FDRY Foundry Networks (MM)

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended September 30, 2008

OR

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

For the transition period from            to

Commission File Number 000-26689

FOUNDRY NETWORKS, INC.

(Exact name of registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)		77-0431154 (I.R.S. Employer Identification No.)

4980 Great America Parkway
Santa Clara, CA 95054
(Address of principal executive offices, including zip code)

(408) 207-1700
(Registrant’s telephone number, including area code)

N/A
(Former name, former address and former fiscal year, if changed since last report)

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer þ		Accelerated filer o		Non-accelerated filer   o (Do not check if a smaller reporting company)		Smaller Reporting Company o

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

There were 149,537,757 shares of the registrant’s common stock, par value $0.0001 per share, outstanding as of October 31, 2008.

 

 

FOUNDRY NETWORKS, INC.

Table of Contents

		Page
PART I — FINANCIAL INFORMATION			3
Item 1. Financial Statements			3
Condensed Consolidated Balance Sheets			3
Condensed Consolidated Statements of Income			4
Condensed Consolidated Statements of Cash Flows			5
Notes to Condensed Consolidated Financial Statements			6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			26
Item 3. Quantitative and Qualitative Disclosures About Market Risk			36
Item 4. Controls and Procedures			36
PART II — OTHER INFORMATION			36
Item 1. Legal Proceedings			36
Item 1A. Risk Factors			36
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			50
Item 3. Defaults Upon Senior Securities			50
Item 4. Submission of Matters to a Vote of Security Holders			50
Item 5. Other Information			50
Item 6. Exhibits			50
SIGNATURE			51
EX-31.1
EX-31.2
EX-32.1
EX-32.2

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

FOUNDRY NETWORKS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per share amounts)

		September 30,				December 31,
		2008				2007
		(unaudited)				(1)
ASSETS
Current assets:
Cash and cash equivalents		$	524,723			$	331,961
Short-term investments			394,645				575,645
Accounts receivable, net of allowances for doubtful accounts of $2,469 and $2,107 and sales returns of $2,093 and $2,626 at September 30, 2008 and December 31, 2007, respectively			115,611				124,234
Inventories			51,874				42,384
Deferred tax assets			44,706				44,207
Prepaid expenses and other assets			23,428				12,439
Total current assets			1,154,987				1,130,870
Property and equipment, net			6,948				9,658
Investments			87,359				58,062
Deferred tax assets			35,025				35,007
Other assets			5,874				5,234
Total assets		$	1,290,193			$	1,238,831
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	23,426			$	23,892
Accrued payroll and related expenses			37,863				50,806
Other accrued expenses			12,045				12,382
Deferred revenue			63,748				52,981
Total current liabilities			137,082				140,061
Deferred revenue			29,014				27,786
Income taxes payable			12,296				11,860
Other long-term liabilities			364				475
Total liabilities			178,756				180,182
Commitments and contingencies			—				—
Stockholders’ equity:
Preferred stock, $0.0001 par value: Authorized - 5,000 shares at September 30, 2008 and December 31, 2007; None issued and outstanding as of September 30, 2008 and December 31, 2007			—				—
Common stock, $0.0001 par value:
Authorized - 300,000 shares at September 30, 2008 and December 31, 2007:
Issued and outstanding — 149,260 and 148,700 shares at September 30, 2008 and December 31, 2007, respectively			15				15
Additional paid-in capital			920,901				829,910
Accumulated other comprehensive loss			(97	)			(789	)
Retained earnings			190,618				229,513
Total stockholders’ equity			1,111,437				1,058,649
Total liabilities and stockholders’ equity		$	1,290,193			$	1,238,831

The accompanying notes are an integral part of these condensed consolidated financial statements.

FOUNDRY NETWORKS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
(in thousands, except per share amounts)

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2008				2007				2008				2007
Net revenue:
Product		$	137,494			$	136,974			$	398,200			$	372,976
Service			28,408				22,523				78,436				65,574
Total net revenue			165,902				159,497				476,636				438,550
Cost of revenue:
Product			51,788				55,032				151,795				157,864
Service			7,333				4,395				23,112				15,305
Total cost of revenue			59,121				59,427				174,907				173,169
Gross margin			106,781				100,070				301,729				265,381
Operating expenses:
Research and development			24,032				18,425				67,685				57,528
Sales and marketing			46,580				38,425				140,106				116,985
General and administrative			11,267				10,271				33,311				32,975
Other charges, net			2,773				60				2,773				5,660
Total operating expenses			84,652				67,181				243,875				213,148
Income from operations			22,129				32,889				57,854				52,233
Other-than-temporary impairment charge on investments			(13,390	)			—				(13,390	)			—
Interest and other income, net			4,685				11,440				20,413				32,337
Income before provision for income taxes			13,424				44,329				64,877				84,570
Provision for income taxes			8,972				16,761				28,193				32,279
Net income		$	4,452			$	27,568			$	36,684			$	52,291
Basic net income per share		$	0.03			$	0.19			$	0.25			$	0.35
Weighted-average shares used in computing basic net income per share			147,301				148,897				146,542				147,768
Diluted net income per share		$	0.03			$	0.18			$	0.24			$	0.34
Weighted-average shares used in computing diluted net income per share			153,103				156,486				151,098				154,776

The accompanying notes are an integral part of these condensed consolidated financial statements.

FOUNDRY NETWORKS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands)

		Nine Months Ended
		September 30,
		2008				2007
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income		$	36,684			$	52,291
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			7,378				8,395
Stock-based compensation expense			38,586				32,801
Provision for doubtful accounts			361				(359	)
Provision for sales returns			(533	)			(592	)
Inventory provisions			6,050				3,138
Benefit for deferred income taxes			(516	)			(3,243	)
Excess tax benefits from stock-based compensation			(4,302	)			(6,342	)
Other-than-temporary impairment charge on investments			13,390				—
Changes in operating assets and liabilities:
Accounts receivable			8,795				(35,562	)
Inventories			(15,476	)			(11,144	)
Prepaid expenses and other assets			(12,528	)			(11,668	)
Accounts payable			(466	)			(3,049	)
Accrued payroll and related expenses			(12,943	)			6,337
Income taxes payable			4,675				17,640
Other accrued expenses			(449	)			(1,457	)
Deferred revenue			11,994				10,098
Net cash provided by operating activities			80,700				57,284
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of available-for-sale investments			(25,950	)			(35,025	)
Purchases of held-to-maturity investments			(643,165	)			(560,775	)
Proceeds from sales and maturities of available-for-sale investments			27,800				46,750
Proceeds from sales and maturities of held-to-maturity investments			779,629				526,145
Purchases of property and equipment, net			(2,425	)			(4,180	)
Net cash provided by (used in) investing activities			135,889				(27,085	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuances of common stock under stock plans, net of repurchases			46,759				38,045
Repurchase and retirement of common stock			(75,580	)			(37,975	)
Excess tax benefits from stock-based compensation			4,302				6,342
Net cash provided by (used in) financing activities			(24,519	)			6,412
Increase in cash and cash equivalents			192,070				36,611
Effect of exchange rate changes on cash			692				(312	)
Cash and cash equivalents, beginning of period			331,961				258,137
Cash and cash equivalents, end of period		$	524,723			$	294,436
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for income taxes, net of refunds		$	35,735			$	25,957

The accompanying notes are an integral part of these condensed consolidated financial statements.

FOUNDRY NETWORKS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(information for the three and nine months ended September 30, 2008 and 2007 is unaudited)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

      Description of Business

     Founded in 1996, Foundry Networks, Inc. (“Foundry” or the “Company”) designs, develops, manufactures, markets and sells a comprehensive, end-to-end suite of high performance data networking solutions, including Ethernet Layer 2-7 switches and Metro and Internet routers. Foundry sells its products and services worldwide through its own direct sales force, resellers and integration partners. The Company’s customers include Internet Service Providers (ISPs), Metro Service Providers, government agencies and various enterprises including education, healthcare, entertainment, technology, energy, financial services, retail, aerospace, transportation, and e-commerce companies.

      Basis of Presentation

     The unaudited condensed consolidated financial statements included herein have been prepared by Foundry in accordance with United States generally accepted accounting principles and pursuant to the rules and regulations of the United States Securities and Exchange Commission (“SEC”) and include the accounts of Foundry and its wholly-owned subsidiaries (collectively “Foundry”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with United States generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. The information included in this Quarterly Report on Form 10-Q should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Risk Factors,” “Quantitative and Qualitative Disclosures About Market Risk,” and the Consolidated Financial Statements and Notes thereto included in the Foundry Annual Report on Form 10-K for the year ended December 31, 2007 filed with the SEC.

     The unaudited condensed consolidated financial statements included herein reflect all adjustments, including normal recurring adjustments, which are, in the opinion of management, necessary for a fair presentation of the consolidated financial position, results of operations and cash flows for the periods presented. The condensed consolidated results of operations for the three and nine months ended September 30, 2008 are not necessarily indicative of the results that may be expected for future quarters or for the year ending December 31, 2008.

      Principles of Consolidation

     The condensed consolidated financial statements reflect the operations of Foundry and its wholly-owned subsidiaries. All intercompany transactions and balances have been eliminated.

      Reclassifications

     Certain prior period amounts on the condensed consolidated balance sheets and condensed consolidated statements of cash flows have been reclassified to conform to the September 30, 2008 presentation.

      Use of Estimates

     The preparation of financial statements in conformity with United States generally accepted accounting principles requires management to make estimates, judgments, and assumptions that affect the amounts reported in the financial statements and accompanying footnotes. Actual results could differ from those estimates. Estimates, judgments and assumptions are used in the recognition of revenue, stock-based compensation, accounting for allowances for doubtful accounts and sales returns, inventory provisions, product warranty liability, valuation of investments, income taxes, deferred tax assets, contingencies and similar items. Estimates, judgments, and assumptions are reviewed periodically by management and the effects of revisions are reflected in the condensed consolidated financial statements in the period in which they are made.

      Cash Equivalents and Investments

     The Company considers all investments with insignificant interest rate risk and with original maturities of 90 days or less to be cash equivalents. Cash and cash equivalents consist of corporate and government debt securities, and cash deposited in checking and money market accounts. The Company’s investments are maintained and managed at three major financial institutions. Its investment portfolio, excluding auction rate securities, is classified as held-to-maturity and is recorded at amortized cost, and includes only securities with original maturities of less than two years and with secondary or resale markets to ensure portfolio liquidity.

     Investments with original maturities greater than 90 days that mature less than one year from the consolidated balance sheet date are classified as short-term investments. Investments with maturities greater than one year from the consolidated balance sheet date are classified as long-term investments. Auction rate securities are classified on the Company’s consolidated balance sheet based on an assessment of their liquidity. Auction rate securities have generally been considered short-term investments since they have fixed reset dates within one year designed to allow investors to exit these instruments at par even though the underlying municipal note may have an original maturity of as much as 40 years. Auctions for these securities began to fail, that is, sell orders began to exceed buy orders, in the first quarter of 2008 and have continued to fail through the third quarter of 2008. As of September 30, 2008, the Company’s ability to exit these instruments in the short-term is not guaranteed. The Company performs an assessment for auction rate securities with failed auctions and as a result, the Company recorded an other-than-temporary loss of $13.4 million on these securities in the third quarter ended September 30, 2008 as discussed below. The Company’s auction rate securities were classified as long-term investments since the estimated remaining life of the underlying student loan collateral is greater than a year. Refer to Note 2 “Cash Equivalents and Investments” for additional discussion regarding the impairment and classification in the balance sheet.

     In light of the acquisition by Brocade (discussed further in Note 12 “Brocade Acquisition”), the Company has revised its intent to hold these investments to recovery, and would be willing to liquidate its auction rate securities prior to the close of the acquisition. While these events have changed the Company’s intent with regard to these securities, there is no assurance that Foundry will be able to successfully liquidate its auction rate security portfolio based upon whether these securities are marketable, or at what price such securities could or will be sold, or that a market for these securities exists, or will exist prior to the close of the acquisition. Based upon the Company’s assessment of these factors, it will continue to classify the auction rate securities as long-term investments.

     During the second quarter of 2008, issuers of auction rate securities, similar to those held by the Company, began to call certain of their auction rate securities at par. During the third quarter of 2008, one of the Company’s auction rate securities, representing approximately 3% of its auction rate portfolio, was redeemed at par. Notwithstanding this redemption, there is no guarantee that the remaining portion of Foundry’s auction rate portfolio will be called at par or otherwise regain liquidity in the short-term.

     Foundry’s auction rate securities are classified as available-for-sale and are carried at fair value. Any temporary unrealized gains and losses are recorded as a component of accumulated other comprehensive income. Unrealized gains and losses that are considered other-than-temporary are recorded in income. All other investments, which include municipal bonds, corporate bonds, and federal agency securities, are classified as held-to-maturity and are stated at amortized cost. The Company does not recognize changes in the fair value of held-to-maturity investments in income unless a decline in value is considered other-than-temporary.

     During the three months ended September 30, 2008, the Company liquidated certain of its held-to-maturity investments prior to the scheduled maturity date due to significant deterioration of the issuer’s creditworthiness. The Company recognized a gain of approximately $0.3 million relating to the liquidation of the investments with a fair value of approximately $59.4 million. The Company has determined that the sale of these investments does not impact the Company’s ability and intent to hold the remainder of the debt securities to maturity.

     The Company monitors its investments for impairment on a quarterly basis and determines whether a decline in fair value is other-than-temporary by considering factors such as current economic and market conditions, the credit rating of the security’s issuer, the length of time an investment’s fair value has been below its carrying value, the interval between auction periods, whether or not there have been any failed auctions, and the Company’s ability and intent to hold investments to maturity. If an investment’s decline in fair value is caused by factors other than changes in interest rates and is deemed to be other-than-temporary, the Company would reduce the investment’s carrying value to its estimated fair value, as determined based on quoted market prices or liquidation values. Declines in value judged to be other-than-temporary, if any, are recorded in the Company’s statement of income as incurred.

      Valuation of Investments

     In valuing investments, Foundry predominantly uses market data or data derived from market sources. When market data is not available, such as when the investment is illiquid, the Company employs a cash-flow-based modeling technique to arrive at the recorded fair value. This process involves incorporating assumptions about the anticipated term and the yield that a market participant would require to purchase the security in the marketplace.

      Fair Value Measurement

     Effective January 1, 2008, Foundry adopted certain of the provisions of FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”), which the FASB issued in September 2006. SFAS 157 provides guidance for using fair value to measure assets and liabilities. It also requires expanded information about the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. SFAS 157 applies whenever other standards require (or permit) assets or liabilities to be measured at fair value, and does not expand the use of fair value in any new circumstances. In February 2008, the FASB issued Staff Position (“FSP”) 157-2, which delays the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities to fiscal years beginning after November 15, 2008, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). The Company elected to delay the adoption date for the portions of SFAS 157 impacted by FSP 157-2, and, as a result, it adopted a portion of the provisions of SFAS 157. The partial adoption of SFAS 157 was prospective and did not have a significant effect on the Company’s consolidated results of operations and financial condition as the result of adoption. The Company is currently evaluating the impact of measuring the remaining nonfinancial assets and nonfinancial liabilities under FSP No. 157-2 on its results of operations and financial condition.

     In determining fair value, the Company uses various valuation approaches, including market, income and/or cost approaches. SFAS 157 establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about the inputs market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on the reliability of inputs as follows:

•

Level 1 —Valuations based on quoted prices in active markets for identical assets or liabilities that the Company has the ability to access. Valuation adjustments are not applied to Level 1 instruments. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuation of these products does not entail a significant degree of judgment. Foundry’s cash equivalents and investments utilizing Level 1 inputs include U.S. Government Treasuries and money market funds.

•

Level 2 —Valuations based on quoted prices in markets that are not considered to be active, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency. Foundry’s cash equivalents and investments utilizing Level 2 inputs include government sponsored securities and municipal bonds.

•

Level 3 —Valuations based on inputs that are unobservable and significant to the overall fair value measurement. Investments utilizing Level 3 inputs are the Company’s auction rate securities that are not traded in active markets or are subject to transfer restrictions. Valuations are performed to adjust for illiquidity and/or non-transferability, and such adjustments are generally based on available market evidence. In the absence of such evidence, management’s best estimate is used.

     The availability of observable inputs can vary from investment to investment and is affected by a wide variety of factors including the type of instrument and other characteristics particular to the transaction. To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. Accordingly, the degree of judgment exercised by the Company in determining fair value is greatest for instruments categorized in Level 3. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, for disclosure purposes the level in the fair value hierarchy within which the fair value measurement in its entirety falls is determined based on the lowest level input that is significant to the fair value measurement in its entirety.

     Fair value is a market-based measure considered from the perspective of a market participant who holds the asset or owes the liability rather than an entity-specific measure. Therefore, even when market assumptions are not readily available, the Company’s own assumptions are set to reflect those that market participants would use in pricing the asset or liability at the measurement date. The Company uses prices and inputs that are current as of the measurement date, including during periods of market dislocation. In periods of market dislocation, the observability of prices and inputs may be reduced for many instruments. This condition could cause an instrument to be reclassified from Level 1 to Level 2 or Level 2 to Level 3. Refer to Note 3. “Fair Value Disclosures” in the Notes to Condensed Consolidated Financial Statements for the disclosure of the Levels of inputs used to determine fair value.

      Concentrations

     Financial instruments that potentially subject the Company to a concentration of credit risk consist principally of cash equivalents, short and long-term investments, and accounts receivable. Foundry seeks to reduce credit risk on financial instruments by investing in high-quality debt issuances and, by policy, limits the amount of credit exposure with any one issuer or fund. Additionally, the Company grants credit only to customers deemed credit worthy in the judgment of management.

     Certain components, including integrated circuits and power supplies, used in Foundry’s products are purchased from sole sources. Such components may not be readily available from other suppliers as the development period required to fabricate such components can be lengthy. The inability of a supplier to fulfill the Company’s production requirements, or the time required for Foundry to identify new suppliers if a relationship is terminated, could negatively affect the Company’s future results of operations.

      Stock- Based Compensation

     The Company accounts for stock-based compensation in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004), Share-Based Payment , (“SFAS 123R”) which requires the measurement and recognition of compensation expense for all stock-based payment awards made to employees and directors including employee stock options, restricted stock, restricted stock units and employee purchases under the Company’s Employee Stock Purchase Plan based on estimated fair values.

      Valuation of Stock-Based Compensation

     SFAS 123R requires companies to estimate the fair value of stock-based payment awards on the date of grant using an option pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the Company’s consolidated statement of operations. Foundry has selected the Black-Scholes option-pricing model to value stock-based payments under SFAS 123R. The Black-Scholes option-pricing model includes assumptions regarding expected stock price volatility, option lives, dividend yields, and risk-free interest rates. These assumptions reflect Foundry’s best estimates, but involve uncertainties based on market conditions generally outside of the Company’s control.

     During the three months ended September 30, 2008, the Company did not grant stock options and instead only granted restricted stock units to employees. The fair value of stock option grants and employee stock purchases for the three and nine months ended September 30, 2008, and 2007 were estimated using the following weighted-average assumptions:

		Three Months Ended September 30, 2008								Nine Months Ended September 30, 2008
		Stock Option Plan				Purchase Plan				Stock Option Plan				Purchase Plan
Risk free interest rate			—				2.7	%			2.4	%			3.2	%
Expected term (in years)			—			1.5 years				3.3 years				1.4 years
Dividend yield			—				0	%			0	%			0	%
Volatility of common stock			—				40	%			41	%			40	%
Weighted-average fair value			—			$	5.17			$	4.03			$	4.91

		Three Months Ended September 30, 2007								Nine Months Ended September 30, 2007
		Stock Option Plan				Purchase Plan				Stock Option Plan				Purchase Plan
Risk free interest rate			4.4	%			4.9	%			4.5	%			4.9	%
Expected term (in years)		3.6 years				1.5 years				3.7 years				1.3 years
Dividend yield			0	%			0	%			0	%			0	%
Volatility of common stock			40	%			41	%			40	%			42	%
Weighted-average fair value		$	6.41			$	4.10			$	6.21			$	3.88

      Risk-Free Interest Rate. The risk-free interest rate is based on the United States Treasury yield curve in effect at the time of grant for periods corresponding with the expected life of the option.

      Expected Term. Prior to fiscal year 2006, the expected term of options granted was based on historical experience as well as the contractual terms and vesting periods of the options. For options granted during 2006 and 2007, the expected term of the options was derived from the average midpoint between vesting and the contractual term, as described in SAB 107. The midpoint approach was used during 2006 and 2007 since the expected life of the options could not be estimated due to the fact that the terms of the options were significantly changed in 2005. In 2005, the Company began granting stock option awards that have a contractual life of five years from the date of grant. Prior to 2005, stock option awards generally had a ten year contractual life from the date of grant. In 2008, the Company deemed that it has sufficient historical information on which to base its expected life assumption. The change to using historic experience as the basis for the estimated expected life was not material for options granted during the three and nine months ended September 30, 2008.

      Expected Dividend. The Company has never paid cash dividends on its capital stock and does not expect to pay cash dividends in the foreseeable future.

      Expected Volatility. Based on guidance provided in SFAS 123R and SAB 107, the volatility assumptions for the three and nine months ended September 30, 2008 and 2007 were based on a combination of historical and implied volatility. The expected volatility of stock options is based upon equal weightings of the historical volatility of Foundry’s stock and the implied volatility of traded options, having a life of at least six months, on Foundry’s stock. Management believes that a blend of implied volatility and historical volatility is more reflective of market conditions and a better indicator of expected volatility than using purely historical volatility.

      Estimated Forfeitures. Compensation expense is based on awards ultimately expected to vest and reflects estimated forfeitures. SFAS 123(R) requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. During the nine months ended September 30, 2008, the Company estimated forfeitures of 2% for the Board of Directors and 7% for all other employees based on actual historical option forfeitures. The Company previously used an estimated overall forfeiture rate of 11% in fiscal year 2007. The Company recorded approximately $0.9 million of additional stock based compensation during the three months ending March 31, 2008 resulting from the change in estimate.

      Computation of Per Share Amounts

     Basic earnings per share (“EPS”) has been calculated using the weighted-average number of shares of common stock outstanding during the period, less options and restricted shares subject to repurchase. Diluted EPS has been calculated using the weighted-average number of shares of common stock outstanding during the period and potentially dilutive weighted-average common stock equivalents. Weighted-average common stock equivalents include the potentially dilutive effect of in-the-money stock options and restricted stock, and is determined based on the average share price for each period using the treasury stock method. The treasury stock method includes the tax-effected proceeds that would be received assuming the exercise of all in-the-money stock options and assuming that restricted stock is used to repurchase shares in the open market. Certain common stock equivalents were excluded from the calculation of diluted EPS since the exercise price of these common stock equivalents was greater than the average market price of the common stock for the respective period and, therefore, their inclusion would have been anti-dilutive.

      Revenue Recognition

      General. Foundry generally sells its products through its direct sales force, resellers and integration partners. The Company generates the majority of its revenue from sales of chassis and stackable-based networking equipment, with the remainder of its revenue primarily coming from customer support fees. The Company applies the principles of SEC Staff Accounting Bulletin (“SAB”) 104, Revenue Recognition, and recognizes revenue when persuasive evidence of an arrangement exists, delivery or performance has occurred, the sales price is fixed or determinable, and collectibility is reasonably assured. Evidence of an arrangement generally consists of customer purchase orders and, in certain instances, sales contracts or agreements. Typically, customer purchase orders are treated as separate arrangements based on the nature of Foundry’s business. Shipping terms and related documents, or written evidence of customer acceptance, when applicable, are used to verify delivery or performance. The Company assesses whether the sales price is fixed or determinable based on payment terms and whether the sales price is subject to refund or adjustment. Foundry assesses collectibility based on the creditworthiness of the customer as determined by its credit checks and the customer’s payment history. It is Foundry’s practice to identify an end-user prior to shipment to a value-added reseller.

     When sales arrangements contain multiple elements (e.g., hardware and support), the Company applies the provisions of Emerging Issues Task Force (“EITF”) Issue No. 00-21, Revenue Arrangements with Multiple Deliverables , (“EITF 00-21”), to determine the separate units of accounting that exist within the arrangement. If more than one unit of accounting exists, the arrangement consideration is allocated to each unit of accounting using either the relative fair value method or the residual fair value method as prescribed by EITF 00-21. Revenue is recognized for each unit of accounting when the revenue recognition criteria described in the preceding paragraph have been met for that unit of accounting.

      Product. Product revenue is generally recognized upon transfer of title and risk of loss, which is generally upon shipment. If an acceptance period or other contingency exists, revenue is recognized upon the earlier of customer acceptance or expiration of the acceptance period, or upon satisfaction of the contingency. Shipping and handling charges billed to customers are included in product revenue, and the related shipping costs are included in cost of product revenue.

      Services. Service revenue consists primarily of fees for customer support services. Foundry’s suite of customer support programs provides customers hardware repair and replacement parts, access to technical assistance, and unspecified software updates and upgrades on a when-and-if available basis.

     Support services are offered under renewable, fee-based contracts. Revenue from customer support contracts is deferred and recognized ratably over the contractual support period, in accordance with FASB Technical Bulletin 90-1, Accounting for Separately Priced Extended Warranty and Product Maintenance Contracts. Support contracts generally range from one to five years.

      Returns. Foundry provides a provision for estimated customer returns at the time product revenue is recognized as a reduction to product revenue. Its provision is based primarily on historical sales returns and return policies. Foundry’s resellers generally do not have a right of return, and contracts with original equipment manufacturers only provide for rights of return in the event the Company’s products do not meet its published specifications or there is an epidemic failure, as defined in the contracts.

      Segment and Geographic Information

     Operating segments are defined as components of an enterprise for which separate financial information is available and evaluated regularly by the chief operating decision-maker in deciding how to allocate resources and in assessing performance. Foundry is organized as, and operates in, one reportable segment: the design, development, manufacturing, marketing and sale of a comprehensive, end-to-end suite of high-performance data networking solutions, including Ethernet Layer 2-7 switches, Metro routers and Internet traffic management products. Foundry’s chief operating decision-maker reviews consolidated financial information, accompanied by information about revenue by geographic region and configuration type. The Company does not assess the performance of its geographic regions on other measures of income or expense, such as depreciation and amortization, gross margin or net income. In addition, Foundry’s assets are primarily located in its corporate office in the United States and are not allocated to any specific region. Therefore, geographic information is presented only for net product revenue.

     Foundry manages its business based on four geographic regions: the Americas (primarily the United States); Europe, the Middle East, and Africa (“EMEA”); Asia Pacific; and Japan. Foundry’s foreign offices conduct sales, marketing and support activities. Because some of Foundry’s customers, such as the United States government and multinational companies, span various geographic locations, the Company determines revenue by geographic region based on the billing location of the customer.

      Income Taxes

     Foundry adopted FASB Financial Interpretation No. 48, Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109 (“FIN 48”) on January 1, 2007. FIN 48 seeks to reduce the diversity in practice associated with certain aspects of measurement and recognition in accounting for income taxes. FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position that an entity takes or expects to take in a tax return. Additionally, FIN 48 provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosures, and transition. Under FIN 48, an entity may only recognize or continue to recognize tax positions that meet a “more likely than not” threshold. In accordance with Foundry’s accounting policy, the Company recognizes accrued interest and penalties related to unrecognized tax benefits as a component of tax expense. This policy did not change as a result of the Company’s adoption of FIN 48.

      Recent Accounting Pronouncements

     Effective January 1, 2008, Foundry adopted EITF 07-3, “ Accounting for Nonrefundable Advance Payments for Goods or Services Received for Use in Future Research and Development Activities ” (“EITF 07-3”). EITF 07-3 requires that nonrefundable advance payments for goods or services that will be used or rendered for future research and development activities be deferred and capitalized and recognized as an expense as the goods are delivered or the related services are performed. The adoption did not have a material impact on the Company’s consolidated results or operations or financial condition.

     Effective January 1, 2008, Foundry adopted certain provisions of SFAS No. 157, “Fair Value Measurements” (“SFAS 157”), which the FASB issued in September 2006. SFAS 157 establishes specific criteria for the fair value measurement of financial and nonfinancial assets and liabilities that are already subject to fair value under current accounting rules. SFAS 157 also requires expanded disclosures related to fair value measurements. In February 2008, the FASB issued Staff Position (“FSP”) 157-2, which delays the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities to fiscal years beginning after November 15, 2008, except for items that are recognized or disclosed at fair value on at least an annual basis. The Company elected to delay the adoption date for the portions of SFAS 157 impacted by FSP 157-2, and, as a result, it adopted a portion of the provisions of SFAS 157. The partial adoption of SFAS 157 was prospective and did not have a significant effect on the Company’s consolidated results of operations and financial condition as the result of adoption. The Company is currently evaluating the impact of measuring the remaining nonfinancial assets and nonfinancial liabilities under FSP No. 157-2 on its results of operations and financial condition.

     Effective October 10, 2008, the Company adopted FASB Staff Position No. 157-3, Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active (“FSP 157-3”). FSP 157-3 clarifies the application of SFAS 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. The adoption did not have a significant impact on the Company’s consolidated results or operations or financial condition.

     Effective January 1, 2008, the Company adopted SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities-including an amendment of FASB Statement No. 115 (“SFAS 159”), which the FASB issued in February 2007. SFAS 159 expands the use of fair value accounting but does not affect existing standards, which require assets or liabilities to be carried at fair value. Under SFAS 159, an entity may elect to use fair value to measure certain eligible items. The fair value option may be elected generally on an instrument-by-instrument basis as long as it is applied to the instrument in its entirety, even if an entity has similar instruments that it elects not to measure based on fair value. Upon adoption, the Company did not elect to adopt the fair value option on eligible items under SFAS 159.

2. CASH EQUIVALENTS AND INVESTMENTS

     Cash equivalents and investments consist of the following (in thousands):

		September 30, 2008
						Gross				Gross
		Amortized				Unrealized				Unrealized				Estimated
		Cost				Gains				Losses				Fair Value
Cash equivalents:
Money market funds		$	86,387			$	—			$	—			$	86,387
U.S. Treasuries and Government-sponsored enterprise securities			345,265				200				(4	)			345,461
Available-for-sale:
Auction rate municipal bonds			67,260				—				—				67,260
Held-to-maturity:
Municipal bonds			16,844				59				(6	)			16,897
U.S. Treasuries and Government-sponsored enterprise securities			397,899				571				(323	)			398,147
		$	913,655			$	830			$	(333	)		$	914,152
Cash equivalents		$	431,652			$	200			$	(4	)		$	431,848
Short-term investments			394,644				598				(329	)			394,913
Long-term investments			87,359				32				—				87,391
		$	913,655			$	830			$	(333	)		$	914,152

		December 31, 2007
						Gross				Gross
		Amortized				Unrealized				Unrealized				Estimated
		Cost				Gains				Losses				Fair Value
Cash equivalents:
Money market funds		$	158,080			$	—			$	—			$	158,080
Government-sponsored enterprise securities			114,445				29				—				114,474
Available-for-sale:
Auction rate municipal bonds			82,500				—				—				82,500
Held-to-maturity:
Municipal bonds			42,362				133				—				42,495
Government-sponsored enterprise securities			508,845				551				(9	)			509,387
		$	906,232			$	713				(9	)		$	906,936
Cash equivalents		$	272,525				29				—			$	272,554
Short-term investments			575,645				550				(9	)			576,186
Long-term investments			58,062				134				—				58,196
		$	906,232			$	713			$	(9	)		$	906,936

      Municipal bonds. Unrealized gains and losses as of September 30, 2008 on Foundry’s investments in municipal bonds were caused by interest rate movements. The contractual terms of the debentures do not permit the issuer to settle the securities at a price less than the amortized cost of the investment. As of September 30, 2008, all of Foundry’s municipal bonds had an investment grade credit rating.

      U.S. Treasuries and Government-sponsored enterprise securities (“GSEs”). Foundry’s U.S. Treasuries and GSE portfolio includes direct debt obligations of the United States Treasury, Federal Home Loan Bank and Federal National Mortgage Association. Unrealized losses as of September 30, 2008 were caused by interest rate movements. The contractual terms of the investments do not permit the issuer to settle the securities at a price less than the amortized cost of the investment. As of September 30, 2008, the issuers of Foundry’s GSEs had a credit rating of AAA.

      Auction rate municipal bonds (“auction rate securities”). Foundry’s auction rate securities consist of student loan debt obligations whose underlying assets are primarily Federal Family Education Loan Program (“FFELP”) loans guaranteed by the U.S. Department of Education. As a result of auction failures, actual market prices or relevant observable inputs are not readily available to determine the fair value of Foundry’s auction rate securities. As of September 30, 2008, Foundry’s auction rate securities had an original cost basis of $80.7 million. The current market conditions, and the resulting lack of an active market for these securities, required Foundry to use discounted cash-flow valuation models that depend on management’s assumptions to value its auction rate securities. Based on the valuation models, which incorporate assumptions regarding the cash-flows to be received from these instruments and an effective discount rate reflecting premiums for credit and liquidity, Foundry reduced the carrying value and recorded an other-than-temporary impairment loss of $13.4 million during the third quarter of 2008. The estimated other-than-temporary impairment loss recorded during the third quarter of 2008 was based on, among other factors, utilizing the weighted average maturity of the underlying student loan collateral in the valuation models. The weighted average maturity assumption factored into the valuation models at September 30, 2008. This was a change from Foundry’s previous estimate of the time that would be required for the underlying liquidity issues in the auction rate security market to be resolved. Foundry’s current estimate is based on its assumption that the auction rate securities market, as it previously operated, is not going to return. The other-than-temporary impairment charge of $13.4 million represents $7.4 million in recognized loss on these investments during the three months ended September 30, 2008 and $6.0 million of loss reclassified from accumulated other comprehensive loss previously recorded in the six months ended June 30, 2008 to net income.

     As of September 30, 2008, Foundry held auction rate securities with a new cost basis of $67.3 million, which is net of $13.4 million in other-than-temporary impairment losses, as long-term investments based on the estimated remaining life of the underlying student loan collateral. Foundry holds these securities as long-term investments since the estimated remaining life of the underlying student loan collateral is greater than a year, and there is no assurance that Foundry will be able to successfully liquidate its auction rate security portfolio based upon whether these securities are marketable, or at what price such securities could or will be sold, or that a market for these securities exists, or will exist in the next year.

     During the third quarter of 2008, Foundry recorded an other-than-temporary impairment charge of $13.4 million in net income, due to the change in its intent of holding its auction rate securities until a recovery of the auction rate market or redemption. On October 31, 2008, Foundry announced as part of an agreement in principle to amend its merger agreement with Brocade

Communications Systems, Inc. that Foundry stockholders may receive the proceeds of the sale of Foundry’s portfolio of auction rate securities, up to an amount of $50.0 million in the aggregate, or up to approximately $0.33 per share of Foundry common stock, if Foundry is able to successfully liquidate its portfolio of these securities prior to the close of the acquisition. Accordingly, while in absence of the merger, Foundry fully intended to hold the auction rate securities to maturity. Foundry now believes that because these securities may be liquidated prior to the closing of the merger, it no longer has an unconditional intent to hold the auction rate securities until the recovery of the auction rate market or their redemption and it has, accordingly, recorded the other-than-temporary impairment in the third quarter of 2008. The other-than-temporary impairment charge of $13.4 million represents $7.4 million in unrealized loss on these investments during the three months ended September 30, 2008 and $6.0 million represents the transfer of accumulated other comprehensive loss recorded in the six months ended June 30, 2008 from shareholders’ equity to the determination of net income. Based on the unknown results of the shareholder vote related to the amendment to the merger agreement, as well as the ability to market these instruments, and our intent to hold such instruments until the market recovers or they are otherwise redeemed in the event the amendment to the merger agreement is not consummated, we have continued to classify these securities as long-term investments in the balance sheet.

     During the second quarter of 2008, issuers of auction rate securities, similar to those held by Foundry, began to call certain of their auction rate securities at par. During the third quarter of 2008, one of the Foundry’s auction rate securities, representing approximately 3% of its auction rate portfolio, was redeemed at par. On October 7, 2008, the underwriter of the auction rate securities held by Foundry offered an Auction Rate Securities Rights Agreement (the “Rights Agreement”) to Foundry. The Rights Agreement would enable Foundry to sell its portfolio of auction rate securities at its original cost to the underwriter at any time during the period of June 30, 2010, through July 2, 2012. The Rights Agreement also would enable the underwriter to pay Foundry the original cost of the auction rate securities at any time after Foundry accept the underwriter’s offer. The underwriter would also provide “no net cost” loans up to the original cost of the auction rate security until June 30, 2010 at Foundry’s election. “No net cost” is defined in the Rights Agreement as a loan for a portion of the principal amount of the par value of the auction rate security with an interest rate equivalent to the interest rate on the auction rate security Foundry is holding. On October 16, 2008, Foundry’s management was authorized by Foundry’s Board of Directors to review and enter into the rights offering after a comprehensive review of the Rights Agreement. The deadline for Foundry accepting the Rights Agreement is November 14, 2008. Notwithstanding this redemption and proposed rights offering, there is no guarantee that the remaining portion of Foundry’s auction rate portfolio will be called at par or otherwise regain liquidity.

     In accordance with EITF Abstract No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments , (“EITF 03-1”), the following table summarizes the fair value and gross unrealized losses related to Foundry’s available-for-sale and held-to-maturity securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, as of September 30, 2008 (in thousands):

										Loss Greater Than 12
		Loss Less Than 12 months								months								Total
						Gross								Gross								Gross
						Unrealized								Unrealized								Unrealized
		Fair Value				Losses				Fair Value				Losses				Fair Value				Losses
Held-to-maturity:
Municipal Bonds			1,498				(6	)			—				—				1,498				(6	)
U.S. Treasuries and GSEs			201,056				(327	)			—				—				201,056				(327	)
		$	202,554			$	(333	)		$	—			$	—			$	202,554			$	(333	)

     Because the decline in the market value of Foundry’s held-to-maturity investments is attributable to the changes in interest rates and not credit quality, and because Foundry has the ability and intent to hold these investments until a recovery of its amortized cost, it does not consider these investments to be other-than-temporarily impaired at September 30, 2008.

3. FAIR VALUE DISCLOSURES

Fair Value Measurements

     The fair value of the Company’s cash equivalents and investments has been categorized based upon a fair value hierarchy in accordance with SFAS No. 157. Refer to Note 1. “Summary of Significant Accounting Policies” in the Notes to Condensed Consolidated Financial Statements for a discussion of the Company’s policies regarding this hierarchy. The Company records its held-to maturity cash equivalents and investments at amortized cost and records its available-for-sale auction rate securities at fair value.

     The measurements used to determine fair value of Foundry’s cash equivalent and investment portfolio as of September 30, 2008 consisted of the following (in thousands):

						Fair Value Measurements at Reporting Date Using
						Quoted Prices In
						Active Markets				Significant				Significant
						for Identical				Observable				Unobservable
						Assets				Inputs				Inputs
		9/30/2008				(Level 1)				(Level 2)				(Level 3)
Cash equivalents:
Money market funds		$	86,387			$	86,387			$	—			$	—
U.S. Treasuries and GSEs			345,461				345,461				—				—
Available-for-sale:
Auction rate municipal bonds			67,260				—				—				67,260
Held-to-maturity:
Municipal bonds			16,897				—				16,897				—
U.S. Treasuries and GSEs			398,147				229,722				168,425				—
Total		$	914,152			$	661,570			$	185,322			$	67,260

     The table below provides a reconciliation of Foundry’s financial assets measured at fair value on a recurring basis, consisting of available-for-sale auction rate securities, using significant unobservable inputs (Level 3) for the three and nine months ended September 30, 2008 (in thousands):

		Fair Value Measurements Using
		Significant Unobservable Inputs (Level 3)
		Three Months Ended				Nine Months Ended
		September 30, 2008				September 30, 2008
Beginning Balance		$	77,127			$	—
Total realized gains or (losses) included in net income			—				—
Change in unrealized losses included in other comprehensive income			6,023				—
Total other-than-temporary impairment charge included in net income			(13,390	)			(13,390	)
Purchases, sales and settlements, net			(2,500	)			(2,500	)
Transfers in Level 3			—				83,150
Ending balance		$	67,260			$	67,260

     Gains and losses (realized and unrealized) included in earnings during the three and nine months ended September 30, 2008 are reported in interest and other income and other-than-temporary impairment charge on investments as follows (in thousands):

		Three Months Ended				Nine Months Ended
		September 30, 2008				September 30, 2008
Total gains included in earnings		$	277			$	289
Change in unrealized gains or (losses) relating to assets still held at the reporting date		$	(13,390	)		$	(13,390	)

     During the three months ended September 30, 2008, the Company liquidated certain of its held-to-maturity investments prior to the scheduled maturity date due to a significant deterioration of the issuer’s creditworthiness. The Company recognized a gain of approximately $0.3 million relating to the liquidation of the investments with a fair value of approximately $59.4 million. The Company has determined that the sale of these investments does not impact the Company’s ability and intent to hold the remainder of the debt securities to maturity.

4. INVENTORIES

     Inventories are stated on a first-in, first-out basis at the lower of cost or estimated net realizable value, and include purchased parts and subassemblies, labor and manufacturing overhead. Inventories consist of the following (in thousands):

		September 30, 2008				December 31, 2007
Purchased parts		$	7,873			$	4,279
Work-in-process			21,834				17,195
Finished goods			22,167				20,910
		$	51,874			$	42,384

     Compensation cost capitalized as part of inventory as of September 30, 2008 and December 31, 2007 was $0.3 and $0.2 million, respectively.

5. DEFERRED REVENUE

     Amounts billed in excess of revenue recognized are included as deferred revenue in the accompanying consolidated balance sheets. Product deferred revenue includes shipments to direct end-users, resellers and integration partners. Below is a breakdown of the Company’s deferred revenue (in thousands):

		September 30, 2008				December 31, 2007
Product		$	7,036			$	3,095
Support			85,726				77,672
Total		$	92,762			$	80,767
Reported as:
Current		$	63,748			$	52,981
Non Current			29,014				27,786
Total		$	92,762			$	80,767

     Foundry offers its customers renewable support arrangements, including extended warranties, that generally have terms of one or five years. However, the majority of Foundry’s support contracts have one year terms. The change in the Company’s deferred support revenue balance was as follows for the nine months ended September 30, 2008 (in thousands):

Deferred support revenue at December 31, 2007		$	77,672
New support arrangements			85,312
Recognition of support revenue			(77,258	)
Ending balance at September 30, 2008		$	85,726

6. COMMITMENTS AND CONTINGENCIES

      Purchase Commitments with Suppliers and Third-Party Manufacturers

     Foundry uses contract manufacturers to assemble certain parts for its chassis and its stackable products. The Company also utilizes third-party OEMs to manufacture certain Foundry-branded products. In order to reduce lead-times and ensure an adequate supply of inventories, Foundry’s agreements with some of these manufacturers allow them to procure long lead-time component inventory on the Company’s behalf based on a rolling production forecast provided by Foundry. The Company is contractually obligated to purchase long lead-time component inventory procured by certain manufacturers in accordance with its forecasts although it can generally give notice of order cancellation if such notice is given at least 90 days prior to the delivery date. In addition, the Company issues purchase orders to its component suppliers and third-party manufacturers that may not be cancelable. As of September 30, 2008, Foundry had approximately $69.6 million of open purchase orders with its component suppliers and third-party manufacturers that may not be cancelable.

      Guarantees and Product Warranties

     The Company provides customers with a standard one or five year hardware warranty, depending on the type of product purchased, and a 90-day software warranty. Customers can upgrade and/or extend the warranty by purchasing one of Foundry’s customer support programs. The Company’s warranty accrual represents its best estimate of the amount necessary to settle future and existing claims as of the balance sheet date. Foundry accrues for warranty costs based on estimates of the costs that may be incurred under its warranty obligations including material and labor costs. The warranty accrual is included in its cost of revenues and is recorded at the time revenue is recognized. Factors that affect the Company’s warranty liability include the number of installed units, estimated material costs and estimated labor costs. The Company periodically assesses the adequacy of its warranty accrual and adjusts the amount as considered necessary.

     Changes in product warranty liability for the nine months ended September 30, 2008 were as follows (in thousands):

Balance, December 31, 2007		$	2,251
Liabilities accrued for warranties issued during the period			850
Warranty claims settled during the period			(1,073	)
Changes in liabilities for pre-existing warranties during the period, including changes in estimates			(477	)
Balance, September 30, 2008		$	1,551

     In the ordinary course of business, Foundry enters into contractual arrangements, including reseller and end-user agreements, that contain customary intellectual property indemnification provisions with respect to the Company’s products under which it may agree to indemnify the counter-party from losses relating to a breach of representations and warranties, a failure to perform certain covenants, or claims and losses arising from certain external events as outlined within the particular contract, which may include, for example, losses arising from litigation or claims relating to past performance. Such indemnification clauses may not be subject to maximum loss clauses. The Company has not historically recorded a liability related to these indemnification provisions, and its indemnification arrangements have not had any significant impact on the Company’s financial position, results of operations, or cash flows. No amounts were reflected in the Company’s condensed consolidated financial statements as of September 30, 2008 or December 31, 2007 related to these indemnifications.

Litigation

      Intellectual Property Proceedings. On June 21, 2005, Enterasys Networks, Inc. (“Enterasys”) filed a lawsuit against Foundry (and Extreme Networks) in the United States District Court for the District of Massachusetts alleging that certain of Foundry’s products infringe six of Enterasys’ patents and seeking injunctive relief, as well as unspecified damages. On August 22, 2005, Foundry filed a response to the complaint denying the allegations. On November 3, 2005 the Court severed Enterasys’ claim against Foundry and Extreme into two separate cases. The discovery process began, and proceeded through August 2007. Opening briefs for a Markman claim construction hearing were filed on August 17, 2007, which was to be held on October 15, 2007. However, on August 28, 2007, before responsive Markman briefs were filed by the parties, Foundry filed a motion to stay the case, which was assented to by Enterasys in view of petitions that Foundry had filed with the U.S. Patent and Trademark Office (“USPTO”) requesting that the USPTO reexamine the validity of five of the six Enterasys patent given certain prior art. On August 28, 2007, the Court granted Foundry’s motion to stay the case. All activity in the case is now on hold, while the USPTO reexamination process proceeds. To date, the USPTO has issued initial Office Actions (which are published on the USPTO website) on each of the five Enterasys patents submitted for reexamination. In the Office Actions, the USPTO sustained Foundry’s reasons for alleging that the broadest patent claims of the various patents were invalid, but held that some of the narrower claims of four of the patents were valid. Enterasys has filed its initial responses to three of the five Office Actions, and must file its initial responses to the remaining two Office Action during November 2008. The reexamination proceedings are ex parte , meaning that Foundry cannot participate in the reexamination proceedings between Enterasys and the USPTO concerning the Office Actions. It is expected that the USPTO will continue issuing Office Actions concerning the merits of the petitions (i.e., assessing the validity of the patents over the prior art cited by Foundry) over the next six months to a year. Ultimately, the USPTO may issue final rejections of the claims, or reexamination certificates with cancelled, confirmed, amended, or new claims for the five patents being reexamined, which would conclude the reexamination proceedings. At some point in the future, the stay of the case may be lifted by the Court, depending mainly on the results of the reexamination process. At that time, the court would issue a new scheduling order for the case. The Company is vigorously defending itself against Enterasys’ claims.

     On September 6, 2006, Chrimar Systems, Inc. (“Chrimar”) filed a lawsuit against the Company in the United States District Court for the Eastern District of Michigan alleging that certain of Foundry’s products infringe Chrimar’s U.S. Patent 5,406,260 and seeking injunctive relief, as well as unspecified damages. The Company filed an answer, (denying the allegations), and counterclaims, on September 27, 2006. Subsequently, Chrimar identified claim 17 of the patent as the exemplary claim being asserted against Foundry. The Court appointed a special master for the case, Professor Mark Lemley of Stanford University Law School. On March 6, 2008, the Special Master held a Markman claim construction hearing and, on March 31, 2008, the Special Master filed a report and recommendation with the Court on how the claims should be construed. On May 1, 2008, the parties filed objections to the Special Master’s report. On July 30, 2008, the Court issued a claim construction order. On August 13, 2008, Chrimar filed a motion with the Court for reconsideration of the Court’s claim construction order, but the Court stayed the motion for future consideration after the parties file motions for summary judgment. The parties are now conducting discovery on validity and infringement issues, which must be completed by January 30, 2009. It is expected that summary judgment motions on validity and/or infringement issues will be filed in the Spring of 2009. The Company is vigorously defending itself against Chrimar’s claims.

     On February 7, 2008, Network-1 Security Solutions, Inc. (“Network-1”) filed a lawsuit against Foundry and other networking companies, namely, Cisco Systems, Inc., Cisco-Linksys, LLC, Adtran, Inc., Enterasys Networks, Inc., Extreme Networks, Inc., Netgear, Inc, and 3Com Corporation in the United States District Court for the Eastern District of Texas, Tyler Division, alleging that certain of Foundry’s products infringe Network-1’s U.S. Patent No 6,218,930 and seeking injunctive relief, as well as unspecified damages. On March 3, 2008, Foundry filed an answer to the complaint denying the allegations, and asserting various counterclaims. The other defendants filed answers in April 2008. On June 17, 2008, the Court issued a scheduling order for the case and, in particular, scheduled a Markman claim construction hearing for December 3, 2009 and trial for July 12, 2010. The parties are now conducting discovery. The Company is committed to vigorously defending itself against Network-1’s claims.

     On February 26, 2008, Fenner Investments, Ltd. (“Fenner”) filed a lawsuit against Foundry, 3Com Corporation, Extreme Networks, Inc., Netgear, Inc., Zyxel Communications, Inc., D-Link Systems, Inc., and SMC Networks, Inc. in the United States District Court for the Eastern District of Texas, Tyler Division, alleging that certain of Foundry’s products infringe Fenner’s U.S. Patent No. 7,145,906 and seeking injunctive relief, as well as unspecified damages. On February 28, 2008, Fenner filed an amended complaint that added three additional defendants, namely, Tellabs, Inc., Tellabs North America, Inc., and Enterasys Networks, Inc. Subsequently, on May 5, 2008, Fenner filed a second amended complaint, which added infringement claims concerning a second Fenner patent, U.S. Patent No. 5,842,224, against Foundry and the other defendants. Foundry’s answer to the second amended complaint was filed on May 16, 2008. The Court has issued a scheduling order for the case, which sets a Markman claim construction hearing on February 12, 2009 and a trial on October 13, 2009. The parties are now conducting discovery. The Company is committed to vigorously defending itself against Fenner’s claims.

      Securities Litigation. The Company remains a defendant in a class action lawsuit filed on November 27, 2001 in the United States District Court for the Southern District of New York (the “District Court”) on behalf of purchasers of the Company’s common stock alleging violations of federal securities laws. The case was designated as In re Foundry Networks, Inc. Initial Public Offering Securities Litigation, No. 01-CV-10640 (SAS)(S.D.N.Y.), related to In re Initial Public Offering Securities Litigation, No. 21 MC 92 (SAS)(S.D.N.Y.). The case is brought purportedly on behalf of all persons who purchased the Company’s common stock from September 27, 1999 through December 6, 2000. The operative amended complaint names as defendants the Company and two current and one former Company officers (the “Foundry Defendants”), including the Company’s Chief Executive Officer and former Chief Financial Officer, and investment banking firms that served as underwriters for Foundry’s initial public offering in September 1999 (the “IPO”). The amended complaint alleged violations of Sections 11 and 15 of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934, on the grounds that the registration statement for the IPO failed to disclose that (i) the underwriters agreed to allow certain customers to purchase shares in the IPO in exchange for excess commissions to be paid to the underwriters, and (ii) the underwriters arranged for certain customers to purchase additional shares in the aftermarket at predetermined prices. The amended complaint also alleges that false or misleading analyst reports were issued and seeks unspecified damages. Similar allegations were made in lawsuits challenging over 300 other initial public offerings conducted in 1999 and 2000. The cases were consolidated for pretrial purposes.

     In 2004, the Company accepted a settlement proposal presented to all issuer defendants. Under the terms of this settlement, the plaintiffs would have dismissed and released all claims against the Foundry Defendants in exchange for a contingent payment by the insurance companies collectively responsible for insuring the issuers in all of the IPO cases and for the assignment or surrender of control of certain claims the Company may have against the underwriters. However, the settlement required approval by the District Court. Prior to a final decision by the District Court, the Second Circuit Court of Appeals vacated the class certification of plaintiffs’

claims against the underwriters in six cases designated as focus or test cases. In re Initial Public Offering Securities Litigation, 471 F.3d 24 (2d Cir. Dec. 5, 2006). In response, on December 14, 2006, the District Court ordered a stay of all proceedings in all of the lawsuits pending the outcome of plaintiffs’ petition to the Second Circuit for rehearing en banc and resolution of the class certification issue. On April 6, 2007, the Second Circuit denied plaintiffs’ petition for rehearing, but clarified that the plaintiffs may seek to certify a more limited class in the District Court. In view of that decision, the parties withdrew the prior settlement. The plaintiffs have filed amended complaints in an effort to comply with the Second Circuit decision. The Company, and the previously named officers, are still named defendants in the amended complaint. On March 26, 2008, the District Court issued an order granting in part and denying in part defendants’ motions to dismiss the amended complaints in the six focus cases. In particular, the District Court denied the motions to dismiss as to the Section 10(b) claims. The District Court also denied the motions to dismiss as to the Section 11 claims except for those claims raised by two different classes of plaintiffs. More specifically, the District Court dismissed the Section 11 claims raised by (1) those plaintiffs who had no conceivable damages because they sold their securities above the offering price; and (2) those plaintiffs whose claims were time barred because they purchased their securities outside the previously certified class period. The terms of a settlement have been reached between all of the parties to all of the lawsuits, under which Foundry will not be required to pay any cash. The settlement is subject to completion of documentation and court approval, neither of which can be assured. If the documentation is not finalized and thereafter approved by the District Court, the Company intends to defend the lawsuit vigorously. Because of the inherent uncertainty of litigation; however, Foundry cannot predict its outcome.

     In August and September 2006, purported Foundry stockholders filed two putative derivative actions against certain of Foundry’s current and former officers, directors and employees in the Superior Court of the State of California County of Santa Clara. Both actions were consolidated into In re Foundry Networks, Inc. Derivative Litigation , Superior Court of the State of California, Santa Clara County, Lead Case. No. 1-06-CV 071651 (the “California State Action”). On February 5, 2007, plaintiffs served a Consolidated Amended Shareholder Derivative Complaint (the “CAC”). The CAC names 19 defendants and Foundry as a nominal defendant. In general, the CAC alleges that certain stock option grants made by Foundry were improperly backdated and that such alleged backdating resulted in alleged violations of generally accepted accounting principles, the dissemination of false financial statements and potential tax ramifications. The CAC asserts 11 causes of action against certain and/or all of the defendants, including, among others, breach of fiduciary duty, unjust enrichment and violations of California Corporations Code Sections 25402 and 25403. On February 13, 2007, the Company filed a motion to stay the CAC pending resolution of a substantially similar derivative action pending in the United States District Court for the Northern District of California, San Jose Division. On March 20, 2007, the court granted the motion to stay. The action continues to be stayed. On October 28, 2008, the parties entered into the Stipulation of Settlement described below. The Stipulation of Settlement is subject to Court approval. Because of the inherent uncertainty of litigation, however, Foundry cannot predict whether the Stipulation of Settlement will be approved by the Court or the outcome of the litigation.

     On March 9, 2007, a purported Foundry stockholder served Foundry’s registered agent for service of process with a putative derivative action against Foundry and certain of its current and former officers, directors and employees. The action was filed on February 28, 2007, in the Superior Court of the State of California, Santa Clara County, and captioned Patel v. Akin, et al . (Case No. l-07-CV 080813). The Patel action generally asserted similar claims as those in the Consolidated Action as well as a cause of action for violation of Section 1507 of the California Corporations Code which is not asserted in the Consolidated Action. On April 4, 2007 the plaintiff filed a Request for Voluntary Dismissal of the action. On June 19, 2007, plaintiff re-filed the action Patel v. Akin, et al. (Civil Action No. 3036-VCL), in the Court of Chancery of the State of Delaware, New Castle County (the “Delaware Action”). The complaint again generally asserts similar claims as those in the California State Action and seeks judgment against the individual defendants for damages purportedly sustained by the Company as a result of the alleged misconduct, as well as unspecified equitable relief to remedy the individual defendants’ alleged breaches of fiduciary duties. The complainant further seeks an award of attorney’s fees and costs, accountants’ and experts’ fees, cost and expenses, and such other relief as the Court might deem proper. On October 28, 2008, the parties entered into the Stipulation of Settlement described below. The Stipulation of Settlement is subject to Court approval. Because of the inherent uncertainty of litigation, however, Foundry cannot predict whether the Stipulation of Settlement will be approved by the Court or the outcome of the litigation.

     In September and October 2006, purported Foundry stockholders filed four putative derivative actions against Foundry and certain of its current and former officers, directors and employees in the United States District Court for the Northern District of California. The four actions were captioned Desai v. Johnson, et al . (Case No. C-06-05598 PVT), McDonald v. Johnson, et al. (Case No. C06 06099 HRL), Jackson v. Akin, et al. (C06 06509 JCS) and Edrington v. Johnson, Jr., et al. (C06 6752 RMW). On December 8, 2006, the actions were consolidated into In re Foundry Networks, Inc. Derivative Litigation, U.S.D.C. No. Dist. Cal. (San Jose Division), Case No. 5:06-CV-05598-RMW (the “California Federal Action”). A hearing on certain plaintiffs’ motion to appoint lead plaintiff and lead counsel was held on February 2, 2007, and, on February 12, 2007, the court appointed lead plaintiff and lead counsel. On

February 15, 2007, Edrington v. Johnson, Jr., et al was voluntarily dismissed. Pursuant to a stipulation among the parties, on March 26, 2007, plaintiffs filed and served a Consolidated Derivative Complaint (the “CDC”). The CDC generally alleges that certain stock option grants made by Foundry were improperly backdated and that such alleged backdating resulted in alleged violations of generally accepted accounting principles, dissemination of false financial statements and potential tax ramifications. The CDC pleads a combination of causes of action, including, among others, breach of fiduciary duty, unjust enrichment and violations of Sections 10(b), 14(a) and 20(a) of the Securities and Exchange Act of 1934. On May 10, 2007, Foundry filed a motion to dismiss the CDC. Pursuant to a stipulation among the parties, the individual defendants named in the CDC are not required to answer or otherwise respond to the CDC unless the court denies Foundry’s motion to dismiss. On June 25, 2007, plaintiffs filed an opposition to Foundry’s motion to dismiss, and, on August 2, 2007, Foundry filed a reply to plaintiffs’ opposition. Pursuant to a stipulation among the parties and an order of the Court, the hearing on Foundry’s motion to dismiss occurred on May 23, 2008, and the court has not yet ruled on the motion. On October 28, 2008, the parties entered into the Stipulation of Settlement described below. The Stipulation of Settlement is subject to Court approval. Because of the inherent uncertainty of litigation, however, Foundry cannot predict whether the Stipulation of Settlement will be approved by the Court or the outcome of the litigation.

     On October 28, 2008, a Stipulation of Settlement was executed to settle each of the California State Action, the California Federal Action and the Delaware Action. On October 29, 2008, the Stipulation of Settlement was filed with the Court in the California Federal Action. The Stipulation of Settlement is subject to approval by the Court in the California Federal Action. In the event that the Stipulation of Settlement is approved by the Court in the California Federal Action and a judgment is entered in the California Federal Action, counsel for plaintiffs and defendants in the California State Action and Delaware Action will cooperate to effectuate the dismissal with prejudice of the California State Action and the Delaware Action. Under the Stipulation of Settlement, the Company will receive cash payments totaling $1.9 million. The Stipulation of Settlement further provides that Foundry will adopt certain corporate governance measures and Foundry will pay Lead Plaintiffs’ Counsel $1.2 million for their fees and expenses. The Stipulation of Settlement provides for a release of claims against the defendants by Lead Plaintiffs in connection with the matters alleged in the lawsuits and the Company and a release of claims against Lead Plaintiffs, Lead Plaintiffs’ Counsel and the Company by the defendants. The Stipulation of Settlement provides that it is not an admission by the defendants of any wrongdoing, liability, fault or omission by them. The Stipulation of Settlement requires Court approval, and Foundry cannot predict whether the Court will or will not approve the Stipulation of Settlement due to the inherent uncertainty of litigation. Because of the inherent uncertainty of litigation, Foundry also cannot predict the outcome of the litigation.

     On October 3, 2007, a purported Foundry stockholder filed a lawsuit naming Foundry as a nominal defendant in the United States District Court, Western District of Washington in Seattle. The action is captioned Vanessa Simmonds v. Deutsche Bank AG, Merrrill Lynch & Co and JPMorgan Chase & Co. Defendants, and Foundry Networks, Inc., Nominal Defendant (Case No. 2:07-CV-01566-JCC). On February 28, 2008, the plaintiff filed a first amended complaint. The action alleges that Deutsche Bank, Merrill Lynch and JPMorgan profited from transactions in Foundry stock by engaging in short-swing trades. By stipulation and order of the court, the Company is not required to answer or otherwise respond to the first amended complaint.

     On July 23, 2008, an action, Doug Edrington v. Bobby R. Johnson, Jr., et al (Case No. 1:08-CV-118013), was filed in the Superior Court of the State of California for the County of Santa Clara. In this action, the plaintiff named as defendants the members of the board of directors of Foundry. The complaint asserts claims on behalf of the Company’s stockholders who are similarly situated with the plaintiff. Among other things, the complaint alleges that the members of the Company’s board of directors have breached their fiduciary duties to the Company’s stockholders in connection with the proposed acquisition of the Company by Brocade Communications Systems, Inc. (the “Merger”) and engaged in self-dealing in connection with approval of the Merger, allegedly resulting in an unfair process and unfair price to the Company’s stockholders. The complaint seeks class certification and certain forms of equitable relief, including enjoining the consummation of the Merger. On October 6, 2008, Plaintiff filed a motion for preliminary injunction of the Merger, requesting that the Court order that additional disclosure be made to shareholders prior to proceeding with the shareholder vote on the Merger scheduled for October 24, 2008. On October 16, 2008, the defendants filed an opposition to Plaintiff’s motion for preliminary injunction, and on October 20, 2008 Plaintiff filed a reply brief in support of the motion for preliminary injunction. A hearing on Plaintiff’s motion for preliminary injunction was held on October 22, 2008. On the same day, the Court entered an order denying Plaintiff’s motion for a preliminary injunction. The Company believes that the allegations of the complaint are without merit, had advanced defense costs on behalf of its directors who intend to vigorously contest the action. However, there can be no assurances that the defendants will be successful in such defense.

      United States Attorney’s Office Subpoena for Production of Documents. On June 26, 2006, Foundry received a subpoena from the United States Attorney’s Office for the production of documents relating to its historical stock option granting practices. The

Company has produced certain documents to the United States Attorney’s Office in October of 2006, but has not received correspondence from the United States Attorney’s Office since the Company’s production of documents. The Company has cooperated with the United States Attorney’s Office and will continue to do so if requested by the United States Attorney’s Office.

      General. From time to time, the Company is subject to other legal proceedings and claims in the ordinary course of business, including claims of alleged infringement of trademarks, copyrights, patents and/or other intellectual property rights. From time to time, third parties assert patent infringement claims against the Company in the form of letters, lawsuits and other forms of communication. In addition, from time to time, the Company receives notification from customers claiming that they are entitled to indemnification or other obligations from the Company related to infringement claims made against them by third parties. In accordance with SFAS No. 5, Accounting for Contingencies, (“SFAS 5”), the Company records a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. The Company reviews the need for any such liability on a quarterly basis and records any necessary adjustments to reflect the effect of ongoing negotiations, settlements, rulings, advice of legal counsel, and other information and events pertaining to a particular case in the period they become known. At September 30, 2008, the Company had not recorded any such liabilities in accordance with SFAS 5. The Company believes it has valid defenses with respect to the legal matters pending against it. In the event of a determination adverse to Foundry, the Company could incur substantial monetary liability and be required to change its business practices. Any unfavorable determination could have a material adverse effect on Foundry’s financial position, results of operations, or cash flows.

7. STOCKHOLDERS EQUITY

      Share Repurchase Program. In July 2007, the Company’s Board of Directors approved a share repurchase program authorizing the Company to purchase up to $200 million of its common stock. In April 2008, the Company’s Board of Directors approved an increase to the size of the share repurchase program of an additional $100 million. That approval expanded the share repurchase program to $300 million. The number of shares to be purchased and the timing of purchases is based on several factors, including the price of Foundry’s stock, general business and market conditions, and other investment opportunities. The share repurchase program is scheduled to expire on December 31, 2008.

     The stock repurchase activity under the share repurchase program during the nine months ended September 30, 2008 is summarized as follows (in thousands, except per share amounts):

		Total Number				Average Price
		of Shares				Paid per				Amount of
Nine Months Ended September 30, 2008		Purchased				Share				Repurchases
Cumulative balance at December 31, 2007			4,381			$	18.93			$	82,930
Repurchase of common stock			5,640				13.40				75,580
Cumulative balance at September 30, 2008			10,021			$	15.82			$	158,510

     The purchase price for the repurchased shares in the table above is reflected as a reduction to retained earnings. Common stock repurchases under the program are recorded based upon the settlement date of the applicable trade for accounting purposes. All shares of common stock repurchased under this program have been retired.

      Other Repurchases of Common Stock. The Company also repurchases shares in settlement of employee tax withholding obligations due upon the vesting of restricted stock or stock units.

      Stock-Based Compensation Plans. The Company has adopted stock-based compensation plans that provide for the grant of stock-based awards to employees and directors, including stock options and restricted stock awards which are designed to reward employees for their long-term contributions to the Company and provide an incentive for them to remain with Foundry. As of September 30, 2008, the Company had three stock-based compensation plans: the 2006 Stock Incentive Plan (the “2006 Stock Plan”), the 1999 Directors’ Stock Option Plan, and the 2000 Non-Executive Stock Option Plan.

     On June 16, 2006, stockholders approved the adoption of the 2006 Stock Plan replacing the 1996 Stock Plan. No further grants will be made under the 1996 Stock Plan. Under the 2006 Stock Plan, the stockholders authorized the issuance of up to 26,000,000 shares of common stock to Foundry’s employees, consultants and non-employee directors. The 2006 Stock Plan has a fixed number of shares and will terminate on December 31, 2009. The 2006 Stock Plan is not an “evergreen” plan. The number of shares of Foundry’s common stock available for issuance under the 2006 Stock Plan will be reduced by one share for every one share issued pursuant to a

stock option or stock appreciation right and by 2.3 shares for every one share issued as restricted stock or a restricted stock unit. Stock options and stock appreciation rights must be granted with an exercise price of not less than 100% of the fair market value of the Company’s common stock on the date of grant. Repricing of stock options and stock appreciation rights is prohibited without stockholder approval. Awards under the 2006 Stock Plan may be made subject to performance conditions as well as conditions based on time.

     Under the 1996 Stock Plan, the 1999 Directors’ Stock Option Plan, and the 2000 Non-Executive Stock Option Plan, stock options generally have an exercise price equal to the fair market value of Foundry’s common stock on the date of grant. Options vest over a vesting schedule determined by the Board of Directors, generally one to five years. Options granted prior to January 1, 2005 expire 10 years from the date of grant for all stock-based compensation plans. Options granted after January 1, 2005 expire 5 years from the date of grant for the 2006 Stock Plan, the 1996 Stock Plan and the 2000 Non-Executive Stock Option Plan. Options granted after January 1, 2005 expire 10 years from the date of grant for the 1999 Directors’ Stock Option Plan. On April 21, 2008, the Company’s Board of Directors resolved to discontinue further equity award grants from the 2000 Non-Executive Stock Option Plan. The last grant from the 2000 Non-Executive Stock Option Plan was made on April 29, 2005.

     A summary of Foundry’s stock option activity for all stock option plans for the nine months ended September 30, 2008 is set forth in the following table (which excludes restricted stock awards and restricted stock units):

						Weighted-
						Average				Remaining
		Options				Exercise				Contractual				Aggregate
		Outstanding				Price				Life (years)				Intrinsic Value
														(in thousands)
Balance, December 31, 2007			30,528,237			$	16.38
Granted			1,604,250			$	12.81
Exercised			(3,506,833	)		$	10.26
Forfeited/expired			(785,866	)		$	19.44
Balance, September 30, 2008			27,839,788			$	16.85				3.83			$	117,549
Vested and expected to vest at September 30, 2008			26,668,492			$	16.91				3.83			$	114,374
Exercisable at September 30, 2008			21,218,188			$	17.20				3.76			$	99,786

     The aggregate intrinsic value in the table above represents the total pre-tax intrinsic value (the difference between Foundry’s closing stock price on the last trading day of the third quarter of 2008 and the exercise price for all in-the-money options) that would have been received by the option holders had all option holders exercised their options on September 30, 2008.

     As of September 30, 2008, there was $33.5 million of total unrecognized compensation cost related to stock options granted under the Company’s stock-based compensation plans. That cost is expected to be recognized over a weighted-average period of 2.6 years.

      Restricted Stock Awards. A summary of the Company’s restricted stock award activity and related information for the nine months ended September 30, 2008 is set forth in the following table:

		Restricted Stock				Weighted Average
		Outstanding				Grant Date Fair Value
		(in thousands)
Balance, December 31, 2007			953			$	16.59
Granted			—			$	—
Vested			(555	)		$	15.92
Forfeited			—			$	—
Balance, September 30, 2008			398			$	17.53

     As of September 30, 2008, there was $5.3 million of total unrecognized compensation cost related to restricted stock awards granted under the Company’s stock option plans. That cost is expected to be recognized over a weighted-average period of 1.8 years.

      Restricted Stock Units. The following schedule summarizes information about the Company’s restricted stock units (“RSUs”) for the nine months ended September 30, 2008:

						Remaining
						Contractual				Aggregate
		Shares				Life (years)				Intrinsic Value
		(in thousands)								(in thousands)
Balance, December 31, 2007			1,639
Awarded			3,907
Released			(499	)
Forfeited/expired			(77	)
Balance, September 30, 2008			4,970				1.81			$	90,499
Vested and expected to vest at September 30, 2008			4,239				1.77			$	77,198
Exercisable at September 30, 2008			—				—			$	—

     These RSUs have been deducted from the shares available for grant under the Company’s stock option plans at a rate of 2.3 shares for every one share issued under the 2006 Stock Plan.

     As of September 30, 2008, approximately $75.2 million of total unrecognized compensation cost related to RSUs is expected to be recognized over a weighted-average period of 2.7 years.

      Employee Stock Purchase Plan. Under Foundry’s 1999 Employee Stock Purchase Plan (the “ESPP”), employees are granted the right to purchase shares of common stock at a price per share that is 85% of the lesser of the fair market value of the shares at (i) the beginning of a rolling two-year offering period or (ii) the end of each semi-annual purchase period, subject to a plan limit on the number of shares that may be purchased in a purchase period. During the nine months ended September 30, 2008 and 2007, the Company issued an aggregate of 2,030,502 and 1,086,076, shares, respectively, under the ESPP at an average per share price of $9.17 and $8.64, respectively. A total of 4,598,274 shares of common stock were reserved for issuance under the ESPP as of September 30, 2008.

     Stock-based compensation relates to the following categories by period (in thousands):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2008				2007				2008				2007
Cost of revenue — Product		$	421			$	385			$	1,326			$	1,019
Cost of revenue — Service			891				601				2,613				1,464
Research and development			4,899				4,956				13,617				11,734
Sales and marketing			5,150				5,108				15,122				12,705
General and administrative			2,066				2,236				5,908				5,879
Total		$	13,427			$	13,286			$	38,586			$	32,801

     Excess tax benefits are realized tax benefits from tax deductions for exercised options in excess of the deferred tax asset attributable to stock compensation costs for such options. Approximately $4.3 million and $6.3 million of excess tax benefits for the nine months ended September 30, 2008 and 2007, respectively, have been classified as a financing cash inflow.

8. NET INCOME PER SHARE

     The following table presents the calculation of basic and diluted net income per share:

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2008				2007				2008				2007
		(in thousands, except per share amounts)
Net income		$	4,452			$	27,568			$	36,684			$	52,291
Basic:
Weighted-average shares outstanding			147,301				148,897				146,542				147,768
Basic EPS		$	0.03			$	0.19			$	0.25			$	0.35
Diluted:
Weighted-average shares outstanding			147,301				148,897				146,542				147,768
Add: Weighted-average dilutive potential shares			5,802				7,589				4,556				7,008
Weighted-average shares used in computing diluted EPS			153,103				156,486				151,098				154,776
Diluted EPS		$	0.03			$	0.18			$	0.24			$	0.34

     There were 17.9 million and 11.0 million anti-dilutive common stock equivalents for the nine months ended September 30, 2008 and 2007, respectively.

9. COMPREHENSIVE INCOME

     Comprehensive income consisted of the following (in thousands):

		Three Months Ended September 30,								Nine Months Ended September 30,
		2008				2007				2008				2007
Net income		$	4,452			$	27,568			$	36,684			$	52,291
Other comprehensive income:
Reclass to net income of unrealized loss on available-for-sale securities			6,023				—				—				—
Foreign currency translation adjustments			861				(191	)			692				(312	)
Total comprehensive income		$	11,336			$	27,377			$	37,376			$	51,979

10. SEGMENT AND GEOGRAPHIC INFORMATION

     Operating segments are defined as components of an enterprise for which separate financial information is available and evaluated regularly by the chief operating decision-maker, in deciding how to allocate resources and in assessing performance. Foundry is organized as, and operates in, one reportable segment: the design, development, manufacturing, marketing and sale of a comprehensive, end-to-end suite of high-performance data networking solutions, including Ethernet Layer 2-7 switches, Metro routers and Internet traffic management products. Foundry’s chief operating decision-maker reviews consolidated financial information, accompanied by information about revenue by geographic region and configuration type. The Company does not assess the performance of its geographic regions on other measures of income or expense, such as depreciation and amortization, gross margin or net income. In addition, Foundry’s assets are primarily located in its corporate office in the United States and are not allocated to any specific region. Therefore, geographic information is presented only for net product revenue.

     Foundry manages its business based on four geographic regions: the Americas (primarily the United States); Europe, the Middle East, and Africa (“EMEA”); Asia Pacific; and Japan. Foundry’s foreign offices conduct sales, marketing and support activities. Because some of Foundry’s customers, such as the United States government and multinational companies, span various geographic locations, the Company determines revenue by geographic region based on the billing location of the customer. Net product revenue by region as a percentage of net product revenue was as follows:

		Three Months Ended September 30,								Nine Months Ended September 30,
		2008				2007				2008				2007
Americas			73	%			70	%			68	%			69	%
EMEA			17	%			16	%			20	%			16	%
Asia Pacific			6	%			9	%			8	%			9	%
Japan			4	%			5	%			4	%			6	%

     Sales to the United States government accounted for approximately 28% and 22% of the Company’s total net revenue for the three months ended September 30, 2008 and 2007, respectively, and 22% and 17% of the Company’s total net revenue for the nine months ended September 30, 2008 and 2007, respectively.

     Other than the United States government, no individual customer accounted for 10% or more of the Company’s net product revenue for the three and nine months ended September 30, 2008 and 2007. Sales to our ten largest customers accounted for 22% and 28% of net product revenue for the nine months ended September 30, 2008 and 2007, respectively. As of September 30, 2008 and December 31, 2007, ten customers accounted for approximately 37% and 38%, respectively, of Foundry’s net outstanding trade receivables.

11. INCOME TAXES

     The Company’s interim effective income tax rate is based on its best estimate of its annual effective income tax rate. The effective income tax rates for the three months ended September 30, 2008 and 2007 were 67% and 38%, respectively. The effective income tax rates for the nine months ended September 30, 2008 and 2007 were 43% and 38%, respectively. These rates reflect applicable federal and state tax rates, offset primarily by the tax impact of research and development tax credits, tax-exempt interest income, and the US production activities deduction. The higher effective tax rate for the nine months ended September 30, 2008, compared to the same period in 2007, was primarily due to the unfavorable impact from a $13.4 million charge to income for the other-than-temporary impairment of certain investment securities. In addition, the 2008 tax rate was higher due to the impact from increased stock-based compensation, partially offset by additional 2008 disqualifying dispositions.

     The temporary impairment of investments creates an unrealized capital loss. Only realized capital losses are deductible, and then only to the extent of capital gains. It is anticipated that no capital gains will be realized in the foreseeable future. As such, the company opted to set up a valuation allowance against the full amount of the deferred tax asset recognized for the impairment loss, and accordingly, no tax benefit was recognized on the impairment loss.

     When an employee exercises a stock option issued under a nonqualified plan, or has a disqualifying disposition related to a qualified plan, the Company receives an income tax benefit for the difference between the fair market value of the stock issued at the time of the exercise or disposition and the employee’s option price, tax effected. As the Company cannot record the tax benefit for stock-based compensation expense associated with qualified stock options until the occurrence of future disqualifying dispositions of the underlying stock, the Company’s future quarterly and annual effective tax rates will be subject to volatility, and, consequently, the Company’s ability to reasonably estimate its future quarterly and annual effective tax rates will be adversely affected.

     Management believes the Company will likely generate sufficient taxable income in the future to realize the tax benefits arising from its existing net deferred tax assets as of September 30, 2008, although there can be no assurance that it will be able to do so. A portion or all of Foundry’s deferred tax assets relating to stock-based compensation may not ultimately be realized. To the extent the deferred tax benefit is more than the actual tax benefit realized, the difference may impact the income tax expense if the Company does not have a sufficient hypothetical additional paid in capital (“APIC”) pool under SFAS 123R to absorb that difference.

     At December 31, 2007, Foundry had a liability for gross unrecognized tax benefits of $16.6 million, of which $6.9 million, if recognized, would affect the Company’s effective tax rate. During the nine months ended September 30, 2008, there was no material change in the amount of the liability for gross unrecognized tax benefits.

     At December 31, 2007, Foundry had a liability for accrued interest and penalties related to the unrecognized tax benefits of $1.8 million. During the nine months ended September 30, 2008, there was no material change in the total amount of the liability for accrued interest and penalties related to the unrecognized tax benefits.

     Foundry conducts business globally, and, as a result, the Company files income tax returns in the United States federal jurisdiction and various state and foreign jurisdictions. In the normal course of business the Company is subject to examination by taxing authorities throughout the world. It is possible that the amount of the liability for unrecognized tax benefits may change within the next 12 months, although no specific amount of future change is known at this time, and no estimate of a range of possible change can be quantified.

     In general, Foundry is no longer subject to United States federal income tax examinations for years before 2005 and state and local income tax examinations for years before 2004, except to the extent that tax attributes from the earlier closed years are carried forward to years remaining open for audit.

12. BROCADE ACQUISITION

     The Company entered into an Agreement and Plan of Merger, dated as of July 21, 2008 (the “Merger Agreement”), by and among Brocade Communications Systems, Inc., a Delaware corporation (“Brocade”), Falcon Acquisition Sub, Inc. and the Company, pursuant to which Falcon Acquisition Sub, Inc. will merge with and into the Company, and the Company will become a wholly owned subsidiary of Brocade (the “Merger”).

     Pursuant to the terms of the Merger Agreement, each share of common stock of the Company (“Foundry Common Stock”) (other than shares owned by Foundry or Brocade) will be converted into the right to receive $18.50 in cash plus 0.0907 shares of Brocade common stock (“Brocade Common Stock”). Options to purchase Foundry Common Stock and restricted stock units of Foundry will be converted into the rights described in the Merger Agreement. Brocade has announced that it anticipates financing the Merger through a combination of cash on hand (at both companies) and approximately $1.5 billion of committed debt financing from Bank of America and Morgan Stanley Senior Funding, Inc., subject to customary terms and conditions. Consummation of the Merger is subject to customary conditions, including (i) adoption of the Merger Agreement by holders of a majority of the Foundry Common Stock outstanding and (ii) absence of any law or order prohibiting the consummation of the Merger.

     On October 29, 2008, the Company and Brocade reached an agreement in principle to amend the Merger Agreement pursuant to which Foundry’s stockholders would be entitled to receive $16.50 in cash for each share of Foundry common stock. No fractional shares of Brocade common stock would be issued to Foundry stockholders. In addition, the agreement in principle provides that in certain circumstances, Foundry stockholders could receive the proceeds of the sale of Foundry’s portfolio of auction rate securities, up to an amount of $50.0 million in the aggregate, or up to approximately $0.33 per share of Foundry common stock, if Foundry is able to successfully liquidate its portfolio of these securities prior to the close of the acquisition. There can be no assurance, however, that the securities are marketable or at what price such securities could or would be sold, or that a market for these securities exists or will exist prior to the close of the transaction. The Special Meeting of Foundry Stockholders relating to the proposed Merger, originally scheduled for October 24, 2008, was adjourned to October 29, 2008 and further adjourned to November 7, 2008. If a definitive agreement is reached between the Company and Brocade regarding the new agreement in principle, the stockholder meeting will be further delayed and additional information regarding the restructured transaction will be distributed to Foundry’s stockholders for their consideration. In that event, it is anticipated that the Foundry stockholder meeting to consider the restructured transaction would be convened in December 2008, with a closing of the transaction in the second half of December 2008.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

      The following discussion and analysis of our financial condition and results of operations should be read together with our condensed consolidated financial statements and related notes appearing elsewhere in this Form 10-Q . This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions, including our expectations that our interest income will decline over the next several quarters, that our remaining cash, cash equivalents, short term investments and cash generated from operations will satisfy our working capital needs, capital expenditures, commitments and other liquidity requirements associated with our operations through at least the next 12 months, regarding our intention to vigorously defend ourselves in certain litigation, regarding our expectation that our operating expenses will increase modestly during the fourth quarter and fiscal year

ended 2008, and regarding the impact of the recent auction market failures on our liquidity. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including, but not limited to, those discussed in Part II, Item 1A. “Risk Factors.” Our recent announcement of the agreement for Brocade to acquire Foundry may intensify certain of these risks. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s opinions only as of the date hereof. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements. Readers should carefully review the risk factors described in this document as well as in other documents we file from time to time with the SEC. All public reports filed by us with the SEC are available free of charge on our website at www.foundrynetworks.com or from the SEC at www.sec.gov as soon as practicable after we electronically file such reports with the SEC.

Recent Developments

     We entered into an Agreement and Plan of Merger, dated as of July 21, 2008 (the “Merger Agreement”), by and among Brocade Communications Systems, Inc., a Delaware corporation (“Brocade”), Falcon Acquisition Sub, Inc. and Foundry, pursuant to which Falcon Acquisition Sub, Inc. will merge with and into Foundry, and Foundry will become a wholly owned subsidiary of Brocade (the “Merger”).

     Pursuant to the terms of the Merger Agreement, each share of our common stock (“Foundry Common Stock”) (other than shares owned by Foundry or Brocade) will be converted into the right to receive $18.50 in cash plus 0.0907 shares of Brocade common stock (“Brocade Common Stock”). Options to purchase Foundry Common Stock and restricted stock units of Foundry will be converted into the rights described in the Merger Agreement. Brocade has announced that it anticipates financing the Merger through a combination of cash on hand (at both companies) and approximately $1.5 billion of committed debt financing from Bank of America and Morgan Stanley Senior Funding, Inc., subject to customary terms and conditions. Consummation of the Merger is subject to customary conditions, including (i) adoption of the Merger Agreement by holders of a majority of the Foundry Common Stock outstanding and (ii) absence of any law or order prohibiting the consummation of the Merger.

     On October 29, 2008, the Company and Brocade reached an agreement in principle to amend the Merger Agreement pursuant to which Foundry’s stockholders would be entitled to receive $16.50 in cash for each share of Foundry common stock. No fractional shares of Brocade common stock would be issued to Foundry stockholders. In addition, the agreement in principle provides that in certain circumstances, Foundry stockholders could receive the proceeds of the sale of Foundry’s portfolio of auction rate securities, up to an amount of $50.0 million in the aggregate, or up to approximately $0.33 per share of Foundry common stock, if Foundry is able to successfully liquidate its portfolio of these securities prior to the close of the acquisition. There can be no assurance, however, that the securities are marketable or at what price such securities could or would be sold, or that a market for these securities exists or will exist prior to the close of the transaction. The Special Meeting of Foundry Stockholders relating to the proposed Merger, originally scheduled for October 24, 2008, was adjourned to October 29, 2008 and further adjourned to November 7, 2008. If a definitive agreement is reached between the Company and Brocade regarding the new agreement in principle, the stockholder meeting will be further delayed and additional information regarding the restructured transaction will be distributed to Foundry’s stockholders for their consideration. In that event, it is anticipated that the Foundry stockholder meeting to consider the restructured transaction would be convened in December 2008, with a closing of the transaction in the second half of December 2008.

Overview

     Founded in 1996, we design, develop, manufacture, market and sell a comprehensive, end-to-end suite of high performance data networking solutions, including Ethernet Layer 2-7 switches and Metro and Internet routers. We sell our products and services worldwide through our own direct sales force, resellers and integration partners. Our customers include Internet Service Providers (ISPs), Metro Service Providers, government agencies and various enterprises including education, healthcare, entertainment, technology, energy, financial services, retail, aerospace, transportation, and e-commerce companies.

      Critical Accounting Policies and Use of Estimates

     Management’s discussion and analysis of financial condition and results of operations are based on our condensed consolidated financial statements, which have been prepared in accordance with United States generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements, and the

reported amounts of revenue and expenses during the period reported. By their nature, these estimates and judgments are subject to an inherent degree of uncertainty. Management bases its estimates and judgments on historical experience, market trends, and other factors that are believed to be reasonable under the circumstances. These estimates form the basis for judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from what we anticipate, and different assumptions or estimates about the future could change our reported results. Management believes the critical accounting policies as disclosed in our Annual Report on Form 10-K for the year ended December 31, 2007 reflect the more significant judgments and estimates used in the preparation of our financial statements. Management believes there have been no material changes to our critical accounting policies and estimates during the nine months ended September 30, 2008 compared with those discussed in our Annual Report on Form 10-K for the year ended December 31, 2007 with the exception of our accounting policy for valuation of investments and fair value measurement as described in Note 1, “Summary of Significant Accounting Policies” and estimates for valuation of our auction rate securities as described in Note 2, “Cash Equivalents and Investments” of our Condensed Consolidated Financial Statements.

      Results of Operations

      Net Revenue

     We offer products in two configuration platforms, a fixed configuration stackable and a flexible configuration chassis. A stackable has a fixed configuration that cannot be altered. A chassis uses a modular platform that can be populated and reconfigured with various management and line card modules as frequently as desired by the customer. For example, customers can use our chassis products at the edge of their network or reconfigure the chassis for use in the backbone or core of their network. Our selling prices on chassis-based products are generally higher than our stackable products because of the flexible configuration offered by chassis-based products.

     Net revenue information is as follows (dollars in thousands):

		Three Months Ended September 30,
		2008								2007
						% of Net								% of Net
		$				Revenue				$				Revenue				$ Change				% Change
Net revenue:
Product		$	137,494				83	%		$	136,974				86	%		$	520				—
Service			28,408				17	%			22,523				14	%			5,885				26	%
Total net revenue		$	165,902				100	%		$	159,497				100	%		$	6,405				4	%
Net product revenue:
Chassis		$	98,996				72	%		$	97,252				71	%		$	1,744				2	%
Stackable			38,498				28	%			39,722				29	%			(1,224	)			(3	%)
Total net product revenue		$	137,494				100	%		$	136,974				100	%		$	520				—

		Nine Months Ended September 30,
		2008								2007
						% of Net								% of Net
		$				Revenue				$				Revenue				$ Change				% Change
Net revenue:
Product		$	398,200				84	%		$	372,976				85	%		$	25,224				7	%
Service			78,436				16	%			65,574				15	%			12,862				20	%
Total net revenue		$	476,636				100	%		$	438,550				100	%		$	38,086				9	%
Net product revenue:
Chassis			290,480				73	%			265,965				71	%		$	24,515				9	%
Stackable			107,720				27	%			107,011				29	%			709				1	%
Total net product revenue		$	398,200				100	%		$	372,976				100	%		$	25,224				7	%

     We manage our business based on four geographic regions: the Americas (primarily the United States); Europe, the Middle East, and Africa (“EMEA”); Japan; and Asia Pacific. Because some of our customers, such as the United States government and multinational companies, span various geographic locations, we determine revenue by geographic region based on the billing location of the customer. Net product revenue by region as a percentage of net product revenue was as follows:

		Three Months Ended September 30,								Nine Months Ended September 30,
		2008				2007				2008				2007
Americas			73	%			70	%			68	%			69	%
EMEA			17	%			16	%			20	%			16	%
Asia Pacific			6	%			9	%			8	%			9	%
Japan			4	%			5	%			4	%			6	%

     Net product revenue remained relatively consistent in the three months ended September 30, 2008, as compared to the same period in 2007. Revenue for our newer RX, SuperX and XMR/MLX chassis-based products, along with the associated accessories, increased 6% or $4.6 million to $82.5 million during the three months ended September 30, 2008 from $77.9 million during the same period in 2007, which was partially offset by a decrease in our older BigIron and FastIron product lines of $3.4 million to $37.4 million during the three months ended September 30, 2008 from $40.8 million during the same period in 2007.

     During the three months ended September 30, 2008, as compared to the same period in 2007, North American non-Federal commercial net product revenue decreased as a percentage of net product revenue likely due to macroeconomic factors, which negatively impacted customers spending. However, this decrease was offset by an increase in our U.S. government business. Furthermore, during the three months ended September 30, 2008, as compared to the same period in 2007, we experienced a modest decline in both our Asia Pacific and Japan net product sales, as a percentage of net product revenue. This shift in product sales from Asia Pacific and Japan to EMEA and Americas was primarily the result of the growth in our EMEA sales organization, greater geographical diversification within the EMEA region and the increase in Federal program spending during the third quarter of 2008.

     Net product revenue increased 7% in the nine months ended September 30, 2008, as compared to the same period in 2007. This was primarily due to increased sales of our LAN switching and MAN router products, which experienced increased acceptance by our Federal and European customers. In addition, the increase in sales was facilitated by the expansion of our sales organization from 397 sales personnel at September 30, 2007 to 497 at September 30, 2008. Net product revenue from our chassis-based products improved primarily due to greater volume shipments of our XMR/MLX platforms. We experienced a slight mix shift from stackable to chassis products during the three and nine months ended September 30, 2008, compared to the same periods in 2007, primarily as a result of an increase in deployments within large customers who typically buy a greater percentage of chassis-based products. Revenue for the RX, SuperX and XMR/MLX chassis-based products, along with the associated accessories, increased 17%, or $35.2 million, to $239.8 million during the nine months ended September 30, 2008 from $204.6 million during the same period in 2007.

     Other than the United States government, no individual customer accounted for 10% or more of our net product revenue for the three and nine months ended September 30, 2008 and 2007. Sales to the United States government accounted for approximately 29% and 22% of total net product revenue during the three months ended September 30, 2008 and 2007, respectively, and increased approximately 34% in absolute dollars. Sales to the United States government accounted for approximately 22% and 17% of total net product revenue during the nine months ended September 30, 2008 and 2007, respectively, and increased approximately 31% in absolute dollars. Sales to the United States government expanded during the three and nine months ended September 30, 2008, compared to the same periods in 2007, primarily due to our investment in our Federal sales force.

     Service revenue consists primarily of revenue from customer support contracts. Although we sell service contracts with either one or five year terms, most service contracts are purchased with a one year term. The 26% and 20% increase in service revenue in the three and nine months ended September 30, 2008 as compared to the same periods in 2007, was due to service contract initiations on new product sales and renewals from our growing installed base of networking equipment. We added 1,336 new customers from September 30, 2007 to September 30, 2008.

Gross Margin

     The following table presents gross margin and the related gross margin percentages (dollars in thousands):

		Three Months Ended September 30,																Nine Months Ended September 30,
		2008								2007								2008								2007
						Gross								Gross								Gross								Gross
		$				Margin %				$				Margin %				$				Margin %				$				Margin %
Gross margin:
Product		$	85,706				62	%		$	81,942				60	%		$	246,405				62	%		$	215,112				58	%
Service			21,075				74	%			18,128				80	%			55,324				71	%			50,269				77	%
Total gross margin		$	106,781				64	%		$	100,070				63	%		$	301,729				63	%		$	265,381				61	%