E TEK DYNAMICS INC, 10-K, 1999-08-17

E TEK DYNAMICS INC
10-K, 1999-08-17
SEMICONDUCTORS & RELATED DEVICES

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<PAGE>

SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549

--------------------

FORM 10-K

[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the Fiscal Year Ended June 30, 1999 Commission File No.000-25103

or
--

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the transition period from _________________ to

E-TEK Dynamics, Inc.
(Exact name of registrant as specified in its charter)

Delaware 59-2337308
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)

1865 Lundy Avenue
San Jose, California 95131
(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code (408) 546-5000

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

Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.001
par value.

Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
---- ----
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]

The aggregate market value of the Registrant's Common Stock held by non-
affiliates, based upon the closing price of the Common Stock on August 10, 1999,
as reported by the Nasdaq National Market, was approximately $721,950,385. The
determination of affiliate status for purposes of this calculation is not
necessarily a conclusive determination for other purposes.

As of August 10, 1999, 62,290,313 shares of the Registrant's Common Stock
were outstanding.
<PAGE>

E-TEK Dynamics
Form 10-K
For the Fiscal Year Ended June 30, 1999
Table of Contents

<TABLE>
<CAPTION>
Page
----
<C> <S> <C>
Part I
- ------

Item 1. Business................................................................. 2
Item 2. Properties............................................................... 7
Item 3. Legal Proceedings........................................................ 7
Item 4. Submission of Matters to a Vote of Security Holders...................... 8

Part II
- -------

Item 5. Market for Registrant's Common Stock and Related Stockholder Matters..... 8
Item 6. Selected Financial Data.................................................. 9
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.......................................................... 9
Item 7A. Quantitative and Qualitative Disclosures About Market Risk............... 21
Item 8. Financial Statements and Supplementary Data.............................. 23
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure............................................................. 42

Part III
- --------

Item 10. Directors and Executive Officers of E-TEK Dynamics....................... 43
Item 11. Executive Compensation................................................... 46
Item 12. Security Ownership of Certain Beneficial Owners and Management........... 46
Item 13. Certain Relationships and Related Transactions........................... 47

Part IV
- -------

Item 14. Exhibits, Financial Statement Schedule, and Reports on Form 8-K.......... 48

Exhibit Index............................................................ 48
Signatures............................................................... 49
</TABLE>
<PAGE>

Certain statements contained in this Annual Report on Form 10-K, including,
without limitation, statements containing the words "believes," "anticipates,"
"estimates," "expects," and words of similar import, may constitute forward
looking statements within the meaning of the Private Securities Litigation
Reform Act of 1995. Readers are referred to the Risk Factors section in this
report and to the risk factors set outlined in our Registration Statement on
Form S-1 (File No. 333-83857) which describes factors that could cause actual
events to differ from those contained in the forward looking statements.

ITEM 1: Business

Overview

We design, manufacture and sell high quality fiber optic components and
modules for optical networks. Optical networks are being deployed by
telecommunications service providers like AT&T and MCI WorldCom to address the
demand for applications such as Internet access, e-mail, and electronic commerce
that require high capacity, high speed data transmission. Our products are
designed into optical systems built for these service providers' networks by
telecommunications equipment manufacturers. Our products guide, route or amplify
the light signals which transmit data within the network and include:

. narrowband wavelength division multiplexers, commonly referred to as WDMs,
which allow multiple communication signals to be carried on one fiber optic
connection;

. wideband wavelength division multiplexers, which are used in optical
amplifiers to differentiate signals or enhance performance;

. isolators, which act as one-way valves for optical signals, preventing the
light from traveling in the wrong direction;

. couplers, which are used to combine or split optical signals; and

. micro-optic integrated components, which combine two or more of the above
optical component functions into a single package.

Our products are deployed in land-based and undersea long distance networks,
as well as in cable and metropolitan area networks. Our customers include many
of the leading telecommunications equipment manufacturers, including Alcatel,
CIENA, Corning, Fujitsu, Lucent, Nortel and Pirelli.

Industry Background

In order to meet the increase in demand for high capacity, high speed data
transmission, networks have been evolving to optical technologies which offer
several advantages. Within optical networks, transmission signals travel in the
form of light at very high speeds. Additionally, each light signal can be
divided into different colors or wavelengths. Each data-carrying wavelength can
then be transmitted together with a large number of other wavelengths. This
technology is known as wavelength division multiplexing, which is commonly
referred to in the industry as WDM.

Another important technology is the amplification of the optical signal. This
is accomplished using optical amplifiers. Optical amplifiers create cost savings
for service providers by reducing the need for expensive equipment that converts
the optical signal to and from an electrical signal.

Our components are the building blocks for WDM and optical amplifier systems,
and, therefore, many of them are necessary to enable optical networking.

Many service providers have increased the capacity of their networks by
installing fiber optic cable for long distance routes and, more recently, for
metropolitan area networks. However, the rapid increase in demand for high
capacity, high speed data transmission has created capacity constraints
throughout these networks. As service providers seek to address these capacity
constraints by installing new fiber or expanding the transmission capacity of
existing fiber, we expect the demand for fiber optic components and modules to
increase.

2
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Today, service providers can address their capacity constraints by either
installing new fiber or expanding the transmission capacity of existing fiber.
The expansion of transmission capacity can be accomplished by utilizing
technologies such as time division multiplexing and, more recently, WDM. Time
division multiplexing increases the transmission speed of optical signals
whereas WDM increases the number of optical signals transmitted simultaneously
on a single fiber. Regardless of the method used for addressing capacity
constraints, we expect the demand for optical networking equipment, including
components, modules and systems, to increase.

This increase in demand is driven by the service providers' need to provide
subscribers with more services at lower costs. We are focused on building on our
position as a leading supplier of fiber optic components and modules in order to
capture additional growth opportunities in the marketplace.

Company Strategy

Our goal is to provide a broad range of high quality components in large
volumes for the telecommunications and cable markets. To meet this goal, we plan
to:

. Maintain and Expand Our Technology Leadership. We intend to continue to
invest in new product development and product enhancements that will drive
the growth of optical systems. As of June 30, 1999, we had over 100 U.S.
patents issued and pending. We currently focus our product development
efforts on components for growth areas such as WDM, optical amplification
and optical switching. Our long-term goal is to supply the enabling optical
components that will allow networks to avoid the need for the costly
conversions between optical and electrical signals.

. Design and Build Increasingly Integrated Components and Modules. We intend
to continue expanding our product line with increasingly integrated
components and modules. Expertise that we have developed in the design of
our current components will help us to develop new and more integrated
products. Additionally, we believe that there is growing demand from
telecommunications equipment manufacturers for more integrated components
and modules. Integration provides many benefits to our customers, including
cost reductions as well as performance and reliability improvements. In
addition, these integrated components allow telecommunications equipment
manufacturers to design smaller systems.

. Strengthen Existing and Develop New Customer Relationships. We believe that
our strong customer relationships are a competitive advantage that enable
us to more effectively target our product development and manufacturing
efforts. We have established relationships with key telecommunications
equipment manufacturers by working as a partner to solve their product
needs. We intend to strengthen our existing customer relationships by
continuing to deliver a high level of service and capitalize on our
reputation for high quality products to penetrate new key accounts.

. Increase Presence in Metropolitan Area and Cable Markets. We plan to extend
beyond our traditional long distance markets into new markets, such as
metropolitan area and cable networks. We believe that technological
advancements and cost reductions in optical components and modules are
beginning to enable the growth of optical networking into these markets.

. Enhance and Expand Manufacturing Capabilities. Telecommunications equipment
manufacturers are increasingly demanding higher volumes of components with
shorter delivery lead times, higher quality and lower price. To meet these
demands, we have been increasing our manufacturing capacity, investing in
automated manufacturing processes and adding lower cost, offshore
manufacturing facilities.

. Expand Sales and Marketing Efforts. The target customer base for our
optical components and modules requires a focused sales and marketing
effort. We believe it is necessary to expand these efforts to improve
service to existing customers and to effectively target new customers. We
intend to selectively expand our direct sales force and network of
independent sales representatives to serve existing customers and to pursue
additional customer opportunities.

. Pursue Complementary Acquisitions. To enhance our internal development, we
intend to actively pursue acquisitions of complementary products,
technologies and businesses. We have made two acquisitions to date and have
signed an agreement to buy a third company. We plan to pursue opportunities
that contribute new technologies and products, low cost manufacturing
capabilities, or broadened customer relationships.

3
<PAGE>

Technology and Products

Fiber optic systems manufactured by our customers are used to send and receive
communications signals. This requires transmitting, amplifying, multiplexing,
isolating, routing, monitoring and receiving optical signals, which are
typically carried by individual wavelengths of light. Many of the capabilities
for these functions are enabled at the component level. We have developed a
broad range of components to address these needs within optical networks.

Our products are divided into five main categories: wavelength division
multiplexing (WDM) components and modules, isolators, couplers, micro-optic
integrated components and other products.

WDM Components and Modules. We manufacture a number of different WDM
components and modules. Our narrowband WDM multiplexer combines light sources of
different wavelengths for simultaneous transmission along a single fiber. We
also manufacture wideband WDM components for use in optical amplifiers. Wideband
WDM components combine and separate wavelengths that are far apart, such as a
transmission signal and an amplifying signal.

Most of our WDM components use thin film filters to enable the transmission of
specific optical wavelengths and the reflection of others. Thin film filters
employ various coatings on glass to discriminate between wavelengths. This
technology offers accuracy in separating wavelengths, low signal loss, and
insensitivity to temperature change.

Isolators. We currently offer a wide range of isolator products, including a
high reliability isolator for undersea networks. An isolator prevents reflected
signals from traveling past it in the wrong direction while still allowing the
unimpeded passage of signals in the original direction. Our isolators offer low
signal loss, which means that a high percentage of light passes through and only
small amounts of light are lost.

Couplers. We offer several types of couplers, which combine or split optical
signals. Couplers are often used to tap off a small portion of a light stream
for monitoring purposes or to distribute the signal to multiple points. We have
developed a patented technology called Unifuse, which we believe produces more
robust and reliable couplers.

Micro-Optic Integrated Components. Micro-optic integrated components are
modules that integrate two or more optical component functions into a single
package. These functions include isolator, WDM and coupler functions. For
example, we have developed a product that combines coupler and isolator
functions into a single module for use in optical amplifiers. This integration
reduces the total component count in a system and provides many benefits for our
customers, including:

. decreasing the need to store multiple components;

. reducing the physical dimensions of the system;

. lowering production costs; and

. improving performance and reliability.

We design and manufacture a range of micro-optic integrated components for a
variety of applications.

Other Products. We manufacture a variety of other components and modules
that perform various functions within an optical system. These products include:

. attenuators, which are used to adjust the strength of optical signals;

. circulators, which are used to direct signals;

. switches, which are used to flexibly reroute signals; and

. wavelength lockers, which prevent the drifting of wavelengths at the
transmission point.

4
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Currently, the majority of our products are designed into long distance
networks. We recently began to offer these products for metropolitan and cable
networks, which are areas that we expect will offer growth opportunities in the
future.

Through our recent acquisition of ElectroPhotonics, we have two additional
products for optical networks:

. Dispersion equalization modules, which ensure that an optical signal
arrives cleanly at the end of an optical fiber. Different colors of light
travel along an optical fiber at slightly different speeds, and light
signals that carry information always have some small variation in the
color of the light. The dispersion equalization modules cancel out those
differences in speed so that all the colors of the light signal arrive at
the same time.

. Optical performance monitors, which watch the optical signals passing
through an optical fiber. They count which wavelengths (colors) of light
signals are present. They check to see how strong each wavelength signal is
and whether it is interfering with other signals. As communication systems
move more towards optical networks, these traffic monitors become
increasingly important to prevent "optical gridlock."

Customers

We sell our products primarily to telecommunications equipment manufacturers.
Customers that purchased more than $1 million of our products in fiscal 1999
were:

<TABLE>
<S> <C>
Alcatel Italia Fujitsu
Alcatel ITS Lucent
Alcatel Network Systems MCI WorldCom
Alcatel Submarine Networks NEC
Antec Nortel Networks
CIENA Pirelli
Corning Tyco International
</TABLE>

A small number of customers have historically accounted for a substantial
portion of our net revenues. In fiscal 1999 our three largest customers were
Alcatel and related entities, Corning and Pirelli. During that period, sales to
Alcatel and related entities accounted for 35% of our revenues, sales to Corning
accounted for 17%, and sales to Pirelli accounted for 12%.

Developing strong relationships with telecommunications equipment
manufacturers is a key focus of our sales efforts. We work closely with our
customers from the initial product design through the manufacturing process to
the delivery of the final product. This ongoing level of interaction enables us
to better align our product development efforts with our customers' evolving
product needs.

Optical networking systems companies are beginning to develop next generation
optical networks that will require optical components and modules. We are
dedicating sales and marketing resources to both new and more established
telecommunications equipment manufacturers.

Research and Development

We currently have 117 employees engaged in research and development, including
61 engineers with advanced degrees, 29 of whom have Ph.D.s. We want to continue
to develop core technologies with applications for product solutions in each of
our target markets. Our research and development expenses, excluding purchased
in-process research and development, were $14.7 million for fiscal 1999 and $7.7
million for fiscal 1998. We plan to continue to increase our research and
development budget and staffing levels in fiscal 2000. The focus of our research
and development will be to further broaden the product base and to improve the
manufacturability and performance of existing products.

Manufacturing

We currently manufacture our products at our facilities in San Jose,
California, Ontario, Canada and Taipei, Taiwan. Our in-house manufacturing
capabilities include product design, optical assembly, integration and testing
of our components and modules. We maintain a system of optical assembly stations
located in clean rooms to manufacture custom and standard

5
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products. Customer expectations for innovative product solutions, high volume
capacity, high quality and on-time delivery require flexible manufacturing
processes.

Telecommunications equipment manufacturers require high quality and
reliability in the components incorporated into their systems. We emphasize
quality assurance through ongoing staff training and internal manufacturing
systems and procedures throughout our various manufacturing processes.

The materials that we require for the manufacture of our products are
generally available from several sources, although a number of materials are
available only from sole source suppliers. In the fourth quarter of fiscal 1999,
we experienced a shortage of thin film filters from our suppliers, which caused
delays in shipments, lost orders and reduced revenues. Specifically, the
shortage was related to poor yields during the filter manufacturing process.
Such a shortage could recur in the future. However, we have been expanding our
internal thin film filter manufacturing capacity and are working internally and
with our suppliers in an effort to improve yields.

We intend to increase our level of manufacturing automation and expand into
additional facilities as required. In May 1999, we expanded the size of our San
Jose facilities from approximately 160,000 square feet to approximately 240,000
square feet. We financed this facilities expansion through a combination of cash
flows from operations and equipment financing. In addition to our facilities in
San Jose, we recently acquired or established manufacturing facilities in
Ontario, Canada and Taipei, Taiwan.

Based on the long-term growth outlook of the fiber optic component market, we
plan to continue increasing our manufacturing capacity in North America and
overseas.

Sales and Marketing

We market and sell our products through a network of nine domestic and 15
international sales representatives and distributors. Our sales representatives
and distributors are independent organizations that generally have exclusive
geographic territories and are generally compensated on a commission basis.

We also employ 55 people in sales and marketing who manage key customer
accounts and support our sales representatives and distributors. Our customers
often have unique technical specifications and performance requirements for
components and typically require specific product designs. As a result, our
sales efforts require close cooperation between our independent sales
representatives and distributors and our in-house personnel.

In support of our selling effort, we conduct marketing programs intended to
position and promote our products within the telecommunications industry.
Marketing personnel coordinate our participation in trade shows and design and
implement our advertising efforts. In addition, the marketing group gathers and
maintains market research and tracks industry trends and developments in order
to anticipate customer needs for new products and develop pricing strategies.

Competition

The market for fiber optic components is intensely competitive and
characterized by rapidly changing technology. The principal competitive factors
in our business are:

. optical performance of components;

. quality and reliability;

. manufacturing capacity;

. ability to deliver on-time;

. customer relationships;

. pricing;

. comprehensiveness of product offerings;

6
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. customization to customer specifications; and

. strength of distribution channels.

We currently experience competition from various companies, including ADC
Telecommunications, Corning, Gould Electronics, and JDS Uniphase in couplers;
FDK Corporation, JDS Uniphase, Kyocera, and Shinkosha K.K. in isolators, and
Corning, JDS Uniphase, Lucent, and Optical Coating Laboratory in WDM components.
Competitors in any portion of our business are also capable of rapidly becoming
competitors in other portions of our business. We also face competition from
numerous smaller companies. Some of our current and potential competitors may be
able to:

. respond more quickly to new or emerging technologies or standards and to
changes in customer requirements;

. devote greater resources to the development, promotion and sale of
products; and

. deliver competitive products at a lower price.

Some competitors manufacture their products in countries offering
significantly lower labor costs than in the United States.

Existing and potential customers are also current and potential competitors.
These companies may develop or acquire additional competitive products or
technologies in the future which may make them reduce or cease their purchases
from us.

In addition, we believe that the size of suppliers will be an increasingly
important part of purchasers' decision-making criteria in the future. To address
these issues, we will focus on broadening our product line through internal
development and strategic initiatives. We will also focus on expanding our
manufacturing capacity for faster time to market for our newer products.

Patents and Intellectual Property Rights

We rely primarily on patent, copyright, trademark and trade secrets to protect
our proprietary technologies and processes. We also generally enter into
confidentiality agreements with our employees and partners, and generally
control access to and distribution of our documentation and other proprietary
information. There can be no assurance that such measures will provide
meaningful protection for our proprietary technologies and processes. As of June
30, 1999, we had over 100 U.S. patents issued and pending which expire on dates
ranging from 2007 to 2018.

Employees

As of June 30, 1999, we had 1,316 employees, of whom 1,074 were primarily
engaged in manufacturing, 117 were engaged in research and development, 55 were
engaged in sales, marketing and technical support and 70 were engaged in
administration. Our employees are not represented by any collective bargaining
agreement, and we have not experienced a work stoppage. We believe our employee
relations are good.

ITEM 2. Properties

Our principal offices and facilities are located primarily in San Jose,
California. We own three buildings in San Jose totalling approximately 180,000
square feet, 20,000 square feet of which is leased to a third party through May
2001. We lease approximately 80,000 square feet in San Jose under a lease that
expires in February 2006 and approximately 5,000 square feet in San Jose under a
lease that expires on March 31, 2000. We also own five acres of land nearby. In
addition, we lease facilities in Ontario, Canada and Taipei, Taiwan. We believe
that our existing facilities are adequate to meet our current needs.

ITEM 3. Legal Proceedings

We are not a party to any material legal proceedings.

7
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ITEM 4. Submission of Matters to a Vote of Security Holders

None.

PART II

ITEM 5. Market for Registrant's Common Stock and Related Stockholder Matters

Our common stock has been quoted on the Nasdaq National Market under the
symbol "ETEK" since December 2, 1998, the date of our initial public offering.
The following table shows the high and low closing sale prices for the common
stock as reported on the Nasdaq National Market for the periods indicated below:

<TABLE>
<CAPTION>
High Low
----------- -----------
<S> <C> <C>
Fiscal year ended June 30, 1999
Second Quarter (from December 2, 1998)..................... $27.13 $20.06
Third Quarter.............................................. $36.38 $23.31
Fourth Quarter............................................. $50.50 $30.50

Fiscal year ending June 30, 2000
First Quarter (through August 10, 1999).................... $47.84 36.88
</TABLE>

The last reported sale price for our common stock on the Nasdaq National
Market was $38.88 per share on August 10, 1999. As of July 22, 1999, there were
approximately 297 holders of record of our common stock.

8
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ITEM 6. Selected Financial Data

The following selected consolidated financial data should be read with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our audited consolidated financial statements and the related
notes included elsewhere in this Form 10-K. The consolidated statement of
operations data for the fiscal years ended June 30, 1997, 1998 and 1999, and the
consolidated balance sheet data at June 30, 1998 and 1999 are derived from
audited consolidated financial statements included in this Form 10-K. The
consolidated statement of operations data for the fiscal years ended June 30,
1995 and 1996 and the consolidated balance sheet data at June 30, 1995, 1996 and
1997 are derived from audited consolidated financial statements not included in
this Form 10-K. A description of the mandatorily redeemable convertible
preferred stock (all of which converted into our common stock in our initial
public offering in December 1998) and related accretion for fiscal 1998 and 1999
is included in Note 8 of the notes to the audited consolidated financial
statements included elsewhere in this Form 10-K.

<TABLE>
<CAPTION>
Fiscal Year ended June 30,
-------------------------------------------------------
1995 1996 1997 1998 1999
--------- --------- --------- ---------- ----------
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C>
Consolidated Statement of Operations Data:
Net revenues ............................................. $31,661 $40,382 $73,076 $106,924 $172,664
Cost of goods sold ....................................... 10,452 14,712 30,599 49,063 85,123
------- ------- ------- -------- --------
Gross profit ............................................. 21,209 25,670 42,477 57,861 87,541
------- ------- ------- -------- --------
Operating expenses:
Research and development ................................. 2,270 2,444 3,953 7,702 14,687
Selling, general and administrative ...................... 6,697 8,773 15,290 21,097 24,516
Purchased in-process research and development ............ -- -- -- -- 4,207
Amortization of intangibles .............................. -- -- -- -- 300
------- ------- ------- -------- --------
Total operating expenses ................................. 8,967 11,217 19,243 28,799 43,710
------- ------- ------- -------- --------
Operating income ......................................... 12,242 14,453 23,234 29,062 43,831
Interest income .......................................... 84 408 962 1,992 3,784
Interest expense ......................................... (54) (66) (571) (988) (1,573)
------- ------- ------- -------- --------
Income before income taxes ............................... 12,272 14,795 23,625 30,066 46,042
Provision for income taxes ............................... 4,566 5,524 8,477 12,142 18,417
------- ------- ------- -------- --------
Net income ............................................... 7,706 9,271 15,148 17,924 27,625
Convertible preferred stock accretion .................... -- -- -- 9,021 3,882
------- ------- ------- -------- --------
Net income available to common stockholders .............. $ 7,706 $ 9,271 $15,148 $ 8,903 $ 23,743
======= ======= ======= ======== ========
Net income per share:
Basic .................................................... $ 0.15 $ 0.19 $ 0.30 $ 0.39 $ 0.55
Diluted .................................................. $ 0.15 $ 0.19 $ 0.30 $ 0.32 $ 0.45
Shares used in net income per share calculations:
Basic .................................................... 50,000 50,000 50,000 22,970 43,152
Diluted .................................................. 50,000 50,000 50,000 55,561 61,746
</TABLE>

<TABLE>
<CAPTION>
June 30,
------------------------------------------------------
1995 1996 1997 1998 1999
------- ------- ------- --------- --------
(in thousands)
<S> <C> <C> <C> <C> <C>
Consolidated Balance Sheet Data:
Cash and cash equivalents ................................ $ 3,992 $ 8,026 $ 8,259 $ 21,918 $ 55,090
Working capital .......................................... 9,464 18,342 27,706 33,582 66,543
Total assets ............................................. 16,665 26,709 61,760 90,378 230,496
Long-term obligations, net of current portion ............ -- -- 9,577 13,808 21,513
Mandatorily redeemable convertible preferred stock ....... -- -- -- 125,144 --
Stockholders' equity (deficit) ........................... 11,680 20,951 36,099 (74,498) 149,673
</TABLE>

ITEM 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations

Important Note About Forward-looking Statements

This Annual Report on Form 10-K contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. Words such as "anticipates," "expects,"
"intends," "plans," "believes," "seeks," "estimates" and similar expressions
identify such forward-looking statements. These forward-looking statements are
subject to risks and uncertainties that could cause actual results to differ
materially from those indicated in the forward-looking statements. Such risks
and uncertainties include those set forth below under the subheading "Risk
Factors". Unless required by law, the Company undertakes no obligation to update
publicly any forward-looking statements.

9
<PAGE>

Overview

We generate revenues primarily from the sale of fiber optic components and
modules. Revenues from product sales are generally recognized at the time the
product is shipped, with provisions established for estimated product returns
and allowances. A relatively small number of telecommunications equipment
manufacturers have accounted for a significant portion of our revenues to date,
and we expect that this trend will continue for the foreseeable future. This has
historically resulted in uneven orders and fluctuating demand for our products.
In fiscal 1999 our three largest customers were Alcatel and related entities,
Corning and Pirelli. During that period, sales to Alcatel and related entities
accounted for 35.2% of our revenues, sales to Corning accounted for 17.3%, and
sales to Pirelli accounted for 11.6%.

The fiber optic component industry is characterized by rapidly declining
average selling prices, increasing unit volumes and declining margins. While
these price declines have negatively affected our margins, they have been
accompanied by increased unit sales.

In June 1999, we acquired ElectroPhotonics in Canada for a total acquisition
cost of $41.5 million, primarily comprised of 400,062 shares of our common stock
with a market value of $13.7 million and cash of $26.7 million. We accounted for
the transaction as a purchase. We allocated $4.2 million of the purchase price
to in-process research and development, which was expensed at the time of the
acquisition, and $34.9 million of goodwill and other intangibles, which will
generally be amortized over three years.

In July 1999, we increased our ownership in FibX, our joint venture in Taiwan,
from 45.3% to 95.9% for $12.0 million in cash. We estimate that we will record
$6.0 million of goodwill and other intangibles, which will be amortized over
three years.

On July 27, 1999, we signed a definitive agreement to acquire SMC Kaifa
(Holdings) Ltd., for a total purchase price of 697,000 shares of our common
stock and cash of $12.0 million. We estimate that the purchase will result in
approximately $36.0 million of goodwill and other intangible assets which will
be amortized over three years. The closing of the transaction is subject to
several conditions, including required governmental approvals. We cannot be
certain that the acquisition will be completed.

Results of Operations

The following table sets forth, for the fiscal years indicated, the percentage
of net revenues represented by the line items reflected in our audited
consolidated statements of operations:

<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
-----------------------------------------
1997 1998 1999
------------- ------------ ------------
<S> <C> <C> <C>
Net revenues ........................................... 100.0% 100.0% 100.0%
Cost of goods sold ...................................... 41.9 45.9 49.3
----- ----- -----
Gross profit .......................................... 58.1 54.1 50.7
----- ----- -----
Operating expenses:
Research and development ............................. 5.4 7.2 8.5
Selling, general and administrative ................... 20.9 19.7 14.2
Purchased in-process research and development ........ -- -- 2.4
Amortization of intangibles ........................... -- -- 0.2
----- ----- -----
Total operating expenses ........................... 26.3 26.9 25.3
----- ----- -----
Operating income ........................................ 31.8 27.2 25.4
Interest income ......................................... 1.3 1.8 2.2
Interest expense ........................................ (0.8) (0.9) (0.9)
----- ----- -----
Income before income taxes................................ 32.3 28.1 26.7
Provision for income taxes .............................. 11.6 11.4 10.7
----- ----- -----
Net income .............................................. 20.7% 16.7% 16.0%
===== ===== =====
</TABLE>

10
<PAGE>

Comparison of fiscal years ended June 30, 1997, 1998 and 1999

Net Revenues. Net revenues increased 46.2% from $73.1 million in fiscal 1997
to $106.9 million in fiscal 1998. Net revenues increased 61.5% from $106.9
million in fiscal 1998 to $172.7 million in fiscal 1999. The primary reason for
the increase from fiscal 1997 to fiscal 1998 was increased unit shipments of our
isolators, WDMs, couplers, and micro-optic integrated components. The primary
reason for the increase from fiscal 1998 to fiscal 1999 was increased unit
shipments of WDMs, couplers, and micro-optic integrated components. Fiscal 1998
and fiscal 1999 net revenues also increased due to growth in sales of products
for undersea applications. In the fourth quarter ended June 30, 1999, we
experienced a shortage of thin film filters, which limited our ability to ship
products and generate revenues. We may face shortages of these filters in the
future.

Gross Profit. Gross profit increased 36.2% from $42.5 million in fiscal 1997
to $57.9 million in fiscal 1998. Gross profit increased 51.3% from $57.9 million
in fiscal 1998 to $87.5 million in fiscal 1999. Cost of goods sold consists of
raw material costs, direct labor costs, warranty costs, royalties and overhead
related to our manufacturing operations. Gross profit margins declined from
58.1% in fiscal 1997 to 54.1% in fiscal 1998 and to 50.7% in fiscal 1999. The
gross profit margin declines over both fiscal years were primarily due to
declining average selling prices and increased costs associated with the
expansion of our manufacturing capacity to address future unit volume growth. In
addition, we expect the purchase of a controlling interest in FibX will have an
adverse impact on our margins until we can absorb the additional manufacturing
capacity through increased revenues.

Research and Development Expenses. Research and development expenses consist
of compensation costs for personnel, depreciation of equipment, and prototype
materials. Research and development expenses were $4.0 million in fiscal 1997,
representing 5.4% of net revenues, and $7.7 million, or 7.2% of net revenues, in
fiscal 1998. Research and development expenses for fiscal 1999, excluding
purchased in-process research and development charges, were $14.7 million, or
8.5% of net revenues, a 90.7% increase over fiscal 1998. The growth in research
and development expenses in both years was primarily due to the increase in
research and development personnel and material costs. We expect that research
and development expenses will continue to increase in fiscal 2000 in absolute
dollars.

Selling, General and Administrative Expenses. Selling, general and
administrative expenses consist of compensation costs for personnel, sales
commissions, travel expenses, marketing programs, professional services,
accounting, human resources, executive management and consulting. Selling,
general and administrative expenses were $15.3 million in fiscal 1997,
representing 20.9% of net revenues, and $21.1 million, or 19.7% of net revenues,
in fiscal 1998. Selling, general and administrative expenses for fiscal 1999
were $24.5 million, or 14.2% of net revenues, representing a 16.2% increase over
fiscal 1998. The increase in absolute dollars of expenditures over both periods
reflected the hiring of additional sales, marketing and administrative personnel
and increased commissions paid on higher revenues. We anticipate that our
selling, general and administrative expenses will increase in absolute dollars
in fiscal 2000.

Purchased In-Process Research and Development and Goodwill Amortization. On
June 22, 1999, we completed the acquisition of ElectroPhotonics. On that date,
we recorded a one-time charge of $4.2 million representing purchased in-process
technology that had not yet reached technological feasibility and had no
alternative future use. We determined this value by estimating the costs to
develop the purchased in-process technology into commercially viable products,
estimating the resulting net cash flows from these products, and discounting the
net cash flows back to their present values. The discount rate includes a factor
that takes into account the uncertainty surrounding the successful development
of the purchased in-process technology. If we do not successfully develop these
products, our revenues and profitability may be adversely affected in future
periods. Additionally, the value of other intangible assets acquired may become
impaired. Capitalized intangible assets resulting from the acquisition of
ElectroPhotonics, including developed and core technologies and goodwill,
amounted to $34.9 million. These assets are being amortized over their useful
lives, generally three years. Such amortization amounted to $0.3 million for
fiscal 1999. We estimate that as a result of the ElectroPhotonics and FibX
acquisitions and, if completed, the Kaifa acquisition, amortization of goodwill
and other intangibles will be approximately $26.0 million in each of the next
three fiscal years. We may continue to buy technology in order to expand our
product offering and bring products to the market in a timely fashion.

Interest Income and Interest Expense. Our interest income was approximately
$1.0 million for fiscal 1997, compared to $2.0 million in fiscal 1998 and $3.8
million for fiscal 1999. We earned interest income on our cash investments. We
also recognized imputed interest income of $0.6 million in fiscal 1998 and $1.0
million in fiscal 1999 relating to notes receivable

11
<PAGE>

from stockholders. Interest expense, incurred on borrowings secured by our
property and equipment, and on capital leases, was $0.6 million for fiscal 1997,
compared to $1.0 million for fiscal 1998 and $1.6 million for fiscal 1999.

Income Taxes. Our income tax provision was 35.9% in fiscal 1997, 40.4% in
fiscal 1998 and 40.0% in fiscal 1999. The higher rate for fiscal 1998 is due to
a permanent tax difference related to our investment in FibX. The higher rate
for fiscal 1999 is due to a permanent difference related to our purchase of
ElectroPhotonics.

Net Income. Net income for fiscal 1997 was $15.1 million, or $0.30 per
diluted share, compared to net income of $17.9 million, or $0.32 per diluted
share, for fiscal 1998 and net income of $27.6 million, or $0.45 per diluted
share, for fiscal 1999. Excluding the one time charge for purchased in-process
research and development and amortization of goodwill and other intangibles
related to the acquisition of ElectroPhotonics, net income would have been $30.3
million, or $0.49 per diluted share, for fiscal 1999.

Net income available to common stockholders was $15.1 million in fiscal 1997,
$8.9 million in fiscal 1998, and $23.7 million in fiscal 1999. Net income
available to common stockholders in fiscal 1998 and fiscal 1999 reflect
accretion relating to our convertible preferred stock of $9.0 million in fiscal
1998 and $3.9 million in fiscal 1999. All of our convertible preferred stock was
converted into common stock on December 2, 1998 and, accordingly, we will not be
recording accretion on this convertible preferred stock in future periods.

Quarterly Results of Operations

The following tables set forth unaudited quarterly results for the eight
fiscal quarters ended June 30, 1999, as well as such data expressed as a
percentage of our net revenues for each quarter. This information has been
presented on the same basis as our audited consolidated financial statements
appearing elsewhere in this Form 10-K and, in the opinion of management,
includes all adjustments, consisting only of normal recurring adjustments, that
we consider necessary to present fairly the unaudited quarterly results. This
information should be read in conjunction with our audited consolidated
financial statements and the related notes appearing elsewhere in this Form
10-K. The operating results for any quarter are not necessarily indicative
of results for any future period. See "Risk Factors--Our quarterly operating
results are subject to significant fluctuations, and you should not rely on them
as an indication of future performance".

<TABLE>
<CAPTION>
Three months ended
--------------------------------------------------------------------------------------

Sep. 30, Dec. 31, Mar. 31, June 30, Oct. 2, Jan. 1, April 2, June 30,
--------- --------- --------- --------- --------- --------- --------- ---------

1997 1997 1998 1998 1998 1999 1999 1999
--------- --------- --------- --------- --------- --------- --------- ---------

<S> <C> <C> <C> <C> <C> <C> <C> <C>
(in thousands, except per share data)
Consolidated Statement of Operations Data:
Net revenues ................................ $27,309 $25,311 $23,729 $30,575 $32,942 $38,708 $49,472 $51,542
Cost of goods sold .......................... 11,893 11,155 11,182 14,833 15,989 18,854 24,495 25,785
------- ------- ------- ------- ------- ------- ------- -------
Gross profit ............................... 15,416 14,156 12,547 15,742 16,953 19,854 24,977 25,757
------- ------- ------- ------- ------- ------- ------- -------
Operating expenses:
Research and development ................... 1,655 1,746 1,921 2,380 3,076 3,255 4,233 4,123
Selling, general and administrative ........ 5,198 5,112 5,168 5,619 5,395 5,748 7,065 6,309
Purchased in-process research and
development ............................... -- -- -- -- -- -- -- 4,207
Amortization of intangibles ................ -- -- -- -- -- -- -- 300
------- ------- ------- ------- ------- ------- ------- -------
Total operating expenses ................. 6,853 6,858 7,089 7,999 8,471 9,003 11,298 14,939
------- ------- ------- ------- ------- ------- ------- -------
Operating income ............................ 8,563 7,298 5,458 7,743 8,482 10,851 13,679 10,818
------- ------- ------- ------- ------- ------- ------- -------
Interest income ............................. 353 428 514 697 588 822 1,185 1,189
Interest expense ............................ (171) (188) (112) (517) (285) (340) (417) (530)

------- ------- ------- ------- ------- ------- ------- -------
Income before income taxes .................. 8,745 7,538 5,860 7,923 8,785 11,333 14,447 11,477
Provision for income taxes .................. 3,499 3,014 2,439 3,190 3,514 4,533 5,779 4,591
------- ------- ------- ------- ------- ------- ------- -------
Net income .................................. 5,246 4,524 3,421 4,733 5,271 6,800 8,668 6,886
Convertible preferred stock
accretion .................................. 1,842 2,393 2,393 2,393 2,400 1,482 -- --
------- ------- ------- ------- ------- ------- ------- -------
Net income available to common
stockholders ............................... $ 3,404 $ 2,131 $ 1,028 $ 2,340 $ 2,871 $ 5,318 $ 8,668 $ 6,886
======= ======= ======= ======= ======= ======= ======= =======
Net income per share:
Basic ...................................... $0.12 $0.10 $0.05 $0.11 $0.13 $0.15 $0.15 $0.12
Diluted .................................... $0.10 $0.08 $0.06 $0.08 $0.09 $0.11 $0.14 $0.11
Shares used in net income per share
calculations:
Basic ...................................... 28,073 21,205 21,258 21,308 22,037 34,777 57,720 58,307
Diluted .................................... 51,922 55,007 57,222 58,092 58,573 60,125 63,719 64,051
</TABLE>

12
<PAGE>

<TABLE>
<CAPTION>
Three months ended
------------------------------------------------------------------------------------
Sep. 30, Dec. 31, Mar. 31, June 30, Oct. 2, Jan. 1, April 2, June 30,
--------- --------- --------- --------- -------- -------- --------- ---------
1997 1997 1998 1998 1998 1999 1999 1999
--------- --------- --------- --------- -------- -------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
As a Percentage of Total Revenues:
Net revenues ................................ 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of goods sold .......................... 43.5 44.1 47.1 48.5 48.5 48.7 49.5 50.0
----- ----- ----- ----- ----- ----- ----- -----
Gross profit ................................ 56.5 55.9 52.9 51.5 51.5 51.3 50.5 50.0
Operating expenses:
Research and development ................... 6.1 6.9 8.1 7.8 9.3 8.4 8.5 8.0
Selling, general and administrative ........ 19.0 20.2 21.8 18.4 16.4 14.9 14.3 12.2
Purchased in-process research and
development................................. -- -- -- -- -- -- -- 8.2
Amortization of intangibles ................ -- -- -- -- -- -- -- 0.6
----- ----- ----- ----- ----- ----- ----- -----
Total operating expenses ................. 25.1 27.1 29.9 26.2 25.7 23.3 22.8 29.0
----- ----- ----- ----- ----- ----- ----- -----
Operating income ............................ 31.4 28.8 23.0 25.3 25.8 28.0 27.7 21.0
Interest income ............................. 1.3 1.7 2.2 2.3 1.8 2.1 2.4 2.3
Interest expense ............................ (0.6) (0.7) (0.5) (1.7) (0.9) (0.8) (0.9) (1.0)
----- ----- ----- ----- ----- ----- ----- -----
Income before income taxes .................. 32.1 29.8 24.7 25.9 26.7 29.3 29.2 22.3
Provision for income taxes .................. 12.8 11.9 10.3 10.4 10.7 11.7 11.7 8.9
----- ----- ----- ----- ----- ----- ----- -----
Net income .................................. 19.3% 17.9% 14.4% 15.5% 16.0% 17.6% 17.5% 13.4%
===== ===== ===== ===== ===== ===== ===== =====
</TABLE>

Liquidity And Capital Resources

Since inception, we have financed operations and met our capital expenditure
requirements primarily through cash flows from operations and borrowings. Cash
flows from operating activities were $13.5 million for fiscal 1997, $27.7
million for fiscal 1998 and $32.2 million for fiscal 1999. Cash flows from
operating activities consisted primarily of net income, depreciation and
amortization expenses, and increases in accrued liabilities and accounts
payable, offset in part by increases in accounts receivable, inventories and
deferred tax assets. In fiscal 1999, cash flows from operating activities also
included purchased in-process research and development. At June 30, 1999, we had
cash and cash equivalents of $55.1 million and working capital of $66.5 million.

Net cash used in investing activities was $21.4 million for fiscal 1997,
compared to $12.4 million for fiscal 1998 and $63.4 million for fiscal 1999. The
cash used in fiscal 1997 and fiscal 1998 was primarily for capital expenditures.
The cash used in fiscal 1999 was primarily for the purchase of ElectroPhotonics,
which was $25.7 million, net of cash received, and capital expenditures of $41.8
million.

On July 6, 1999, we acquired a controlling interest in FibX for cash of $12.0
million. On July 27, 1999, we entered into an agreement to acquire SMC Kaifa
(Holdings) Ltd. for a total purchase price of 697,000 shares and cash of $12.0
million. Although we have no material commitments for capital expenditures, we
expect to make capital expenditures in fiscal 2000 of approximately $50.0
million.

Net cash provided in financing activities was $8.1 million in fiscal 1997, as
compared to $1.6 million used in financing activities for fiscal 1998. The
fiscal 1997 amount reflects the incurrence of $7.7 million in long-term debt.
The fiscal 1998 amount reflects the net effect of our recapitalization, which
was completed in July 1997. For a description of the recapitalization, see Note
1 to our audited consolidated financial statements included elsewhere in this
Form 10-K. Net cash provided by financing activities for fiscal 1999 was $64.4
million and consisted primarily of net proceeds of $43.4 million from the
issuance of common stock in our initial public offering and borrowings on long-
term debt of $20.2 million.

On July 29, 1999, we filed a Registration Statement on Form S-1 with the
Securities and Exchange Commission to sell 4,000,000 shares, which, if
completed, will provide us with an additional source of liquidity.

Based on current plans and business conditions, we believe that our existing
cash and equivalents, cash generated from operations, available equipment
financing sources and proceeds from our recent public offering will be
sufficient to satisfy our anticipated cash requirements for at least the next
twelve months.

On January 1, 1999, the participating member countries of the European Union
converted to a common currency, the euro. On that same date they established
fixed conversion rates between their existing sovereign currencies and the euro.
Even though legacy currencies are scheduled to remain legal tender in the
participating countries as denominations of the euro until January 1, 2002, the
participating countries will no longer be able to direct independent interest
rates for the legacy currencies. The authority to set monetary policy will now
reside with the new European Central Bank. We do not anticipate any material
impact from the euro conversion on our financial information systems, which
currently accommodate multiple currencies. We do not believe that the euro
conversion issue will have any material impact on our pricing or market
strategies or our financial condition and results of operations.

At June 30, 1999, we had not entered into any agreements or purchased any
financial instruments that expose us to material market risk.

13
<PAGE>

Year 2000 Compliance

Many computer programs use two digits rather than four to define the
applicable year. Computer programs or hardware that have date sensitive software
or chips may recognize a date using "00" as the year 1900 rather than the year
2000. This could result in systems failures or miscalculations causing
disruptions of operations for any company using computer programs or hardware.

We rely on our systems, applications and control devices in operating and
monitoring all major aspects of our business. We installed new Enterprise
Resource Planning software during fiscal 1998 at a cost of approximately $1.0
million which we believe is year 2000 compliant. With respect to our own
systems, we rely on the representations of our primary software vendors that
their products are year 2000 compliant. Based in part on representations of our
software vendors and our internal review of our information technology and non-
information technology systems, software and devices, we believe our systems,
software and devices are year 2000 compliant. However, the noncompliance of our
systems, software and devices could severely disrupt our operations and have a
material adverse effect on our business, financial condition and results of
operations. Based on our assessment to date, we do not anticipate that costs
associated with remediating any of our internal systems will be material.

We also rely, directly and indirectly, on external systems of our customers,
suppliers, creditors, financial organizations, utilities providers and
governmental entities, both domestic and international. None of these systems is
under our control. Consequently, we could be affected by disruptions in the
operations of the enterprises with which we interact. Furthermore, the
purchasing frequency and volume of customers or potential customers may be
affected by year 2000 issues as companies expend significant resources to make
their current systems year 2000 compliant. Some of our customers, including each
of our three largest customers, have requested information from us concerning
our exposure to year 2000 problems, the steps we have taken to resolve any year
2000 problems and what level of management attention is being focused on the
issue.

Similarly, we have sent inquiries to certain of our suppliers requesting
substantially the same information from them. We have received representations
from certain of our suppliers, including each of our sole source suppliers, as
to the year 2000 compliance of their systems and products. We have not assessed
the year 2000 compliance of our customers. If our customers encounter year 2000
problems that prevent their products from functioning properly, these customers
may be forced to devote significant resources to fixing these problems and may
reduce or suspend the manufacture of new telecommunications equipment during
that time. As a result, our sales of components to these customers could be
materially and adversely affected. In addition, if our suppliers, particularly
our sole source suppliers, are unable to manufacture or deliver supplies to us
as a result of year 2000 problems, our ability to manufacture and sell our
products would be materially and adversely affected.

We have not adopted a formal year 2000 contingency plan because, based on the
information available to us, we believe that we do not have material exposure to
significant business interruptions as a result of year 2000 compliance issues.

The foregoing is a Year 2000 Readiness Disclosure as defined by the Year 2000
Information and Readiness Disclosure Act of 1998.

Risk Factors

In addition to the other information in this Annual Report, one should
carefully consider the following factors in evaluating us.

If one of our small number of major customers delays or reduces purchases, our
revenues will decline.

Historically, a small number of customers have accounted for a significant
portion of our revenues. In fiscal year 1999, our three largest customers and
their related entities accounted for 64.0% of our revenues. If any one of those
customers reduces or delays its purchases, our revenues will decline. We expect
that we will continue to depend on sales to a small number of large customers
for the foreseeable future. Our customers also have and will continue to have
the negotiating leverage to obtain price reductions.

The telecommunications equipment industry is dominated by a small number of
large companies and is currently consolidating. Consolidation reduces the number
of potential customers in the industry, and may increase our dependence on a
small number of customers.

14
<PAGE>

If our customers are not selected for new telecommunications equipment
deployments, our shipments and revenues will be reduced.

Sales of our components depend on sales of fiber optic telecommunications
equipment, which are shipped in quantity when telecommunications service
providers add capacity. Equipment manufacturers compete for sales in each
capacity deployment. If equipment manufacturers that use our products in their
products do not win a contract, their demand for our products will decline,
reducing our future revenues. Similarly, a delay in selecting equipment
manufacturers for a deployment could delay our shipments and revenues.

We depend on sales of wavelength division multiplexing products, so a decline in
sales of these products would materially reduce our revenues.

A small number of products have historically accounted for a majority of our
net revenues. In particular, sales of wavelength division multiplexing
components and modules accounted for 38.3% of our revenues in fiscal year 1999.
We expect sales of WDMs to be a majority of our fiscal 2000 revenues. If sales
of this product line decline, our overall revenues will be lower, which could
result in operating losses. We may not be successful in taking steps to mitigate
the risks associated with reduced demand for our existing products.

If we cannot obtain an adequate supply of thin film filters, our wavelength
division multiplexing product revenues may decline.

Thin film filters are a key raw material for wavelength division multiplexers.
Revenues from wavelength division multiplexer sales represented 38.3% of our
total fiscal 1999 revenues and 41.7% of our total revenues in the fourth quarter
of fiscal 1999 and are expected to increase to more than 50% of our total
revenues in fiscal 2000. In the fourth quarter of fiscal 1999 we experienced a
shortage of thin film filters, which limited our ability to ship product and
generate revenues. Filter production is a complex and sensitive process which is
difficult to replicate, and we may face shortages of these filters in the
future.

We expect the price of our existing products to decline, and if we do not reduce
our manufacturing costs, our gross margins will decline and we could incur
losses.

The fiber optic component industry is very competitive and is characterized by
declining prices. We believe that since average selling prices are declining
rapidly, we must increase our manufacturing capacity and greatly increase unit
volume sold in order to maintain our existing revenues. If we add capacity, we
increase our fixed costs, and also further increase the level of unit sales we
must achieve to maintain operating margins. As a result, if we are unable to
continuously reduce our manufacturing costs, our net revenues and gross margins
would decline. These industry-wide price declines result from factors such as:

. increased competition for business;

. a limited number of potential customers;

. competition from companies with lower labor and production costs;

. introduction of new products by competitors; and

. greater economies of scale for higher volume manufacturers.

Our customers are not obligated to buy material amounts of our products and may
cancel or defer purchases on short notice.

Our customers typically purchase our products under individual purchase orders
and may cancel or defer purchases on short notice without significant penalty.
While we have recently announced long-term contracts with some of our customers,
these contracts do not obligate the customers to buy material amounts of our
products. Accordingly, sales in a particular period are difficult to predict.
Decreases in purchases, cancellations of purchase orders or deferrals of
purchases may have a material adverse effect on us, particularly if we do not
anticipate them.

15
<PAGE>

We depend on a limited number of suppliers, and we may not be able to ship
products on time if we are unable to obtain an adequate supply of raw materials
and equipment on a timely basis.

We depend on a limited number of suppliers of raw materials and equipment used
to manufacture our products. Some of our suppliers are sole sources. We
typically do not have long-term agreements with our suppliers, and, therefore,
our suppliers generally may stop supplying materials and equipment to us at any
time. The reliance on a sole or limited number of suppliers could result in
delivery problems and reduced control over product pricing and quality.

Our quarterly operating results are subject to significant fluctuations, and you
should not rely on them as an indication of our future performance.

Our revenues and operating results have fluctuated significantly from quarter-
to-quarter in the past and may fluctuate significantly in the future as a result
of several factors, some of which are outside of our control. These factors
include:

. the size and timing of customer orders;

. our ability to manufacture and ship our products on a timely basis;

. our ability to obtain sufficient supplies to meet our product manufacturing
needs;

. our ability to meet customer product specifications and qualifications;

. our ability to sustain high levels of quality across all product lines;

. changes in our product mix;

. customers' ability to cancel and reschedule orders;

. seasonality of customer demand; and

. difficulties in collecting accounts receivable.

Because of these factors, you should not rely on quarter-to-quarter
comparisons of our results of operations as an indication of our future
performance. It is possible that, in future periods, our results of operations
may be below the expectations of public market analysts and investors. This
could adversely affect the trading price of our common stock.

Our operating results may fluctuate because our product sales cycle is long and
unpredictable.

To date, our customers have taken a long time to reach a decision to purchase
our products. This long sales cycle may cause our revenues and operating results
to vary unpredictably from period to period. The period of time between our
initial contact with a customer and the receipt of an actual purchase order may
span a year or more. In addition, customers perform, and require us to perform,
extensive product evaluation and testing of new components before purchasing
them.

The markets in which we operate are highly competitive, which could result in
lost sales and lower revenues.

The market for fiber optic components is intensely competitive, which could
result in existing customers rapidly shifting their orders to competitors.
Because many of our competitors have significantly greater financial and other
resources than we have, they may be able to more quickly:

. respond to new technologies or technical standards;

. react to changing customer requirements and expectations;

16
<PAGE>

. devote greater resources to the development, production, promotion and sale
of products; and

. deliver competitive products at lower prices.

In addition, some of our customers have fiber optic component manufacturing
capabilities, which may represent further competition and lost sales
opportunities if those customers choose to manufacture and sell products that
they currently purchase from us.

As our competitors consolidate, they may offer products or pricing which we
cannot meet, which could cause our revenues to decline.

Consolidation in the fiber optic component industry could intensify the
competitive pressures that we face. For example, two of our competitors, JDS
Fitel and Uniphase have merged. The merged company has announced its intention
to offer more integrated products that could make our products less competitive.

If we do not achieve our planned revenues, we could incur operating losses
because our expenses are fixed in the short term.

We make manufacturing and related capital expenditures in anticipation of a
level of customer orders that may vary over multiple quarters. Our expenditures
are largely based on anticipated future sales and a significant portion of our
expenses is fixed in the short term. If anticipated levels of customer orders
are not received, we may not be able to reduce our expenses quickly enough to
prevent a decline in our gross margins and operating income.

If we do not plan our manufacturing expansion accurately, we could lose sales
and customer relationships.

Expanding our manufacturing capacity requires substantial time to build out
and equip facilities and train personnel. If we receive orders substantially in
excess of our planned capacity, we might not be able to fulfill them quickly
enough to meet customer requirements. Our inability to deliver products timely
could enable competitors to win business from our customers. Since customers
often design a component into their equipment, this could result in a permanent
loss of a customer for one or more of our components.

If we cannot expand our manufacturing facilities or qualify new production lines
with customers, our revenues could decline.

We are in the process of increasing our manufacturing capacity at our existing
facilities as well as pursuing the expansion of overseas manufacturing in Taiwan
and China. The development of overseas manufacturing capabilities involves
significant risks, including:

. unanticipated cost increases;

. unavailability or late delivery of equipment;

. unforeseen environmental or engineering problems;

. personnel recruitment delays; and

. political instability.

Any one of these risks could have a material adverse effect on the start up or
operation of new facilities. Once developed, many customers require
qualification of the manufacturing line before they will purchase any products
from that line. Delays in the qualification process or a customer's inability to
qualify a new manufacturing line could have a negative impact on our revenues.

17
<PAGE>

If we fail to maintain acceptable manufacturing yields, we may need to delay
product shipments and our gross margins could be impaired.

The manufacture of our products involves highly complex and labor intensive
processes, requiring production in controlled and clean environments. If we do
not meet these requirements, our manufacturing yields, which is the percentage
of our products which meet customer specifications, could decline, resulting in
product shipment delays, possible lost revenue opportunities, and impaired gross
margins. In response to changes in product specifications and customer needs,
our manufacturing process may experience changes that could significantly reduce
manufacturing yields. Our production yields could also be lower if we receive or
inadvertently use defective or contaminated materials from our suppliers. Some
of our manufacturing lines have experienced and may continue to experience lower
than expected production yields. We cannot be sure that our manufacturing
facilities will achieve or maintain acceptable yields in the future.

Our revenues would suffer if a key sales representative or distributor were to
stop selling or reduce sales of our products.

We sell substantially all of our products through a network of independent
sales representatives and distributors, the majority of whom have exclusive
rights to sell our products in certain territories. There is a risk that our
independent sales representatives and distributors may discontinue sales of our
products in order to switch to representing one or more of our competitors,
which would result in reduced revenue for us. In addition, some of our customers
have requested to purchase our products directly from us, which may give some of
our affected independent sales representatives and distributors less incentive
to sell our products.

New technologies or industry standards could make our products noncompetitive,
decreasing our sales.

New technologies are emerging due to increased competition and customer
demand. The introduction of new products incorporating new technologies or the
emergence of new industry standards could make our existing products
noncompetitive. For example, new technologies are being developed in the design
of wavelength division multiplexers that compete with the thin film filters that
we employ. Our future results will depend on our ability to successfully develop
and introduce a variety of new products and product enhancements.

If our new product introductions are delayed, or if our new products have
defects, our revenues would be harmed and our costs could increase.

Our products are complex and new products may take longer to develop than
originally anticipated. These products may contain defects when first introduced
or as new versions are released. If we do not introduce new products in a timely
manner, we will not obtain incremental revenues from these products or be able
to replace more mature products with declining revenues or gross margins.
Customers that have designed our new components into their products could
instead purchase components from our competitors, resulting in lost revenue over
a longer term. We could also incur unanticipated costs in attempting to complete
delayed new products or to fix defective products.

Acquisitions and investments may adversely affect our business.

We regularly review acquisition and investment prospects that would complement
our existing product offerings, augment our market coverage, secure supplies of
critical materials or enhance our technological capabilities. Acquisitions or
investments could result in a number of financial consequences, including:

. potentially dilutive issuances of equity securities;

. large one-time write-offs;

. reduced cash balances and related interest income;

. higher fixed expenses which require a higher level of revenues to maintain
gross margins;

. the incurrence of debt and contingent liabilities; and

. amortization expenses related to goodwill and other intangible assets.

18
<PAGE>

Furthermore, acquisitions involve numerous operational risks, including:

. difficulties in the integration of operations, personnel, technologies,
products and the information systems of the acquired companies;

. diversion of management's attention from other business concerns;

. diversion of resources from our existing businesses, products or
technologies;

. risks of entering geographic and business markets in which we have no or
limited prior experience; and

. potential loss of key employees of acquired organizations.

We may not be able to recruit and retain the personnel we need to succeed.

We heavily depend upon our ability to attract and retain highly-skilled
technical personnel, who have advanced skills and experience in the specialized
field of fiber optics. If we cannot hire or retain these technical personnel,
our product development programs may be delayed and our customer support efforts
may be less effective. In addition, most of our operations are located in
Silicon Valley, where it has become increasingly difficult to find qualified
personnel in all areas of our business. If we are unable to hire the necessary
managerial, sales and marketing personnel, we may not be able to grow our
revenues.

Our international sales could be delayed or could have costs which would lower
their contribution to our gross profit.

We generate a significant portion of our revenues from sales to companies
located outside the United States, principally in Europe. As a result, a
significant portion of our sales faces risks inherent in international
operations, including:

. government controls, which can delay sales or increase our costs;

. export licensing requirements and restrictions, which can delay or prevent
sales;

. tariffs and other trade barriers, which can increase our costs and make our
products uncompetitive; and

. greater difficulty in accounts receivable collection and longer collection
periods, which can increase our need for working capital.

Currently, almost all of our international sales are U.S. dollar denominated.
As a result, our customers' orders could fluctuate significantly based upon
changes in our customers' currency exchange rates in relation to the U.S.
dollar. A large increase in the value of the U.S. dollar could make our products
more expensive to our foreign customers, resulting in cancelled or delayed
orders and decreased revenues.

Our international operations expose us to additional costs, some of which we
cannot predict.

Our recent expansion of our operations into other countries, such as Canada,
Taiwan and China, has increased both the administrative complications we must
manage and our exposure to currency fluctuations. If we cannot comply with local
regulations, we could incur unexpected costs and potential litigation. Our
international operations could cause our average tax rate to increase. We could
also incur expenses due to the exchange rate risk because many expenses relating
to our international operations are denominated in foreign currencies, while our
revenues are in U.S. dollars.

If we cannot protect or enforce our intellectual property rights, our
competitive position may be impaired.

Our success will depend, in part, on our ability to protect our intellectual
property. We rely primarily on patent, copyright, trademark and trade secret
laws, as well as nondisclosure agreements and other methods to protect our
proprietary technologies and processes. Despite our efforts to protect our
proprietary technology and processes, unauthorized parties may attempt to copy
or otherwise obtain and use our products or technology without authorization,
develop similar technology

19
<PAGE>

independently or design around our patents. Policing unauthorized use of our
products is expensive and difficult, and we cannot be sure that the steps we
have taken will prevent misappropriation or infringement of our intellectual
property.

Intellectual property claims against us could cause our business to suffer.

The telecommunications equipment industry is characterized by vigorous
protection and pursuit of intellectual property rights. We have entered into
indemnification obligations in favor of our customers and partners that could be
triggered upon an allegation or finding that we infringe other parties'
proprietary rights. In the past, we have received notifications alleging that we
are infringing the intellectual property rights of third parties. Whether or not
these claims are successful, we would likely incur significant costs and
diversion of our resources defending these claims, which could have a material
adverse effect on our business, financial condition and results of operations.

We could incur costs and experience disruptions complying with environmental
regulations.

We handle small amounts of hazardous materials as part of our manufacturing
activities. Although we believe that we have complied with all applicable
environmental regulations in connection with our operations, we may be required
to incur environmental remediation costs to comply with current or future
environmental laws.

Our operations could be disrupted by natural disasters.

Our facilities are susceptible to damage from earthquakes as well as from
fire, floods, loss of power or water supply, telecommunications failures and
similar events. Any of these events could significantly disrupt our operations.

Our business could be disrupted by year 2000 compliance issues.

Many current installed computer systems and software products are coded to
accept only two-digit entries in the date code field and need to be upgraded or
replaced in order to correctly process dates beginning in 2000 and achieve year
2000 compliance. Although we believe our own software is year 2000 compliant, we
may be wrong. If we are wrong, we could face unexpected expenses to fix the
problems or significant disruptions of our business, which could have a material
adverse affect on our business, financial condition and results of operations.

We also rely on external systems and software of third parties that may not be
year 2000 compliant. None of these systems are under our control. Consequently,
our business could be adversely affected by disruptions in the operations of
enterprises with which we interact. If our suppliers, particularly our sole
source suppliers, encounter year 2000 problems and are unable to manufacture or
deliver supplies to us, our ability to manufacture and sell our products could
be materially and adversely affected. Furthermore, we have not assessed the year
2000 compliance of our customers. If our customers encounter year 2000 problems,
these customers may be forced to devote significant resources to fixing these
problems and as a result, reduce purchases of our products. We do not currently
have in place any contingency plans for our operations if year 2000 issues are
not resolved in time or go undetected. The incomplete or untimely resolution of
any of these issues could have a material adverse affect on our business,
financial condition and results of operations.

Our stock price could fluctuate significantly.

The market price of our common stock could fluctuate significantly in response
to various factors and events, including:

. operating results below market expectations;

. announcements of technological innovations or new products by us or our
competitors;

. loss of a major customer;

. changes in, or our failure to meet, financial estimates by securities
analysts;

. industry developments;

20
<PAGE>

. economic and other external factors; and

. period-to-period fluctuations in our financial results.

In addition, the securities markets have from time to time experienced
significant price and volume fluctuations that are unrelated to the operating
performance of particular companies. These market fluctuations may also
materially and adversely affect the market price of our common stock. Past stock
price performance is not an indication of future performance.

ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk

Market Risk Disclosures

The following discusses our exposure to market risk related to changes in
interest rates and foreign currency exchange rates. This discussion contains
forward-looking statements that are subject to risks and uncertainties set out
below and in the section of this report entitled "Risk Factors."

Interest Rate Sensitivity

Cash and Cash-Equivalents. As of June 30, 1999, we had cash and cash
equivalents of $55.1 million invested in liquid money market funds or bank
accounts with average maturities of less than 120 days. The cash and cash
equivalents are subject to interest rate risk and we may receive higher or lower
interest income if market interest rates increase or decrease. A hypothetical
increase or decrease in market interest rates by 10 percent from levels at June
30, 1999 would not have a material impact on our cash or cash equivalents.

Outstanding Debt and Capital Lease Obligations. As of June 30, 1999 we had
outstanding long-term debt and capital lease obligations of approximately $30.1
million at fixed interest rates ranging from 6.4% to 8.6%. Because the interest
rates

21
<PAGE>

on these instruments are fixed, a hypothetical decrease in market interest
rates of 10 percent from levels at June 30, 1999 would not have a material
impact on our outstanding debt and capital lease obligations.

Foreign Currency Exchange Rate Risk. Currently, all of our international
sales are U.S. dollar denominated. We have not entered into any currency hedging
activities.

22
<PAGE>

ITEM 8. Financial Statements and Supplementary Data

E-TEK DYNAMICS, INC.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
Page
----
<S> <C>
E-TEK Dynamics, Inc.

Report of Independent Accountants ..................... 24

Consolidated Balance Sheet ............................ 25

Consolidated Statement of Operations .................. 26

Consolidated Statement of Stockholders' Equity ....... 27

Consolidated Statement of Cash Flows .................. 28

Notes to Consolidated Financial Statements ............ 29
</TABLE>

23
<PAGE>

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholders of
E-TEK Dynamics, Inc.

In our opinion, the accompanying consolidated balance sheet and the related
consolidated statements of operations, of stockholders' equity and of cash flows
present fairly, in all material respects, the financial position of E-TEK
Dynamics, Inc. and its subsidiaries at June 30, 1998 and 1999 and the results of
their operations and their cash flows for each of the three years in the period
ended June 30, 1999, in conformity with generally accepted accounting
principles. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with generally accepted auditing standards which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for the opinion expressed
above.

PricewaterhouseCoopers LLP

San Jose, California
July 20, 1999, except as to
Note 14, which is as of July 27, 1999

24
<PAGE>

E-TEK DYNAMICS, INC.
CONSOLIDATED BALANCE SHEET
(In thousands)
<TABLE>
<CAPTION>
June 30,
--------------------
1998 1999
--------- ---------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ........................................ $ 21,918 $ 55,090
Accounts receivable .............................................. 15,463 29,831
Advance to joint venture ......................................... 7,000 --
Inventories ...................................................... 6,909 20,367
Deferred tax assets .............................................. 7,873 13,542
Other current assets ............................................. 343 3,542
-------- --------
Total current assets .......................................... 59,506 122,372
Property and equipment, net ........................................ 30,872 61,874
Long-term investments .............................................. -- 11,665
Goodwill and other intangibles, net ................................ -- 34,585
-------- --------
Total assets .................................................. $ 90,378 $230,496
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ................................................. $ 8,281 $ 17,762
Accrued liabilities .............................................. 16,187 26,352
Income taxes payable ............................................. -- 4,337
Current portion of capital lease obligations....................... 1,240 1,277
Current portion of long-term debt ................................ 216 6,101
-------- --------
Total current liabilities ..................................... 25,924 55,829
Capital lease obligations, net of current portion.................... 3,557 2,281
Long-term debt, net of current portion ............................. 10,251 19,232
Deferred income taxes .............................................. -- 3,481
-------- --------
Total liabilities ............................................. 39,732 80,823
-------- --------
Commitments and contingencies (Note 13)
Mandatorily Redeemable Convertible Preferred Stock, no par value,
30,000 shares authorized, issued and outstanding; none authorized,
issued or outstanding ............................................ 125,144 --
-------- --------
Stockholders' equity:
Preferred Stock, none authorized, issued or outstanding; $0.01
par value, 25,000 shares authorized, none issued and
outstanding .................................................... -- --
Common Stock, no par value, 65,000 shares authorized, 27,299
shares issued and outstanding; $0.001 par value, 300,000 shares
authorized, 62,054 shares issued and outstanding ............... 19,468 63
Additional paid-in capital ....................................... -- 216,124
Notes receivable from stockholders ............................... (14,215) (11,454)
Deferred compensation ............................................ (4,753) (3,805)
Distribution in excess of net book value ......................... (83,901) (83,901)
Retained earnings ................................................ 8,903 32,646
-------- --------
Total stockholders' equity .................................... (74,498) 149,673
-------- --------
Total liabilities and stockholders' equity .................... $ 90,378 $230,496
======== ========
</TABLE>

See Notes to Consolidated Financial Statements.

25
<PAGE>

E-TEK DYNAMICS, INC.

CONSOLIDATED STATEMENT OF OPERATIONS
(In thousands, except per share amounts)

<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
---------------------------------------
1997 1998 1999
------- --------- ---------
<S> <C> <C> <C>
Net revenues ................................................ $73,076 $106,924 $172,664
Cost of goods sold .......................................... 30,599 49,063 85,123
------- -------- --------
Gross profit .............................................. 42,477 57,861 87,541
------- -------- --------
Operating expenses:
Research and development .................................. 3,953 7,702 14,687
Selling, general and administrative ....................... 15,290 21,097 24,516
Purchased in-process research and development ............. -- -- 4,207
Amortization of intangibles ............................... -- -- 300
------- -------- --------
Total operating expenses ............................... 19,243 28,799 43,710
------- -------- --------
Operating income ............................................ 23,234 29,062 43,831
Interest income ............................................. 962 1,992 3,784
Interest expense ............................................ (571) (988) (1,573)
------- -------- --------
Income before income taxes .................................. 23,625 30,066 46,042
Provision for income taxes .................................. 8,477 12,142 18,417
------- -------- --------
Net income .................................................. 15,148 17,924 27,625
Convertible Preferred Stock accretion ....................... -- 9,021 3,882
------- -------- --------
Net income available to Common Stockholders ................. $15,148 $ 8,903 $ 23,743
======= ======== ========
Net income per share:
Basic ..................................................... $ 0.30 $ 0.39 $ 0.55
Diluted ................................................... $ 0.30 $ 0.32 $ 0.45
Shares used in net income per share calculations:
Basic ..................................................... 50,000 22,970 43,152
Diluted ................................................... 50,000 55,561 61,746
</TABLE>

See Notes to Consolidated Financial Statements.

26
<PAGE>

E-TEK DYNAMICS, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(In thousands)

Notes Distribution
------------- -------------
Additional Receivable in Excess of
----------- ------------- -------------
Common Stock Paid-in from Deferred Net Book
------------------- ----------- ------------- ------------- -------------
Shares Amount Capital Stockholders Compensation Value
-------- --------- ----------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balance at June 30, 1996 ........ 50,000 $ 1,963 $ -- $ -- $ -- $ --
Net income ...................... -- -- -- -- -- --
------- -------- -------- -------- ------- ------------
Balance at June 30, 1997 ........ 50,000 1,963 -- -- -- --
Repurchase of Common Stock ...... (30,000) (1,963) -- -- (83,901)
Exercise of Common Stock
options for cash ............... 88 210 -- -- -- --
Exercise of Common Stock
options for Notes Receivable
from stockholders .............. 7,211 18,215 -- (13,615) (4,600) --
Deferred compensation related to
Common Stock options ........... -- 1,043 -- -- (1,043) --
Amortization of deferred
compensation related to
Common Stock options ........... -- -- -- -- 290 --
Imputed interest and compensation
expense related to Notes
Receivable ..................... -- -- -- (600) 600 --
Convertible Preferred Stock
accretion ...................... -- -- -- -- -- --
Net income ...................... -- -- -- -- -- --
------- -------- -------- -------- ------- ------------
Balance at June 30, 1998 ........ 27,299 19,468 -- (14,215) (4,753) (83,901)
Effect of Delaware
re-incorporation ............... -- (19,441) 19,441 -- -- --
Exercise of Common Stock
options for cash ............... 158 -- 460 -- -- --
Issuance of Common Stock under
Employee Stock Purchase Plan ... 120 -- 1,225 -- -- --
Exercise of Common Stock options
for Notes Receivable from
Shareholders ................... 125 1 1,249 (934) (316) --
Repurchase of Common Stock ...... (48) -- (131) 93 38 --
Deferred Compensation related
to Common Stock options ........ -- -- 1,413 -- (1,413) --
Amortization of deferred
compensation related to
Common Stock options ........... -- -- -- -- 540 --
Imputed interest and
compensation expense
related to Notes
Receivable ..................... -- -- -- (960) 960 --
Repayment of Notes
Receivable from
Stockholders ................... -- -- -- 4,562 1,139 --
Issuance of Common Stock
in conjunction with
initial public offering,
net of issuance costs .......... 4,000 4 43,386 -- -- --
Convertible Preferred Stock
accretion ...................... -- -- -- -- -- --
Conversion of Convertible
Preferred Stock
to Common Stock ................ 30,000 30 128,996 -- -- --
Issuance of Common Stock
in conjunction with the
purchase of
ElectroPhotonics .............. 400 1 13,708 -- -- --
Increase in investment
carrying value
in ADVA (Note 5) ............... -- -- 5,222 -- -- --
Tax benefit from
stock options .................. -- -- 1,155 -- -- --
Net income ...................... -- -- -- -- -- --
------- -------- -------- -------- ------- ------------
Balance at June 30, 1999 ........ 62,054 $ 63 $216,124 $(11,454) $(3,805) $(83,901)
======= ======== ======== ======== ======= ============
</TABLE>

<TABLE>
<CAPTION>
Total
Retained Stockholders'
Earnings Equity
-------- -------------
<S> <C> <C>
Balance at June 30, 1996 ........................ $ 18,988 $ 20,951
Net income ...................................... 15,148 15,148
-------- ---------
Balance at June 30, 1997 ........................ 34,136 36,099
Repurchase of Common Stock ...................... (34,136) (120,000)
Exercise of Common Stock options for cash......... -- 210
Exercise of Common Stock options for Notes
Receivable from stockholders ................... -- --
Deferred compensation related to Common Stock
options.......................................... -- --
Amortization of deferred compensation related to
Common Stock options ........................... -- 290
Imputed interest and compensation expense related
to Notes Receivable.............................. -- --
Convertible Preferred Stock accretion............. (9,021) (9,021)
Net income ...................................... 17,924 17,924
-------- ---------
Balance at June 30, 1998 ........................ 8,903 (74,498)
Effect of Delaware re-incorporation............... -- --
Exercise of Common Stock options for cash......... -- 460
Issuance of Common Stock under Employee Stock
Purchase Plan .................................. -- 1,225
Exercise of Common Stock options for Notes
Receivable from Shareholders ................... -- --
Repurchase of Common Stock ...................... -- --
Deferred Compensation related to Common Stock
options.......................................... -- --
Amortization of deferred compensation related to
Common Stock options ........................... -- 540
Imputed interest and compensation expense
related to Notes Receivable .................... -- --
Repayment of Notes Receivable from Stockholders... -- 5,701
Issuance of Common Stock in conjunction with
initial public offering, net of issuance costs... -- 43,390
Convertible Preferred Stock accretion............. (3,882) (3,882)
Conversion of Convertible
Preferred Stock to Common Stock.................. -- 129,026
Issuance of Common Stock in conjunction with the
purchase of ElectroPhotonics..................... -- 13,709
Increase in investment carrying value
in ADVA (Note 5) ............................... -- 5,222
Tax benefit from stock options.................... -- 1,155
Net income ...................................... 27,625 27,625
-------- ---------
Balance at June 30, 1999 ........................ $ 32,646 $ 149,673
======== =========
</TABLE>

See Notes to Consolidated Financial Statements.

27
<PAGE>

E-TEK DYNAMICS, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
Fiscal Years ended
--------------------------------
June 30,
--------------------------------
1997 1998 1999
--------- ---------- ---------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income .......................................................... $ 15,148 $ 17,924 $ 27,625
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization ...................................... 3,086 6,148 11,805
Stock compensation expense ......................................... -- 890 1,500
Imputed interest income ............................................ -- (600) (960)
Tax benefits from employee stock options ........................... -- -- 1,155
Purchased in-process research and development ...................... -- -- 4,207
Changes in assets and liabilities (net of the effect
of the acquisition of ElectroPhotonics):
Accounts receivable .............................................. (9,977) 586 (14,238)
Inventories ...................................................... (2,519) (2,808) (13,458)
Deferred income taxes ............................................ (2,478) (4,017) (5,668)
Other current assets ............................................. 160 342 (2,729)
Accounts payable ................................................. 3,273 3,567 8,924
Accrued liabilities .............................................. 5,909 6,875 9,681
Income taxes payable ............................................. 854 (1,215) 4,337
-------- --------- --------
Net cash provided by operating activities ....................... 13,456 27,692 32,181
-------- --------- --------
Cash flows from investing activities:
Additions to property and equipment ................................. (15,284) (16,267) (41,792)
Payment from (advance to) joint venture ............................. -- (7,000) 7,000
Long-term investments ............................................... -- -- (2,964)
Acquisition of ElectroPhotonics, net of cash received ............... -- -- (25,654)
Maturities and sale of short-term investments ....................... 354 14,983 --
Purchase of short-term investments .................................. (6,426) (4,143) --
-------- --------- --------
Net cash used in investing activities ........................... (21,356) (12,427) (63,410)
-------- --------- --------
Cash flows from financing activities:
Repurchase of Common Stock .......................................... (120,000) --
Proceeds from issuance of Mandatorily Redeemable
Convertible Preferred Stock ........................................ -- 116,123 --
Payment to stockholder for note ..................................... (200) -- --
Proceeds from exercise of Common Stock options ...................... -- 210 460
Proceeds from issuance of Common Stock, net ......................... -- -- 43,390
Proceeds from Employee Stock Purchase Plan .......................... -- -- 1,225
Principal repayments by stockholders on note receivable ............. 1,384 -- 5,701
Principal payments on capital lease obligations ..................... (700) (757) (1,240)
Borrowings on long-term debt ........................................ 7,700 3,000 20,175
Payments on long-term debt .......................................... (51) (182) (5,310)
-------- --------- --------
Net cash provided by (used in) financing activities ............. 8,133 (1,606) 64,401
-------- --------- --------
Net increase in cash and cash equivalents ............................ 233 13,659 33,172
Cash and cash equivalents at beginning of period ..................... 8,026 8,259 21,918
-------- --------- --------
Cash and cash equivalents at end of period ........................... $ 8,259 $ 21,918 $ 55,090
======== ========= ========
Supplemental disclosure of cash flow information:
Interest paid ....................................................... $ 514 $ 1,036 $ 1,525
Income taxes paid ................................................... $ 10,103 $ 17,549 $ 17,243
Non-cash investing and financing activities:
Common Stock issued for the acquisition of ElectroPhotonics ......... $ -- $ -- $ 13,709
Acquisition of property and equipment through capital leases ........ $ 2,918 $ 2,783 $ --
</TABLE>

See Notes to Consolidated Financial Statements.

28
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1: Summary of Significant Accounting Policies

The company and description of business

E-TEK Dynamics, Inc. ("E-TEK" or "the Company") is a leader in the design
and manufacture of components and modules for fiber optic networks. The product
range includes WDM components and modules, isolators, couplers and micro-optic
integrated components. These products are designed into Optical Amplifiers and
WDM systems for communication networks. Applications include land and undersea,
as well as emerging metropolitan and access, networks. E-TEK's customers are
telecommunications equipment manufacturers that build optical networks for
service providers. E-TEK operates in one business segment.

Until July 23, 1997, the Company was owned by two founders ("the Founders").
In July 1997, the Company underwent a recapitalization in which it sold a
controlling stake for $120 million in Mandatorily Redeemable Class A Convertible
Preferred Stock ("Convertible Preferred Stock") which had significant rights
and preferences over the Common Stock, including rights to elect a majority of
E-TEK's directors, cumulative dividends and a liquidation preference. In
connection with the recapitalization, the Company also repurchased $120 million
in Common Stock from the Founders. The redemption was accounted for as a
recapitalization and, accordingly, no change in the accounting basis of E-TEK's
net assets has been made in the accompanying consolidated financial statements.
The amount of cash paid to the stockholders exceeded the net assets of the
Company at the time of the redemption by $83,901,000. This amount has been
recorded in the equity section as distribution in excess of net book value.

Pursuant to the recapitalization, the Company amended its articles of
incorporation to change the authorized number of shares to 90,000,000, of which
30,000,000 were designated as Convertible Preferred Stock and 60,000,000 were
designated as Common Stock. Also as of that date, there was a stock split in
which each outstanding share of Common Stock was converted into 493.72476 shares
of Common Stock. All shares and per share amounts were restated to reflect the
stock split.

In June and November 1998, the Company amended its articles of incorporation
again to increase authorized shares of Common Stock to 65,000,000 shares and
300,000,000 shares, respectively. The Company is also authorized to issue
25,000,000 shares of Preferred Stock.

The Company completed its initial public offering on December 2, 1998.
Following the completion of the initial public offering, all shares of
Convertible Preferred Stock converted into an aggregate of 30,000,000 shares of
Common Stock.

Use of estimates

The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.

Principles of consolidation

All intercompany transactions and accounts have been eliminated.

Equity method of accounting

The Company accounts for its investment in foreign joint ventures using the
equity method of accounting. The Company accounts for the increase or decrease
of its proportionate share of net book value in equity basis investees from the
investees' issuance of stock at a price above or below the net book value per
share as a change to additional paid-in capital.

29
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

Revenue recognition

Revenue from product sales is recognized at the time the product is shipped,
with provisions established for estimated product returns and allowances.
Revenue is deferred on shipments of new products as to which customer acceptance
is considered to be uncertain.

Warranty expense

At the time of product shipment, the Company provides for the estimated costs
that may be incurred under warranties for the product shipped.

Research and development

Research and development costs are expensed as incurred.

Stock-based compensation

The Company accounts for its stock-based awards using the intrinsic value
method in accordance with Accounting Principles Board No. 25, "Accounting for
Stock Issued to Employees". The Company provides additional pro forma
disclosures as required under Statement of Financial Accounting Standard No.
123, "Accounting for Stock-Based Compensation" ("SFAS 123").

Cash and cash equivalents

E-TEK considers all liquid investments purchased with an original maturity of
three months or less to be cash equivalents.

Inventories

Inventories are valued at the lower of cost or market, cost being determined
using the first-in, first-out basis.

Property and equipment

Property and equipment are stated at cost. Depreciation is computed using the
straight-line method based upon the estimated useful lives of the assets, which
is fifteen years for buildings and range from three to five years for other
property and equipment.

Goodwill and other intangible assets

Goodwill and other intangible assets are being amortized using the straight-
line method over two to three years.

Impairment of long-lived assets

Pursuant to Statement of Financial Accounting Standards No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-lived Assets to be Disposed
of" ("SFAS 121"), the Company reviews long-lived assets based upon a gross
cash flow basis and will reserve for impairment whenever events or changes in
circumstances indicate the carrying amount of the assets may not be fully
recoverable. Based on its most recent analysis, the Company believes that there
was no impairment of the long-lived assets as of June 30, 1999.

30
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

Income taxes

Deferred tax assets and liabilities are recognized for the expected tax
consequences of temporary differences between the tax basis of assets and
liabilities and the amounts reported for financial reporting purposes. Deferred
income taxes are provided on unremitted earnings from the foreign joint ventures
to the extent they are not considered permanently reinvested.

Fair value of financial instruments

For certain of the Company's financial instruments, including cash, cash
equivalents, accounts receivable, accounts payable and other accrued
liabilities, the carrying amount approximates fair value due to their short
maturities. The estimated fair value of fixed rate long-term debt is primarily
based on the borrowing rates currently available to the Company for bank loans
with similar terms and maturities. This fair value approximated the carrying
amount of long-term debt at June 30, 1999.

Comprehensive income

During fiscal 1999, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income". Comprehensive income is defined as the change in equity
of a company during a period from transactions and other events and
circumstances excluding transactions resulting from investments from owners and
distributions to owners. The comprehensive income did not differ from the net
income for the years presented.

Recently issued accounting standards

In June 1998, the Financial Accounting Standards Board issued SFAS 133
"Accounting for Derivative Instruments and Hedging Activities". SFAS 133
establishes accounting and reporting standards for derivative instruments and
for hedging activities and is effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. The Company does not expect the adoption of SFAS
133 to have a material impact on its results of operations.

NOTE 2--ACQUISITION OF ELECTROPHOTONICS:

The Company completed the acquisition of ElectroPhotonics Corporation in
Canada on June 22, 1999. ElectroPhotonics develops optical networks components
and modules including WDM components, dispersion equalization modules and
optical network performance monitoring subsystems. The Company accounted for the
transaction as a purchase and has included the operating results of
ElectroPhotonics since the acquisition date in the accompanying consolidated
financial statements. The Company issued approximately 400,000 shares of Common
Stock with a market value of $13,709,000 and paid $26,728,000 in cash in
exchange for all of the equity of ElectroPhotonics. Including acquisition costs
of $460,000 and assumed liabilities of $582,000, the total purchase price was
$41,479,000. The purchase price was allocated to identifiable tangible and
intangible assets and to goodwill as follows (in thousands):

<TABLE>
<S> <C>
Cash and marketable securities ................................ $ 1,074
Property & equipment .......................................... 712
Developed technology .......................................... 933
Core technology ............................................... 2,335
In-process research and development ........................... 4,207
Acquired workforce ............................................ 230
Trade names ................................................... 238
Other assets .................................................. 601
Residual goodwill ............................................. 31,149
-------
$41,479
=======
</TABLE>

The valuations of the intangible assets, including developed technology, core
technology, in-process research and development, acquired workforce and trade
names, were based on an independent appraisal. In the appraisal, projected

31
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

incremental cash flows of projects were discounted using discount rates ranging
from 14% for developed technology to 24% for in-process research and
development. The discount rates used reflect difficulties and risks regarding
technological feasibility, market acceptance and other matters.

Goodwill is being amortized over three years. Developed technology and core
technology are being amortized over two to three years. In-process research and
development was expensed at the time of the acquisition in accordance with
generally accepted accounting principles.

The following unaudited pro forma summary presents the consolidated results of
operations of the Company, excluding acquired in-process research and
development, as if the acquisition of ElectroPhotonics had occurred at the
beginning of fiscal 1998. The unaudited pro forma summary is not necessarily
indicative of what would have occurred had the acquisition been made as of the
beginning of fiscal 1998 or of results which may occur in the future.

<TABLE>
<CAPTION>
June 30,
----------------------------
1998 1999
-------------- ------------
<S> <C> <C>
Net revenues......................................................... $107,407 $173,094
Net income........................................................... 8,202 19,706
Diluted net income per share......................................... $ 0.14 $ 0.32
</TABLE>

32
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

NOTE 3--BALANCE SHEET DETAIL:

<TABLE>
<CAPTION>
June 30,
--------------------
1998 1999
--------- ---------
<S> <C> <C>
Accounts receivable:
Trade receivables .................................................................. $ 20,358 $ 39,980
Less: Allowances for doubtful accounts and sales returns ........................... (4,895) (10,149)
-------- --------
$ 15,463 $ 29,831
======== ========
Inventories:
Raw materials ...................................................................... $ 3,459 $ 10,613
Work in process .................................................................... 1,566 7,577
Finished goods ..................................................................... 1,884 2,177
-------- --------
$ 6,909 $ 20,367
======== ========
Property and equipment:
Machinery and equipment ............................................................ $ 22,429 $ 49,237
Computers and software ............................................................. 2,008 3,078
Furniture and fixtures ............................................................. 470 2,163
Automobiles ........................................................................ 138 27
Building improvements .............................................................. 4,734 16,669
Land and buildings ................................................................. 11,610 11,610
-------- --------
41,389 82,784
Less: Accumulated depreciation ..................................................... (10,517) (20,910)
-------- --------
$ 30,872 $ 61,874
======== ========
Goodwill and other intangible assets:
Goodwill ........................................................................... -- $ 31,149
Purchased technologies ............................................................. -- 3,268
Other intangible assets ............................................................ -- 468
-------- --------
-- 34,885
Less: Accumulated amortization ..................................................... -- (300)
-------- --------
$ -- $ 34,585
======== ========
Accrued liabilities:
Accrued compensation ............................................................... $ 7,408 $ 10,887
Accrued warranty ................................................................... 3,735 4,620
Accrued commissions ................................................................ 2,151 3,120
Accrued professional services ...................................................... 839 1,221
Accrued marketing expenses ......................................................... 270 1,185
Deferred revenues .................................................................. 1,000 915
Accrued sales and property taxes ................................................... 127 504
Other .............................................................................. 657 3,900
-------- --------
$ 16,187 $ 26,352
======== ========
</TABLE>

NOTE 4--NET INCOME PER SHARE:

Basic net income per share is computed by dividing net income available to
Common Stockholders by the weighted average number of common shares outstanding
during the period.

Diluted net income per share is calculated using the weighted average number of
outstanding shares of Common Stock plus dilutive Common Stock equivalents. For
all periods presented, Common Stock equivalents consist of Convertible Preferred
Stock, unvested Common Stock subject to repurchase and Common Stock options
using the treasury stock method based on the average stock price for the period.

33
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

The following table sets forth the computation of basic and diluted earnings
per share (in thousands, except per share data):

<TABLE>
<CAPTION>
Fiscal Year ended June 30,
---------------------------------------
1997 1998 1999
-------------- ----------- ----------
<S> <C> <C> <C>
Numerator:
Net income ............................................................... $15,148 $17,924 $27,625
Convertible Preferred Stock accretion .................................... -- 9,021 3,882

Net income available to Common Stockholders (Basic) ...................... 15,148 8,903 23,743
Convertible Preferred Stock accretion .................................... -- 9,021 3,882

Net income available to Common Stockholders and assumed
conversions (Diluted) .................................................. $15,148 $17,924 $27,625

Denominator:
Denominator for basic earnings per share--weighted average
common shares .......................................................... 50,000 22,970 43,152
Effect of dilutive securities
Common Stock options .................................................. -- 296 1,998
Unvested Common Stock subject to repurchase ........................... -- 4,104 4,166
Convertible Preferred Stock ........................................... -- 28,191 12,430

Denominator for dilutive earnings per share--adjusted weighted
average common shares and assumed conversions .......................... 50,000 55,561 61,746

Basic earnings per share ................................................. $ 0.30 $ 0.39 $ 0.55

Diluted earnings per share ............................................... $ 0.30 $ 0.32 $ 0.45

</TABLE>

NOTE 5--JOINT VENTURES:

FibX
During fiscal 1998, the Company entered into an agreement with a Taiwanese
company to form a joint venture in Taiwan to develop, manufacture and distribute
fiber optic components and products. The Company and the other investor each
contributed $7,000,000 in cash for a 50% interest in the joint venture. Under
the joint venture agreement and a related license agreement, the Company
received $7,000,000 from the joint venture for certain technology of the Company
that was licensed to the joint venture.

The $7,000,000 cash contributed by the Company and the $7,000,000 receivable
from the joint venture offset so that, in substance, the Company received a 50%
interest in the joint venture in exchange for a technology license that had no
carrying value in the Company's financial statements. In accordance with
Emerging Issues Task Force Consensus No. 89-7, the Company did not record any
gain on the exchange and, therefore, the carrying value of the Company's
investment in FibX as of June 30, 1998 was nil. The Company's equity interest in
FibX was subsequently diluted to 45% through the issuance of equity to other
parties.

During fiscal 1999, FibX began to manufacture certain products for the
Company. The Company sells certain components to and buys finished goods from
FibX. The transactions between the Company and FibX during fiscal 1999 were
immaterial. The Company's share of the equity loss in FibX was immaterial for
fiscal 1999 and, therefore, the carrying value of the Company's investment in
FibX was still nil as of June 30, 1999.

34
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

On July 6, 1999, the Company purchased an additional interest in FibX from
other investors for $12,000,000 in cash. After the purchase, the Company's
interest in FibX was increased to approximately 96%. The purchase resulted in
goodwill and other intangible assets of approximately $6,000,000 (unaudited),
which will be amortized in accordance with the Company's accounting policy. The
pro forma combined results of operations for fiscal 1998 and 1999 were not
materially different than the actual results.

ADVA

During fiscal 1995, the Company contributed $250,000 for a 40% ownership
interest in a German company ("ADVA") that develops and manufactures fiber
optic components and products. The other 60% interest was held by the Company's
German distributor, AMS Opto Tech GmbH ("AMS"). During the quarter ended April
1, 1999, the Company contributed an additional $2,500,000 to maintain its 40%
interest in ADVA. On March 30, 1999, ADVA completed its initial public offering
and began trading on the Neuer Markt of the Frankfurt Stock Exchange. The
Company's ownership interest in ADVA was reduced to 33% after ADVA's initial
public offering. The Company increased the carrying value of its investment to
reflect the increase in the Company's share of ADVA's net book value. The
Company recorded the increase, net of the deferred tax liability, as a credit to
additional paid-in capital. At June 30, 1999, the carrying value of the
Company's investment in ADVA was $10,665,000. The market value of the investment
at June 30, 1999 was $121,803,000.

NOTE 6--DEBT:

In November 1996, the Company obtained a $7,700,000 term loan from a financial
institution, which bears interest at a rate of 7.85% per annum. Monthly
principal and interest payments are $59,000, with a final payment of all
remaining unpaid principal and interest on December 1, 2001. This loan is
secured by the Company's land and buildings with a net book value of $11,610,000
at June 30, 1999. The outstanding balance of this note as of June 30, 1999 was
$7,426,000.

In September 1997, the Company obtained a $3,000,000 term loan from a bank,
which bore interest at a rate of LIBOR plus 1.7% per annum. Monthly principal
and interest payments amounted to $27,000, with a final payment of all remaining
unpaid principal and interest on September 30, 2000. This note was paid off
fully during fiscal 1999.

In November 1998, the Company obtained a $5,440,000 term loan from a financial
institution, which bears interest at a rate of 6.46% per annum. Monthly
principal and interest payments amount to $129,000 with a final payment of all
remaining unpaid principal and interest in October 2002. Should the Company
elect to prepay any remaining balance of this note, they are subject to a
penalty not to exceed 3% of the original principal balance. This note is secured
by certain equipment owned by the Company. At June 30, 1999, the outstanding
balance of this note was $4,525,000.

In January 1999, the Company obtained a $7,890,000 term loan from a financial
institution, which bears interest at a rate of 6.38% per annum. Monthly
principal and interest payments amount to $241,000 with a final payment of all
remaining unpaid principal and interest in January 2002. Should the Company
elect to prepay any remaining balance of this note, it would pay a penalty not
to exceed 3% of the original principal balance. This note is secured by certain
equipment owned by the Company. At June 30, 1999, the outstanding balance of
this note was $6,882,000.

In April 1999, the Company obtained a $6,845,000 term loan from a financial
institution, which bears interest at a rate of 6.89% per annum. Monthly
principal and interest payments amount to $211,000 with a final payment of all
remaining unpaid principal and interest in April 2002. Should the Company elect
to prepay any remaining balance of this note, it would pay a penalty not to
exceed 3% of the original principal balance. This note is secured by certain
equipment owned by the Company. At June 30, 1999, the outstanding balance of
this note was $6,501,000.

35
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

Future principal payments under long-term debt are as follows (in thousands):

Fiscal Year ending June 30,
- ---------------------------
<S> <C>
2000 ......................................................................... $ 6,101
2001 ......................................................................... 6,523
2002 ......................................................................... 12,342
2003 ......................................................................... 367
-------
Total principal payments ..................................................... 25,333
Less: Current portion ........................................................ (6,101)
-------
Long-term portion of principal payments ...................................... $19,232
=======
</TABLE>

NOTE 7--INCOME TAXES:

The provision for income taxes was as follows (in thousands):

<TABLE>
<CAPTION>
Fiscal Year ended June 30,
----------------------------------------------
1997 1998 1999
--------------- --------------- ------------
<S> <C> <C> <C>
Current
Federal ............................................. $ 9,492 $14,216 $21,586
State ............................................... 1,463 1,943 2,499
------- ------- -------
10,955 16,159 24,085
------- ------- -------
Deferred
Federal ............................................. (2,170) (3,500) (4,855)
State ............................................... (308) (517) (813)
------- ------- -------
(2,478) (4,017) (5,668)
------- ------- -------
$ 8,477 $12,142 $18,417
======= ======= =======
Tax rate reconciliation:
Federal income tax statutory rate ................... 35.0% 35.0% 35.0%
State taxes, net of federal tax benefit ............. 2.9 2.6 2.3
Permanent differences ............................... -- 4.7 3.9
Foreign sales corporation benefit ................... (2.7) (4.2) (3.0)
Research and development credit ..................... (0.7) (1.0) (1.1)
Other ............................................... 1.4 3.3 2.9
------- ------- -------
35.9% 40.4% 40.0%
======= ======== ========
</TABLE>

Deferred tax assets and liabilities were comprised of the following (in
thousands):

<TABLE>
<CAPTION>
June 30,
-----------------------------------
1998 1999
----------------- ----------------
<S> <C> <C>
Deferred tax assets:
Inventory reserves ................................. $1,444 $ 2,579
Uniform cost capitalization for inventory .......... 789 1,250
Sales return and bad debt reserves ................. 2,268 3,906
Warranty reserves .................................. 1,437 1,780
Vacation and other accruals ........................ 657 2,428
State taxes ........................................ 693 910
Other .............................................. 585 689
------ -------
7,873 13,542
Deferred tax liabilities .............................. -- (3,481)
------ -------
Net deferred tax assets ............................... $7,873 $10,061
====== =======
</TABLE>

36
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

Deferred tax liabilities of $3,481,000 at June 30, 1999 related to the tax
effect of a book/tax basis difference for the Company's investment in ADVA.

NOTE 8--MANDATORILY REDEEMABLE CONVERTIBLE PREFERRED STOCK:

On December 2, 1998, all shares of Convertible Preferred Stock converted into
an aggregate of 30,000,000 shares of Common Stock. Prior to the conversion, the
holders of the Convertible Preferred Stock had various rights and preferences as
follows:

Voting

Each share of Convertible Preferred Stock had voting rights equal to an
equivalent number of shares of Common Stock into which it was convertible and
voted together as one class with the Common Stock. Holders of Convertible
Preferred Stock had the right to elect three of the five members of the Board of
Directors.

Cumulative dividends

Dividends on each share of Convertible Preferred Stock accrued at a rate of 8%
per annum of the liquidation value of $4.00 per share. For the years ended June
30, 1998 and 1999, the Company recorded $9,021,000 and $3,882,000, respectively,
for the accretion of the value of the Convertible Preferred Stock related to the
8% dividend per annum on the $120,000,000 liquidation value of the Convertible
Preferred Stock.

The holders of the Convertible Preferred Stock were also entitled to
participate in dividends on Common Stock, when and if declared by the Board of
Directors, based on the number of shares of Common Stock held on an as-if
converted basis.

Redemption

The holders of the Convertible Preferred Stock had the option to redeem the
stock at the then liquidation value if there were a change in ownership of the
Company. The liquidation value was defined as the greater of (i) an amount of
$4.00 per share, plus any unpaid dividends or (ii) the consideration per share
payable to holders of Common Stock assuming conversion to Common Stock of all
outstanding Convertible Preferred Stock, plus any unpaid dividends, prior to
liquidation.

NOTE 9--RESTRICTED STOCK AND STOCK OPTION PLANS:

Restricted stock

During fiscal 1998 and 1999, under the Company's 1997 stock option plans, the
Company issued 7,211,000 and 125,000 shares of Common Stock, respectively, to
employees and officers of the Company in exchange for promissory notes in an
aggregate principal amount of $18,215,000 and $1,250,000, respectively. These
notes, which are secured by the shares of Common Stock, are generally full
recourse and payable in five years from the purchase date or upon termination of
employment by the Company, whichever comes first. Because these notes do not
bear interest, the $18,215,000 and $1,250,000 face values were discounted using
a 6% interest rate to $13,615,000 and $934,000, respectively, with the
difference recorded as deferred compensation cost. During fiscal 1998 and 1999,
the Company recognized $600,000 and $960,000, respectively, of compensation
expense and $600,000 and $960,000, respectively, of interest income related to
this imputed interest income. These shares sold in exchange for the promissory
notes are subject to a right of repurchase by the Company, subject to vesting,
which is generally over a four year period from the grant date, until vesting is
complete.

In addition, under the Company's 1997 stock option plans, the Company issued
88,000 and 158,000 shares of Common Stock to employees of the Company for
$210,000 and $460,000 in cash during fiscal 1998 and fiscal 1999, respectively.
These shares sold are subject to a right of repurchase by the Company, subject
to vesting, which is generally over a four year period from the date of grant,
until vesting is complete.

At June 30, 1999, there were 3,139,000 shares of Common Stock purchased under
the Company's 1997 stock option plans subject to repurchase.

37
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

1997 Equity Incentive Plan

In July 1997, the Company adopted the 1997 Equity Incentive Plan (the "Equity
Plan") which provided for granting of incentive stock options and non-statutory
stock options to employees, officers and consultants of the Company for up to
10,556,000 shares of Common Stock.

Under the Equity Plan, incentive stock options were granted at a price that is
not less than 100% of the fair market value of the stock on the date of grant,.
Non-statutory stock options were granted at a price that was not to be less than
85% of the fair market value of the stock on the date of grant. The exercise
price of any option granted to a 10% stockholder would not be less than 110% of
the fair market value of the stock on the date of grant.

Options are exercisable immediately subject to repurchase options held by the
Company which generally lapse over a maximum period of four years at such times
and under such conditions as determined by the Board of Directors. In August
1998, the Equity Plan was terminated and the remaining options available for
grant under the Equity Plan were transferred to the 1998 Stock Plan.

1997 Executive Equity Incentive Plan

In October 1997, the Company adopted the 1997 Executive Equity Incentive Plan
(the "Executive Plan") which provided for granting of incentive stock options
and non-statutory stock options to officers or directors of the Company for up
to 4,444,000 shares of Common Stock.

Under the Executive Plan, incentive stock options are granted at a price that
was not less than 100% of the fair market value of the stock on the date of
grant. Non-statutory stock options were granted at a price that was not to be
less than 85% of the fair market value of the stock on the date of grant. The
exercise price of any option granted to a 10% stockholder would not be less than
110% of the fair market value of the stock on the date of grant.

Options were exercisable immediately subject to repurchase by the Company
which generally lapse over a maximum period of four years at such times and
under such conditions as determined by the Board of Directors. In August 1998,
the Executive Plan was terminated and the remaining options available for grant
under the Executive Plan were transferred to the 1998 Stock Plan.

1998 Stock Option Plan

In August 1998, the Company adopted the 1998 Stock Plan (the "1998 Plan") to
replace the Equity Plan and Executive Plan. The 1998 Plan provides for the grant
of incentive stock options to employees (including officers and employee
directors) and for the grant of non-statutory stock options and stock purchase
rights to employees, directors and consultants. A total of (i) 3,000,000 shares
of the Company's Common Stock (plus shares which have been reserved but unissued
under the Company's Equity Plan and Executive Plan), (ii) any share returned to
the Equity Plan and the Executive Plan as a result of termination of options or
repurchase of shares by the Company, and (iii) annual increases equal to the
lesser of 3,000,000 shares, or 4% of the outstanding shares, are currently
reserved for issuance pursuant to the 1998 Plan.

The term of stock options granted under the 1998 Plan is generally 10 years.
Under the 1998 Plan, incentive stock options are granted at a price that is not
less than 100% of the fair market value of the stock on the date of grant. Non-
statutory stock options are granted at a price that is not to be less than 85%
of the fair market value of the stock on the date of grant. The exercise price
of any option granted to a 10% stockholder will not be less than 110% of the
fair market value of the stock on the date of grant. Options vest in four years
under the 1998 Plan.

38
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

Directors' Stock Option Plan

In August, 1998, the Company adopted the 1998 Director Option Plan (the
"Director Plan"). A total of 250,000 shares of the Company's Common Stock,
plus an annual increase equal to the optioned stock underlying options granted
in the immediately preceding year, have been reserved for issuance under the
Director Plan.

Under the Director Plan, non-statutory stock options are granted at 100% of
the fair value of the stock on the date of grant. The term of stock options
granted under the Director Plan is generally 10 years. Options vest in four
years. At June 30, 1999, no options have been issued under the Director Plan.

1998 Employee Stock Purchase Plan

In August 1998, the Company adopted the 1998 Employee Stock Purchase Plan (the
"1998 Purchase Plan"). Under the 1998 Purchase Plan, eligible employees may
purchase Common Stock at a price equal to 85% of the lower of the fair market
value of the Common Stock at the beginning of a 24-month period or end of each
six-month segment within such offering period. Participation is limited to 10%
of an employee's compensation (not to exceed amounts allowed by the Internal
Revenue Code). A total of 750,000 shares of Common Stock have been reserved for
issuance under the 1998 Purchase Plan, plus annual increases equal to the lesser
of (i) 750,000 shares, (ii) 1% of the outstanding shares on such date, or (iii)
such lesser amount as may be determined by the Board of Directors. To date,
120,000 shares of Common Stock have been issued under the 1998 Purchase Plan.

The following table summarizes activities under all of E-TEK's stock option
plans:

<TABLE>
<CAPTION>
Weighted
Options Average
Available Outstanding Exercise
for Grant Shares Price
----------- ----------- ---------
(in thousands) (in thousands)
<S> <C> <C> <C>
Shares authorized .............................................. 15,000 -- $ --
Granted ........................................................ (10,525) 10,525 2.97
Exercised ...................................................... -- (7,299) 2.52
Cancelled ...................................................... 176 (176) 2.41
------- ------
Balance at June 30, 1998 ....................................... 4,651 3,050 4.05
Shares authorized .............................................. 3,250 -- --
Granted ........................................................ (3,095) 3,095 18.68
Exercised ...................................................... -- (283) 6.05
Repurchased .................................................... 48 -- 2.65
Cancelled ...................................................... 123 (123) 8.39
------- ------
Balance at June 30, 1999 ....................................... 4,977 5,739 $11.75
======= ======
</TABLE>

The weighted average fair value of options granted for fiscal 1998 and 1999
was $0.75 and $10.18, respectively.

Under the 1997 option plans, options are exercisable immediately and subject
to repurchase by the Company which generally lapse over a period of four years.
At June 30, 1999, 4,150,000 options with a weighted average exercise price of
$6.08 were outstanding and exercisable, of which 1,316,000 options were vested.

Management calculated deferred compensation of $1,043,000 and $1,413,000
related to the option grants during fiscal 1998 and fiscal 1999, respectively.
Such deferred compensation is amortized over the vesting period, which is
generally four years. Amortization expense amounted to $290,000 and $540,000 for
fiscal 1998 and 1999, respectively.

39
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

Option groups outstanding at June 30, 1999 and related weighted average
exercise price and contractual life information are as follows:

<TABLE>
<CAPTION>
Options Exercisable
Options Outstanding at June 30, 1999 at June 30, 1999
------------------------------------ -------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Range of Number Contractual Exercise Number Exercise
Exercise Price Outstanding Life Price Exercisable Price
- -------------- ----------- ------------ --------- ----------- ---------
(in thousands) (in thousands)
<S> <C> <C> <C> <C> <C>
$ 2.30 - $ 2.30 876 8.11 $ 2.30 876 $ 2.30
$ 3.25 - $ 3.25 1,281 8.60 $ 3.25 1,281 $ 3.25
$ 4.20 - $ 8.00 273 8.83 $ 6.42 273 $ 6.42
$10.00 - $10.00 2,143 9.13 $10.00 1,674 $10.00
$12.00 - $43.50 1,166 9.76 $32.64 46 $12.00
----- -----
$ 2.30 - $43.50 5,739 8.97 $11.75 4,150 $ 6.08
===== =====
</TABLE>

Fair value disclosures

Had compensation cost for the Company's stock option plans been determined
based on the fair value at the grant dates for the awards under a method
prescribed by SFAS No. 123, the Company's net income and pro forma net income
per share would have been decreased to the pro forma amounts indicated below (in
thousands, except per share data):

<TABLE>
<CAPTION>
Fiscal Year Ended
June 30,
-------------------------------
1998 1999
--------------- --------------
<S> <C> <C>
Net income:
As reported .............................................................. $17,924 $27,625
======= =======
Pro forma ................................................................ $16,681 $24,398
======= =======
Net income available for Common Stockholders:
As reported .............................................................. $ 8,903 $23,744
======= =======
Pro forma ................................................................ $ 7,660 $20,517
======= =======
Net income per share:
As reported:
Basic ................................................................... $ 0.39 $ 0.55
======= =======
Diluted ................................................................. $ 0.32 $ 0.45
======= =======
Pro forma:
Basic ................................................................... $ 0.33 $ 0.48
======= =======
Diluted ................................................................. $ 0.30 $ 0.34
======= =======
</TABLE>

The fair value of each option granted is estimated on the date of grant using
the Black-Scholes Model. The minimum value method was used for fiscal 1998 and
for the period between July 1, 1998 and December 1, 1998 with the following
assumptions: a risk-free interest rate of 6.00% for fiscal 1998 and 5.91% for
the period between July 1, 1998 and December 1, 1998; an expected term of option
of 5 years and a dividend yield of 0.00% for both periods. For the period
between December 2, 1998 and June 30, 1999, the following assumptions were used
in the fair value calculations: a risk-free interest rate of 5.91%, a volatility
rate of 82%, an expected term of option of 5 years and a dividend yield of
0.00%.

Sales under the 1998 Purchase Plan were 120,000 shares at an average price per
share of $10.20 in fiscal 1999. Pro forma compensation expense for the grant
date fair value, as defined by SFAS 123, of the purchase rights granted under
the 1998 Purchase Plan was calculated using the Black-Scholes Model with the
following assumptions: an expected life of 1.25 years, an expected volatility
rate of 80%, a dividend yield of 0.00 % and a risk-free interest rate of 5.91%.
The weighted average fair value per share, as defined by SFAS 123, of rights to
purchase stock under the 1998 Purchase Plan was $4.95.

Because additional option grants are expected to be made each year, the above
pro forma disclosures are not representative of pro forma effects of reported
net income for future years.

40
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

NOTE 10--EMPLOYEE BENEFIT PLAN:

The Company sponsors a 401(k) Savings Plan (the "Plan"). All employees are
eligible to participate in the Plan following certain minimum eligibility
requirements. Under the Plan, employees may elect to contribute up to 15% of
their pre-tax compensation to the Plan, subject to annual limitations. Matching
employer contributions are 25% of the employees' contributions but limited to
the first 10% of the employees' deferral. Employer contributions are vested over
five years after employees' two years of services and employee contributions are
100% vested at all times. The Company's contribution to the plan was $211,000,
$313,000 and $1,027,000 for fiscal 1997, 1998 and 1999, respectively.

NOTE 11--MAJOR CUSTOMERS AND CONCENTRATION OF RISKS:

Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of cash equivalents and trade
accounts receivable. The Company invests primarily in money market accounts and
marketable securities with high quality financial, government or corporate
institutions. The Company sells its products to original equipment manufacturers
and distributors. The Company performs ongoing credit evaluations of its
customers' financial condition and maintains an allowance for uncollectible
accounts receivable based upon the expected collectibility of all accounts
receivable. At June 30, 1998, two customers and their affiliates accounted for
43% and 11% of accounts receivable. At June 30, 1999, four customers and their
affiliates accounted for 30%, 15%, 11% and 11% of accounts receivable.

During fiscal 1997, three customers and their affiliates accounted for 27%,
22% and 12% of total revenues. During fiscal 1998, three customers and their
affiliates accounted for 30%, 16% and 14% of total revenues. During fiscal 1999,
three customers and their affiliates accounted for 35%, 17% and 12% of total
revenues. Export sales were approximately 42%, 53%, and 42% of total net sales
for fiscal 1997, 1998 and 1999, respectively.

NOTE 12--INDUSTRY SEGMENT AND GEOGRAPHIC INFORMATION:

The Company operates in a single industry segment--the design and manufacture
of components and modules for fiber optic networks. The Company operates in
three geographic regions: the United States, Europe and Asia/Pacific. The
following is a summary of sales by geographic area (in thousands):

<TABLE>
<CAPTION>
Fiscal Year ended June 30,
-------------------------------------------
1997 1998 1999
-------------- -------------- -----------
<S> <C> <C> <C>
United States ..................................................... $42,532 $50,724 $92,319
Europe ............................................................ 27,107 49,251 73,090
Asia/Pacific ...................................................... 3,437 6,949 7,255
</TABLE>

NOTE 13--COMMITMENTS AND CONTINGENCIES:

Leases

The Company has entered into a number of noncancelable lease agreements
involving machinery and equipment and automobiles. The principal portions of the
minimum rentals have been capitalized and the related assets and obligations
recorded using the interest rates implicit in the respective leases.

During fiscal 1999, the Company entered into a facility lease for one
manufacturing plant. The lease expires in 2006.

41
<PAGE>

E-TEK DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

Future minimum payments under all noncancelable leases are as follows (in
thousands):

<TABLE>
<CAPTION>
Operating Capital
Fiscal Year Ending June 30, Leases Leases
--------------------------- -------------- ---------------
<S> <C> <C>
2000 .......................................................................... $ 1,964 $ 1,508
2001 .......................................................................... 1,908 1,508
2002 .......................................................................... 1,908 546
2003 .......................................................................... 1,908 417
2004 .......................................................................... 1,908 --
Thereafter .................................................................... 3,498 --
------- -------
Total minimum lease payments. ................................................. $13,094 3,979
=======
Less: Amount representing interest ............................................ (421)
-------
Present value of capitalized lease obligations ................................ 3,558
Less: Current portion ......................................................... (1,277)
-------
Long-term portion of capitalized lease obligations ............................ $ 2,281
=======
</TABLE>

At June 30, 1998 and June 30, 1999, the cost of machinery and equipment and
automobiles under capital leases, net of accumulated depreciation, was
$4,025,000 and $2,195,000, respectively.

Total rent expense on all operating leases was $283,000, $472,000 and $365,000
for fiscal 1997, 1998 and 1999, respectively.

Contingencies

The Company is party to litigation matters and claims which are normal in the
course of its operations. While the results of such litigations and claims
cannot be predicted with certainty, the Company believes that the final outcome
of such matters will not have a material adverse effect on its financial
position and results of operations or cash flows.

NOTE 14--SUBSEQUENT EVENT:

On July 27, 1999, the Company signed a definitive agreement to acquire SMC
Kaifa (Holdings) Ltd., for a total purchase price of 697,000 shares of its
Common Stock and cash of $12,000,000. The Company estimates that the purchase
will result in approximately $36,000,000 of goodwill and other intangible assets
which will be amortized over 3 years. The closing of the transaction is subject
to several conditions, including required governmental approvals. The Company
cannot be certain that the acquisition will be completed.

ITEM 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure

Not applicable.
42
<PAGE>

PART III

ITEM 10. Directors and Executive Officers of E-TEK Dynamics

The following table sets forth certain information with respect to each of our
executive officers and directors as of July 29, 1999.

<TABLE>
<CAPTION>
Name Age Position(s)
- ---- --- -----------
<S> <C> <C>
Michael J. Fitzpatrick(1) ...................... 50 Chairman, President, and Chief Executive Officer
Ming Shih ...................................... 46 Senior Vice President, Sales and Marketing
Sanjay Subhedar ................................ 47 Senior Vice President, Operations, Chief Financial
Officer and Secretary
Philip J. Anthony .............................. 47 Vice President, Engineering
Jim Northington ................................ 52 Vice President, Manufacturing
William H. Diamond, Jr. ....................... 43 Vice President, Marketing
Walter G. Kortschak(2)(3) ...................... 40 Director
David W. Dorman(2) ............................. 45 Director
Donald J. Listwin .............................. 40 Director
Joseph W. Goodman(3) ........................... 63 Director
Peter Y. Chung(3) .............................. 31 Director
</TABLE>
_________
(1) Member of the Employee Stock Option Committee
(2) Member of the Compensation Committee
(3) Member of the Audit Committee

Michael J. Fitzpatrick has been Chairman of the Board since April 1999 and
President and Chief Executive Officer since October 1997. From July 1994 to
October 1997, Mr. Fitzpatrick served as President and Chief Executive Officer of
Pacific Telesis Enterprises, a service provider. While at Pacific Telesis, Mr.
Fitzpatrick also served as Executive Vice President of Marketing and Sales from
January 1994 to July 1994 and Executive Vice President of Statewide Markets with
Pacific Bell, an affiliate of Pacific Telesis, from September 1993 to January
1994. From October 1991 to August 1993, Mr. Fitzpatrick was President and Chief
Executive Officer of Network Systems Corporation, an internetworking company.
Mr. Fitzpatrick also serves as a director of NorthPoint Communications Group,
Inc., a national provider of local data network services. Mr. Fitzpatrick
received a B.A. from Duke University.

Ming Shih, one of our founders, was promoted to Senior Vice President, Sales
and Marketing in July 1998. Prior to that he served as corporate vice president
as well as in various senior management roles at E-TEK, with responsibility for
engineering, manufacturing and sales and marketing. Mr. Shih received an M.S.
from the Illinois Institute of Technology and an M.S. from the Florida Institute
of Technology.

Sanjay Subhedar joined us in December 1997 as Vice President, Finance and
Chief Financial Officer and was promoted to Senior Vice President, Operations
and Chief Financial Officer in July 1998. Mr. Subhedar was also appointed as our
Secretary in March 1998. From February 1986 to July 1996, Mr. Subhedar served as
Chief Financial Officer of StrataCom, Inc., a wide area networking company.
Following StrataCom's merger with Cisco Systems, Inc., an internetworking
company, in July 1996, Mr. Subhedar served as Vice President of Cisco's WAN
Business Unit until October 1997. Mr. Subhedar received a B.S. from the
University of Bombay, India, and an M.B.A. from Indiana University.

Philip J. Anthony joined us in June 1998 as Vice President, Engineering. Prior
to joining us, Dr. Anthony served in various capacities at Lucent Technologies
Inc., a manufacturer of communications systems, software and products (and at
its predecessors Bell Laboratories and AT&T Corp.), most recently as Director of
Passive Devices and Integrated Optical Modules in the Optoelectronic Business of
the Lucent Microelectronics Group from October 1997 to June 1998. From September
1987 to October 1997, he served as the department head of various research and
development departments in the photonics laboratories of Bell Laboratories. Dr.
Anthony received a B.S. from the University of Dayton, and an M.S. and Ph.D.
from the University of Illinois. He is a fellow of the IEEE and serves as the
Vice President of Publications for the Lasers and Electro-Optics Society.

Jim Northington joined us in July 1998 as Vice President, Manufacturing. From
November 1994 to July 1998, Mr. Northington served in various capacities at
SMART Modular Technologies, Inc., a manufacturer of computer memory modules and
cards. While at SMART Modular, he served as the Vice President, Worldwide
Operations from November 1997

43
<PAGE>

to July 1998, as Vice President, Quality Assurance and Corporate Development
from July 1996 to November 1997, and as Vice President, Operations from November
1994 to July 1996. From August 1989 to November 1994, Mr. Northington was a
Principal at APS Products where, as a self-employed consultant, he provided
manufacturing operations expertise to clients with a primary focus on adapter
cards, peripherals and systems products. Mr. Northington received a B.S. from
Long Beach State College.

William H. Diamond, Jr. joined us as Vice President, Marketing in October
1998. Prior to joining us, Mr. Diamond served as Director of Marketing for
Lucent Technologies Optoelectronics, a manufacturer of fiber optic components
and subsystems for communications applications, from July 1997 to October 1998.
From April 1996 to July 1997, Mr. Diamond was Managing Director, Europe, Middle
East, Africa, for Best Power Technology, Inc., a unit of General Signal, a
manufacturer of various industrial and electronic goods. Prior to joining Best
Power, Mr. Diamond served as UK General Manager and European Sales Manager for
AT&T Microelectronics Europe from January 1996 to April 1996. While at AT&T
Microelectronics Europe, Mr. Diamond also served as European Marketing Director
for Optoelectronics from April 1992 to January 1996 and UK General Manager from
June 1994 to July 1996. Mr. Diamond received a B.A. from Holy Cross College and
an M.B.A. from Georgetown University.

Walter G. Kortschak has served as one of our directors since July 1997. He was
Chairman of the Board of Directors from July 1997 until April 1999. Mr.
Kortschak is a General Partner of Summit Partners, a private equity capital firm
in Palo Alto, California, where he has been employed since June 1989. Summit
Partners and its affiliates manage a number of venture capital funds, including
Summit Ventures IV, L.P., Summit Investors III, L.P. and Summit Subordinated
Debt Fund II, L.P. Mr. Kortschak serves as a director of several privately held
companies. Mr. Kortschak received a B.S. from Oregon State University, an M.S.
from The California Institute of Technology and an M.B.A. from the University of
California, Los Angeles.

David W. Dorman has served as one of our directors since June 1998. Mr. Dorman
is the Chief Executive Officer of the AT&T/BT Global Venture where he has been
employed since April 1999. Prior to that, Mr. Dorman was the Chairman, President
and Chief Executive Officer of PointCast Incorporated, a company providing
broadcast news through the Internet and corporate intranets. Prior to joining
PointCast in November 1997, Mr. Dorman served as the Executive Vice President of
SBC Communications from August 1997 to November 1997, following the merger of
SBC and Pacific Telesis. Prior to that, Mr. Dorman served as President and Chief
Executive Officer of Pacific Bell from July 1994 to August 1997. From 1981 to
July 1994, Mr. Dorman held various senior management positions at Sprint
Corporation, a telecommunications company. Mr. Dorman also serves as a director
of 3Com Corporation, Science Applications International Corporation, and
Scientific-Atlanta, Inc. Mr. Dorman received a B.S. from the Georgia Institute
of Technology.

Donald J. Listwin has served as one of our directors since July 1998. Mr.
Listwin is an Executive Vice President at Cisco Systems, Inc., where he has been
employed since 1990. In April 1997, Mr. Listwin was named the Senior Vice
President of Cisco's Service Provider Line of Business. Prior to that, he was
Senior Vice President of Cisco's Market Development from August 1996 to April
1997, Vice President and General Manager of Cisco's Access Business Unit from
September 1995 to August 1996, and Vice President of Marketing from September
1993 to September 1995. Mr. Listwin also serves as a director of TIBCO Software
Inc., a software company. Mr. Listwin received a B.S. from the University of
Saskatchewan, Canada.

Joseph W. Goodman has served as one of our directors since July 1998. Dr.
Goodman has served as Acting Dean of Engineering, Senior Associate Dean of
Engineering, and Chairman of the Department of Electrical Engineering at
Stanford University. He has been employed at Stanford University in various
capacities since 1963, and has held the William Ayer Chair of Electrical
Engineering since 1988. He received a B.A. degree from Harvard University and
M.S. and Ph.D. degrees from Stanford University.

Peter Y. Chung served as one of our directors from July 1997 until July 1998
and then rejoined our Board in December 1998. Mr. Chung is a General Partner of
Summit Partners, a private equity capital firm in Palo Alto, California, where
he has been employed since August 1994. Summit Partners and its affiliates
manage a number of venture capital funds, including Summit Ventures IV, L.P.,
Summit Investors III, L.P. and Summit Subordinated Debt Fund II, L.P. From
August 1989 to July 1992, Mr. Chung worked in the Mergers and Acquisitions
Department of Goldman, Sachs & Co. Mr. Chung also serves as a director of Splash
Technology Holdings, Inc., a developer of color server systems, and Ditech
Communications Corporation, a telecommunications equipment company, as well as
several privately held companies. Mr. Chung received a B.A. from Harvard
University and an M.B.A. from Stanford University.

Our Board of Directors is divided into three classes, designated Class I,
Class II and Class III. Each class of directors currently consists of two or
more directors. At each annual meeting of stockholders, one class of directors
is elected to a

44
<PAGE>

three-year term to succeed the directors of the same class whose terms are then
expiring. The Class I directors, whose terms will expire at our 1999 Annual
Meeting of Stockholders, are Joseph W. Goodman and Peter Y. Chung. The Class II
directors, whose terms will expire at our 2000 Annual Meeting of Stockholders,
are David W. Dorman and Donald J. Listwin. The Class III directors, whose terms
will expire at our 2001 Annual Meeting of Stockholders, are Walter G. Kortschak
and Michael J. Fitzpatrick.

Our executive officers are elected by, and serve at the discretion of, the
Board of Directors.

There are no family relationships among our directors or officers.

Board Committees

The Audit Committee of the Board of Directors makes recommendations concerning
the engagement of independent public accountants, reviews the plans and results
of the audit engagement with our independent public accountants, reviews the
independence of our independent public accountants, considers the range of audit
and non-audit fees and reviews the adequacy of our internal accounting controls.
Current members of the Audit Committee are Peter Y. Chung, Joseph W. Goodman and
Walter G. Kortschak.

The Compensation Committee of the Board of Directors determines compensation
for our executive officers and administers our 1998 Stock Plan, 1998 Director
Option Plan and 1998 Employee Stock Purchase Plan. The Compensation Committee
currently consists of David W. Dorman and Walter G. Kortschak.

The Employee Stock Option Committee of the Board of Directors determines stock
option grants for employees below the executive officer level. Michael J.
Fitzpatrick is currently the only member of the Employee Stock Option Committee.

45
<PAGE>

Director Compensation

Except for the grants of stock options, we do not currently compensate our
directors. Directors are reimbursed for out-of-pocket expenses incurred in
connection with attendance at meetings of the Board of Directors or any
committees. The directors of our company are generally eligible to participate
in our 1998 Stock Plan and, to the extent that a director is also an employee of
our company, to participate in our 1998 Employee Stock Purchase Plan. The
directors of our company who are not employees of our company and who do not own
more than 5% of our common stock will also receive periodic stock option grants
under our 1998 Director Option Plan. No options have been granted under our 1998
Director Option Plan. In fiscal year 1999, Messrs. Dorman and Listwin and Dr.
Goodman received options to purchase 40,000 shares at an exercise price of
$10.00 per share under the 1997 Equity Incentive Plan.

ITEM 11. Executive Compensation

The following table sets forth information regarding the compensation of our
Chief Executive Officer and our four next most highly compensated executive
officers who earned more than $100,000 during the fiscal year ended June 30,
1999. Compensation for fiscal years ended June 30, 1999, 1998 and 1997 is
included.

Other annual compensation primarily represents imputed interest income
resulting from a 0% loan made to several of the named executive officers to fund
the exercise of options to purchase our common stock. Mr. Diamond's other annual
compensation represents reimbursement for relocation expenses. The restricted
stock awards represent shares that were purchased at fair market value, as
determined by our Board of Directors. The awards are subject to rights of
repurchase which lapse periodically over a two- to four-year period.

Summary Compensation Table
<TABLE>
<CAPTION>
Long-Term
Annual Compensation Compensation
------------------- ------------
Restricted Securities
Other Annual Stock Underlying
Name and Principal Positions Year Salary Bonus Compensation Awards* Options
- ---------------------------- ---- ------ ----- ------------ ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Michael J. Fitzpatrick.................... 1999 $300,000 $ 135,000 $387,317 -- 433,000
Chairman of the Board, President & 1998 188,077 300,000 258,000 2,825,000 --
Chief Executive Officer 1997 -- -- -- -- --

Ming Shih................................. 1999 204,473 50,000 135,129 -- --
Senior Vice President, 1998 233,423 215,000 159,000 555,555 500,000
Sales & Marketing 1997 190,769 1,815,577 -- -- --

Sanjay Subhedar........................... 1999 196,634 45,000 231,111 -- 300,000
Senior Vice President, Operations, 1998 86,154 -- -- 1,200,000 --
Chief Financial Officer and Secretary 1997 -- -- -- -- --

Philip J. Anthony........................ 1999 166,920 69,200 63,239 125,000 125,000
Vice President of Engineering 1998 -- -- -- -- --
1997 -- -- -- -- --

William H. Diamond, Jr................... 1999 121,154 -- 77,682 -- 250,000
Vice President of Marketing 1998 -- -- -- -- --
1997 -- -- -- -- --
</TABLE>
_________
* As of June 30, 1999, the value of 2,475,000 restricted shares held by Mr.
Fitzpatrick was $117,717,188; the value of 758,218 restricted shares held by
Mr. Shih was $36,062,744; and the value of 1,125,000 restricted shares held by
Mr. Subhedar was $53,507,813.

ITEM 12. Security Ownership of Certain Beneficial Owners and Management

Option Grants in Fiscal Year 1999

46
<PAGE>

The following table presents additional information concerning the option
awards shown in the Summary Compensation Table for fiscal year 1999.

All options were granted at an exercise price equal to the fair market value
of our common stock as determined by our Board of Directors on the date of the
grant. Our common stock was not publicly traded at the time of the option grants
listed below.

Potential realizable values are net of exercise price, but before taxes
associated with the exercise. Amounts represent hypothetical gains that could be
achieved for the respective options if exercised at the end of the option term.
The assumed 5% and 10% rates of stock price appreciation are provided in
accordance with rules of the Securities and Exchange Commission and do not
represent our estimate or projection of the future common stock price. Actual
gains, if any, on stock option exercises are dependent on the future performance
of our common stock, overall market conditions and the option holders' continued
employment through the vesting period.

Individual Grants
-----------------
Number of % of Total
Securities Options Exercise Potential Realizable Value at
Underlying Granted to or Base Assumed Annual Rates of
Options Employees in Price Per Expiration Stock Price Appreciation for
Name Granted* Fiscal Year Share Date Option Term
- ---- -------- ----------- ----- ---- -----------
5% 10%
-- ---
<S> <C> <C> <C> <C> <C> <C>
Michael J. Fitzpatrick 433,000 14.1% $10.00 7/30/08 $2,723,114 $6,900,905
Philip A. Anthony 50,000 1.6 10.00 7/30/08 314,447 796,871
William H. Diamond 250,000 8.1 10.00 10/19/08 1,572,237 3,984,356
Ming Shih -- -- -- -- -- --
Sanjay Subhedar 300,000 9.8 10.00 7/30/08 1,886,684 4,781,227
</TABLE>
____________
* With the exception of Mr. Subhedar, all of the options included above become
exercisable at a rate of 1/4 of the shares subject to the option one year
after the date of the grant and an additional 1/48 of the shares at the end
of each month thereafter, subject to continued service as an employee. One
quarter of Mr. Subhedar's options vested on December 2, 1998, an additional
one quarter will vest on July 30, 1999, and the remaining options will vest
at the rate of 2% per month for 24 months. The term of all options shown
above is ten years.

Aggregated Option Exercises and Fiscal 1999 Year-End Option Values

The following table sets forth the number of shares acquired and the value
realized upon exercise of stock options during fiscal year 1999 and the number
of shares of our common stock subject to exercisable and unexercisable options
held as of June 30, 1999 by each of the executive officers named in the Summary
Compensation Table.

The value of "in-the-money" stock options represents the positive spread
between the exercise price of options and the fair market value of the
underlying shares on June 30, 1999.

Shares Number of Securities Value of Unexercised
Acquired Value Underlying Unexercised In-the-Money Options at
Name on Exercise Realized ($) Options at Fiscal Year End Fiscal Year End ($)
- ---- ----------- ------------ -------------------------- -------------------
Exercisable / Unexercisable Exercisable / Unexercisable
--------------------------- ---------------------------
<S> <C> <C> <C> <C> <C> <C>
Michael J. Fitzpatrick ................ 0 $0.00 0 433,000 $ 0.00 $12,286,375
Philip J. Anthony ..................... 0 0.00 31,250 143,750 886,719 4,078,906
William H. Diamond .................... 0 0.00 0 250,000 0.00 7,093,750
Ming Shih ............................. 0 0.00 300,000 200,000 10,537,500 7,025,000
Sanjay Subhedar ....................... 0 0.00 75,000 225,000 2,128,125 6,384,375
</TABLE>

ITEM 13. Certain Relationships and Related Transactions

There are no family relationships among our directors or officers. No member
of the Compensation Committee serves as a member of the board of directors or
compensation committee of any other entity that has one or more executive
officers serving as a member of our Board of Directors or Compensation
Committee.

47
<PAGE>

PART IV

ITEM 14. Exhibits, Financial Statement Schedule, and Reports on Form 8-K

<S> <C>
(a) (1) Financial Statements
Index to financial statements and financial statement schedules:
Report of Independent Accountants................................................................... 24
Consolidated Statements of Operations - Fiscal Years ended June 30, 1997, 1998, and 1999............ 26
Consolidated Balance Sheets -- June 30, 1998 and 1999............................................... 25
Consolidated Statements of Stockholders' Equity - Fiscal Years ended June 30, 1997, 1998 and 1999... 27
Consolidated Statements of Cash Flows - Fiscal Years ended June 30, 1997, 1998 and 1999............. 28
Notes to Consolidated Financial Statements.......................................................... 29
</TABLE>

(a) (2) Financial Statement Schedules

All financial statement schedules have been omitted because they are not
applicable or are not required or the information required to be set forth
therein is included in our consolidated financial statements set forth in Item 8
of this Form 10-K and the notes thereto.

(b) Reports on Form 8-K

The Company filed reports on Form 8-K on May 27, 1999, July 7, 1999 and Form 8-
K/A on July 30,1999 reporting the purchase of ElectroPhotonics Corporation and
including the audited financial statements of Electrophotonics Corporation in
accordance with Rule 3.05 of Regulation S-X and the pro forma financial
information required by Article 11 of Regulation S-X.

EXHIBIT INDEX

Exhibit
Number Description
------- -----------
3.1* Certificate of Incorporation of the Registrant.
3.2* Bylaws of the Registrant.
4.1* Specimen Stock Certificate of the Registrant.
10.1* Form of Indemnification Agreement for directors and officers of the
Company.
10.2* Employment Agreement, as amended, dated July 23, 1997, by and
between the Registrant and Jing Jong Pan.
10.3* Employment Agreement, dated October 1, 1997, by and between the
Registrant and Michael J. Fitzpatrick.
10.4* Employment Agreement, dated December 2, 1997, by and between the
Registrant and Sanjay Subhedar.
10.5* Employment Letter Agreement, dated May 26, 1998, by and between the
Registrant and Philip Anthony.
10.6* Employment Letter Agreement, dated July 21, 1998, by and between the
Registrant and Jim Northington.
10.7* Executive Agreement, dated June 27, 1997 and April 1, 1998, by and
between the Registrant and Ming Shih.
10.8* Executive Agreement, dated June 27, 1997 and April 1, 1998, by and
between the Registrant and Kung Shih.
10.9+ Lease, dated February 3, 1999, by and between the Registrant and
Mission West Properties, L.P.
10.10* 1998 Stock Plan.
10.11* 1998 Employee Stock Purchase Plan.
10.12* 1998 Director Option Plan.
10.13* 1997 Equity Incentive Plan.
10.14* 1997 Executive Equity Incentive Plan.
10.15* Recapitalization Agreement, as amended, dated June 27, 1997, by and
between the Registrant, the Purchasers named therein, Theresa Stone
Pan, Jing Jong Pan and the Trusts named therein.
10.16* Shareholders Agreement, dated July 23, 1997, by and between the
Registrant and the Shareholders named therein.
10.17* Registration Agreement, as amended, dated July 23, 1997, by and
among the Registrant, the Investors named therein, Theresa Stone
Pan, Jing Jong Pan and the J.J. & Theresa Pan Revocable Trust (the
"Registration Agreement").
10.18* Purchase and Sale Agreement for Real Property and Escrow
Instructions, dated August 28, 1996, by and between the Registrant
and TR Brell Cal Corp.
10.19* Purchase and Sale Agreement and Escrow Instructions, dated July 11,
1997, by and between the Registrant and Nexus Properties, Inc.
10.20* Standing Loan Agreement, dated November 8, 1996, by and between the
Registrant and Bank of America National Trust and Savings
Association.
10.21* Business Loan Agreement, as amended, dated September 30, 1997, by
and between the Registrant and Bank of America National Trust and
Savings Association.
10.22* Design and Construction Contract, as amended, dated March 30, 1998,
by and between the Registrant and Rudolph and Sletten, Inc.
10.23* Joint Venture Agreement, dated March 3, 1998, by and between the
Registrant and Walsin Lihwa Corporation.
10.24* Distributorship Agreement, dated March 3, 1998, by and between the
Registrant and Walsin Lihwa Corporation.
10.25* Supply Agreement, dated March 3, 1998, by and between the Registrant
and Walsin Lihwa Corporation.
10.26* Mutual Confidentiality Agreement, dated September 2, 1997, by and
between the Registrant and Walsin Lihwa Corporation.
10.27* Technical Licensing Agreement on Fiberoptic Products, dated December
17, 1997, by and between the Registrant and Walsin Lihwa
Corporation.
10.28* Employment Agreement, dated September 21, 1998, by and between the
Registrant and William H. Diamond, Jr.
10.29+ Share Purchase Agreement, dated as of May 26, 1999, among the
Registrant, Shemiran Holdings Inc., A. Tino Alavie, Robert
Maashant, Lundy Technology Co. and ElectroPhotonics Corporation.
10.30+ Registration Rights Agreement, dated as of June 22, 1999, by and
between the Registrant and the shareholders of E-TEK
ElectroPhotonics Solutions Corporation.
10.31+ Amendment No. 2 to Registration Agreement, dated July 23, 1999.
23.1 Consent of Independent Accountants.
27.1 Financial Data Schedule.
- --------
*Incorporated by reference to the exhibit filed with the Registration Statement
on Form S-1 (No. 333-61763), as amended.

+Incorporated by reference to the exhibit filed with the Registration Statement
on Form S-1 (No. 333-83857), as amended.

48
<PAGE>

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, on the 16th day of
August, 1999.

E-TEK Dynamics
(Registrant)

By /s/ Sanjay Subhedar
--------------------------------
Sanjay Subhedar

Senior Vice President, Operations and Chief
Financial Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities indicated on the 16th day of August, 1999.

Signature Title
--------- -----

/s/ Michael J. Fitzpatrick Chairman of the Board, President and
- --------------------------------
(Michael J. Fitzpatrick) Chief Executive Officer
(Principal Executive Officer)

Senior Vice President, Operations,
/s/ Sanjay Subhedar Chief Financial Officer and Secretary
- --------------------------------
(Sanjay Subhedar) (Principal Financial and Accounting Officer)

/s/ Walter G. Kortschak Director
- --------------------------------
(Walter G. Kortschak)

/s/ Joseph W. Goodman Director
- --------------------------------
(Joseph W. Goodman)

/s/ Peter Y. Chung Director
- --------------------------------
(Peter Y. Chung)

/s/ David W. Dorman Director
- --------------------------------
(David W. Dorman)

<PAGE>
CONSENT OF INDEPENDENT ACCOUNTANTS

Exhibit 23.1

CONSENT OF INDEPENDENT ACCOUNTANTS

We hereby consent to the incorporation by reference in the Registration
Statement on Form S-8 (File No. 333-71865) and the Registration Statement on
Form S-8 (File No. 333-75123), each of E-TEK Dynamics, Inc., of our
report dated July 20, 1999, except as to Note 14 which is as of July 27, 1999,
relating to the financial statements included in this Form 10-K.

/s/ PRICEWATERHOUSECOOPERS LLP

San Jose, California
August 13, 1999

<PAGE>
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