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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

For the fiscal year ended December 31, 2002

OR

For the transition period from                                  to                                 

Commission file number: 000-25853

REDBACK NETWORKS INC.

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (408) 750-5000

Securities registered pursuant to Section 12(b) of the Act:

None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock with a par value of $0.0001

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.  x

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

The aggregate market value of voting and non-voting common stock held by non-affiliates of the registrant (based on the closing price for the common stock on the Nasdaq National Market on June 28, 2002, which is the last business day of the Registrant’s most recently completed second fiscal quarter)) was approximately $249.8 million. Shares of common stock held by each officer and director and by each person who owns 5% or more of the outstanding common stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

As of March 11, 2003, 182,009,143 shares of common stock were outstanding, including 23,005 shares issuable upon exchange for our subsidiary’s exchangeable shares.

DOCUMENTS INCORPORATED BY REFERENCE

Certain sections of the Registrant’s definitive proxy statement filed in connection with its annual meeting of stockholders to be held on May 7, 2003 are incorporated by reference into Part III of this Form 10-K where indicated.

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REDBACK NETWORKS INC.

FORM 10-K

December 31, 2002

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PART I

This Annual Report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Please see the beginning of Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations for a description of these forward-looking statements and cautionary language, and please see the section of this Annual Report entitled “Risk Factors” for a description of the risks that may cause our actual results to vary from the forward-looking statements.

Item 1.    Business

Overview

Redback Networks Inc. was incorporated in Delaware in 1996. Redback is a leading provider of advanced telecommunications networking equipment that enables carriers and service providers to deploy high-speed access and services to the Internet and corporate networks. Our product lines, which consist of the SMS^™ family of subscriber management systems and the SmartEdge^™ product families, combine networking hardware and software. These product families are designed to enable our customers to create end-to-end regional and national networks that support major broadband access technologies, as well as the new services that these high-speed connections support.

Based on the information that management reviews for assessing performance and allocating resources within Redback, we have concluded that Redback has only one reportable segment. Net revenue was $125.6 million, $227.5 million and $278.0 million for the years ended December 31, 2002, 2001 and 2000, respectively. Loss from operations was $166.9 million, $4,114.1 million, and $1,011.9 million for the years ended December 31, 2002, 2001, and 2000, respectively. Total assets was $660.7 million and $866.3 million as of December 31, 2002 and 2001, respectively.

Our SMS products connect and manage large numbers of subscribers across major high-speed access technologies including DSL. SMS products bridge the operational gap between the devices used to gather high-speed Internet users (i.e., access concentrators) at one end of the network and the devices at the other end of the network used to connect to the Internet (i.e., routers). Redback has a full portfolio of products in the SMS family targeted for different scaling points in the network. These products include the SMS 500, SMS 1800, SMS 10000, and the recently launched SMS 10000 SL.

Our SmartEdge products offer service providers the next generation of edge routers that provide the ability to add revenue generating network services in addition to the data / Internet connectivity provided by traditional routers. Our SmartEdge product simplifies the architecture of today’s regional data networks, as well as improves their capacity and performance and ability to deliver Internet Protocol (“IP”) services like Virtual Private Networks (“VPNs”). Our SmartEdge Router platform allows broadband service providers to connect thousands of business users quickly and cost-effectively through traditional interfaces (DS-1, DS-3, OC-3, OC-12 and OC-48) as well as Ethernet and Gigabit Ethernet interfaces. Its modular and scalable IP software enables the platform to provide users with high reliability, scalability and performance. We announced our SmartEdge Router product during the fourth quarter of 2001 and began shipments in the same quarter.

The combination of our SMS and SmartEdge platforms deliver an architecture that enables our carrier and service provider customers to build User Intelligent Networks^™ creating a robust environment for inserting and managing differentiated IP Services, on a user-by-user basis.

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Our products are currently being used by many of the largest carriers and service providers worldwide, including:

Industry Background and Trends

Increasing Demand for Broadband Access Services

In recent years, there has been a significant increase in demand by businesses and consumers for broadband, or high-speed access to the Internet and to corporate networks. Increasing numbers of users are relying on networks based on the dominant Internet Protocol software standard for the Internet to access internal corporate networks (intranets), the worldwide web, and participating in network-dependent activities such as e-mail, electronic commerce, telecommuting and on-line entertainment. Consumers are seeking low-cost, high-speed access to large data volume Internet content and services such as graphical web sites, audio and video feeds, and high-speed data. Businesses have requirements for high-speed access in order to implement electronic commerce strategies or web-based business models, and to provide employees and others with robust telecommuting capabilities. These applications often require the transmission of large, multimedia-intensive files, which is practical only with high-speed data access services.

Broadband Internet Access Options

Broadband service providers have been responding to this demand for high-speed access by providing broadband connections that are “always on,” as compared with using traditional dial-up modes. Below is a brief description of the major consumer-oriented broadband access technologies:

Digital Subscriber Line (“DSL”).    The market for digital subscriber line services has been expanding in many regions around the world. Using the extensive network that has been laid out for voice-based telephone calls, DSL operates over most types of standard copper telephone wires. Various implementations of DSL have been developed and deployed, resulting in consumer-oriented and business-oriented access services that offer different speeds, availability guarantees and other features. DSL can also serve as an affordable replacement for dedicated data lines used to deliver high-speed data services to small and medium sized businesses.

Cable.    High-speed data communication across existing cable television networks has been made possible by the combination of two-way cable technology, cable modems installed in the home, and network equipment installed at major cable concentration points to terminate end-user traffic.

Wireless.    As an alternative to access technologies using physical wires or cables, carriers and service providers are also using wireless technologies to provide broadband access. Many of these providers are in the early stages of using their licenses to deploy broadband wireless data services.

In addition to the consumer oriented access methods outlined above, businesses generally connect to the internet using high speed access methods such as leased lines, ATM and Frame Relay.

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Obstacles to Deploying Broadband Access

Deployment of broadband access and related services poses several major challenges associated with building and expanding networks to accommodate large numbers of new high-speed users. In the past, carriers and service providers did not have equipment available that would enable them to rapidly create and manage large broadband networks, especially when DSL was the technology of choice. If a carrier or provider wanted to build a large broadband network, it would have to manage thousands of users’ ongoing connections and to route users’ data to and from the Internet. While service providers have been using traditional data networking equipment to perform this function (i.e. routers), they were designed only to address part of this task and were limited to managing several hundred end-users, significantly less than the tens of thousands of potential users associated with a widely deployed service.

Separate Networks for Each Access Technology

Broadband technologies pose additional challenges for carriers and providers interested in offering more than one type of broadband service. Each broadband access technology uses different equipment at the provider’s facility. As a result, service providers offering multiple broadband services significantly increase their costs, as they must purchase different networking devices and use different operational models for each broadband service they choose to offer to their end-users.

Capacity and Flexibility Issues in Regional Data Networks

In addition to the obstacles noted above for delivering broadband access, broadband service providers face additional issues in their regional data networks, or intra- and inter-city networks, with regard to capacity and flexibility. Previously, these telecommunications providers carried only voice or low-speed data traffic over their regional data networks. However, with the popularity of broadband Internet access and high-speed data connections for businesses, providers are now facing challenges in accommodating a greatly increased volume of traffic. The widespread availability of broadband access has the potential to create significantly more data traffic volume demand than most existing regional networks are able to carry today.

Complexity in Providers’ Regional Data Networks

Another issue broadband service providers must address in their regional networks is the complexity that exists in such regional networks today. Currently, most telecommunication data providers’ regional networks are composed of two separate networks—one that carries traditional voice and data traffic using older optical technology and one that provides high-speed connections for businesses using newer but still complex data equipment. To offer a comprehensive set of telecommunications services to a business, a service provider must purchase new equipment or modify existing equipment. The result is that, today, telecommunications services often take a long time to be delivered once requested and cannot be quickly modified to meet customer requests.

Strategy

Redback’s objective is to be a leading provider of advanced networking systems that enable broadband service providers to rapidly deploy high-speed access to the Internet and corporate networks and to deliver advanced IP services that generate incremental revenue streams from their networks. Key elements of our strategy include the following:

Leverage Leading Software Capabilities.    We believe our Aggregation Operating System (“AOS^™”) differentiates our solution and is a competitive advantage in the marketplace. We intend to continue to enhance our wholesale, security, bandwidth management, subscriber accounting and billing, and network management capabilities. We expect that in the future our products will share a common software philosophy and offer a consistent operational model.

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Leverage Proprietary Computer Circuit Designs.    We believe our SmartEdge products’ hardware design, including proprietary computer circuits, commonly known as application specific integrated circuits (“ASICs”), gives us a competitive advantage in the marketplace. These ASICs are complex and incorporate the functions previously performed by multiple pieces of equipment. We intend to continue to enhance our ASIC designs and use them throughout our SmartEdge product line.

Enable New Consumer and Business Services.    We believe our products provide a flexible solution for the creation and delivery of new value-added services. We will continue to work directly with our customers and partners to develop features and functionality that further enhance the ability of service providers to deliver new broadband-based services. We believe this approach will increase the value we offer in both new and existing installations, as well as contribute to the business success of our customers. Examples of these new services may include “gold” or “platinum” high-availability services, highly secure networks and services optimized for telecommuters.

Deliver Broad Product Families.    We have expanded our SMS and SmartEdge product families to address the different capacity and functionality requirements of different market segments and our target customers’ needs. Our SMS 500, SMS 1800, SMS 10000 and SMS 10000 SL platforms (an advanced version of the SMS 10000 platform that was introduced in October 2002), and the SmartEdge product family are targeted at carriers, cable operators and large service providers.

Expand Global Distribution and Strengthen Relationships with Distribution Partners.    We currently pursue a direct and indirect sales strategy to penetrate broadband service provider organizations, focusing primarily on large carriers and major service providers. We also target smaller carriers and service providers through resellers who sell our products to their customers. We offer participating resellers discounts, technical training materials, access to an exclusive web site and exclusive marketing and sales materials.

We are continuing to expand our customer reach by:

These actions may enable us to expand our global sales presence through the sale of integrated products to mutual customers.

Strategic Partnership with Nokia.    In May 2002, we announced a strategic alliance with Nokia, a world leader in the wireless networking industry, encompassing financial, commercial and technology areas. The highlights are:

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In the long-term, Nokia and Redback will have the ability to combine their unique vision of network evolution for the building of an intelligent edge where value-added services are inserted enabling service providers an opportunity to increase their service offerings and revenue streams.

Extend Leadership throughout Broadband Service Provider Markets.    We plan to extend our leadership position by continuing to invest in sales and marketing efforts that will allow us to further penetrate existing accounts with existing and new products, to develop early customer relationships and to win new service provider accounts for all types of broadband access.

Continue Entry into Regional Network Markets.    We plan to leverage our already strong customer relationships and technology to sell our SmartEdge platforms into broadband service providers’ operating regional networks. The traditional regional network market, where standard voice technology connections are used to send data, is already large, and continues to grow. We will continue to show participants in this market how the SmartEdge family of products can save them operating expenses and provide a platform that is ready for a future migration to IP-based services.

The Redback^® Solution

Redback provides solutions that make it possible for broadband service providers to connect and manage large numbers of subscribers using high-speed access technologies. Our product families enable our customers to create end-to-end regional and national networks that support major broadband access technologies as well as new services that these high-speed connections support. Additionally, we provide solutions that ease the capacity and flexibility issues associated with broadband service providers’ regional networks.

Our SMS product family is designed to allow broadband service providers to connect tens of thousands of end-users quickly and cost-effectively, as well as manage user accounts and service profiles. By using our products, broadband service providers are able to deliver different kinds of high-speed access and a variety of service offerings with a single operational structure.

Our SmartEdge Router platform allows broadband service providers to connect thousands of business users quickly and cost-effectively through traditional interfaces (DS-1, DS-3, OC-3, OC-12 and OC-48) as well as Ethernet and Gigabit Ethernet interfaces. Its modular and scalable IP software, built for aggregation, enables the platform to provide users with high reliability, scalability and performance.

User Intelligent Networks^™ Strategy

Redback believes that data networks must evolve from the connectivity oriented networks of today to more intelligent, user aware networks optimized for service delivery. Redback refers to this network vision as the User Intelligent Networks (“UIN”). The UIN will allow Redback’s customers to offer more profitable, intelligent network services to their end users in an efficient and easily manageable fashion. Technical and Operational capabilities are being added to Redback’s family of products to make this happen. This is not unlike the transition that occurred to the publicly switched telephone network (“PSTN”). For a long time, the PSTN was purely a connectivity-based network. In recent years, the PSTN has evolved to offer advanced services such as call waiting, call-forwarding, voicemail and auto call return. These advanced services, referred to as the Advanced Intelligence Network (“AIN”), deliver increased margins to the PSTN service provider. The UIN has the ability to do the same thing to the data networks as the AIN has done to the PSTN.

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Benefits of the Redback^® Solution

UIN Benefits.    Redback’s solution of enabling the build out of UIN provides the following benefits to our carrier and service provider customers:

Enhances Broadband Operations.    Our SMS products bridge the operational gap between access equipment located at the consumer end of the networks that serve businesses and homes and the routers at the carriers’ and service providers’ facilities that connect to the Internet and to corporate networks.

Simplifies Regional Network Architecture.    Our SmartEdge products simplify the design of regional voice and data networks and enable our customers to increase their capacity and performance with less equipment.

Supports Major Access and Aggregation Methods.    Our SMS products support major access and aggregation technologies, including:

Facilitates Rapid and Expandable Deployment.    Our SMS products allow broadband service providers to quickly deploy high-speed access so that revenue-generating services can be offered to their customers while using existing access, accounting and management control systems.

Provides a Platform for the Delivery of Value-Added Services.    Our products enable broadband service providers to create and market new service offerings that extend to their customers additional capabilities such as increased security, outsourced operation of major software programs, and enhanced network-based content such as video.

Products and Technology

The SMS^™ Product Family

The SMS platform of subscriber management systems enables service providers and carriers to provision, aggregate and manage broadband and dial-up subscribers and services through a single, unified platform. The SMS platform is deployed at service providers’ Points of Presence (“POPs”) or within carriers’ metropolitan networks.

The SMS platform accepts a large concentration of broadband subscriber traffic from devices, such as DSL Access Multiplexers (“DSLAMs”), Cable Modem Termination Systems (“CMTSs”) and wireless concentrators including Wireless Fidelity (“Wi-Fi”) hotspots, and delivers groomed traffic to the providers’ backbone routers. The SMS platform eases provisioning through RADIUS integration and standard management interface for rapid time to market and enables the creation and delivery of revenue-generating packet-based services and content.

The SMS family includes three platforms: the SMS 10000 and SMS 10000 SL, the SMS 1800 and the SMS 500. All devices are purpose-built for subscriber management and service creation, with the ability to aggregate broadband subscribers over DSL, cable and wireless, as well as perform dial-offload.

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The SMS 10000 and SMS 10000 SL

The SMS 10000 platform features significant capacity and throughput with carrier-class reliability and redundancy of majorsystem components. Scalable to hundreds of thousands of subscribers per seven-foot rack in certain environments, the SMS 10000 enables new levels of service aggregation, wholesale access and IP service creation. The SMS 10000 SL is an enhancement to the SMS 10000 platform built upon Redback’s subscriber management technology with a redesign of certain portions of the hardware architecture and a new version of AOS operating software.

The SMS 1800

Similar to the SMS 10000 platform, the SMS 1800 aggregates thousands of broadband subscribers and is deployed at the service providers’ POPs to aggregate broadband subscriber traffic from DSLAMs, CMTSs and wireless concentrators and pass on groomed traffic to backbone routers.

The SMS 500

The SMS 500 platform delivers the leading SMS functionality in a compact form factor for a lower number of subscribers.

The SmartEdge^™ 800 Router

Redback has purpose-built the SmartEdge Router for the network’s edge. Its hardware and software has been designed with high reliability, scalability and flexibility in mind. The platform boasts the industry’s first purpose built SmartEdge operating system. The SmartEdge Router has been specifically designed to meet the requirements and network functions needed at the edge of the network. In performing its edge role, the SmartEdge Router’s operating system has been designed for user-to-network functionality. The SmartEdge Router is not limited by only supporting network-to-network functionality inherent in third-party platforms that have been adapted to perform at the edge of the network.

The SmartEdge Router product incorporates a Packet Processing ASIC (“PPA”) used in the forwarding path of the SmartEdge Router product. The PPA allows the SmartEdge Router platform to facilitate a deep level of packet processing enabling such things as quality of service, user awareness and appropriate policy enforcement while maintaining line rate forwarding. Another distinguishing characteristic of the SmartEdge Router platform is the customer designed software. The modular software architecture heightens reliability and enables seamless binding of any user connection to any service, further simplifying service provisioning. Software modularity also allows for easier product evolution because new software modules can be independently developed, tested and installed to satisfy demand for new services.

The SmartEdge Router also offers many of the same service philosophies inherent in the SMS platform. For example, multiple routing contexts allow providers to partition a chassis with software to create hundreds of “contexts” or virtual routers, each with its own management console, private forwarding tables, accounting and provisioning systems. The software architecture facilitates dynamic binding of the context to a service. End-user visibility into virtual routers reduces management expense for the service provider.

The SmartEdge 800 Intelligent Transport (“IT”)

Redback’s SmartEdge 800 IT platform integrates high-density optical and copper interfaces with advanced connection management to facilitate metro connectivity of Layer 1 (TDM) and Layer 2 (Ethernet) based services. Using standards based technologies such as Bi-Directional Line Switched Rings the SmartEdge 800 IT is able to collapse the functionality of multiple network elements into a single chassis reducing capital and operational costs. The SmartEdge IT is also able to simultaneously support both SONET and SDH standards allowing it to be

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deployed in worldwide applications as well as provide unique functions such as a gateway between North American and International networks. The SmartEdge IT allows our customers to evolve the metro network with maximum flexibility while maintaining interoperability with installed systems.

Sales and Marketing

We sell our products through a direct sales force, resellers, and distribution partners. Through December 31, 2002, most of our revenue was derived from sales to providers of both DSL access and services. A small portion of our revenue was derived from sales to providers of IP aggregation services.

As of December 31, 2002, our sales force consisted of approximately 111 persons located globally. For the years ended December 31, 2000, 2001 and 2002, we derived approximately 29%, 37% and 50% of net

revenue from international sales, respectively. We currently have regional sales and support headquarters in North America, Europe and Asia. (See Note 12 to our consolidated financial statements for additional revenue information by geographic region and “Risk Factors” for a description of risks attendant to our foreign operations.)

In addition to direct sales, we have a variety of reseller and distribution partners, especially for local or regional customer reach in Europe and Asia. We have a variety of marketing programs and initiatives to support the awareness, sale and distribution of our products. The audience for these activities includes our

Marketing activities include:

During 2002, revenue from product purchases by Verizon, Sumitomo, Nokia and SBC accounted for approximately 13%, 10%, 10% and 10% of our net revenue, respectively. During 2001, Qwest Communications and Verizon accounted for 18% and 15% of our net revenue, respectively. During 2000, Qwest Communications and Genuity accounted for 15% and 10% of our net revenue, respectively.

Backlog

As of December 31, 2002, we had $7.2 million dollars in backlog. Backlog represents orders for goods or services on our current price list that are expected to ship within the next twelve months. As of December 31, 2001, backlog was not significant.

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Research and Development

Our engineering expertise includes:

We continue to invest in research and development programs. We are focusing development efforts on, among other things, completing and extending the functions of our ASIC designs, enhancing our support of the Internet Protocol and other related routing protocols, and creating and delivering optical interfaces for our products. We are also developing new features and product families for our subscriber management system and are committed to extending the functionality of our subscriber management system software to create additional competitive advantages for our customers. We incurred research and development expenses of $86.0 million, $107.6 million and $86.7 million in 2002, 2001 and 2000, respectively.

Customer Service and Support

Our customer service and support organization supports and maintains products sold worldwide by our direct sales force, as well as products sold by our authorized resellers and partners. Generally, our distribution partners and authorized resellers provide installation and first-level, or preliminary, support to their customers, while we provide backup support. Our technical assistance centers in the North America, Asia and the Europe employ systems engineers who work closely with our direct sales personnel, partners and resellers to assist end-users with post-sales support issues.

Manufacturing

Our manufacturing operations consist primarily of prototype development, materials planning and procurement for an outsourced order fulfillment model. All of our production, including final assembly and testing, is performed by Jabil Circuits Inc. (“Jabil”). We use several independent suppliers to provide printed circuit boards, chassis and subassemblies. Our products use a combination of standard parts and critical components, some of which are purchased from single or limited sources of supply.

Competition

Our product lines consist of the SMS and the SmartEdge product families, which are designed to enable our customers to create metropolitan area networks that support service-aware transport and an efficient aggregation of broadband internet access technologies, as well as the new services that these high-speed connections support. Our competitors primarily include: Juniper and Cisco, as well as many start up technology companies and traditional voice telecom equipment providers. Our market opportunity for the SMS products is governed by the inherent growth in DSL subscribers as well as technological and scale advantages that the market introduces. Moreover, our competitors may introduce higher performance platforms, and we also face competition from the

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traditional routing companies that have added subscriber management features to their traditional products. Several vendors have introduced products that serve multiple functions, including aggregation and IP services delivery, and other startup companies are developing next generation technologies that may compete with our products.

The market for our SmartEdge Router platform is characterized by an upgrade cycle of swapping existing edge routers, primarily from Cisco, for more dense next-generation edge routers with higher interface speeds and richer software functionality. Industry analysts expect this transition to occur over the next four years. We primarily compete with routers from Cisco and Juniper for this market. These companies are repositioning their existing core routers with additional features for use in the edge of the networks. Additional competition exists from companies who make multi-service edge devices, as well as startup companies who are developing next generation technologies that may compete with our products.

Patents and Proprietary Rights

Our success and ability to compete are dependent on our ability to develop and maintain the proprietary aspects of our technology. We rely on a combination of patent, trademark, copyright and trade secret laws, employee and third-party nondisclosure agreements and licensing arrangements to protect our intellectual property rights, but these legal protections afford only limited protection. As of December 31, 2002, we have filed over 100 patent applications in the United States, over 20 international patent applications, and have been granted two U.S. patents.

Employees

As of December 31, 2002, we had a total of 596 employees, including 347 employees involved in our research and development operations.

Geographic Information

See Note 12 to our consolidated financial statements for financial information about geographic areas.

Where You Can Find More Information

We make our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to such reports filed pursuant to Section 13(a) or 15(d) of the Exchange Act, available free of charge on or through our Internet website located at www.Redback.com, as soon as reasonably practicable after they are filed with or furnished to the SEC.

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Risk Factors

To date, we have incurred significant losses and we have not generated enough cash from operations to finance our business.

To date, we have not been profitable. We incurred net losses of approximately $186.9 million during fiscal year 2002, $4.1 billion in 2001 and $1.0 billion in 2000, and we will continue to expend substantial funds in fiscal year 2003. To date, we have funded our operations primarily from private and public sales of debt and equity securities, as well as from bank borrowings. As of the end of 2002, we had cash, cash equivalents, short-term investments and restricted cash and investments of $116.0 million, down from $178.8 million at the end of 2001. Of this cash balance of $116.0 million, $26.5 million was restricted as to secured loans or letters of credit. Although we believe that we maintain adequate cash and investment balances to last through the next 12 months, this belief is based on our belief that we will realize annual revenue at least consistent with that of 2002 and be able to appropriately manage our operating expenses. With respect to expenses, we expect to continue to incur significant product development, sales and marketing, and general and administrative expenses. As a result, we must generate significant revenues to achieve profitability, and we may fail to do so. In addition, the current downturn in the telecommunications market may worsen, which would have a negative effect on our revenue, and consequently, on our cash and cash equivalents.

If revenue were to be less than anticipated or if our costs were to be greater than anticipated, we may need to raise additional funds by alternative financings in order to meet our cash requirements. We may also choose to raise additional funds to reduce our outstanding debt and the corresponding interest payments. There can be no assurance that we will be able to obtain alternative financing, that any such financing would be on acceptable terms, or that we will be permitted to do so under the terms of our existing financing arrangements, or our financing arrangements in effect in the future. In the absence of such financing, our ability to fund our operations, respond to changing business and economic conditions, reduce our outstanding debt and related interest payments, make future acquisitions, react to adverse operating results, fund required capital expenditures or increased working capital requirements will be adversely affected.

Our business and results of operations may be negatively impacted due to our cash needs and debt load.

We have substantial amounts of outstanding indebtedness and commitments, primarily in the form of convertible notes and long-term real estate commitments. The degree to which we are leveraged, coupled with our cash needs, could have significant negative consequences, including:

We may be unable to repay our convertible notes when they become due

On April 1, 2007, the entire outstanding principal of $467.5 million on our outstanding 5% convertible subordinated notes issued in April 2000 will become due and payable. Our ability to meet our debt service obligations and other commitments will be dependent upon our future performance, which will be subject to financial, business and other factors affecting our operations, many of which are beyond our control. We are currently in discussions with third parties regarding restructuring our outstanding indebtedness. However, there is no guarantee that these discussions will be successful or that the terms of any restructured indebtedness will be materially more favorable than the current terms.

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Restructuring our outstanding indebtedness may cause substantial dilution to our shareholders.

Any restructuring of our indebtedness may involve the issuance of new equity, a new debt instrument or the use of cash. Given the recent market value of the 5% convertible subordinated notes and our common stock, if equity is the primary vehicle for restructuring out indebtedness, we expect that there will be substantial dilution to our shareholders.

Our operating plan is based on revenue assumptions, and there is no guarantee that we will achieve those revenue assumptions.

The current downturn in economic activity is continuing at a greater than anticipated rate into 2003. The current sales environment remains very difficult, and we currently have limited visibility into our business prospects. It is therefore difficult to predict the amount and timing of our revenue, and consequently, our revenue projections and operating plan are subject to great uncertainty. For example, in the third quarter of 2002, we did not achieve our revenue plan, and consequently, our losses were greater than anticipated and our stock price dropped significantly. Specifically, the sales cycle is difficult to predict with respect to our newer SmartEdge^™ Router products due to our customers’ and potential customers’ needs to fully evaluate these products and compare them to competitive products. The difficulty in predicting the sales cycle is aggravated by the fact that we have a limited backlog of orders continuing into 2003.

Additionally, customers often view the purchase of our products as a significant and strategic decision, and this causes purchases of our products to become more susceptible to unplanned administrative, processing and other delays. This is particularly true for larger customers who represent a significant percentage of our sales and for whom our products represent a very small percentage of their overall purchasing activity. These customers are often engaged in multiple simultaneous purchasing decisions, some of which may pertain to more immediate needs and absorb the immediate attention of the customer. Consequently, many of our customers’ sales decisions are not made until the final weeks or days of the calendar quarter, which leads to greater uncertainty for us in predicting the timing and amount of our revenue. In addition, our customers’ current capital constraints makes it difficult for them to commit in advance to buy our products in any given quarter. If sales from a specific customer for a particular quarter are not realized in that quarter or at all, our operating results could be materially adversely affected.

Our operating results will suffer if we do not successfully commercialize our product lines.

Our product line expanded when we began shipping our SmartEdge Router product in the fourth quarter of 2001. In addition, in the fourth quarter of 2002 we introduced new technology for the SMS^™ 10000, a product known as SMS 10000 SL. The growth of our business is highly dependent on customer acceptance of the SmartEdge Router product and the SMS 10000 SL. If sales of our SmartEdge Router and SMS 10000 SL products do not meet our 2003 operating plan expectations, our operating results, financial condition or business prospects may be negatively impacted.

There are a limited number of potential customers for our products.

Our customers include both end-user customers and resellers. During 2002, revenue from product purchases by Verizon, Sumitomo, Nokia and SBC accounted for approximately 13%, 10%, 10% and 10% of our revenue, respectively. During 2001, revenue from Qwest Communications’ and Verizon’s product purchases accounted for 18% and 15% of our revenue, respectively. During 2000, revenue from Qwest Communications’ and Genuity’s product purchases accounted for 15% and 10% of our revenue, respectively. We anticipate that a large portion of our revenues will continue to depend on sales to a limited number of customers, and we do not have contracts or other agreements that guarantee continued sales to these or any other customers.

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Our future success depends in large part on sales to companies in the telecommunications sector, which has been depressed.

We are highly dependent on sales to companies in the telecommunications sector. Over the last two years, this sector has been depressed. Our future depends on a rebound in the telecommunications sector because our sales depend on the increased use and widespread adoption of broadband access services, increased capital expenditures by the telecommunications carriers (which often occurs on a sporadic and unpredictable basis), and the ability of our customers to market and sell broadband access services. If the telecommunications industry does not recover, our customers may continue to encounter a shortage of capital, forego sustained or increased level of capital investments, and reevaluate their need for our products. Recovery of the telecommunications sector is beyond our control, and if it fails to recover in the near future, our revenues may be less than we currently anticipate, and our business will suffer.

We face risks due to our reliance on sales in international markets.

We have become increasingly reliant on sales to international customers during the last two years. During the years ended December 31, 2002, 2001 and 2000, we derived approximately 50%, 37% and 29%, respectively, of our revenue from sales to international customers. Our growing international presence exposes us to risks including:

If one or more of these risks materialize, our sales to international customers may decrease and our costs may increase, which could negatively impact our revenues and operating results.

Our common stock may be delisted from the Nasdaq National Market.

In October 2002, we received notification from the Nasdaq Stock Market that we were out of compliance with the minimum bid price requirement of $1.00 per share and that we had 90 calendar days, or until January 13, 2003, to regain compliance. We were unable to regain compliance by that date. A hearing before the Listing Qualifications Panel (the “Panel”) to appeal the decision to delist our common stock was held on February 20, 2003. On March 14, 2003, the SEC approved certain changes to the Nasdaq Stock Market’s bid price rules, which effectively gave Redback an additional 90 calendar days until April 14, 2003, to regain compliance for minimum price of $1.00. On March 25, 2003, Redback received notification from Nasdaq that Redback was granted a 90 day exception to allow for additional developments in the rulemaking process. Accordingly, Redback has until June 23, 2003 to regain compliance with Nasdaq listing requirements. Our stock will remain listed on the Nasdaq National Market until at least June 23, 2003.

If we are unable to regain compliance by June 23, 2003 and if the SEC rejects or does not timely approve additional rule changes proposed by Nasdaq which would provide us with an additional grace period for minimum bid compliance, our current plan is to apply for transfer to the Nasdaq SmallCap Market or take action to perform a reverse stock split, until we can again meet the minimum bid pricing and other requirements of the Nasdaq National Market. If we are unable to meet and maintain the requirements to transfer to the Nasdaq SmallCap Market, we will attempt to have our common stock traded on the Nasdaq over-the counter Bulletin Board. If our common stock is delisted from Nasdaq, it would seriously limit the liquidity of our common stock and impair our potential to raise

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future capital through the sale of our common stock, which could have a material adverse effect on our business. Delisting could also reduce the ability of holders of our common stock to purchase or sell shares as quickly and as inexpensively as they have done historically, and may have an adverse effect on the trading price of our common stock. Delisting could also adversely affect our relationships with our vendors and customers.

If our products do not anticipate and meet specific customer requirements and demands, our sales and operating results would be adversely affected.

To achieve market acceptance of our products, we must anticipate and adapt to customer requirements and offer products and services that meet customer demands. Due to the complexity of our products and the complexity, diversity, and changing nature of our customer needs, many of our customers require product features and capabilities that our products may not have or may not satisfy over time. In addition, we may experience design, manufacturing, marketing and other difficulties that could delay or prevent the development, introduction or marketing of new products and enhancements.

There can be no assurance that we will be able to provide products that will satisfy new customer demands or evolving industry standards, or that the standards we choose to develop will position our products to compete with others in the market. In addition, if we are required to add features to our products, we may experience longer sales cycles, higher research and development spending and lower margins. Furthermore, if we are required to modify our products for a few customers, we may experience delays in developing other product features desired by different customers, which may cause us to lose sales to those customers. Our failure to develop products or offer services that satisfy customer requirements would materially adversely affect our sales, operating results, financial condition and business prospects.

Undetected software or hardware errors in our products before deployment could have a material adverse effect on our operating results.

Due to the complexity of both our products and our customers’ environments, we may not detect product defects until full deployment in our customers’ networks. Furthermore, due to the intricate nature of our products, it is possible that our products may not interoperate with our customers’ networks. This possibility is enhanced by the fact that our customers typically use our products in conjunction with products from other vendors. Regardless of whether warranty coverage exists for a product, we may be required to dedicate significant technical resources to resolve any defects or interoperability problems in order to maintain our customer relationships. If this occurs, we could experience, among other things, loss of major customers, cancellation of product orders, increased costs, delay in recognizing revenue, and damage to our reputation.

We are dependent on sole source and limited source suppliers for several key components.

We currently purchase several key components used in our products from single or limited sources of supply. Specifically, we rely on a limited number of foundries for a number of our application specific integrated circuits, (“ASICs”). We have no guaranteed supply arrangement with these suppliers, and we, or our contract manufacturer, may fail to obtain these supplies in a timely manner in the future. Financial or other difficulties faced by these suppliers or significant changes in demand for these components could limit the availability of these components to us. Any interruption or delay in the supply of any of these components, or the inability to obtain these components from alternate sources at acceptable prices and within a reasonable amount of time, would adversely affect our ability to meet scheduled product deliveries to our customers and would materially adversely affect our sales and business prospects. In addition, locating and contracting with additional qualified suppliers is time-consuming and expensive. Our inability to obtain sufficient quantities of components from our suppliers in a timely manner could negatively impact our ability to timely introduce and generate revenue from this new technology.

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We currently depend on a single contract manufacturer with whom we do not have a long-term supply contract.

We depend on a single third party contract manufacturer, Jabil Circuits Inc. (“Jabil”), to manufacture our products, and certain strategic vendors to supply parts to our contract manufacturer, with whom we do not have long-term contracts. If we should fail to effectively manage the relationship with our contract manufacturer or if it should experience delays, disruptions or quality control problems in our manufacturing operations, our ability to ship products to our customers would be delayed. If our contract manufacturer were to cease doing business with us, our ability to deliver products to customers could be materially adversely affected.

During 2002, Jabil provided, through its California and Idaho locations, the labor to assemble, test and ship our products. We shared manufacturing knowledge and processes for the SMS and SmartEdge products between the two different locations of Jabil. At the end of 2002, we moved our manufacturing operations to the California location only. The loss of any of Jabil’s manufacturing capacity could prevent us from meeting our scheduled product deliveries to our customers and could materially and adversely affect our sales and operating results.

We could become subject to additional litigation regarding intellectual property rights.

In recent years, we have been involved in litigation involving patents and other intellectual property rights, including our current litigation with Nortel Networks. Moreover, many patents have been issued in the United States and throughout the world relating to many aspects of networking technology, and therefore, we may become a party to additional litigation to protect our intellectual property or as a result of an alleged infringement of others’ intellectual property rights. If we do not prevail in our existing or potential lawsuits:

Our business and financial condition would be materially harmed due to reduction in our cash as a result of damage awards, lost or delayed sales or additional development or licensing expenses. Moreover, lawsuits, even those in which we prevail are time-consuming and expensive to resolve and divert management and technical time and attention. Although we carry general liability insurance, our insurance may not cover potential claims of this type or may not be adequate to indemnify us for all liability that may be imposed.

Our business will be adversely affected if we are unable to protect our intellectual property rights.

We rely on a combination of patent, copyright, trademark and trade secret laws and restrictions on disclosure to protect our intellectual property rights. We also enter into confidentiality or license agreements with our employees, consultants and corporate partners, and control access to and distribution of our software, documentation and other proprietary information. Despite our efforts to protect our proprietary rights, 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.

Furthermore, other parties may independently develop similar or competing technology, design around any patents that may be issued to us, otherwise gain access to our trade secrets or intellectual property, or disclose our intellectual property or trade secrets. Although we attempt to protect our intellectual property rights, we may be unable to prevent the misappropriation of our intellectual property, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States.

For example, in 2001 we initiated lawsuits against Tahoe Networks Inc. and Unisphere Networks Inc. (both of which have been settled), which included claims for misappropriation of our intellectual property. We may in the future initiate additional claims or litigation against third parties for infringement of our proprietary rights in

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order to determine the scope and validity of our proprietary rights or the proprietary rights of competitors. These claims could result in costly litigation and the diversion of our technical and management personnel. As a result, our business could be materially adversely affected.

As of December 31, 2002, we have filed over 100 patent applications in the United States, over 20 international patents, and have been granted two U.S. patents. The patent applications may not result in the issuance of any additional patents. Any patent that is issued might be invalidated or circumvented or otherwise fail to provide us any meaningful protection. In addition, we cannot be certain that others will not independently develop substantially equivalent intellectual property or otherwise gain access to our trade secrets or intellectual property, or disclose our intellectual property or trade secrets, or that we can meaningfully protect our intellectual property. Our failure to protect our intellectual property effectively could have a material adverse effect on our business, financial condition or results of operations. We have licensed technology from third parties for incorporation into our products, and we expect to continue to enter into such agreements for future products.

Necessary licenses of third-party technology may not be available to us or may be very expensive.

We may be required to license technology from third parties to develop new products or product enhancements. However, these licenses may not be available to us on commercially reasonable terms, if at all. The inability to obtain any third-party licenses required to develop new products and product enhancements could require us to obtain substitute technology of lower quality or performance standards or at greater cost either of which could seriously harm our business, financial condition and results of operations.

We may be at risk of additional litigation.

In 2002, we were a defendant in a securities class action litigation, which is still pending. We remain at risk of additional litigation, including in the areas of securities class action, intellectual property rights, employment (unfair hiring or terminations), product liability, etc. and remain at risk of obtaining liability insurance at a reasonable cost when our current policies expire. Litigation involves costs in defending the action and the risk of an adverse judgment. Any material litigation could result in substantial costs and divert management’s attention and resources, which could seriously harm our business, financial condition and results of operations.

Intense competition in our industry could result in the loss of customers or an inability to attract new customers.

Our SmartEdge Router platform competes in a market characterized by an upgrade cycle of swapping existing edge routers for more dense next-generation edge routers with higher interface speeds and richer software functionality. Industry analysts expect this transition to occur over the next four years. Our competitors are repositioning their existing core routers with additional features for use in the edge of the networks. Additional competition exists from companies who make multi-service edge devices, those who are adding subscriber management features to their existing core routers, as well as startup companies who are developing next generation technologies that may compete with our products.

SmartEdge Router competitive pressures may result in price reductions, reduced margins and lost market share, which would materially adversely affect our business, results of operations and financial condition. In addition, some of our competitors are large public companies that have greater name recognition, broader product offerings, more extensive customer bases, more established customer support and professional services organizations, and significantly greater financial, technical, marketing and other resources than we have. As a result, these competitors are able to devote greater resources to the development, promotion, sale and support of their products, and they can leverage their customer relationships and broader product offerings and adopt aggressive pricing policies to gain market share. Our competitors with large market capitalization or cash reserves are much better positioned than we are to acquire other companies, including our competitors, and thereby acquire new technologies or products that may displace our product lines. As a result of the foregoing, we may be unable to maintain a competitive position against our competitors, which could result in a decrease in sales, earnings, and cash generation.

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Our quarterly operating results have and are expected to continue to fluctuate significantly.

Our quarterly operating results are likely to be affected by a number of factors, including the timing of significant sales to large customers, the long sales and implementation cycles, our ability to control expenses, and the recovery of the telecommunications industry and the economy in general. The majority of our expenses are essentially fixed in the short term. As a result, if we experience delays in generating or recognizing revenue, our quarterly operating results will likely decrease. Therefore, we believe that quarter-to-quarter comparisons of our operating results may not be meaningful. You should not rely on our results for one quarter as any indication of our future performance. It is likely that in some future quarter our operating results may be above or below the expectations of public market analysts or investors. If this occurs, the prices of our common stock and convertible notes would likely fluctuate.

We may experience difficulties in developing new products.

We intend to continue to invest in product and technology development. The development of new or enhanced products is a complex and uncertain process that requires the accurate anticipation of technological and market trends. We may experience design, manufacturing, marketing and other difficulties that could delay or prevent the development, introduction or marketing of new products and enhancements. We may also experience the loss of key development personnel that could impair our ability to develop and introduce new or enhanced products. The introduction of new or enhanced products also requires that we manage the transition from older products in order to minimize disruption in customer ordering patterns, to ensure that adequate supplies of new products can be delivered to meet anticipated customer demand, and to limit the creation of excess inventory that may impact our financial results. Our inability to effectively manage the transition to newer products or accurately predict market and economic conditions in the future may cause us to incur additional charges of excess and obsolete inventory. If any of the foregoing occurs, our revenue, earnings, and cash generation may be adversely affected.

If we fail to retain or attract employees, we may not be able to timely develop, sell or support our products.

The size of our workforce has experienced rapid fluctuations over the last few years, as we grew from 270 employees as of December 31, 1999, to 1,180 employees as of December 31, 2000, then contracted to 820 employees at December 31, 2001, and then decreased to 596 at December 31, 2002, as a result of restructuring activities. Many members of our senior management joined the company in 2001. Additionally, we streamlined our management structure in early 2003, and appointed a new chief financial officer and senior vice president of engineering. Our future performance depends, in part, on the ability of our restructured senior management team to effectively work together, manage our workforce and retain highly qualified technical and managerial personnel. The loss of the services of key personnel or the inability to continue to retain, attract or assimilate qualified personnel could delay product development cycles or otherwise materially harm our business, financial condition and operating results.

One of our officers is facing a civil SEC lawsuit related to his previous employment.

On February 25, 2003, the SEC filed a civil lawsuit against eight current and former officers and employees of Qwest, regarding activities that occurred while each was employed at Qwest. One of the individuals named is Joel Arnold, our Senior Vice President of Field Operations, who was formerly Executive Vice President of Qwest’s Global Business Unit. The SEC is seeking, among other remedies, that Mr. Arnold and four other defendants be permanently barred from serving as an officer or director of any public company.

Although it is expected that such a civil procedure will take two to three years or longer to be adjudicated, an unfavorable result at the end of such action against Mr. Arnold may result in him being unable to serve as an officer. In addition, Mr. Arnold may be distracted while defending against the allegations.

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If we fail to match production with product demand, we may need to incur additional costs to meet such demand.

We currently use a rolling forecast based on anticipated product orders, product order history and backlog to determine our materials requirements. Lead times for the materials and components that we order vary significantly and depend on numerous factors, including the specific supplier, contract terms and demand for a component at a given time. If we overestimate our requirements or there are changes in the mix of products, the contract manufacturer may have excess inventory, which would increase our storage or obsolescence costs. For example, we incurred write-downs of excess and obsolete inventory and related claims of $34.4 million and $142.6 million in 2002 and 2001, respectively. The 2002 excess and obsolete inventory charges resulted from reductions in forecasted revenue and reactions to current market conditions. The 2001 excess inventory resulted from purchases that we made directly or that were committed on our behalf by our contract manufacturers to meet demand that was anticipated in 2001, before we experienced a sudden and significant decrease in our forecasted revenue. If we underestimate our requirements, the contract manufacturer may have an inadequate inventory, which could interrupt manufacturing of our products and result in delays in shipments and revenues.

Our gross margin may continue to fluctuate over time.

Our gross margin may continue to fluctuate in the future due to, among other things: any changes in the mix of sales between our products and geographies; competitive pressure to reduce our current price levels; our ability to control inventory costs and other reserves; our ability to control and absorb fixed costs; and our ability to introduce new products, product enhancements and upgrades. Based on the foregoing, our gross margin could decline and our results of operations would suffer.

We may continue to record reserves for unused leased facilities.

In 2001, we recorded reserves for unused facilities totaling approximately $96.6 million. In addition, we are actively marketing approximately 468,000 square feet of unoccupied office space for sublease, in markets with substantial excess space available for rent. We may experience difficulties in subleasing this space because substantial excess office space is available for rent in the Silicon Valley. If we are unable to sublease some or all of this space or if we were to further consolidate our facilities, we will have to continue to record reserves for the unused facilities.

Our business may suffer slower or less growth due to further government regulation of the communications industry.

The jurisdiction of the Federal Communications Commission, or FCC, extends to the communications industry, to our customers and to the products and services that our customers sell. Continued regulations that adversely affect our customers or future FCC regulations, or regulations established by other regulatory bodies, may limit the amounts of money capital available for investment in broadband. Regulation of our customers may materially harm our business and financial condition. The delays that these governmental processes entail may cause order cancellations or postponements of product purchases by our customers, which would materially harm our business, results of operations and financial condition.

Our debt agreements may make it more difficult to consummate merger transactions.

The networking and telecommunications industry is undergoing a consolidation phase, and it is generally believed that a substantial number of current companies working in this space will be bought by larger competitors or will merge to form larger businesses. It is possible that certain companies in this sector will seek a merger transaction with us. However, the amounts and terms of our outstanding debt may discourage potential acquirers. For example, the terms of our convertible notes issued in April 2000 provide the holder of the convertible notes the option to require us to repurchase all or a portion of that holder’s convertible notes at face

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value upon a change in control, which would significantly increase the liability to a potential acquiror and make us less attractive as a target. Moreover, our borrowing agreements relating to our debt may contain restrictions on, or prohibitions against, our repurchasing or repaying the convertible notes until we pay the senior debt in full.

Provisions of our charter documents have anti-takeover effects that could prevent a change in our control.

In 2001, we adopted a Stockholder Rights Plan. This plan could delay or impede the removal of incumbent directors and could make more difficult a merger, tender offer or proxy contest involving us, even if such events could be beneficial, in the short term, to the interests of the stockholders. In addition, such provisions could limit the price that some investors might be willing to pay in the future for shares of our common stock. Our certificate of incorporation and bylaws contain provisions that limit liability and provide for indemnification of our directors and officers, and provide that our stockholders can take action only at a duly called annual or special meeting of stockholders. These provisions also may have the effect of deterring hostile takeovers or delaying changes in control or management.

Item 2.    Properties

Redback leases all of its facilities. Redback’s principal long-term leases are as follows:

We are actively marketing the unoccupied office space in markets that currently have substantial excess office space available for rent. Pursuant to the terms of a Partial Surrender Agreement between Redback and its current landlord, 2725323 Canada Inc., for leased property located in Vancouver, Canada, we paid $4.6 million during 2002 and $704,000 during February 2003. In consideration of payments made and each party’s compliance with all other terms of the agreement, we assigned, released and surrendered to the landlord our right, title and interest in the leased property. The final payment during February 2003 resulted in the surrender of approximately 140,000 square feet of lease space in Vancouver, Canada.

In addition to our facilities in California, British Columbia and North Carolina, we have small sales offices throughout the United States, including regional sales offices in southern California, Georgia, Texas, Kansas, Colorado, New Jersey, Florida, and Oklahoma, as well as international offices in the Netherlands, France, the United Kingdom, Germany, Denmark, Spain, the People’s Republic of China, Hong Kong, Australia, Japan, Korea, Taiwan and Singapore.

Item 3.    Legal Proceedings

In November 2001, Nortel Networks, Inc. (“Nortel”) claimed that certain Redback products infringed five identified Nortel patents and requested that Redback enter into a royalty bearing license agreement. Redback filed a complaint against Nortel in Federal District Court, Northern District of California in December 2001 and

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amended that complaint in March 2002, seeking a judgment that the identified Nortel patents are invalid and unenforceable, and that Redback does not infringe any valid claim of those patents. Nortel has answered the amended complaint and has filed a counter claim alleging that Redback infringed the five identified Nortel patents. In June 2002, the parties agreed to drop one of the five patents from the lawsuit. Because of the uncertainties related to both the amount and potential range of loss on the pending litigation, management is unable to make a reasonable estimate of the liability that could result from an unfavorable outcome. Were an unfavorable ruling to occur, there exists the possibility of a material impact on our business, results of operations, financial condition and cash flow.

In July 2001, plaintiffs filed a shareholder class action lawsuit against Redback and its former officers in the United States District Court for the Southern District of New York. The lawsuit asserts, among other claims, violations of the federal securities laws relating to how Redback’s underwriters of the initial public offering allegedly allocated IPO shares to the underwriters’ customers. In March 2002, the United States District Court for the Southern District of New York entered an order approving the joint request of the plaintiffs and Redback to dismiss the claims without prejudice. On April 20, 2002, plaintiffs filed a consolidated amended class action complaint against Redback and its current and former officers and directors, as well as certain underwriters involved in Redback’s initial public offering. On July 15, 2002, the issuers filed an omnibus motion to dismiss for failure to comply with applicable pleading standards. On October 8, 2002, the Court entered an Order of Dismissal as to the individual defendants in the Redback IPO litigation, without prejudice. On February 19, 2003, the Court denied the motion to dismiss Redback’s claims. Although the outcome of this lawsuit cannot be predicted with certainty, we believe we have meritorious defenses and intend to defend the action vigorously. We do not believe that it will have a material adverse effect on our financial condition. Were an unfavorable ruling to occur, there exists the possibility of a material impact on business, results of operations, financial condition and cash flow.

Item 4.    Submission of Matters to a Vote of Security Holders

None.

Item 4A.    Executive Officers of the Registrant

Kevin A. DeNuccio has served as president and chief executive officer and as a member of the Board of Directors of Redback since August 2001. Prior to that, Mr. DeNuccio was with Cisco Systems Inc. from August 1995 to August 2001, where he served as senior vice president of worldwide service provider operations. During his tenure at Cisco, Mr. DeNuccio also managed worldwide field operations, including all sales and engineering support organizations. Prior to joining Cisco, Mr. DeNuccio was the founder, president and chief executive officer of Bell Atlantic Network Integration, Inc., a wholly owned subsidiary of Bell Atlantic (now Verizon Communications). Mr. DeNuccio has also held senior management positions at both Unisys Corporation and Wang Laboratories as vice president in their network integration and worldwide channel partner businesses. Mr. DeNuccio received his finance degree from Northeastern University and is a graduate of the Executive M.B.A. program at Columbia University.

Ebrahim Abbasi serves as the Senior Vice President of Operations and Information Technology at Redback Networks. Prior to joining Redback, Mr. Abbasi was vice president of operations at Zhone Technologies from

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January 2000 to June 2001. Mr. Abbasi also spent three years at Ascend Communications during which time Ascend was acquired by Lucent Technologies. His roles at Ascend and Lucent included, vice president of west coast operations for Ascend, vice president of west coast operations for Lucent InterNetworking Systems and vice president of operations for Lucent Access Products Division from December 1997 to April 2000. Mr. Abbasi holds a Master of Science and a Bachelor of Science degree in Electrical Engineering.

Georges Antoun is the senior vice president of engineering, product management and marketing at Redback, responsible for corporate marketing, product management and product marketing, as well as strategy, business development and engineering. Before joining Redback in August 2001, Mr. Antoun spent the preceding five years, from July 1996 to August 2001, at Cisco Systems Inc., where he served as vice president of worldwide systems engineering and field marketing, vice president of worldwide optical operations and, more recently, as vice president of carrier sales. Mr. Antoun has also held senior management positions at Newbridge Networks and Nynex (now Verizon Communications), where he was part of their Science and Technology Division. Mr. Antoun holds a B.S. degree in Engineering from the University of Louisiana at Lafayette and an M.S. degree in Information Systems Engineering from New York Polytechnic University.

Joel M. Arnold, senior vice president of field operations since January 2002, is responsible for all field and customer activities including, worldwide sales, system engineering, sales operations and customer service. Prior to joining Redback, Mr. Arnold was with Qwest Communications from June 1998 to December 2001, and most recently served as Qwest’s executive vice president of global business sales. Prior to that, he served as Qwest’s senior vice president of global business markets, senior vice president of general business, and regional vice president of national accounts. From June 1997 to June 1998, Mr. Arnold was the co-founder of the software company, Global Mobility Systems, and served as vice president of business development and product management. For ten years prior to that, Mr. Arnold served in a variety of sales and marketing positions for GTE (now Verizon Communications), most recently as their director of data strategy. Mr. Arnold holds a B.A. degree in Economics from the University of Washington.

Thomas L. Cronan III has served as our senior vice president of finance and administration and chief financial officer since January 2003. Mr. Cronan began at Redback in April 2001 as vice president and general counsel. From June 2000 to March 2001, Mr. Cronan served as vice president and general counsel US at Entrust Technologies Inc. / enCommerce, Inc. From February 1998 to June 2000, Mr. Cronan served as Vice President, General Counsel and Secretary at enCommerce, Inc. en Commerce merged with Entrust in June 2000. Mr. Cronan served in both public and private high technology companies for more than 15 years including IBM, OpenTV, Taligent and enCommerce, and was special counsel at Wilson Sonsini Goodrich and Rosati in their Technology Licensing group. Mr. Cronan holds a J.D. from Fordham Law School and a B.S. from Muhlenberg College and is a member of the bar in New York, California and Connecticut.

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PART II

Item 5.    Market for Registrant’s Common Equity and Related Stockholder Matters

Redback common stock is traded on the Nasdaq National Market under the symbol “RBAK.” Redback began trading on the Nasdaq on May 18, 1999, the date of its initial public offering. The following table sets forth the range of high and low bid prices, as restated to give effect to the two 2-for-1 stock splits effected in August 1999 and April 2000, reported on the Nasdaq National Market for Redback common stock for the periods indicated.

As of March 11, 2003, there were approximately 66,946 beneficial owners and 898 holders of record of Redback common stock.

Dividend Information

Redback has never paid any cash dividends on its stock, and anticipates that for the foreseeable future it will continue to retain any earnings for use in the operation of its business.

Sales of Unregistered Securities

In December 2002, we retired $10.0 million in aggregate principal of our convertible notes by issuing to the holders of the convertible notes 3.6 million shares of our common stock, valued at approximately $2.7 million, in exchanges exempt from registration pursuant to Section 3(a)(9) of the Securities Act of 1933.

On May 21, 2002, we entered into an agreement whereby we sold 17,723,297 shares of common stock to Nokia Finance International BV (“Nokia”) for an aggregate purchase price of approximately $34.3 million, net of issuance costs of $1.5 million pursuant to a Common Stock and Warrant Purchase Agreement. The underwriter involved in the transaction was Credit Suisse First Boston. The securities were issued in reliance upon the exemption from registration provided by Regulation D, as promulgated by the U.S. Securities and Exchange Commission under the Securities Act of 1933, as amended, based on the fact that the offering met the requirements of Regulation D such that the common stock sold by the issuer was in a sale not involving a public offering.

We also issued to Nokia a Common Stock Purchase Warrant (the “Warrant”) allowing Nokia the right to purchase an additional number of shares of common stock up to an aggregate of approximately 31.9 million shares of common stock. The Warrant’s exercise price will be the closing price of our common stock on the date of exercise. The Warrant may be exercisable during three different periods as follows: (1) for the ten business days beginning two business days after the public announcement by us of our earnings for the year ended December 31, 2002, (2) for the ten business days beginning on May 21, 2003, which is the twelve month anniversary of the Closing Date, and (3) for the ten business days beginning on November 21, 2003, which is the eighteen month anniversary of the Closing Date. Because Nokia did not satisfy its purchase obligations under the Warrant, the first opportunity for Nokia to exercise this warrant will be May 21, 2003. As a result of the Purchase Agreement, Nokia has elect one member to the Company’s Board of Directors.

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Equity Compensation Plan Information

The following table gives information about our common stock that may be issued upon the exercise of options, warrants and rights under all of our existing equity compensation plans as of December 31, 2002. Footnote (5) to the table sets forth the total number of shares of our common stock issuable upon exercise of options, as of December 31, 2002, granted pursuant to equity compensation plans that we assumed in connection with acquisitions, and the weighted average exercise price of those options. No additional options may be granted under those assumed plans.

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Item 6.    Selected Financial Data

The following selected financial data should be read in conjunction with Redback’s financial statements and related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this Form 10-K.

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Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Annual Report—in particular Item 1 (the Business section) and Item 7 (Management’s Discussion and Analysis of Financial Condition and Results of Operations)—contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 (which is codified in Section 21E of the Securities Exchange Act of 1934 and Section 27A of the Securities Act of 1933). When we use the words, “anticipate,” “estimate,” “project,” “intend,” “expect,” “plan,” “believe,” “should,” “likely” and similar expressions, we are making forward-looking statements. In addition, forward-looking statements in this report include, but are not limited to, statements about our beliefs, estimates or plans regarding the following topics: our product and marketing strategy; our estimated revenue in 2003; our expected gross margins in 2003; future R&D and SG&A expenses; expected sublease income; interest income and the cash requirement for interest expense; our estimated future capital expenditures of $10.0 million; and our belief that cash and cash equivalents will be sufficient to fund our operations through at lease the next 12 months. These forward-looking statements, wherever they occur in this report, are estimates reflecting the best judgment of the senior management of Redback. These forward-looking statements involve a number of risks and uncertainties that could cause actual results to differ materially from those suggested by the forward-looking statements. Forward-looking statements should, therefore, be considered in light of various important factors, including those set forth in this report under the caption “Risk Factors” and elsewhere in this report. Moreover, we caution you not to place undue reliance on these forward-looking statements, which speak only as of the date they were made. We do not undertake any obligation to publicly release any revisions to these forward-looking statements to reflect events or circumstances after the date of this report or to reflect the occurrence of unanticipated events. All subsequent forward-looking statements attributable to Redback or any person acting on our behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this report.

Background

Redback Networks Inc. is a leading provider of advanced networking systems that enable broadband service providers to rapidly deploy high-speed access to the Internet and corporate networks. Our product lines, which consist of the Subscriber Management System (“SMS^™”) and the SmartEdge^™ product families, combine networking hardware and software. These product families are designed to enable our customers to create  end-to-end regional and national networks that support major broadband access technologies, as well as the new services that these high-speed connections support.

The following is a summary of significant events and transactions in 2002. The events outlined in this summary are more fully described elsewhere in this document or in previous filings with the SEC.

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During 2002, we used approximately $108.5 million of cash flow from operating activities, much of which was used to purchase inventory and settle related claims and commitments and fund our 2002 net loss. Our cash and equivalents, short-term investments and restricted cash and investments at December 31, 2002 were $116.0 million, of which $89.5 million was unrestricted.

Results of Operations

Years Ended December 31, 2002 and 2001

Net Revenue.    Our net revenue decreased 45% to $125.6 million in 2002 from $227.5 million in 2001, which included a reduction in quarterly revenue from a high during 2001 of $90.9 million in the first quarter of 2001 to a low in 2002 of $17.4 million in the third quarter of 2002. The decrease from 2001 to 2002 was primarily a result of decreased product revenue. During 2002, there was a 39% decrease in our SMS revenue to $81.6 million and a 69% decrease in our Smart Edge revenue to $22.0 million. Substantially all the SMS revenue decline related to lower aggregate unit volumes of SMS 1800, SMS 1000 and SMS 500, offset in part by a higher aggregate unit volumes of SMS 10000 and SMS 10000 SL. The decrease in SmartEdge revenue primarily resulted from a 92% decrease in our Smart Edge Transport revenue from $70.1 million in 2001 to $5.7 million in 2002, offset in part by the inclusion of a full year of revenue for our Smart Edge Router in 2002 compared to one quarter of revenue in 2001, since the product was introduced in the fourth quarter of 2001. Service revenue remained fairly consistent year over year and was $22.0 million in 2002 compared to $23.1 million in 2001.

Overall, this revenue was substantially lower than the sales we had anticipated coming into 2002, primarily as a result of lower than anticipated deployments of our products by our customers, as the networking business specifically, and the economy, in general, continued to slow down in 2002. We currently have limited visibility into our business prospects. On a forward-looking basis, we are planning our business on the assumption that annual revenue in 2003 will be fairly consistent with our experience in 2002. In order to achieve projected 2003 annual revenue, our quarterly revenue must increase from revenue of approximately $27.6 million in the fourth quarter of 2002. This revenue growth assumes: (1) stabilization of our SMS business; and (2) growing acceptance for our Smart Edge Router product. A sustained reduction in our quarterly revenue would require us to further  re-evaluate our business investment and resource levels.

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Cost of Revenue; Gross Profit.    Gross profit (loss) improved from (23)% in 2001 to 3% in 2002, primarily as a result of lower charges for excess and obsolete inventory, product cost improvements, a higher percentage of SMS and Smart Edge Router sales which typically have standard margins over 50%, compared with SmartEdge Transport products that typically realize lower margins, and a decrease in other manufacturing costs, offset in part by increased charges for the amortization of intangibles assets due to the change in the estimate of useful lives for certain of our purchased technology. Amortization charges increased from $6.1 million in 2001 to  $10.9 million in 2002.

We took charges for excess and obsolete inventory and related claims and commitments of $34.4 million and $142.6 million in the years ended December 31, 2002 and 2001, respectively. The 2002 excess and obsolete inventory charges resulted from reductions in forecasted revenue and reactions to current market conditions. The 2001 charges for excess and obsolete inventory and related claims and commitments resulted from inventory purchases that we made directly or commitments to our contract manufacturers that were made to meet demand that was anticipated in 2001 before we experienced a sudden and significant decrease in our forecasted revenue. The charges for 2002 and 2001 resulted from the comparison of on hand, on order and committed inventories to various factors including reductions in our anticipated demand.

The lower level of manufacturing overhead resulted from lower departmental spending in our manufacturing and customer support organizations in 2002 as we began to scale down our operations to support the lower levels of business we were experiencing in 2002.

On a forward-looking basis, we are planning our business based on the assumption that our gross margin will increase from the 35% gross margins reported in the fourth quarter of 2002. However, gross profit (loss) could be lower, subject to the factors below:

Operating expenses and headcount.    A significant amount of our departmental spending relates to salaries and related costs. Following is a breakdown of our headcount:

Research and Development.    Our research and development (“R&D”) expenditures include salary related expenses for our engineering staff, costs for engineering equipment and prototypes and other departmental expenses. Our R&D expenditures decreased 20% to $86.0 million for the year ended December 31, 2002 from $107.6 million in the prior year comparative period, and represented 68% and 47% of net revenue in the years ended December 31, 2002 and 2001, respectively. The decrease in our expenses is primarily due to a decrease in prototype spending, equipment related expenses, a decrease in salary and related costs consistent with the decrease in our R&D headcount, and a decrease in the use of consultants. Additionally, in the three months ended

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June 30, 2002, we scaled back our investment in the intelligent transport market, which resulted in some redeployment of resources and a reduction in R&D spending. Further impacting R&D expenses in the year ended December 31, 2002 is approximately $4.2 million of expense related to the abandonment of assets due to the business outlook and the downsizing efforts we underwent in the second quarter of 2002. Because the market for our products involves rapidly changing technology, industry standards and customer demands, our R&D expenses will most likely fluctuate in future periods both in absolute dollars spent and as a percentage of revenue. We continue to re-evaluate our product strategy, which may result in realignment or reductions in R&D resources or a change in the mix of skills with our staff.

Selling, General and Administrative.    Selling, general and administrative (“SG&A”) expenses include salaries and related costs for our non-engineering staff in sales, marketing, and administration, office and equipment related expenditures including depreciation of property and equipment, costs for operating leases and office supplies, professional services including audit, tax, legal and non-engineering consulting fees, promotions and advertising, and selling expenses. Our SG&A expenditures decreased 35% to $72.2 million for the year ended December 31, 2002 from $110.8 million in the prior year comparative period, and represented 57% and 49% of net revenue in the years ended December 31, 2002 and 2001, respectively. The decrease in our costs is primarily due to the decrease in selling and related expenses and salary and related costs consistent with the decrease in our SG&A headcount and a decrease in our sales-related travel expenditures consistent with decreased revenue. Additionally, in the second and fourth quarters of 2002, we scaled back our SG&A expenses primarily through headcount reductions. Further impacting SG&A expenses in the year ended December 31, 2002 is approximately $5.3 million of expense related to the abandonment of assets due to the business outlook and the downsizing efforts we underwent in the second and fourth quarters of 2002. We expect our SG&A expenses to fluctuate in future periods in both absolute dollars and as a percentage of revenue. In the current market, we continue to evaluate our SG&A resource needs, and took action to reduce our SG&A headcount in the second and fourth quarters of 2002. We continue to change the mix of skills within our staff as our business needs change.

Restructuring Charges

Consolidation of facilities.    During 2001, we recorded a $96.6 million restructuring charge for the estimated costs to terminate or sublease excess facilities. This estimate was based upon current comparable market rates for leases and anticipated dates that these properties are subleased. Expected sublease income on

all facilities included in our estimates is $42.3 million. Should facilities rental rates continue to decrease in these markets or should it take longer than expected to sublease these facilities, the actual loss could exceed these estimates. We continue to evaluate and review our restructuring accrual for any indications in the market that could require us to change our assumptions for the restructuring accruals already recorded.

In June 2002, we surrendered 147,000 square feet of excess office space in Canada. The transaction did not significantly change our previous estimates for our restructuring accrual, as the effect was substantially offset by additional accruals caused by the continued depressed real estate market in Santa Clara County California.

Workforce reductions.    In October 2002, we reduced our workforce by 114 people, and recorded a charge of $2.0 million for termination benefits and $709,000 for property and equipment during the three months ended December 31, 2002. In May and June 2002, we reduced our workforce by 76 people, and recorded a charge of $1.6 million for these termination benefits during the three months ended June 30, 2002.

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Our restructuring reserves are summarized as follows (in thousands):

The current and long-term portions of the restructuring related reserves are $16.3 million and $54.3 million, respectively. These amounts are being included on the balance sheet within accrued liabilities and other long-term liabilities, respectively.

Amortization of Intangible Assets and Impairment of Goodwill.    Amortization of intangible assets decreased from $994.2 million in 2001 to $1.1 million in 2002 due primarily to the adoption of Statement of Financial Accounting Standard (“SFAS”) No. 142 Goodwill and Intangible Assets on January 1, 2002. In accordance with SFAS 142:

As a result of the sustained decline in our business and reduced forecasts for future periods, we performed an impairment review of our goodwill and other intangible assets in the three months ended September 30, 2001.

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Based on the discounted cash flow analysis, we recorded an impairment charge of $2,689.9 million related to goodwill during the three months ended September 30, 2001. This reduction resulted from the sustained decline in our market capitalization and the uncertain outlook for our business consistent with the telecommunications industry during that time.

Stock-Based Compensation.    Stock-based compensation decreased 85% to $8.3 million in 2002 from $54.9 million in 2001. In the year ended December 31, 2001, stock-based compensation can be attributed to the assumption of stock option grants from acquisitions, stock option grants made below fair market value to certain key employees, and additional compensation recorded for the accelerations of stock options vesting for certain terminated employees. In the year ended December 31, 2002, stock-based compensation primarily includes approximately $6.3 million from the 2000 and 2001 assumption of stock options grants in connection with the Abatis and Merlin acquisitions and the initial public offering and $2.0 million from stock option grants made below fair market value to certain key employees. The decrease in stock-based compensation expense in the current year period can be attributed to our accelerated amortization methodology and the reductions in work force.

Due to the stock price on the last trading day of the year (December 31, 2002), there was no stock-based compensation recorded for the voluntary stock option replacement program. In future periods, stock-based compensation using variable accounting relating to the voluntary stock option replacement program may impact results significantly from period to period.

Interest and Other Income(Expense).    Interest and other income (expense) includes the following (in thousands):

Interest and other income (expense) decreased 101% from income of $23.2 million in 2001 to expense of $347,000 in 2002. Included in interest and other income in the year ended December 31, 2001 was an $11.4 million impairment charge for certain of our minority investments. Also included in interest and other income in 2001 was a $10.4 million gain on the early extinguishment of debt as a result of our repurchase of approximately $22.5 million of our 5% Convertible Subordinated Notes (“Convertible Notes”) originally issued in March 2000. As a result of the adoption of SFAS No.145, Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections in 2002, the extraordinary gain recorded on the extinguishment of debt in the fourth quarter of 2001 has been reclassified as part of interest and other income in the comparative 2002 financial statements. The remaining balance in interest and other income in 2001 includes interest income of $24.7 million and other expense of $396,000.

In 2002, interest and other income included a $2.7 million charge as required by SFAS No. 84, Induced Conversions of Convertible Debt , in connection with the retirement of $10.0 million aggregate principal of our Convertible Notes by issuing 3.6 million shares of our common stock valued at approximately $2.7 million. See further discussion in “Liquidity and Capital Resources.” Also included in interest and other income was $1.0 million in loss on hedge ineffectiveness, which was recorded in connection with our interest rate swaps. In May 2002, we entered into two interest rate swaps for our Convertible Notes to change the interest characteristic of

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our fixed rate debt to a variable rate of 3-month LIBOR plus 40 basis points. In August 2002, we terminated our two interest rate swap agreements realizing cash proceeds of approximately $20.3 million, including a $17.4 million gain that is being amortized as an offset to interest expense over the remaining term of the Convertible Notes. We also entered into a new interest rate swap agreement for our Convertible Notes to change the interest characteristic of our fixed rate debt to a variable rate of 3-month LIBOR plus 145 basis points. In October 2002, we terminated this interest rate swap agreement realizing cash proceeds of approximately $5.1 million, including a $4.4 million gain that is being amortized as an offset to interest expense over the remaining term of the Convertible Notes. The gains are recorded within Convertible Notes on the balance sheet. We did not choose to re-enter into a new swap agreement given the current volatility in interest rates. The remaining balance in interest and other income of $3.9 million was primarily comprised of $4.3 million in interest income from cash and equivalents, short-term investments and restricted cash and investments and $883,000 of other expense.

The change in interest income from $24.7 million in 2001 to $4.3 million in 2002 was due primarily to a decrease in interest rates and the decrease in our invested funds from $178.8 million at December 31, 2001 to $116.0 million in 2002.

We expect interest income to decrease as a result of the expected use of our cash to fund operations.

Interest Expense.    Interest expense decreased 27% to $19.7 million in 2002 from $27.1 million in 2001. Interest expense resulted primarily from the issuance in March 2000 of our Convertible Notes. The decrease in interest expense from the prior year comparative period is due primarily to:

On a forward-looking basis, we anticipate that the cash requirement for interest expense will be approximately $6.0 million on a quarterly basis.

Provision for Income Taxes.    No significant provisions for income taxes have been recorded, as we have incurred net losses since inception.

Results of Operations

Years Ended December 31, 2001 and 2000

Net Revenue.    Our net revenue decreased 18% to $227.5 million in 2001 from $278.0 million in 2000, which included a reduction in quarterly revenue from a high of $114.6 million in the fourth quarter of 2000 to a low of $37.0 million in the third quarter of 2001. The decrease was primarily a result of a 41% decrease in our SMS revenue to $135.9 million, offset in part by a 77% increase in our SmartEdge revenue to $70.6 million. Substantially all the SMS revenue decline related to lower aggregate unit volumes in 2001 compared to 2000, with average selling prices on the higher volume products generally staying stable. The higher SmartEdge revenue resulted from the inclusion of a full year of revenue in 2001 compared to two quarters in 2000 since the SmartEdge Transport product was introduced in mid 2000. Average SmartEdge selling prices remained essentially flat year-to-year.

This revenue was substantially lower than the sales we had anticipated coming into 2001 as a result of lower than anticipated deployments of our products by our customers, as the networking business specifically, and the economy generally, slowed down in 2001.

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Cost of Revenue; Gross Margin.    Gross margin decreased from 60% in 2000 to a negative 23% in 2001, primarily as a result of charges for obsolescence and write downs of excess and obsolete inventory and related claims and commitments and higher manufacturing overhead.

The charges for excess and obsolete inventory and related claims and commitments in 2001 totaled $143 million compared to $3 million in 2000. These substantially increased inventory charges resulted from inventory purchases that we made directly or commitments to our contract manufacturers to meet demand that was anticipated in 2001 before we experienced a sudden and significant decrease in our forecasted revenue. The charges resulted from the comparison of on hand, on order and committed inventories to our anticipated 12 months demand.

The higher level of manufacturing overhead resulted from higher departmental spending in our manufacturing and customer support organizations in the first half of 2001 as we built our organization to support the higher levels of business we were anticipating in 2001, plus cancellation fees we paid to our contract manufacturers for costs related to canceling committed orders when our business slowed down.

Operating expenses and headcount.    A significant amount of our departmental spending relates to salaries and related costs. Following is a breakdown of our headcount:

Research and Development.    Our research and development (“R&D”) expenditures include salary related expenses for our engineering staff, costs for engineering equipment and prototypes and other departmental expenses. Our R&D expenditures increased 24% to $107.6 million in 2001 from $86.7 million in 2000, and represented 31% and 47% of net revenue in 2000 and 2001, respectively.

Following are summaries of significant components and changes in our R&D spending between 2000 and 2001:

Selling, General and Administrative.    Selling, general and administrative (“SG&A”) expenses include salaries and related costs for our non-engineering staff in sales and marketing, office and equipment related expenditures including depreciation of property and equipment, costs for operating leases and office supplies, professional services including audit, tax, legal and non-engineering consulting fees, promotions and advertising, and selling expenses. Our SG&A expenditures increased 35% to $110.8 million in 2001 from $82.3 million in 2000, and represented 30% and 49% of net revenue in 2000 and 2001, respectively. SG&A salaries and related costs remained essentially flat between 2000 and 2001, but represented approximately 48% of 2001 SG&A compared to 64% in 2000. The increase in non-salary related SG&A spending from 2000 to 2001 is due primarily to increased costs for rental and depreciation charges relating to the new facilities that we occupied in early 2001 and increased expenses for demonstration equipment. Also included in SG&A is a write-off of fixed assets of approximately $6 million in 2001.

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Restructuring Charges.    We experienced a significant decline in our revenue as a result of lower than anticipated deployments of our products by our customers, as the networking and telecommunications business specifically, and the economy generally, slowed down in 2001. To size our business to these economic realities, we took the following restructuring actions in 2001:

Our restructuring related reserves are summarized as follows (in thousands):

The current and long-term portions of the restructuring related reserves are $12.6 million and $80.6 million, respectively.

Amortization of Intangible Assets and Impairment of Goodwill.    Amortization of intangibles increased 5% from $945 million in 2000 to $994 million in 2001 due to increased amortization of other intangibles from the acquisition of Merlin and a full year’s worth of amortization of goodwill and other intangibles from the acquisitions of Abatis and Siara. As a result of the sustained decline in our business and reduced forecasts for future periods, we performed an impairment review of our goodwill and other intangibles in the third quarter of 2001. Based on a discounted cash flow analysis, we recorded an impairment charge of $2.7 billion related to goodwill during the third quarter of 2001. This reduction resulted from the then recent sustained decline in our market capitalization and uncertain near-term outlook for our business, consistent with the telecommunications industry.

Stock Compensation Expense.    Stock compensation expense increased 126% to $54.9 million in 2001 from $24.3 million in 2000. The increase resulted from the assumption of stock option grants in connection with the Abatis and Merlin acquisitions, stock option grants made below fair market value to certain key employees, the acceleration of vesting of options held by certain terminated employees, and the voluntary stock option replacement program. In future periods, we will record stock compensation expense using variable accounting, which may fluctuate significantly from period to period, as a result of the voluntary stock option replacement program.

Interest and Other Income.    Interest and other income decreased to $23.2 million in 2001 from  $25.9 million in 2000 due primarily to:

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Interest Expense.    Interest expense increased 26% to $27.1 million in 2001 from $21.5 million in 2000 due primarily to a full year’s interest expense arising from our issuance of $500 million of Convertible Notes in March 2000.

Provision for Income Taxes.    No material provisions for income taxes have been recorded, as we have incurred net losses since inception.

Significant Accounting Policy Judgments and Estimates

The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires that we make estimates and judgments, which affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to sales returns, bad debts, inventories, investments, intangible assets, income taxes, warranty obligations, restructuring charges, contingencies such as litigation, and contract terms that have multiple elements and other complexities typical in the telecommunications equipment industry. We base our estimates on historical experience and other assumptions that we believe are reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.

We believe the following critical accounting policies affect the more significant judgments and estimates used in the preparation of our financial statements.

Revenue recognition.    We recognize revenue, generally upon shipment, when all four of the following criteria are met: