which to base accounting estimates. In reaching such decisions, management applies judgment based on its understanding and analysis of the relevant circumstances. Reported results may differ from these estimates if different assumptions or conditions were to be made. Our most critical accounting estimates include valuation of accounts receivable, which impacts bad debt expense; valuation of inventory, which impacts gross margin; recognition and measurement of current and deferred income tax assets and liabilities, which impact our tax provision; and valuation of long-lived intangible assets and goodwill, which impacts operating expense. These critical accounting estimates and other critical accounting policies are discussed further below.

Revenue Recognition

      Emerging Issues Task Force (“EITF”) 00-21, “Revenue Arrangements with Multiple Deliverables” was effective for revenue arrangements entered into in fiscal periods beginning after June 15, 2003. Our adoption of EITF 00-21 did not have a material effect on our financial statements. EITF 00-21 addresses certain aspects of the accounting by a vendor for arrangements under which it will perform multiple revenue-generating activities. In some arrangements, the different revenue generating activities (deliverables) are sufficiently separable and there exists sufficient evidence of their fair values to separately account for some or all of the deliverables (that is, there are separate units of accounting). In other arrangements, some or all of the deliverables are not independently functional, or there is not sufficient evidence of their fair value to account for them separately. EITF 00-21 addresses when and, if so, how an arrangement involving multiple deliverables should be divided into separate units of accounting. EITF 00-21 does not change otherwise applicable revenue recognition criteria once the separate units of accounting have been determined.

      Most of our direct sales arrangements with end-user customers include multiple deliverables, and are subject to the provisions of EITF 00-21. These arrangements typically include some combination of our proprietary products, third party products, and professional consulting services that assist customers in designing and implementing their storage networks. In addition, sales arrangements that include our proprietary products may include our standard maintenance and network monitoring services. The elements included in these sales arrangements, including our proprietary products, third party products, professional services, and our standard maintenance and network monitoring services are accounted for as separate deliverables when they are sufficiently separable, and we have sufficient evidence of their fair values.

      With respect to the sales of our proprietary products and third party products, the first condition for separation is met because the products have stand-alone value. The products are not custom manufactured for the needs of a specific customer as we leverage standard features for all customers. A customer could re-sell our proprietary products and third party products to another company or to one of our distributors and recover a substantial portion of the product purchase price.

      With respect to our proprietary products and third party products, the second condition for separation is met because there is objective and reliable evidence of the fair value of undelivered items in the arrangement. At the time of product shipment, the undelivered items in the arrangement typically consist of professional consulting services, and standard maintenance and network monitoring services. We value

the undelivered professional consulting services based on the estimated hours to provide the services at actual billing rates. These rates are based on rates charged for similar consulting services in stand-alone contracts.

      We allocate revenue to the different elements of the arrangement based on the relative fair values of the different components, proprietary products, third party products, professional consulting services, standard maintenance and network monitoring services. The fair value for our proprietary and third party products is based on the prices we charge other customers for similar products, or standard market prices in the case of third party products. In some cases, these products are sold on a stand-alone basis, and have stand-alone value. The fair value for our professional consulting services is based on the hours required to perform the services at actual hourly billing rates. These rates are based on rates charged for similar consulting services in stand-alone contracts. Valuation for our standard maintenance and network monitoring services is based on the fair value for these services as evidenced by the separately priced contract value for these services when sold on a stand alone basis, pursuant to FASB technical bulletin 90-1.

      With respect to sales of our proprietary products with professional consulting services, payment terms for both elements are generally tied to product shipment. Because of the contingent revenue criteria in EITF 00-21, we are not able to recognize any product or professional consulting services revenue until the product has shipped. Post shipment professional consulting services revenue is recognized once the services are complete, generally at time of product installation. Standard maintenance and network monitoring services are sold separately each year on a renewal basis. The renewal price, along with the first year price, is generally stated separately in the purchase order or contract.

      With respect to sales of third party products with professional consulting services, payment for the product is generally due upon shipment. Payment for our professional consulting services is generally due as the services are performed.

      Once we have divided our sales arrangements into separate units of accounting, and have determined the relative fair value of each element as outlined per EITF 00-21, we recognize revenue for each element as follows:

      Revenue is recognized upon shipment for product sales with standard configurations and product sales with other than standard configurations, which have demonstrated performance in accordance with customer’s specifications prior to shipment provided that (a) evidence of an arrangement exists, (b) delivery has occurred, (c) the price to the customer is fixed and determinable, and (d) collectibility is assured. All other product sales are recognized when customer acceptance is received, or the passage of the customer acceptance period. We accrue for warranty costs and sales returns at the time of shipment based on experience. In transactions that include multiple products and/or services, we allocate the sales value to each of the deliverables, based on their relative fair values.

      Professional consulting services are recognized as revenue when earned, generally as work is performed, subject to any contingent revenue provisions in the arrangement.

      Service fees for our proprietary maintenance and network monitoring services are recognized as revenue when earned, which is generally on a straight-line basis over the contracted service period or as the services are rendered. Deferred revenue primarily consists of the unearned portion of service agreements billed in advance to customers.

Valuation of Accounts Receivable

      We review accounts receivable to determine which are doubtful of collection. In addition, we also make estimates of potential future product returns. In making the determination of the appropriate allowance for doubtful accounts and product returns, we consider specific accounts, changes in customer payment terms, historical write-offs and returns, changes in customer demand and relationships, concentrations of credit risk and customer credit worthiness. Changes in the credit worthiness of

customers, general economic conditions and other factors may impact the level of future write-offs and product returns.

Valuation of Inventory

      We review obsolescence to determine that inventory items deemed obsolete are appropriately reserved. In making the determination we consider our history of inventory write-offs, future sales of related products, and quantity of inventory at the balance sheet date assessed against our past usage rates and future expected usage rates. Changes in factors such as technology, customers demand, competitor product introductions and other matters could affect the level of inventory obsolescence in the future.

Valuation of Deferred Taxes

      Significant management judgment is required in determining the provision for incomes taxes, deferred tax assets and liabilities and any valuation allowance recorded against net deferred tax assets. We are required to estimate income taxes in each jurisdiction where we operate. This process involves estimating actual current tax exposure together with assessing temporary differences resulting from differing treatment of items, such as the depreciable life of fixed assets for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included in the consolidated balance sheet. We assess the likelihood that our deferred tax assets will be recovered from future taxable income and to the extent recovery is believed unlikely, establish a valuation allowance. We have increased tax expense or reduced tax benefit within our statements of operations when a valuation allowance is established or increased in a given period.

      In the fourth quarter of fiscal 2002, we recorded a non-cash charge of $23.6 million to provide a full valuation allowance for our United States deferred tax assets. Our cumulative valuation allowance recorded against our deferred tax assets at January 31, 2005 was $91.8 million. The establishment of the valuation allowance does not impair our ability to use the deferred tax assets upon achieving profitability. As we generate taxable income in future periods, we do not expect to record significant income tax expense in the United States until we have utilized our net operating loss and credit carryforwards. Our federal net operating loss carryforwards and research tax credits do not expire for the next 15 to 20 years.

Valuation of Long-Lived and Intangible Assets and Goodwill

      We assess the impairment of long-lived and intangible assets and goodwill whenever events or changes in circumstances indicate that the carrying value may not be recoverable. We review intangible assets and goodwill for impairment annually in our third fiscal quarter ending October 31, or more frequently if changes in circumstances or the occurrence of events suggest the remaining balance may not be recoverable. Factors we consider important which could trigger an impairment review include significant under performance relative to expected operating results, changes in the manner of use of the acquired assets or the strategy of our overall business, negative industry or economic trends, significant decline in our stock price for a sustained period, and our market capitalization relative to our net book value.

      When we determine that the carrying value of long-lived and intangibles assets and goodwill may not be recoverable based upon the existence of one or more of the above indicators of impairment, we measure any impairment based on the projected discounted cash flow method using a discount rate commensurate with the risk inherent in our current business model. We may also obtain an independent third party appraisal of the asset to help us identify and quantify any possible impairment.

      In August 2004, our market capitalization fell substantially below recorded net book value, indicating that goodwill and other long-lived assets may be impaired, including developed technology, trademarks and customer lists. As part of our evaluation and analysis, we engaged an independent third party to appraise these assets. Our evaluation and analysis indicated that impairment charges for developed technology, trademarks and goodwill of $11.2 million, $911,000 and $73.3 million, respectively, should be reflected in results of operations for our fiscal third quarter ended October 31, 2004. Developed technology and trademarks intangibles resulted entirely from our acquisition of Inrange, while most of our goodwill

resulted from the Inrange acquisition. See footnote 2 to the consolidated financial statements for a summary of the Inrange purchase price allocation. Developed technology was analyzed using the excess earnings method, and was impaired due to more rapid market acceptance of our new generation UMD product following its introduction this year. Trademarks were analyzed using the relief from royalty approach and were impaired due to use of the UltraNet name for the new generation UMD product, and the subsequent rapid market acceptance of this product. The more rapid market acceptance of our new UMD product resulted in lower estimated revenue and excess earnings, primarily for developed technology, compared to our original estimate when Inrange was acquired. We determined that our customer lists intangible was not impaired. Our fair value was based on a combination of the income and market valuation approaches. The analysis indicated that our net book value exceeded our implied fair value, resulting in the $73.3 million charge for goodwill impairment. The goodwill impairment charge resulted from our later than planned launch of the UMD, coupled with slower than planned development of the direct sales channel for these products, and more rapid acceptance of our wide area extension products by the Inrange customer set. The remaining useful lives for developed technology and trademarks were revised to 3 and one years, respectively. The impairment charges will not result in future cash expenditures. We believe there have been no significant changes to our underlying business since our third quarter impairment charge which would require further impairment charges. At January 31, 2005, we had a net book value of approximately $40 million and a market capitalization of approximately $157 million. Given these factors, no additional asset impairment charges were identified at January 31, 2005.

      At January 31, 2004, we had a net book value of approximately $143 million and a market capitalization of approximately $285 million. Based on this factor, as well as considering that there were no significant events or changes to our underlying business, and our purchase of Inrange in May 2003, no asset impairments were identified at January 31, 2004, other than a $204,000 charge for goodwill impairment related to the closing of a small sales subsidiary in Europe.

      Effective February 1, 2002, we adopted SFAS No. 142 which eliminates amortization of goodwill, but instead follows an impairment approach for goodwill valuation. In lieu of amortization, we were required to perform an initial impairment review of our goodwill in fiscal 2002, and an annual impairment review thereafter. SFAS No. 142 provides a six-month transitional period from the effective date of adoption to perform an assessment of whether there is an indication of goodwill impairment. We tested our reporting units for impairment by comparing fair value to carrying value. Fair value was determined using a discounted cash flow and cost methodology. We engaged a third-party appraisal firm to determine the fair value of a reporting unit within our former Storage Solutions segment. This valuation indicated that the goodwill associated with our acquisition of Articulent in April of 2001 was impaired. The performance of this business had not met management’s original expectations, primarily due to the unexpected global slow down in capital spending for information technology equipment. Accordingly, a non-cash impairment charge of $10.1 million from the adoption of SFAS No. 142 was recognized as a cumulative effect of change in accounting principle in our first quarter ended April 30, 2002.

Results of Continuing Operations

      The following table sets forth financial data for our continuing operations for the periods indicated as a percentage of total revenue except for gross profit from product sales and services fees, which are expressed as a percentage of the related revenue. The table also expresses the impact of our fiscal 2004 severance and facility closure charges and our fiscal 2003 Inrange integration charges on our gross profit and operating expenses as a percentage of total revenue. The dollar impact of our fiscal 2004 severance and facility closure charges and fiscal 2003 Inrange integration charges on our gross profit and expenses are

shown above under the captions “Cost Reduction Actions- Fiscal 2004” and “Impact of Inrange Integration.”

Revenue

Years Ended January 31, 2005 and 2004

     Product revenue

      Sales of our proprietary products generated revenues of $166.1 million in fiscal 2004, a decrease of $1.6 million, or 1%, from $167.7 million in fiscal 2003. During fiscal 2004, we experienced a slow-down in the IT spending environment, competitive pressures and customers’ desire for flexibility in financing terms, particularly for large investments, such as remote storage networking solutions. There was also a decline in traditional large-scale ESCON projects, while FICON extension, the new mainframe channel technology, has not grown as fast as anticipated. These events impacted the sale of our proprietary wide-area extension products when comparing fiscal 2004 to fiscal 2003. Our results for fiscal 2003 include our acquisition of Inrange from May 5, 2003.

      Sales of our third party storage solution products generated revenues of $71.3 million in fiscal 2004, a decrease of 1%, from $72.1 million in fiscal 2003. Orders for third party products tend to be large, as they typically represent implementation of a complete solution for the customer. The slight decrease in revenue is not attributable to any single factor, but rather to the timing of when we receive these large orders.

     Service revenue

      Service revenue from our proprietary CNT products increased 14% in fiscal 2004 to $86.1 million from $75.4 million in fiscal 2003. The increase is primarily attributable to our acquisition of Inrange in May 2003, as our fiscal 2003 service revenue includes only nine months of maintenance related to the Inrange acquisition.

      Our consulting fee revenue increased 8% in fiscal 2004 to $42.8 million from $39.5 million in fiscal 2003. A large portion of the growth in consulting fee revenue relates to our acquisition of Inrange. We now offer professional consulting services with sales of the proprietary products we acquired from Inrange, and have trained the Inrange sales force to sell these services, along with our proprietary and third party products. Our sales force has also become more experienced and proficient at selling our consulting services.

Years Ended January 31, 2004 and 2003

     Product revenue

      Sales of our proprietary products generated revenues of $167.7 million in fiscal 2003, an increase of $73.2 million or 77%, from $94.6 million in fiscal 2002. The vast majority of the increase in our proprietary product sales relates to the acquisition of Inrange. Since acquiring Inrange, we have worked to fully integrate the Inrange products into our existing proprietary product offerings, and now offer our customers one complete and fully integrated line of proprietary storage networking products.

      Sales of our third party storage solution products generated revenues of $72.1 million in fiscal 2003, an increase of 42%, from $50.8 million in fiscal 2002. Our acquisition of BI-Tech in June 2002 significantly expanded our ability to deliver third party solution offerings in Europe, and accounted for approximately 25% of the increase in third party storage solution products revenue when comparing fiscal 2003 to fiscal 2002. Our sales representatives that we had prior to our acquisition of Inrange also have become more proficient at selling third party storage solutions.

     Service revenue

      Service revenue from our proprietary CNT products increased 74% in fiscal 2003 to $75.4 million from $43.3 million in fiscal 2002. The increase is primarily attributable to our acquisition of Inrange. Our fiscal 2003 service revenue includes nine months of maintenance related to the Inrange acquisition.

      Our consulting fee revenue increased 73% in fiscal 2003 to $39.5 million from $22.8 million in fiscal 2002. A large portion of the growth in consulting fee revenue relates to our acquisition of Inrange. We now offer professional consulting services with sales of the proprietary products we acquired from Inrange, and have trained the Inrange sales force to sell these services, along with our proprietary and third party products. Our sales force has also become more experienced and proficient at selling our consulting services.

General

      Revenue from the sale of products and services outside the United States increased by approximately $500,000 in fiscal 2004 when compared to fiscal 2003, and increased by 109% or $63.7 million in fiscal 2003 when compared to fiscal 2002. We derived 33%, 34% and 28% of our revenue outside the United States in fiscal 2004, 2003 and 2002, respectively. Beginning in fiscal 2003, the increase in revenue generated outside the United States and the increase in revenue generated outside the United States as a percentage of our total revenue is due to the acquisition of Inrange in May 2003 and BI-Tech in June 2002. The acquisitions of Inrange and BI-Tech expanded our presence outside the United States, particularly in Europe.

      IBM accounted for 20%, 22% and 10% of our revenue in fiscal 2004, 2003 and 2002, respectively. IBM re-sells the fibre channel switching products we acquired with our acquisition of Inrange. Beginning

in 2003, this relationship accounted for the increase in IBM revenue as a percentage of our total revenue. Metlife accounted for 14% of our revenue in fiscal 2004. Price discounting had a small impact on revenue in fiscal 2004, 2003 and 2002.

Gross Profit Margin

Years Ended January 31, 2005 and January 31, 2004

     Product margins

      Gross margins from the sale of our proprietary products were 44% in fiscal 2004, compared to 50% in fiscal 2003. Excluding the impairment charge for developed technology of $11.2 million and amortization expense for developed technology of $2.8 million, gross margins from the sale of proprietary products in fiscal 2004 would have been 52%. Excluding the $2.2 million of Inrange integration expenses and amortization expense for developed technology related to the Inrange acquisition of $3.2 million, gross margins from the sale of proprietary products in fiscal 2003 would have been 53%. The decrease in gross margin percentage, excluding the Inrange integration expenses and amortization of developed technology, was due to a change in product mix, as lower margin proprietary products accounted for a larger percentage of total proprietary product revenue.

      Gross margins from the sale of third party storage solution products were 15% in fiscal 2004, compared to 17% in fiscal 2003. The decrease in gross margin percentage was due to product mix.

     Service margins

      Gross service margins related to break-fix maintenance for our proprietary products were 47% in fiscal 2004, compared to 49% in fiscal 2003. Excluding severance costs in fiscal 2004 of $465,000, the gross service margin for proprietary products would have been 48%. Excluding integration costs of $564,000 in fiscal 2003, the gross service margin for our proprietary products would have been 49%. We anticipate that gross service margins for our proprietary products will continue to be in the range of 45% to 50% for the foreseeable future.

      Gross margins for our consulting fees were 28% in fiscal 2004, compared to 32% in fiscal 2003. Excluding severance costs in fiscal 2004 of $1.1 million, the gross service margins would have been 30%. The decline in gross margin percentage, after excluding the cost of severance, is due to lower utilization of employee consultants prior to the cost reduction actions that were taken in August 2004.

Years Ended January 31, 2004 and January 31, 2003

     Product margins

      Gross margins from the sale of our proprietary products were 50% in fiscal 2003, compared to 49% in fiscal 2002. Excluding the $1.6 million write-down of inventory resulting from the integration of product strategies related to the Inrange acquisition, $616,000 of integration expenses and amortization expense for developed technology related to the Inrange acquisition of $3.2 million, gross margins from the sale of proprietary products in fiscal year 2003 would have been 53%. The increase in gross margin percentage, excluding the inventory write-down, integration expenses and amortization of developed technology, was due to a change in product mix, as the acquisition of Inrange substantially increased our portfolio of proprietary products. We also obtained significant cost synergies by consolidating our manufacturing operations following the acquisition of Inrange, resulting in lower labor and overhead costs. A significant part of our product cost includes the addition of parts and components to printed circuit boards. Following the acquisition of Inrange, we were able to reduce our material costs by bringing this activity in-house. We previously outsourced this activity to various third party suppliers.

      Gross margins from the sale of third party storage solution products were 17% in fiscal 2003, compared to 20% in fiscal 2002. The decrease in gross margin percentage was primarily due to product mix.

     Service margins

      Gross service margins related to break-fix maintenance for our proprietary products were 49% in fiscal 2003, compared to 47% in fiscal 2002. Excluding integration costs of $564,000 in fiscal 2003, the gross service margin for our proprietary products would have been 49%.

      Gross margins for our consulting fees were 32% in fiscal 2003, both with and without a $131,000 earn-out payable to the service employees of BI-Tech. This compares to 33% in fiscal 2002, both with and without, a $195,000 earn-out payable to the service employees of BI-Tech. Gross service margins in fiscal 2003, excluding the BI-Tech earn-out, were down compared to fiscal 2002. Improvements in employee utilization prior to the acquisition of Inrange were offset by lower utilization of employees in the newly acquired Inrange consulting business.

Operating Expenses

Years Ended January 31, 2005 and 2004

     Sales and marketing

      Sales and marketing expense for fiscal 2004 totaled $97.6 million, or $93.1 million, excluding severance of $2.2 million and amortization of customer list and trademarks from the Inrange acquisition of $2.3 million. Sales and marketing expense for fiscal 2003 totaled $87.7 million, or $83.7 million, excluding integration costs related to the Inrange acquisition of $2.0 million, amortization of customer and trademarks of $1.8 million and $158,000 of expense for the BI-Tech employee earn-out. Sales and marketing expenses, excluding severance, integration, amortization and earn-out costs were up $9.4 million or 11% for fiscal 2004 from $83.7 million in fiscal 2003. Substantially all of the increase in expense was due to additional employee costs, commissions and marketing program costs related to our acquisition of Inrange in May 2003. Inrange is included in our results for all of fiscal 2004, compared to nine months for fiscal 2003.

     Engineering and development

      Engineering and development expense increased 21% or $9.0 million in fiscal 2004 to $51.7 million from $42.7 million in fiscal 2003. Excluding severance of $619,000, our engineering and development expenses would have been $51.0 million in fiscal 2004. Excluding Inrange integration expenses of $435,000, our engineering expenses would have been $42.3 million in fiscal 2003. Excluding integration expenses and severance, the increase in expense of $8.7 million was due to engineering and development for our new UMD product, which we launched in the second half of fiscal 2004. Engineering and development expense as a percentage of revenue was approximately 14% of revenue in fiscal 2004, compared to 12% in fiscal 2003.

     General and administrative

      General and administrative expense increased $1.0 million or 6% in fiscal 2004 to $17.1 million from $16.1 million in fiscal 2003. Excluding professional fees related to our pending merger with McData of $1.3 million, severance costs of $325,000 and facility closure costs of $225,000, our general and administrative expense for fiscal 2004 would have been $15.2 million. Excluding integration expenses of $1.8 million related to the Inrange acquisition, our general and administrative expense for fiscal 2003 would have been $14.3 million. The increase excluding professional fees related to the McData merger, severance and facility closure costs, and integration expenses was primarily due to our acquisition of Inrange in May 2003. Because of the acquisition, we incurred higher costs for additional staff, along with higher costs for other general and administrative expenses such as insurance, professional fees and other purchased services. Costs associated with Sarbanes-Oxley also increased our general and administrative expenses in fiscal 2004. Inrange is included in our results for all of fiscal 2004, compared to nine months for fiscal 2003. As a percentage of revenue, general and administrative expenses were 5% in fiscal 2004 and 2003.

Years Ended January 31, 2004 and 2003

     Sales and marketing

      Sales and marketing expense for fiscal 2003 totaled $87.7 million, or $83.7 million, excluding Inrange integration costs of $2.0 million, amortization of customer list and trademarks from the Inrange acquisition of $1.8 million, and $158,000 of expense for the BI-Tech employee earn-out. Sales and marketing expense was up 52% in fiscal 2003 from $57.8 million in fiscal 2002. Our product and consulting fee revenue increased by a corresponding $111.1 million, or 66%, during this same time period. Substantially all of the increase in expense was due to additional employee costs, commissions and marketing program costs related to the higher revenue, and our acquisition of Inrange in May 2003 and BI-Tech in June 2002. Also, sales and marketing expense as a percentage of total revenue improved to 25% in fiscal 2003 from 27% in fiscal 2002. The increased efficiency reflects the cost synergies achieved from the integration of Inrange into our existing sales and marketing organization.

     Engineering and development

      Engineering and development expense increased 59% or $15.8 million in fiscal 2003 to $42.7 million from $26.9 million in fiscal 2002. Excluding integration expenses of $435,000 related to the Inrange acquisition, our engineering and development expenses would have been $42.3 million in fiscal 2003. The increase was primarily due to the engineering and development for the new products we acquired from the May 2003 acquisition of Inrange, primarily the Inrange Fibre channel and FICON director products. Engineering and development expense as a percentage of revenue was approximately 12% of revenue in fiscal 2003 compared to 13% in fiscal 2002.

     General and administrative

      General and administrative expense increased $5.4 million or 50% in fiscal 2003 to $16.1 million from $10.7 million in fiscal 2002. Excluding integration expenses of $1.8 million related to the Inrange acquisition, our general and administrative expense for fiscal year 2003 would have been $14.3 million. The increase in expense was primarily due to our acquisition of Inrange in May 2003 and BI-Tech in June 2002. Because of the acquisitions, we incurred higher costs for the additional staff required to handle the increased transactions associated with the larger combined company. The acquisitions also increased most of our other general administrative costs, including insurance, professional fees and other purchased services. As a percentage of revenue, general and administrative expenses were 5% in both fiscal 2003 and 2002.

Other

Years Ended January 31, 2005 and 2004

      Interest and other income for fiscal 2004 totaled $1.6 million, compared to $2.8 million in fiscal 2003, including a $747,000 net gain on the sale of marketable securities. Excluding the net gain from the sale of marketable securities, interest and other income for fiscal 2003 would have been 2.0 million. The decrease in interest and other income was due to the significant decrease in our cash and marketable securities in May 2003 resulting from our acquisition of Inrange. The higher available balances of cash and marketable securities early in fiscal 2003 resulted in lower interest income for fiscal 2004 when comparing to fiscal 2003. Foreign exchange gains were $277,000 in fiscal 2004, compared to $599,000 in fiscal 2003. Interest expense totaled $4.4 million in both fiscal 2004 and 2003. Most of our interest expense in fiscal 2004 and 2003 relates to interest payments and amortization of debt issuance costs from the sale of our convertible subordinated notes in February 2002.

Years Ended January 31, 2004 and 2003

      Interest and other income for fiscal 2003 totaled $2.8 million, including a $747,000 net gain on the sale of marketable securities. Interest and other income for fiscal 2002 totaled $5.2 million, including a

$1.0 million write-down of an equity investment. Excluding the net gain from the sale of marketable securities in fiscal 2003 and the equity investment write-down in fiscal 2002, interest and other income would have been $2.0 million for fiscal 2003, compared to $6.2 million for fiscal 2002. The $4.2 million decrease in interest and other income for fiscal 2003 was primarily due to a significant decrease in our cash and marketable securities, resulting from our acquisition of Inrange. Our overall cash and marketable securities available for investment at the end of fiscal 2003 totaled $77.5 million, down $132.0 million from the end of fiscal 2002. Investment yields were also down in fiscal 2003 compared to 2002. Foreign exchange gains were $599,000 in fiscal 2003, compared to $63,000 in fiscal 2002. The increase was due to currency fluctuations, primarily the UK pound and Euro, and larger operations in Europe from the acquisition of Inrange. Interest expense totaled $4.4 million in fiscal 2003, up slightly from $4.3 million in fiscal 2002. Most of our interest expense in fiscal 2003 and 2002 relates to interest payments and amortization of debt issuance costs from the sale of our convertible subordinated notes in February 2002.

Income Taxes

      We recorded a provision for income taxes of $2.2 million in fiscal 2004, compared to $625,000 in fiscal 2003, primarily for income generated in various foreign jurisdictions. At the end of fiscal 2002, we concluded that it was necessary to provide a valuation allowance for our United States deferred tax assets, resulting in a non-cash charge of $23.6 million in our fourth quarter ending January 31, 2003. As we generate taxable income in future periods, we do not expect to record significant income tax expense in the United States until it becomes likely that we will be able to utilize the deferred tax assets, and we reduce the valuation allowance. The establishment of the valuation allowance does not impair our ability to use the deferred tax assets upon achieving profitability. Our federal net operating loss carry-forwards and credits do not expire for the next 15 to 20 years.

Liquidity and Capital Resources

      We have historically financed our operations through the public and private sale of debt and equity securities, bank borrowings under lines of credit, capital and operating equipment leases and cash generated by operations.

      Cash, cash equivalents and marketable securities at January 31, 2005 totaled $54.2 million, a decrease of $23.1 million since January 31, 2004. Proceeds from the exercise of stock options, and purchases of stock through our employee stock purchase plan provided cash in fiscal 2004 of $2.3 million. Uses of cash in fiscal 2004 included an $840,000 payment to the former shareholders of BI-Tech, $888,000 for repayment of capital lease obligations, and purchases of property and equipment and field support spares totaling $20.2 million. In fiscal 2004, operations used $152,000 of cash, including severance payments related to our cost reduction actions in the second half of fiscal 2004. Significant changes in operating assets and liabilities included the following:

      Outstanding accounts payable decreased by $11.2 million in fiscal 2004, due to our taking greater advantage of prompt payment discounts offered by our vendors.

      Accounts receivable decreased by $5.6 million in fiscal 2004 due to lower levels of sales in the second half of fiscal 2004, compared to the second half of fiscal 2003. Our DSO for both the fourth quarter of fiscal 2004 and 2003 was 85 days.

      Deferred revenue increased by $4.2 million in fiscal 2004, resulting primarily from higher receipts of cash in advance from customers prior to revenue recognition.

      Payments for accrued liabilities, primarily severance, facility accruals and professional fees used $5.2 million of cash in fiscal 2004.

      Expenditures for capital equipment and field support spares have been, and will likely continue to be, a significant capital requirement.

      In April 2001, our board of directors authorized the repurchase of up to $50.0 million of our common stock. Subsequent to April 2001, our board changed the authorization so that the remaining balance of the initial $50 million authorization can be used for the repurchase of either debt or stock. As of January 31, 2005, we had repurchased 4.1 million shares of our common stock for $33.0 million under this authorization. In August of 2004, we repurchased $650,000 of our 3% convertible subordinated notes, at 77% of face value. We have not repurchased any of our 3% convertible subordinated notes or common stock since that date, and we currently have no intention of doing so while our merger agreement with McDATA is pending.

      We believe that inflation has not had a material impact on our operations or liquidity to date.

      Our future contractual cash obligations at January 31, 2005, including open purchase orders incurred in the ordinary course of business, are as follows (in millions):

Off-Balance Sheet Arrangements

      We do not currently have any material off-balance sheet arrangements, other than operating leases entered into in the ordinary course of business on typical terms and conditions.

3% Convertible Subordinated Notes

      On February 20, 2002, we sold $125 million in aggregate principal amount of 3% convertible subordinated notes due February 2007. Holders of the notes may, in whole or part, convert the notes into shares of our common stock at a conversion price of approximately $19.17 per share (aggregate of approximately 6.5 million shares) at any time prior to maturity on February 15, 2007. We may redeem the notes in whole or part at any time if the closing price of our common stock has exceeded 175% of the conversion price then in effect for at least 20 trading days within a period of 30 consecutive trading days ending on the trading day prior to the date we mail the redemption notice. We are required to pay interest on February 15 and August 15 of each year while the notes are outstanding. Debt issuance costs of $3.4 million are being amortized over a five-year term using the straight-line method, which approximates the effective interest rate method. The amortization of these debt issuance costs will accelerate upon early redemption of the notes. Cash obligations related to this debt include annual interest payments of $3.7 million, and a principal payment of $124.35 million due February 2007. Payment of the notes will also accelerate upon certain events of default. In addition, upon certain events constituting a change in control of the company, we must make an offer to purchase the notes at 100% of the principal amount plus accrued interest.

      In January 2004, we entered into an interest-rate swap agreement with a notional amount of $75 million that has the economic effect of modifying that dollar portion of the fixed interest obligations associated with $75 million of our 3% convertible subordinated notes due February 2007, such that the interest payable effectively becomes variable based on the three month LIBOR plus 69.5 basis points. The payment dates of the swap are January 31st, April 30th, July 31st and October 31st of each year, commencing April 30, 2004, until maturity on February 15, 2007. At January 31, 2005, the LIBOR setting for the swap was 2.13%, creating a combined effective rate of approximately 2.825%. On February 1, 2005, the LIBOR setting was reset to 2.73%, creating a combined effective rate of 3.425% which is effective until April 30, 2005. The swap was designated as a fair value hedge, and as such, the gain or loss on the swap, as well as the fully offsetting gain or loss on the notes attributable to the hedged risk, were

recognized in earnings. At January 31, 2005, the fair value of the interest rate swap had decreased from inception to $787,000, and is included in other long-term liabilities. Corresponding to this decline, the carrying value of the notes has decreased by $787,000. As part of the agreement, we are also required to post collateral based on changes in the fair value of the interest rate swap. This collateral, in the form of restricted cash, was $3.2 million at January 31, 2005.

      If the proposed merger with McDATA is not completed, we will evaluate options available to us to repay or refinance our 3% convertible notes. Our shareholders may be subject to significant dilution if we seek to refinance the indebtedness by raising equity capital through a secondary offering or lowering the conversion price in an exchange offering.

      On January 31, 2005, the reported trading price of our convertible subordinated notes due 2007 was $86.38 per $100 in face amount of principal indebtedness, resulting in an aggregate fair value of approximately $107.4 million. Our common stock is quoted on the Nasdaq National Market under the symbol “CMNT”. On January 31, 2005, the last reported sale price of our common stock on the Nasdaq Market was $5.34 per share.

New Accounting Pronouncements

      In November 2004 the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4” (SFAS 151). SFAS 151 amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing”, to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and spoilage. This statement requires that those items be recognized as current period charges regardless of whether they meet the criterion of “so abnormal” which was the criterion specified in ARB No. 43. In addition, this Statement requires that allocation of fixed production overheads to the cost of production be based on normal capacity of the production facilities. This pronouncement is effective for our fiscal year beginning February 1, 2006. We are in the process of evaluating whether the adoption of SFAS 151 will have an impact on our financial position or results of operations, however, it is unlikely the impact will be material.

      In December 2004, the FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions”. The amendments made by Statement 153 are based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. Further, the amendments eliminate the narrow exception for nonmonetary exchanges of similar productive assets and replace it with a broader exception for exchanges of nonmonetary assets that do not have commercial substance. The statements are effective for our fiscal year beginning February 1, 2006. The provisions of these statements shall be applied prospectively. We are in the process of evaluating whether the adoption of SFAS 153 will have a significant impact on our financial position or results of operations.

      In December 2004, the FASB issued SFAS No. 123(R) “Share-Based Payment”. SFAS 123(R) requires the recognition of compensation cost relating to share-based payment transactions in financial statements. That cost will be measured based on the fair value of the equity or liability instruments issued as of the grant date, based on the estimated number of awards that are expected to vest. SFAS 123(R) covers a wide range of share-based compensation arrangements including share options, restricted share plans, performance-based awards, share appreciation rights, and employee share purchase plans. Statement 123(R) replaces FASB Statement No. 123, “Accounting for Stock-Based compensation,” and supersedes APB Opinion No. 25, “Accounting for Stock Issued to Employees”. Statement 123(R) is effective for us beginning August 1, 2005. We are in the process of evaluating the impact of SFAS 123(R) on our financial position and results of operations.

Note Regarding Non-GAAP Financial Measures

      This Form 10-K includes non-GAAP information regarding results from operations, which includes adjustments to amounts calculated under general accepted accounting principles (“GAAP”). These non-GAAP financial measures exclude certain items included in GAAP measures, including severance and

facility closure costs from our fiscal 2004 cost reduction actions, Inrange integration charges, fixed amortization for certain intangible assets and amounts related to the BI-Tech earn-out. The non-GAAP information is not in accordance with, or an alternative for GAAP and may be different from non-GAAP information used by other companies. Non-GAAP information is provided as a complement to results provided in accordance with GAAP. The non-GAAP information is provided to give investors a more complete understanding of the underlying operational results and trends in our performance. Management believes that the non-GAAP information is used by some investors and equity analysts to make informed decisions because the information may be more useful when analyzing historical results or predicting future results from operations. In addition, management uses the non-GAAP information as a basis for planning and forecasting future periods.

      We have no derivative financial instruments in our cash, cash equivalents and marketable securities. We mainly invest our cash, cash equivalents and marketable securities in investment grade, highly liquid investments, consisting of money market instruments, bank certificates of deposits, government obligations and corporate debt instruments.

      We are exposed to market risks related to fluctuations in foreign exchange rates because some sales transactions, and the assets and liabilities of our foreign subsidiaries, are denominated in foreign currencies, primarily the euro and British pounds sterling. As of January 31, 2005, we had no open forward exchange contracts.

      In January 2004, we entered into an interest-rate swap agreement with a notional amount of $75 million that has the economic effect of modifying that dollar portion of the fixed interest obligations associated with $75 million of our 3% convertible subordinated notes due February 2007, such that the interest payable effectively becomes variable based on the three month LIBOR plus 69.5 basis points. The payment dates of the swap are January 31st, April 30th, July 31st and October 31st of each year, commencing April 30, 2004, until maturity on February 15, 2007. At January 31, 2005, the LIBOR setting for the swap was 2.73%, creating a combined effective rate of approximately 2.825%. On February 1, 2005, the LIBOR setting was reset to 2.73%, creating a combined effective rate of 3.425% which is effective until April 30, 2005. The swap was designated as a fair value hedge, and as such, the gain or loss on the swap, as well as the fully offsetting gain or loss on the notes attributable to the hedged risk, were recognized in earnings. At January 31, 2005, the fair value of the interest rate swap had decreased from inception to $787,000, and is included in other long-term liabilities. Corresponding to this change, the carrying value of the notes has decreased by $787,000. As part of the agreement, we are also required to post collateral based on changes in the fair value of the interest rate swap. This collateral, in the form of restricted cash, was $3.2 million at January 31, 2005. We could incur charges to terminate the swap in the future if interest rates rise, or upon certain events such as a change in control or certain redemptions of convertible subordinated notes. A 25 basis point increase in the LIBOR rate would increase our annual interest expense by $187,500.

Cautionary Statements — Risk Factors

Risks Related to Our Business

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

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

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

We Have Incurred Losses in Four of the Last Five Fiscal Years and May Not Be Able to Maintain Profitability

      For the years ended January 31, 2005, 2004 and 2003, we incurred losses of $110.6 million, $24.1 million and $38.4 million, respectively. We may not be able to achieve, sustain or maintain profitability.

We Have Limited Product Offerings and Depend on the Widespread Market Acceptance of Our Existing Products

      We derive a substantial portion of our revenue from a limited number of existing products. As a result, we are subject to the risk of a dramatic decrease in revenue if there is a decrease in demand for our existing products. Therefore, widespread market acceptance of these products is critical. Recent economic and world events, combined with the evolving nature of the markets in which we sell our products, reduces our ability to accurately forecast our quarterly and annual revenue. Accordingly, the demand for, and market acceptance of, these products are uncertain.

      Factors that have historically affected the market acceptance of our products, some of which are beyond our control, include the following:

Our Success Depends on the Demand for Our Storage Networking Solutions

      We depend on the demand for and success of our storage networking products and services. Potential customers who have invested substantial resources in their existing data storage and management systems may be reluctant or slow to adopt a new approach, like storage networks or outside consulting or managed services. Our success in generating revenue in these areas has historically depended on, among other things, our ability to:

If Our Relationships with Parties with Whom We have Entered into Strategic Relationships Are Unsuccessful or Terminated, Our Product Revenues Could Decline

      We market our products in connection with a few significant storage vendors. As a result, our success depends substantially on our ability to manage and expand our relationships with these vendors, the overall market acceptance of these vendors’ products, and our ability to initiate new strategic relationships. In addition, we rely to a significant extent on the continued recommendation of our products by the parties with whom we have entered into strategic relationships. To the extent that these parties do not recommend our products, or to the extent that they recommend products offered by our competitors, or develop their own products similar to ours, our business will be harmed.

      We may not be able to successfully manage the relationships with the parties with whom we have entered into strategic relationships, and they may not market our products successfully. Moreover, our relationships with such parties are not in writing, have no minimum purchase commitments and can be terminated or changed at any time. Our failure to manage our relationships with these parties or the failure of these parties to market our products could substantially reduce our revenues and seriously harm our business.

      Moreover, we rely on a limited number of suppliers to provide certain of the products we supply to our customers. If any of our agreements with these parties are terminated, our ability to provide end-to-end storage solutions may be adversely affected.

Our Industries Are Subject to Rapid Technological Change, and We Must Keep Pace to Successfully Compete

      The markets in which we sell our products and services are characterized by rapidly changing technology, evolving industry standards and the frequent introduction of new products and enhancements. We must continue to enhance our existing products and services to meet changes in customer preferences and evolving industry standards. In addition, our services must also be continually enhanced in order to comply with new technological developments. Additionally, changes in technology and consumer preferences could potentially render our current products and services noncompetitive or obsolete.

We Are Substantially Dependent on the Financial Services, and Information Outsourcing Industries

      Historically, a significant portion of our product revenue has been derived from businesses in the financial services and information outsourcing industries. The erosion of our relationships with our customers in these industries, or the erosion of demand for products in these industries generally, would harm our financial condition and operating results.

We Depend on a Limited Number of Suppliers for Certain Components

      We depend upon a limited number of suppliers for several components used in the manufacture of our products, and in the case of the UMD, from a sole provider. If we are unable to buy these components, then we will not be able to manufacture our products on a timely basis. Any failure on the part of our suppliers to keep pace with technological developments may harm our ability to offer competitive solutions. In addition, our results of operations could also be harmed if suppliers terminate their agreements with us.

      We use rolling forecasts based on anticipated product orders to determine our component requirements. Lead times for materials and components that we order vary significantly and depend on factors such as specific supplier requirements, contract terms and current market demand for such components. As a result, our component requirement forecasts may not be accurate. If we overestimate our component requirements, then we may have excess inventory, which would increase our costs. If we underestimate our component requirements, then we may have inadequate inventory, which could interrupt our manufacturing and delay delivery of our products to our customers. Either of these occurrences would negatively impact our business and operating results.

The Competition in Our Markets May Lead to Reduced Sales of Our Solutions, Reduced Profits or Reduced Market Share

      The markets for our solutions are competitive and are likely to become even more competitive. Increased competition could result in further pricing pressures, reduced sales, reduced margins, reduced profits, reduced market share or the failure of our solutions to achieve or maintain market acceptance. Our products and services face competition from multiple sources, including the ability of some of our customers to design alternative solutions to the problems targeted by our solutions. Many of our competitors and potential competitors have longer operating histories, greater name recognition, access to larger customer bases or substantially greater resources than we have. As a result, they may be able to respond more quickly than we can to new or changing opportunities, technologies, standards or customer requirements. For all of the foregoing reasons, we may not be able to compete successfully against our current and future competitors.

Future Terrorist Attacks Could Substantially Harm Our Business

      On September 11, 2001, the United States was the target of terrorist attacks of unprecedented scope. The U.S. government and media agencies were also subject to subsequent acts of terrorism through the distribution of anthrax through the mail. Such attacks and the U.S. government’s ongoing response may lead to further acts of terrorism, bio-terrorism and financial and economic instability. The precise effects of these attacks, future attacks or the U.S. government’s response to the same are difficult to determine, but

they could have an adverse effect on our business, profitability and financial condition. Continued conflict within Iraq, or conflict with North Korea or other nations could increase these risks.

Undetected Software or Hardware Errors Could Increase Our Costs and Delay Product Introduction

      Networking products frequently contain undetected software or hardware errors when first introduced, or as new versions are released. Our products and the products acquired in the acquisition of Inrange are complex and errors may be found from time to time in such products, including new or enhanced products. In addition, our products and Inrange’s products are combined with products from other vendors. As a result, when problems occur, it may be difficult to identify the source of the problem. These problems may cause us to incur significant warranty and repair costs, divert the attention of our engineering personnel from our product development efforts and cause significant customer relations problems. Moreover, the occurrence of hardware and software errors, whether caused by our or another vendor’s products, could delay or prevent the development of the markets in which we compete.

The Loss of Key Executive or Experienced Personnel Could Negatively Impact Sales and Delay Product Introduction

      We are dependent on Thomas G. Hudson, our Chairman, President and Chief Executive Officer. In addition, we rely upon the continued contributions of our key management, engineering and sales and marketing personnel, many of whom would be difficult to replace quickly. We also believe that our success depends to a significant extent on the ability of our management to operate effectively, both individually and as a group. The loss of any one of our key employees could adversely affect our sales or delay the development or marketing of existing or future products and services.

Our International Sales Activities Subject Us to Additional Business Risks

      Historically, international markets have accounted for a significant portion of our revenues. Our international operations are subject to a number of risks, including:

      None of our products include screen displays or user documentation in any language other than the English language. Further, because a significant portion of our international revenues are denominated in foreign currencies, primarily the euro and British pounds sterling, an increase in the value of the U.S. dollar relative to these currencies could make our products more expensive and thus less competitive in foreign markets.

We Have Applied for and Received a Limited Number of Patents and We May Be Unable to Protect Our Intellectual Property, Which Would Negatively Affect Our Ability to Compete

      Historically, we have not pursued patents on all our intellectual property. Traditionally, we have relied, and currently continue to rely, on a combination of patent, copyright, trademark and trade secret laws and restrictions on disclosure to protect our intellectual property rights. We also enter into confidentiality agreements with substantially all our employees, consultants and parties with whom we enter into strategic relationships, and control access to and distribution of our software, documentation and other proprietary information. In addition, while we may pursue patent protection for our intellectual property in the future, unauthorized parties may attempt to copy or otherwise obtain and use our products or technology. Monitoring unauthorized use of our products is difficult, and we cannot be certain that the steps we have taken will prevent unauthorized use of our technology, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States or where legal authorities in foreign countries do not vigorously enforce existing laws.

      We have from time to time received, and may in the future receive, communications from parties asserting patent rights against us that relate to certain of our products. Although we believe that we possess all required proprietary rights to the technology involved in our products and that our products, trademarks and other intellectual property rights do not infringe upon the proprietary rights of third parties, we cannot assure you that others will not claim a proprietary interest in all or part of our technology or assert claims of infringement. All such claims, regardless of their merits, could expose us to costly litigation and could substantially harm our operating results.

Others May Bring Infringement Claims Against Us, Which Could Be Time-Consuming and Expensive to Defend

      In recent years, there has been significant litigation in the United States involving patents and other intellectual property rights. In connection with our acquisition of Inrange, we are a defendant in a patent infringement suit. We have also in the past received correspondence from third parties alleging infringement and we may be a party to litigation in the future to protect our intellectual property or as a result of an alleged infringement of others’ intellectual property. These claims and any resulting lawsuits could subject us to significant liability for damages and invalidation of our proprietary rights. These lawsuits, regardless of their success, would likely be time-consuming and expensive to resolve and would divert management time and attention. Any potential intellectual property litigation, including the pending claim, also could force us to do one or more of the following:

      In addition to the related costs of the foregoing actions, if we are forced to take any of these actions, we may be unable to manufacture and sell the related products, which would reduce our revenues.

Significant Litigation Could Adversely Affect Our Results of Operations and Financial Position

      We are currently a defendant in significant litigation, for which we believe we have substantial defenses or, in some cases, insurance coverage. However, adverse judgments in existing litigation which are not covered by insurance would have a significant impact on our results of operation and financial position. In addition, we could be subject to additional litigation in the future, including as a result of our expanded scope of operations. Such litigation could result from claims of infringement of intellectual property rights, non-compliance with contract terms, anti-trust claims, securities offering or disclosure issues, shareholder lawsuits, acquisitions or other matters, any of which if determined adversely could have a significant effect

on our financial position or results of operations. We could also be subject to investigation by governmental agencies or self-regulatory organizations, which could result in significant penalties, fines and other sanctions, any of which could materially harm our business.

Our Products Must Comply with Evolving Industry Standards and Government Regulations

      The market for our products is characterized by the need to support industry standards as they emerge, evolve and achieve acceptance. To remain competitive, we must continue to introduce new products and product enhancements that meet these industry standards. For example, all components of a storage network must utilize a limited number of defined standards in order to work with existing computer systems. Our products also must generally be approved for use by the storage vendors with whom we have strategic marketing relationships. Any failure to obtain such approval would have a material adverse impact on our business. Our products comprise only a part of the entire storage network and we depend on the companies that provide other components of the storage network, many of whom are significantly larger than we are, to support the industry standards as they evolve. The failure of these providers to support these industry standards could adversely affect the market acceptance of our products. In addition, in the United States, our products must comply with various regulations and standards defined by the Federal Communications Commission and Underwriters Laboratories. Internationally, products that we develop will also be required to comply with standards established by authorities in various countries. Failure to comply with existing or evolving industry standards or to obtain timely domestic or foreign regulatory approvals or certificates could materially harm our business.

Providing Telecommunications Services to Our Customers Subjects Us to New Risks

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

We May be Significantly Harmed if We Do Not Complete the Pending Merger With McDATA

      We may suffer adverse consequences if we do not complete the pending merger with McDATA. We may experience difficulty in retaining key employees if the merger is not promptly consummated. In addition, we may experience reduced customer acceptance of our products if the merger is not promptly consummated. Consummation of the merger is subject to significant conditions which have not yet been fulfilled, and a lawsuit is pending seeking to enjoin consummation of the merger. In several circumstances involving a change in our board’s recommendations in favor of the merger agreement, breaches of certain provisions of the merger agreement or a third party acquisition proposal, we may become obligated to pay McData up to $11 million in termination fees. In other circumstances, we must reimburse McData for expenses incurred in connection with the merger.

We Have Significant Indebtedness

      As of January 31, 2005, we had $124.4 million of indebtedness outstanding consisting of our 3% convertible subordinated notes. The notes mature on February 15, 2007. The notes are convertible into our common stock at a conversion rate of $19.17, which is significantly in excess of the price of our common stock on the date of this Form 10-K. Unless the price of our common stock increases significantly so that the holders of the notes find it economically advantageous to exercise the conversion feature and receive common stock in lieu of cash payment of the principal amount, we may have to repay

the debt. Accordingly, our high level of debt could have significant consequences on our business, including the following:

Our shareholders may be subject to significant dilution if we seek to refinance the indebtedness by raising equity capital through a secondary offering or lowering the conversion price in an exchange offering.

Risks Related to Our Common Stock

Our Stock Price Has Been and Is Likely to Continue to Be Volatile, Which May Result in Losses for Investors

      The market price of our common stock has been subject to significant fluctuations in response to many factors, some of which are beyond our control, including:

COMPUTER NETWORK TECHNOLOGY CORPORATION

CONSOLIDATED BALANCE SHEETS

(in thousands, except per share data)

See accompanying notes to consolidated financial statements

COMPUTER NETWORK TECHNOLOGY CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

See accompanying notes to consolidated financial statements

COMPUTER NETWORK TECHNOLOGY CORPORATION

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(in thousands)