10-K/A 1 a04163a3e10vkza.htm AMENDMENT NO.3 TO FORM 10-K MTI Technology Corporation
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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


Form 10-K/A

(Amendment No. 3)


(Mark One)

     
þ
  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
     
  For the fiscal year ended April 3, 2004
     
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 0-23418

MTI Technology Corporation

(Exact name of registrant as specified in its charter)
     
Delaware   95-3601802
(State or other jurisdiction of   (I.R.S. Employer
incorporation or organization)   Identification No.)

14661 Franklin Avenue
Tustin, California 92780

(Address of principal executive offices, zip code)

Registrant’s telephone number, including area code:
(714) 481-7800

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

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

Common Stock, $0.001 Par Value
(Title of Class)

     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 an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

     Yes o No þ

     The aggregate market value of the voting and non-voting common equity held by non-affiliates of the Registrant was $31,666,721 on October 4, 2003, based on the closing sale price of such stock on The Nasdaq SmallCap Market.

     The number of shares outstanding of Registrant’s Common Stock, $0.001 par value, was 34,581,655 on June 25, 2004.

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

DOCUMENTS INCORPORATED BY REFERENCE

     None.



 


TABLE OF CONTENTS

PART I
Item 1. Business
Item 2. Properties
Item 3. Legal Proceedings
Item 4. Submission of Matters to a Vote of Security Holders
PART II
Item 5. Market for the Registrant’s Common Equity and Related Stockholder Matters
Item 6. Selected Financial Data
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A. Quantitative and Qualitative Disclosures About Market Risks
Item 8. Financial Statements and Supplementary Data
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A. Controls and Procedures
PART III
Item 10. Directors and Executive Officers of the Registrant
Item 11. Executive Compensation
Item 12. Security Ownership Of Certain Beneficial Owners And Management And Related Stockholders Matters
Item 13. Certain Relationships And Related Transactions
ITEM 14. Principal Accounting Fees And Services
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
SIGNATURES
EXHIBIT INDEX
EXHIBIT 23.1
EXHIBIT 23.2
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 32.1
EXHIBIT 32.2


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EXPLANATORY NOTE

     On September 30, 2004, in connection with its earlier filing of a Registration Statement on Form S-3, MTI Technology Corporation received a letter from the U.S. Securities and Exchange Commission commenting upon MTI’s disclosure in the registration statement and, because the registration statement incorporates by reference MTI’s periodic reports filed pursuant to the Securities Exchange Act of 1934, as amended, also commenting upon MTI’s disclosure in its Annual Report on Form 10-K for its fiscal year ended April 3, 2004. This Amendment No. 3 to Form 10-K is being filed to reflect revisions to MTI’s prior disclosures prompted by the SEC’s comments. While certain footnote disclosure in the financial statements has been modified, this Amendment does not include any changes to the financial results reported in the financial statements included in MTI’s original Form 10-K.

PART I

Item 1. Business

Introduction

     MTI Technology Corporation was incorporated in California in March 1981 and reincorporated in Delaware in October 1992. Our principal executive offices are located at 14661 Franklin Avenue, Tustin, California 92780. Our telephone number at that location is (714) 481-7800. References in this Form 10-K to “we,” “our,” “us,” the “Company” and “MTI” refer to MTI Technology Corporation and its consolidated subsidiaries.

     All references to years refer to our fiscal years ended April 1, 2000, April 7, 2001, April 6, 2002, April 5, 2003, and April 3, 2004, as applicable, unless the calendar year is specified. References to dollar amounts that appear in the tables and in the Notes to Consolidated Financial Statements are in thousands, except share and per share data amounts, unless otherwise specified. The fiscal year ended April 7, 2001, consisted of 53 weeks. All other fiscal years consisted of 52 weeks.

Overview

     We are a system integrator providing storage solutions for the mid-range enterprise market. Historically, we partnered with independent storage technology companies to develop, integrate and maintain high-performance, high-availability storage solutions for the mid-range and Global 2000 companies worldwide. We continue to service select third party hardware and software, and our Professional Services organization provides planning, consulting and implementation support for storage products from other leading vendors. We believe that there is as much value in creating, integrating, implementing and providing umbrella services around these various technologies as there is in developing the raw technology.

     As of March 31, 2003, we have become a reseller and service provider of EMC Automated Networked Storage™ systems and software, pursuant to a reseller agreement with EMC Corporation, a world leader in information storage systems, software, networks and services. Although we intend to focus primarily on EMC products, we will continue to support and service our customers that continue to use our MTI-branded RAID controller technology and our partnered independent storage technology. We believe that we can differentiate ourselves through our ability to offer a full spectrum of services on a wide range of storage products covering online storage, replicated site environments and data protection from leading technology companies. We sell our solutions and services to Global 2000 companies for their data center computing environments.

     Under the terms of the EMC reseller agreement, we will combine our core services capabilities, including storage networking assessment, installation, resource management and enhanced data protection, with the complete line of EMC Automated Networked Storage systems and software, focusing on the CLARiiON® family of systems. We are developing and implementing solutions that incorporate a broad array of third party products which, we believe, are the finest commercial technologies available to meet customer requirements in the areas of Storage Area Networks, Network Attached Storage, high-availability systems for enhanced business continuance, data protection systems incorporating enhanced backup and recovery, Information Lifecycle Management (“ILM”), archiving and

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tape automation, while minimizing our past dependencies on MTI-branded RAID controller technology. We also enhance the value of our storage solutions through our 24 hour, seven days per week support and service infrastructure, which includes an international network of 113 on-site field engineers, a storage solution laboratory, and our global technical support centers. The sale of EMC products accounted for 52% of product revenue in fiscal year 2004. The terms of the EMC reseller agreement do not allow us to sell data storage hardware that competes with EMC products.

     We differentiate ourselves from other resellers of EMC products in the following two ways: 1) We are the only EMC reseller that sells EMC products exclusively. We believe this gives us an advantage over other resellers in that we receive sponsorship from EMC in the way of favorable pricing, rebates and access to training; 2) We are a service-enabled EMC reseller. Many resellers only sell hardware and software and rely on other service providers to fulfill the maintenance and professional services requirements for their customers. Not only do we sell hardware and software, we are able to provide a full offering of professional services and maintenance to our customers.

     The total storage solutions that we deliver to the market are generally compatible with Sun Solaris, HP-UX, Windows NT, Novell Netware, IBM AIX, and Linux operating systems. Having the ability to work on these operating platforms enables us to meet varied customer demands. Our customers represent a cross-section of industries and governmental agencies and range from small businesses to Fortune 500 companies. No single customer accounted for more than ten percent of total revenue during fiscal years 2004, 2003 and 2002.

     We have a history of recurring losses and net cash used in operations. In fiscal years 2003 and 2004 we incurred net losses of $11.2 million and $3.9 million, respectively. Our cash used in operations was $10.9 million in fiscal year 2004. We had $2.7 million in working capital as of April 3, 2004. Our future growth is dependent upon many factors, including but not limited to, recruiting, hiring, training and retaining significant numbers of qualified personnel, forecasting revenues, controlling expenses and managing assets. If we are not successful in these areas, our future results of operations could be adversely affected.

Our Strategy

     Our strategy is to simplify the storage, availability, protection and management of large amounts of data by delivering fully integrated solutions to our customers based on EMC Automated Networked Storage systems and other vendors’ best-of-breed technologies and high value services.

     We provide customers access to technology through strategic partnerships with leading storage vendors including EMC, Legato, Brocade, Quantum, and StorageTek. The core value of our vendor relationships is our commitment to providing services and solutions around these technologies. From basic services such as installation and integration to advanced services by our Professional Services Consulting group designing and implementing fully integrated solutions, we assist our customers with the full potential of the technologies we implement in their operations.

     In order to continue to provide the broadest array of storage solutions, we require access to a full complement of technology from the leaders in the industry. Through our relationship with EMC and other vendors, we can now offer our customers effective solutions addressing some of their most urgent business and regulatory requirements.

Significant Business Developments

     Sale of Securities

     On June 17, 2004, we sold 566,797 shares of Series A Convertible Preferred Stock in a private placement financing at $26.46 per share, which raised $15 million in gross proceeds, before consideration of professional fees. The sale included issuance to the investors of warrants to purchase 1,624,308 shares of the Company’s common stock with an exercise price of $3.10 per share. The shares of common stock into which the warrants are exercisable represent twenty-five percent (25%) of the aggregate number of shares of common stock into which the Series A

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Convertible Preferred Stock are convertible plus an additional 207,315 shares of common stock. Each share of Series A Convertible Preferred Stock is convertible into common stock at an initial conversion rate of ten shares of common stock for each share of Series A Convertible Preferred Stock, subject to adjustments upon certain dilutive issuances of securities by the Company at the initial stated price per share. The Series A Convertible Preferred Stock carries a cumulative dividend of 8% per year payable when and if declared by the Board of Directors. The warrants are exercisable on or after December 20, 2004, and expire on June 17, 2015. As part of the private placement, a representative of the investors has joined the Company’s Board of Directors.

     EMC Partnership

     Effective March 31, 2003, we became part of EMC’s Authorized Service Network. As a result, we are part of a worldwide network of professional service organizations enabling us to offer enhanced service and consulting capabilities to our customers.

     Also during fiscal year 2004, as a result of our increased sales volume, we became an EMC Premier Velocity Partner. This designation entitles us to more favorable pricing structures as well as additional sponsorship from EMC.

     In the fourth quarter of fiscal year 2004, we amended the EMC reseller agreement to extend the terms of the agreement an additional three years. The EMC reseller agreement will expire on March 31, 2009. Thereafter, and subject to mutual agreement, the EMC reseller agreement shall be automatically renewed for successive one-year renewal periods until terminated by either party with a 90-day notice.

     Financial Restructurings and Reductions in Staff

     During the fourth quarter of fiscal year 2002, we recorded a restructuring charge of $4.9 million which consisted of $4.3 million in charges related to the abandonment of either underutilized or historically unprofitable facilities, $0.3 million in charges related to headcount reduction of 56 employees, and $0.3 million in charges related to the disposal of certain fixed assets. The cash outflow of the restructuring charge was $0.3 million, related to severance paid to employees, of which $0.1 million was paid in fiscal year 2002. The remaining $0.2 million was paid in the first quarter of fiscal year 2003.

     During fiscal year 2003, we recorded an additional restructuring charge of $1.4 million which consisted of charges of $0.5 million related to headcount reduction of 39 employees, or 15% of the Company’s workforce, $0.5 million related to the disposal or abandonment of fixed assets and $0.4 million due to lower than anticipated lease payments from sub-lessees in certain facilities. Of the 39 positions terminated, 14, 3, 6, 1, 14 and 1 were from the Sales, Marketing, General and Administrative, Customer Service, Research and Development and Manufacturing departments, respectively.

     In the first quarter of fiscal year 2004, we recorded an additional $0.04 million restructuring charge due to lower than anticipated lease payments from sub-lessees in our Sunnyvale, California facility. Also in the first quarter of fiscal year 2004, we eliminated 18 full-time positions, 1, 16 and 1 from the domestic general and administrative, global customer solutions and manufacturing departments, respectively. As a result of this reduction in workforce, we expect to realize quarterly cost savings of $0.3 million.

     In the second quarter of fiscal year 2004, we reversed $0.3 million of the restructuring charge due to higher than anticipated lease payments from sub-lessees and usage of space in our Westmont, Illinois facility.

     In the third quarter of fiscal year 2004, we eliminated 21 full-time positions, 8 from our field service department, 7 from our manufacturing department, 2 from our general and administrative department and 4 from our sales department. As a result of this reduction in workforce, we expect to realize quarterly cost savings of $0.5 million.

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EMC Asset Purchase Agreement

     Effective February 9, 1996, we entered into an asset purchase agreement with EMC, in which we sold to EMC substantially all of our existing patents, patent applications and related rights. We were entitled to receive $30.0 million over the life of the EMC asset purchase agreement. The final payment of $5.0 million was received in January 2001. We also were entitled to receive royalty payments in the aggregate of up to a maximum of $30.0 million over the term of the EMC asset purchase agreement.

     As part of the maximum $30.0 million in royalties, minimum royalties of $10.0 million were to be received in five annual installments, beginning within 30 days of the first anniversary of the effective date of the EMC asset purchase agreement, and within 30 days of each subsequent anniversary thereof. As of March 2001, we had received all installments. Also, as a result of a computer and technology agreement between EMC and IBM announced in March 1999, the minimum royalties of $10.0 million were to be increased to $15.0 million. Payments were to be received under the EMC asset purchase agreement in five equal annual installments. We received the first three annual installments in March 2000, March 2001 and March 2002. On April 1, 2003, we entered into an amended asset purchase agreement with EMC, pursuant to which EMC paid to us $5.9 million, which fully satisfied all obligations of EMC under the asset purchase agreement. Also, we granted EMC immunity from suit for patent infringement with respect to our patents.

     We also received from EMC an irrevocable, non-cancelable, perpetual and royalty-free license to exploit, market and sell the technology protected under the applicable patents. This license will terminate in the event of a change in control of the Company involving certain acquirers. As part of the EMC asset purchase agreement, MTI and EMC granted to each other a license to exploit, market and sell the technology associated with each of their respective existing and future patents arising from any patent applications in existence as of the effective date of the EMC asset purchase agreement for a period of five years, which expired February, 2001. See Note 12 of Notes to Consolidated Financial Statements.

     Subsequent to the fiscal year ended April 3, 2004, we assigned to EMC all of our rights, title and interest in and to all our remaining patents and patent applications.

Our Market

     Our primary market focus is the worldwide mid-range open systems-based market for storage solutions. EMC currently fulfills approximately 39% of the storage infrastructure for this market. We believe this represents a significant market opportunity for us. We believe that we can continue to increase our revenue by leveraging EMC’s leadership position in the market.

     The growth of IT-managed data is creating a significant market opportunity for enterprise storage solution providers. Worldwide IT storage capacity deployments are growing and storage is considered to be a major IT discipline in most organizations with storage spending exceeding server and networking expenditures. Storage expenditures are shifting to services and we believe that complexity, not a lack of technology, is now the key weakness in the IT storage environment. There are currently many powerful networking, software and integrated “appliance” products available that address storage manageability and automate key storage management functions. Historically, we have sold many of these state-of-the-art products ranging from fibre-channel storage area network (SAN), network area storage (NAS), direct attached storage (DAS) and content addressable storage (CAS), to data replication and backup systems. Understanding and working with the vast array of storage offerings is complex and expensive for the IT customer. As a result, we believe that the market will shift to consuming traditional storage and storage automation products in the context of a full-service solution in which the responsibility for designing, integrating, and maintaining the storage environment will be assigned to an outside storage services specialist like ourselves.

     We believe that the trend towards acquiring fully integrated storage solutions will be particularly strong in the mid-range of the enterprise storage market, where companies tend to host their own mission critical applications yet do not have the staffing resources of mainframe environments. Despite increasing demand for additional storage requirements over the last few years, we believe that companies in the mid-range segment do not have sufficient access to fully integrated storage solution providers. The majority of system integrators and resellers tend to either

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be too small, lack the necessary multi-national infrastructure or do not have the required technology relationships to satisfy the needs of the mid-range market. In addition, too few vendors, resellers, and integrators focus purely on storage. Therefore, we believe that our size, partnerships and professional services focus present a unique opportunity to exploit market shifts and growth.

Our Storage Solution

     We deliver storage solutions to solve many common and demanding customer problems. These solutions are built on what we believe to be the best-of-breed platform complemented by other strategic partners such as EMC, Legato, Brocade, Quantum, StorageTek, and ADIC. We believe that we integrate these solutions into a complete, easy-to-operate and reliable storage environment to meet the customer’s specific business objectives. Our technical specialists assess the customer’s environment and custom design each solution to address the customer’s specific needs, both in terms of technical configuration and vendor product selection. Leveraging our technical resources and vendor relationships, we select, along with our customer’s input, a platform that will interoperate and meet the solution objectives. We then custom design and deliver these solutions with a full range of value-added service offerings from installation and implementation to ongoing maintenance, support, management, residency and knowledge transfer. Our solutions approach provides us the opportunity to not only meet their hardware and software requirements, but also advise and implement comprehensive business process (e.g. ILM, business continuance, regulatory compliance) improvements thus enhancing our value proposition. Moreover, as a provider of both products and professional services and on going support, we are able to reduce the customer’s overhead costs.

     Our solutions are divided into three areas that address different aspects of the storage environment:

  Storage infrastructure solutions that center on state-of-the-art, high-performance, high-availability networked storage systems from EMC (DAS, SAN, NAS and CAS). These solutions are designed to deliver fast, reliable, and resilient on-line storage systems that are easily and rapidly deployed. Our solutions are integrated with easy to use Storage Resource Management software that allow our customers to improve system administration productivity;
 
  Backup Solutions that incorporate leading edge solutions from platform vendors such as Legato in combination with state-of-the-art tape libraries from Quantum, StorageTek and ADIC; and
 
  Replication services on a local level and/or on a wide area basis to create operational copies of current data or for enhanced data protection and business continuity utilizing software and hardware services from EMC, Legato and other leading Storage Application Software vendors.

Global Customer Solutions

     The quality and reliability of the products we sell and the continuing support of these products are important elements of our business. As we move forward with our reseller partnership with EMC, we believe that the expertise of our professional services staff and the delivery of high quality customer service will be of even greater importance to our customer base. Additionally, as part of EMC’s Authorized Service Network, we are part of a worldwide network of professional service organizations enabling us to offer enhanced service and consulting capabilities to our customers.

     As part of our strategy to build a worldwide organization devoted to addressing customers’ storage related needs, we have engineered a major realignment within the service elements of the business. During the first quarter of fiscal year 2004, we created a new function called Global Customer Solutions (“GCS”), consisting of 112 people, to better align and utilize our resources as we embrace our new business model as a reseller of the full line of EMC storage solutions. GCS is the umbrella function for all of our customer support functions. The GCS functions encompass all of product procurement, integration, logistics support, software and hardware technical support, Field Service Operations and Professional Services Consultancy. We have consolidated our legacy product sustaining function in two separate primary product support centers, one located at our corporate headquarters in Tustin, California, and a second located in Godalming, England. As a part of our consolidation efforts and to avoid

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duplication at the two facilities, the Godalming, England facility handles primarily our European customer base and sustaining for our S and D series RAID storage, while the Tustin, California facility continues to sustain our traditional RAID storage, and primarily handle our U.S. customer base. As necessary, technical professionals from either facility are dispatched worldwide to address and solve our customer requirements.

     We currently offer a variety of customer services that include system and software maintenance of MTI and EMC-manufactured products, as well as other open-system platforms, consulting services, storage-management integration and training. We offer on-site service response 24 hours-a-day, seven-days-a-week, 365 days-a-year. Service revenue represented approximately 44%, 51%, and 41% of our total revenue in fiscal years 2004, 2003, and 2002, respectively.

     Currently, we are selling most EMC hardware products with up to 3-year 24x7 warranties and EMC software products with 90-day warranties. As a result, the amount of service contracts associated with those hardware product sales is expected to decrease in value. Depending upon the conversion of our current customer base to EMC products from MTI proprietary products, service revenues may continue to decrease. As sales of EMC products increase, we expect sales of back-up products, which are not a part of the EMC reseller agreement, to increase. The back-up products carry shorter warranty periods, thus providing us an opportunity for increased maintenance contract revenue. Furthermore, technology refresh activity will increase the demand for our professional services which is expected to be a significant driver of our future growth in the services arena.

Sales and Marketing

     Since 1996, we have focused our business on the storage needs of the open-systems based and mid-range enterprise computing market. We have over 4,000 customers who have relied on us to design, implement and service portions of the storage environments that support their critical business applications. On March 31, 2003, we signed a reseller agreement with EMC. The vast majority of our sales and marketing efforts are focused on selling and servicing storage solutions purchased from EMC and its wholly-owned subsidiary, Legato Systems. Our market strategy is to become the preferred provider for sales, professional services and maintenance to the mid-range enterprise market for EMC-branded storage solutions. In order to accomplish this, we will marry our expert on-site professional and support services with industry-leading storage solutions that represent the best technology available today and access to future technologies developed by the strongest brands in the storage industry. We believe that the EMC product set best meets these requirements and will allow us to be successful in our market strategy.

     We believe that in today’s technology storage marketplace, buying decisions are based much more on return on investment than in the past. Today’s buyers are more “business managers” than traditional technology buyers and purchases are made to solve existing business issues. Therefore, product brand is of the utmost importance. Our EMC relationship allows us to have access to a world-class product brand to meet the demands of today’s marketplace.

     We differentiate ourselves from other resellers through our dedicated focus on EMC storage solutions, our multi-national direct-end sales force and on-site professional service and maintenance organization. Our marketing is focused around direct lead generation through select localized telemarketing and other marketing strategies. We expanded our direct end-user sales force during fiscal year 2004 and we expect to continue to expand throughout fiscal year 2005.

Order Backlog

     As a reseller of EMC Automated Networked Storage Systems and software, our backlog levels will depend on the availability of EMC products. EMC generally ships products within ten days upon receipt of a purchase order. A significant portion of our sales occurs in the last month of a quarter. Consequently, our backlog at the end of a quarter is dependant upon our ability to place a purchase order with EMC soon enough to allow EMC adequate time to assemble, test and ship orders prior to the end of the quarter. As a result, we believe that order backlog as of any particular date is not meaningful as it is not necessarily indicative of future sales levels. As of April 3, 2004, our order backlog was $2.9 million as compared to $1.8 million as of April 5, 2003.

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Manufacturing and Integration Services

     As of April 3, 2004, MTI ceased manufacturing operations. Our manufacturing and integration services operations that are located in Dublin, Ireland, and Tustin, California have transitioned to central procurement, order fulfillment and logistics operations. Order fulfillment for North America is managed through Tustin, California and products are generally drop-shipped directly from suppliers such as EMC, Legato, Brocade, Quantum, StorageTek, and ADIC. Order fulfillment for Europe is managed directly through Dublin, Ireland. We continue to have a smaller scale product integration capability in Dublin, Ireland to fulfill the need for our legacy RAID products.

Competition

     The market for data storage solutions is extremely competitive, characterized by rapidly changing technology. We have a number of competitors in various markets, including Hitachi Data Systems, Hewlett-Packard Company, Sun Microsystems, Inc., IBM, and Network Appliance, Inc., each of which has substantially greater name recognition, marketing capabilities, and financial and personnel resources than we have. As a reseller of EMC-centric solutions, we believe that we have a competitive advantage of selling products of the highest levels of functionality, performance and availability in the information storage market.

     Since our goal is to enable customers to purchase a single, integrated storage solution, rather than multiple components requiring integration by the customer, we believe the principal elements of competition include quality of professional services consulting, ongoing support and maintenance coupled with responsiveness to costumers and market needs, as well as price, product quality, reliability and performance. There can be no assurance that we will be able to compete successfully or that competition will not have a materially-adverse effect on our results of operations. See “Factors That May Affect Future Results — The markets for the products and services that we sell are intensely competitive which may lead to reduced sales of our products, reduced profits and reduced market share for our business” in Item 7 of this Form 10-K.

Proprietary Rights

     We have relied on a combination of patent, copyright, trademark and trade-secret laws, employee and third party non-disclosure agreements and technical measures to protect our proprietary rights in our products. Since we shifted our strategy to become an EMC reseller, our reliance on property rights is less relevant.

     Pursuant to the EMC asset purchase agreement, we sold to EMC substantially all of our then-existing patents, patent applications, and related rights. We have an irrevocable, non-cancelable, perpetual and royalty-free license to exploit, market and sell the technology protected under the patents sold to EMC. The license we were granted pursuant to the terms and conditions of that agreement will terminate in the event of a change of control of the Company involving certain identified acquirers. On April 1, 2003, we entered into an amended asset purchase agreement with EMC, under which EMC paid us $5.9 million, which satisfied all obligations of EMC under the February 9, 1996, Asset Purchase Agreement. Also, we granted EMC immunity from suit for patent infringement with respect to our patents.

     Subsequent to the fiscal year ended April 3, 2004, we assigned to EMC all of our rights, title and interest in and to all of our remaining patents and patent applications.

Employees

     As of April 3, 2004, we had 254 full-time employees worldwide, including 80 in sales and marketing, 112 in global customer solutions, 20 in procurement and quality assurance, and 42 in general administration and finance. None of our employees are represented by a labor union, and we consider our relations with our employees to be good.

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Availability of SEC Filings

     All reports filed by MTI with the SEC are available free of charge via EDGAR through the SEC website at www.sec.gov. In addition, the public may read and copy materials filed by MTI with the SEC at the SEC’s public reference room located at 450 Fifth St. N.W., Washington, D.C., 20549. Information regarding operation of the SEC’s public reference room can be obtained by calling the SEC at 1-800-SEC-0330. MTI also provides copies of its Forms 8-K, 10-K 10-Q, Proxy and Annual Report at no charge to investors upon request and makes its reports available through its website at www.mti.com, as soon as reasonably practicable after filing such material with the SEC.

Item 2. Properties

     Our corporate offices, including marketing, sales and support, general administration, and finance functions are located in Tustin, California, in a leased facility consisting of approximately 41,130 square feet. These premises are occupied under a lease agreement that expires on September 30, 2005. In July 2002, we completed consolidating our manufacturing facility into our 28,500 square feet facility in Dublin, Ireland, for which the lease expires in 2023. We also lease 16,000 square feet, 19,500 square feet, 11,800 square feet and 1,500 square feet facilities in Godalming, England, Chatou, France, Wiesbaden, Germany and Munich, Germany, respectively, which are used for sales and services.

     We abandoned 21,700 square feet, 11,160 square feet, 2,635 square feet, 3,200 square feet, 2,050 square feet and 3,400 square feet of our facilities located in Sunnyvale, California, Westmont, Illinois, Raleigh, North Carolina, Dublin, Ireland, Godalming, England, and Chatou, France, respectively, in the fourth quarter of fiscal year 2002. However, we are still obligated under the Sunnyvale, California, Westmont, Illinois, Raleigh, North Carolina, Dublin, Ireland, Godalming, England, and Chatou, France lease agreements that expire on July 31, 2006, June 30, 2005, April 30, 2005, October 14, 2023, November 5, 2012 and April 30, 2007, respectively. We have been able to sublet portions of our Sunnyvale, California, Westmont, Illinois, Raleigh, North Carolina, and Dublin, Ireland offices. We will continue to seek sub-tenants in order to further reduce our cost from the closure of our facilities. However, due to current economic conditions, there can be no assurance that we will be able to sub-lease the facilities in a timely manner.

     We also lease approximately 11 sales and support offices located throughout the U.S. and Europe.

Item 3. Legal Proceedings

     Between July and September 2000, several complaints were filed in the United States District Court for the Central District of the California against us and several current or former officers seeking unspecified damages for our alleged violation of the Securities Exchange Act of 1934, as amended, by failing to disclose certain adverse information primarily during fiscal year 2000. On or about December 5, 2000, the several complaints were consolidated as In re MTI Technology Corp. Securities Litigation II.

     On October 17, 2002, the parties reached a tentative settlement in principle of this action. On or about December 3, 2002, the parties executed and submitted to the court for preliminary approval their agreement to settle the litigation. On May 19, 2003, the District Court preliminarily approved the settlement. On July 28, 2003, the District Court gave final approval of the settlement, all but $0.1 million of which was paid by our insurers, in return for a release of all claims against us and the other defendants, and dismissed the litigation with prejudice. The settlement has now become final under its terms, as the time to appeal from the dismissal has run.

     We are also, from time to time, subject to claims and suits arising in the ordinary course of business. In our opinion, the ultimate resolution of these matters are not expected to have a materially-adverse effect on our consolidated financial position, results of operations or liquidity.

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

     No matters were submitted to a vote of MTI’s stockholders during the fourth quarter of fiscal year 2004.

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PART II

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

Principal Market and Prices

     On May 30, 2002, we received a notification letter from Nasdaq for non-compliance with Marketplace Rule 4450(a)(5) because the bid price of our common stock had closed at less than $1.00 per share over the previous 30 consecutive trading days. We had 90 calendar days, or until August 28, 2002, to regain compliance. On August 16, 2002, our securities ceased trading on the Nasdaq National Market and began trading on the Nasdaq SmallCap Market. We were granted an additional 90 calendar days, or until November 26, 2002, to demonstrate compliance with the minimum $1.00 per share requirement or meet initial listing criteria of Marketplace Rule 4310(c)(8)(D), which entitled us to an additional 180 calendar day grace period from Nasdaq to demonstrate compliance. On November 26, 2002, we received a letter from Nasdaq extending our listing on the SmallCap Market. As a result of the extension, we had until May 27, 2003 to comply with the minimum bid price requirement of the SmallCap Market, which requires us to maintain a $1.00 minimum bid price for a minimum of 10 consecutive trading days. During April 2003, the closing bid price of our common stock was $1.00 per share or greater for more than 10 consecutive trading days and on May 6, 2003, we received a notification letter from Nasdaq notifying us that we regained compliance with the Rule. As a result, our common stock will continue to be quoted on the Nasdaq SmallCap Market so long as we continue to satisfy the ongoing Nasdaq compliance requirements.

     The following table sets forth the range of high and low sales prices per share of our common stock for each quarterly period as reported on The Nasdaq National Market and the Nasdaq SmallCap Market for the periods indicated. The price of our common stock at the close of business on June 25, 2004, was $2.24. See “Factors That May Affect Future Results — We may fail to comply with Nasdaq Marketplace Rules”

                 
    Sales Prices
    High
  Low
Fiscal Year 2003
               
First Quarter
    0.9900       0.4200  
Second Quarter
    0.5700       0.2500  
Third Quarter
    0.7900       0.2800  
Fourth Quarter
    1.3400       0.4000  
Fiscal Year 2004
               
First Quarter
    1.1900       0.8500  
Second Quarter
    1.9800       0.9000  
Third Quarter
    2.8700       1.5700  
Fourth Quarter
    3.7300       2.2300  

Number of Common Stockholders

     The approximate number of record holders of our common stock as of June 25, 2004, was 356.

Dividends

     We have never declared or paid any dividends. We currently expect to retain any earnings for use in the operation of our business and, therefore, do not anticipate declaring or paying any cash dividends in the foreseeable future.

Warrants

     On January 16, 2004, Silicon Valley bank converted all of its warrants to purchase 190,678 shares of our common stock into 40,176 shares of common stock through a cashless warrant exercise.

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Issuer Purchases of Equity Securities

     During the fourth quarter of fiscal 2004, there were no purchases made by or on behalf of the Company or any affiliated purchaser, as defined in Rule 10b-18(a)(3) of the Securities Exchange Act of 1934, as amended, of shares of the Company’s common stock that is registered by the Company pursuant to Section 12 of the Securities Exchange Act of 1934, as amended.

Recent Sales of Unregistered Securities

     On June 17, 2004, the Company sold 566,797 shares of Series A Convertible Preferred Stock in a private placement financing at $26.46 per share, which raised $15 million in gross proceeds, before consideration of professional fees. The sale included issuance to the investors of warrants to purchase 1,624,308 shares of the Company’s common stock with an exercise price of $3.10 per share. The shares of common stock into which the warrants are exercisable represent twenty-five percent (25%) of the aggregate number of shares of common stock into which the Series A Convertible Preferred Stock are convertible plus an additional 207,315 shares of common stock. Each share of Series A Convertible Preferred Stock is convertible into common stock at an initial conversion rate of ten shares of common stock for each share of Series A Convertible Preferred Stock, subject to adjustments upon certain dilutive issuances of securities by the Company. The Series A Convertible Preferred Stock carries a cumulative dividend of 8% per year payable when and if declared by the Board of Directors. The warrants are exercisable on or after December 20, 2004, and expire on June 17, 2015. As part of the private placement, a representative of the investors has joined the Company’s Board of Directors.

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Item 6. Selected Financial Data

                                         
    Fiscal Year Ended
    April 3,   April 5,   April 6,   April 7,   April 1,
    2004
  2003
  2002
  2001
  2000
Selected Statement of Operations Data:
                                       
Net product revenue
  $ 46,442     $ 40,101     $ 69,519     $ 111,820     $ 177,770  
Service revenue
    36,723       42,285       48,399       49,870       49,327  
 
   
 
     
 
     
 
     
 
     
 
 
Total revenue (1)
    83,165       82,386       117,918       161,690       227,097  
Product gross profit (2)
    8,943       7,153       13,053       39,291       71,202  
Service gross profit
    10,333       14,645       18,648       14,628       18,871  
 
   
 
     
 
     
 
     
 
     
 
 
Gross profit (1)
    19,276       21,798       31,701       53,919       90,073  
Operating expense:
                                       
Selling, general and administrative
    26,405       27,754       43,211       66,249       64,506  
Research and development
    776       5,238       12,742       19,095       16,017  
Restructuring charges, net
    (211 )     1,467       4,911       393        
 
   
 
     
 
     
 
     
 
     
 
 
Total operating expenses
    26,970       34,459       60,864       85,737       80,523  
Operating income (loss)
    (7,694 )     (12,661 )     (29,163 )     (31,818 )     9,550  
Other income, net (3)
    631       1,008       4,182       4,258       3,822  
Gain (loss) on foreign currency transactions
    29       639       (542 )     (552 )     (323 )
Equity in net loss and write-down of net investment of affiliate
                (9,504 )     (4,800 )     (2,824 )
 
   
 
     
 
     
 
     
 
     
 
 
Income (loss) before income taxes
    (7,034 )     (11,014 )     (35,027 )     (32,912 )     10,225  
Income tax expense (benefit) (4)
    (3,168 )     205       24,598       3,529       (15,095 )
Net income (loss)
  $ (3,866 )   $ (11,219 )   $ (59,625 )   $ (36,441 )   $ 25,320  
 
   
 
     
 
     
 
     
 
     
 
 
Earnings (loss) per share:
                                       
Basic
  $ (0.12 )   $ (0.34 )   $ (1.83 )   $ (1.13 )   $ 0.84  
 
   
 
     
 
     
 
     
 
     
 
 
Diluted
  $ (0.12 )   $ (0.34 )   $ (1.83 )   $ (1.13 )   $ 0.76  
 
   
 
     
 
     
 
     
 
     
 
 
Weighted average shares used in per share computations:
                                       
Basic
    33,482       32,852       32,548       32,233       30,268  
 
   
 
     
 
     
 
     
 
     
 
 
Diluted
    33,482       32,852       32,548       32,233       33,232  
 
   
 
     
 
     
 
     
 
     
 
 
Selected Balance Sheet Data:
                                       
Cash and cash equivalents
  $ 3,017     $ 9,833     $ 8,420     $ 16,320     $ 8,791  
Working capital
    2,743       2,071       8,263       27,514       51,434  
Total assets
    46,612       44,556       61,698       128,960       180,947  
Short-term debt
    4,109       1,901       2,035       127       1,500  
Long-term debt, less current maturities
    95       286       461       621        
Total stockholders’ equity
    7,141       8,974       20,113       78,750       113,495  

(1)   On March 31, 2003, we became an exclusive reseller of EMC products and services. See further discussion of this transition and its impact on results of operations in the “Results of Operations” section of Management’s Discussion and Analysis.
 
(2)   Includes charges related to inventory write-offs of $2,281, $2,825, $8,850, $1,950 and $1,469 for fiscal years 2000, 2001, 2002, 2003 and 2004, respectively.
 
(3)   Includes $4,800, $4,800 and $3,600 in fiscal year 2000, 2001 and 2002, respectively, related to the gain on sale of patents. See note 12 of the Notes to Consolidated Financial Statements. Includes $1,200 in fiscal year 2003 related to the gain on sale of SCO common stock.
 
(4)   Includes tax expense and (benefit) related to deferred tax asset valuation allowance adjustments of $(15,100), $9,000 and $24,300 for fiscal years 2000, 2001 and 2002. Fiscal year 2004 includes a tax

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    benefit of $(3,200) related to an IRS settlement refund. See note 8 to the Notes to the Consolidated Financial Statements.

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

     The statements included in this report that are not historical or based on historical facts constitute “forward-looking statements” that involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements or industry results to be materially different from any future results, performance or achievements, expressed or implied by these forward-looking statements. Forward-looking statements include, but are not limited to, statements about our efforts in reselling EMC’s products, our restructuring activities and strategic shift, the ability of our securities to trade on any market or exchange system, revenue, margin, the effect of accounting changes, attempts to raise additional funds, MTI-branded product sales and changes in product mix, customers, reductions in research and development expenditures, foreign currency hedging activity, anticipated decreases in spending, dependence on new products and quarterly fluctuations. Our transition from a manufacturer to a storage solution provider and focus of sales efforts on the mid-range enterprise market may not be successful. We may fail to achieve anticipated revenue levels and efficiencies of operation. There can be no assurance that we will be successful with our new operating strategy, that we will be able to retrain our employees in an expeditious manner or to hire employees during this period of strategy shift. Estimates made in connection with our critical accounting policies may differ from actual results. Given these uncertainties, investors in our common stock are cautioned not to place undue reliance on our forward-looking statements. The forward-looking statements in this report speak only as of the date of this report and we do not undertake to revise or update any of them. We urge you to review and carefully consider the various disclosures we make in this report and our other reports filed with the Securities and Exchange Commission.

     This discussion and analysis should be read in conjunction with the Consolidated Financial Statements of the Company and Notes thereto contained elsewhere in this report and the section of this report titled “Factors That May Affect Future Results”.

Executive Overview

     MTI Technology Corporation is a system integrator providing storage solutions for the mid-range enterprise market primarily designed around EMC products. We generate revenues from the resale of third-party hardware and software products and the sale of professional services and maintenance contracts. Prior to March 31, 2003, the Company was a manufacturer of proprietary hardware and software products targeting the mid-range enterprise market.

     The recent shift in strategy from a developer of technology to a reseller of third-party solutions has had the following primary financial implications:

  We recorded an increase in product revenue in each quarter of fiscal 2004 and significantly increased the number of new customers compared to fiscal 2003. The growth in product revenue and penetration of new accounts can be attributed to designing solutions around EMC products which are well regarded in the industry.
 
  Maintenance revenue has been negatively impacted due to the comprehensive warranty characteristics of EMC products. We resell EMC hardware products with up to a three year warranty with a seven day, twenty-four hour service level. In contrast, MTI proprietary products were generally sold with a one year warranty with a five day, nine hour service level. Therefore, the sale of proprietary products provided an opportunity to generate maintenance revenue earlier due to the shorter warranty period and allowed the Company to generate maintenance revenue during the warranty period by selling maintenance contracts increasing the service level to seven days a week, twenty-four hours a day.
 
  We eliminated research and development costs and significantly reduced manufacturing and marketing expenses. These cost reductions were primarily the result of reductions in staff and the abandonment of underutilized facilities.

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  We have experienced reduced product margins due to the reliance on EMC to develop and manufacture the products we resell.

  We believe the new business strategy provides a significant opportunity to grow revenues, expand margins and achieve profitability. In order to be successful we believe we must continue to invest in our professional services organization by adding skilled labor and infrastructure. This provides the best opportunity to achieve profitability as we gain expertise in developing highly complex solution sets that few companies can deliver. In order to make the necessary investment in our professional service organization we require significant working capital. To address this concern, in the first quarter of fiscal year 2005 we raised $15 million in a private placement led by Advent International.

     Our exclusive reliance on EMC products as the core product solution has inherent challenges such as obtaining sufficient product quantities to satisfy customer requirements, developing the ability to ship products to meet customer imposed deadlines, developing the ability to control the cost of the product, and developing the ability of EMC to respond to changing technology.

Critical Accounting Policies

     The preparation of the consolidated financial statements requires estimates and judgments that affect the reported amounts of revenues, expenses, assets and liabilities. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances and which form the basis for making judgments about the carrying values of assets and liabilities. Critical accounting policies are defined as those that are most important to the portrayal of the Company’s financial condition and results of operations, and require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and could potentially produce materially different results under different assumptions and conditions. For a detailed discussion of the application of the following critical accounting policies and other accounting policies, see Notes to the Consolidated Financial Statements.

     Revenue recognition. We derive revenue from sales of products and services. The following summarizes the major terms of the contractual relationships with customers and the manner in which we account for sales transactions.

Product Revenue

     Product revenue consists of the sale of disk and tape based hardware and software. We recognize revenue pursuant to Emerging Issues Task Force No. 00-21, “Revenue Arrangements with Multiple Deliverables” (EITF 00-21) and Staff Accounting Bulletin No. 104, “Revenue Recognition in Financial Statements” (SAB 104). In accordance with these revenue recognition guidelines, if the arrangement between MTI and the customer does not require significant production, modification, or customization of hardware or software, revenue is recognized when all of the following criteria are met:

o   persuasive evidence of an arrangement exists
 
o   delivery has occurred
 
o   fee is fixed or determinable
 
o   collectibility is probable

     Generally, product sales are not contingent upon customer testing, approval and/or acceptance. However, if sales require customer acceptance or include significant post-delivery obligations, revenue is recognized upon customer acceptance or fulfillment of any post delivery obligations. Product sales with post-delivery obligations generally relate to professional services, including installation services or other projects. Professional services revenue is not recognized until the services have been completed. In transactions where we sell directly to an end user, generally there are no acceptance clauses. However, we also sell to leasing companies who in turn lease the product to their lessee, the end user. For this type of sale, generally there are lessee acceptance criteria in the purchase order or contract. For these transactions, we defer the revenue until written acceptance is received from the lessee. Generally, our credit terms with customers range from net 30 to net 60.

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     Product returns are estimated in accordance with Statement of Financial Accounting Standards No. 48, “Revenue Recognition When Right of Return Exists” (Statement 48). Customers have a limited right of return which allows them to return non-conforming products. Accordingly, reserves for estimated future returns are provided in the period of sale based on contractual terms and historical data and are recorded as a reduction of revenue.

     In bundled sales transactions that include software combined with hardware and services, the software is considered incidental to the overall product solution, and therefore we apply EITF 00-21 to account for these multiple element transactions – see disclosure below. Sales of software products on a standalone basis are not frequent. These sales are generally “add-on” sales to customers that have previously purchased hardware. For sales transactions that include software products on a stand-alone basis, coupled with software maintenance contracts, we apply Statement of Position 97-2, “Software Revenue Recognition” (SOP 97-2) as amended by Statement of Position 98-9 “Modification of SOP 97-2 with Respect to Certain Transactions” (SOP 98-9). The total arrangement revenue is allocated between the software and the services using the residual method, whereby revenue is first allocated to the undelivered element, the services, using VSOE. VSOE for software service contracts is established based on stand-alone renewal rates. Revenue is recognized from software licenses, provided all the revenue recognition criteria noted above have been met, at the time the license is delivered to the customer. We recognize revenue from software maintenance agreements ratably over the term of the related agreement.

Service revenue

     Service revenue is generated from the sale of professional services, maintenance contracts and time and materials billings. The following describes how we account for service transactions, provided all the other revenue recognition criteria noted above have been met.

     Generally, professional services revenue, which includes installation, training, consulting and engineering services, is recognized upon completion of the services. If the professional service project includes independent milestones, revenue is recognized as milestones are met and upon acceptance from the customer.

     Maintenance revenue is generated from the sale of hardware and software maintenance contracts. These contracts generally range from one to three years. Maintenance revenue is recorded as deferred revenue and is recognized as revenue ratably over the term of the related agreement.

Multiple element arrangements

     We consider sales contracts that include a combination of systems, software or services to be multiple element arrangements. Revenue recognition with multiple elements whereby software is incidental to the overall product solution is recorded in accordance with EITF 00-21. An item is considered a separate element if it involves a separate earnings process. If an arrangement includes undelivered elements that are not essential to the functionality of the delivered elements, we use the residual method, whereby we defers the fair value of the undelivered elements with the residual revenue allocated to the delivered elements. Discounts are allocated only to the delivered elements. Fair value is determined by examining renewed service contracts and based upon the price charged when the element is sold separately or prices provided by vendors if sufficient standalone sales information is not available. Undelivered elements typically include installation, training, warranty, maintenance and professional services.

Other

     We consider sales transactions that are initiated by EMC and jointly negotiated and closed by EMC and MTI’s sales-force as Partner Assisted Transactions (PATs). We recognize revenue from PATs on a gross basis, in accordance with EITF 99-19, because we bear the risk of returns and collectability of the full accounts receivable. Product revenue of the delivered items is recorded at residual value upon pickup by a common carrier for Free Carrier (FCA) origin shipments. For FCA destination shipments, product revenue is recorded upon delivery to the customer. If we subcontract the undelivered items such as maintenance and professional services to EMC or other third parties, we record the costs of those items as deferred costs and amortize the costs using the straight-line method over the life of the contract. We defer the revenue for the undelivered items at fair value based upon list prices with EMC according to EITF 00-21. At times, MTI’s customers prefer to enter into service agreements directly with EMC. In such instances, we may assign the obligation to perform services to EMC, or other third parties, and therefore, we do not record revenue nor defer any costs related to the services. Finally, upon assignment

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of maintenance and professional services to EMC, EMC may elect to subcontract the professional services to MTI. In this case, we defer the revenue for the professional services at fair value according to EITF 00-21.

     For certain sales transactions, an escrow account is utilized to facilitate payment obligations between all parties involved in the transaction. In these transactions, generally the end-user or lessor will fund payment into the escrow account and the bank will distribute the payment to each party in the transaction pursuant to mutually agreed upon escrow instructions. MTI only receives cash which represents the net margin on the sales transaction. For these transactions, we recognize revenue on a net basis as we do not bear credit risk in the transaction.

     We may allow customers that purchase new equipment to trade-in used equipment to reduce the purchase price under the sales contract. These trade-in credits are considered discounts and are allocated to the delivered elements in accordance with EITF 00-21. Thus, product revenue from trade-in transactions is recognized net of trade-in value.

Shipping

     Products are generally drop-shipped directly from suppliers to MTI’s customers. Upon the supplier’s delivery to a carrier, title and risk of loss pass to the Company. Revenue is recognized at the time of shipment when shipping terms are Free Carrier (FCA) shipping point as legal title and risk of loss to the product pass to the customer. For FCA destination shipments, revenue is recorded upon delivery to the customer. For legacy sales, product is shipped from our facility in Ireland. MTI retains title and risk of loss until the product clears U.S. customs and therefore revenue is not recognized until the product clears customs for FCA origin shipments and upon delivery to the customer for FCA destination shipments.

     Product warranty. We record warranty expense at the time revenue is recognized and maintain a warranty accrual for the estimated future warranty obligation based upon the relationship between historical and anticipated costs and sales volumes. Factors that affect our warranty liability include the number of units sold, historical and anticipated rates of warranty calls and repair cost. During the third quarter of fiscal year 2004, we reviewed our historical costs of warranty for EMC products sold over the last nine months, since we entered into the reseller agreement with EMC. Based on our review, and given the favorable warranty rate experienced on EMC products to date, we determined that it was not necessary to record any additional provision for warranty related to EMC products for the third and fourth quarters of fiscal year 2004. We will continue to assess the adequacy of our warranty accrual each quarter and we will begin to record warranty provision on EMC products sold beginning in the first quarter of fiscal year 2005. The recorded warranty rate for EMC products will likely be lower than fiscal 2004 given our favorable warranty experience with EMC products. Should actual warranty calls and repair cost differ from our estimates, the amount of actual warranty costs could materially differ from our estimates.

     Allowance for doubtful accounts. We maintain an allowance for doubtful accounts for estimated returns and losses resulting from the inability of our customers to make payments for products sold or services rendered. We analyze accounts receivable, customer credit-worthiness, current economic trends and changes in our customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. All new customers are reviewed for credit-worthiness upon initiation of the sales process. Historically, we have not experienced significant losses on accounts receivable, however, if the financial condition of our customers deteriorates, resulting in an inability to make payments, additional allowances may be required.

     Income taxes. We are required to estimate our income taxes, which includes estimating our current income taxes as well as measuring the temporary differences resulting from different treatment of items for tax and accounting purposes. These temporary differences result in deferred tax assets or liabilities. We apply Statement of Financial Accounting Standards No. (Statement) 109, “Accounting for Income Taxes”; under the asset and liability method, deferred tax assets and liabilities are determined based on differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities and operating loss and tax credit carryforwards using enacted tax rates in effect for the year in which the differences are expected to reverse, net of a valuation allowance. We have recorded a full valuation allowance against our deferred tax assets as management has determined that it is more likely than not that these assets will not be utilized. In the event that actual results differ from our estimates, our provision for income taxes could be materially impacted.

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     Valuation of goodwill. We assess the impairment of goodwill in accordance with Financial Accounting Standards Board Statement 142 on an annual basis or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors we consider important which could trigger an impairment review include significant under-performance relative to expected historical or projected future operating results, significant changes in the manner of our use of acquired assets or the strategy for our overall business, and significant negative industry or economic trends. Upon the adoption of Statement 142 and the completion of the transitional impairment test in fiscal year 2002, we concluded that there was no impairment of goodwill. We completed our annual assessment for goodwill impairment in the fourth quarter of fiscal year 2004. Based upon factors such as the market valuation approach, comparison between the reporting units’ estimated fair value using discounted cash flow projections over the next three years, and carrying value, we concluded that there was no impairment of our goodwill. Changes in assumptions and estimates included within this analysis could produce significantly different results than those identified above and those recorded in the consolidated financial statements. We will update our assessment during the fourth quarter of fiscal year 2005 or as other facts and circumstances indicate.

     Inventories. Our inventory consists of logistics inventory and production inventory. Logistics inventory is used for product under maintenance contracts and warranty, and is not for sale. As of April 3 2004, we had net logistics inventory of $3.1 million, of which substantially all of such inventory is related to legacy products, and net production inventory of $3.1 million. Inventories are valued at the lower of cost (first-in, first-out) or market, net of an allowance for obsolete, slow-moving, and unsalable inventory. The allowance is based upon management’s review of inventories on-hand, historical product sales, and future sales forecasts. Historically, we used rolling forecasts based upon anticipated product orders to determine our component and product inventory requirements. As a reseller, we procure inventory primarily upon receipt of purchase orders from customers; as such, the risk of EMC production inventory obsolescence is low. Our logistics inventory reserve is based on a combined analysis of historical usage, current and anticipated maintenance contract renewals and future product sales. If we overestimate our product or component requirements, we may have excess inventory, which could lead to additional excess and obsolete charges.

Results of Operations

     The following table sets forth selected items from the Consolidated Statements of Operations as a percentage of total revenue for the periods indicated, except for product gross profit and service gross profit, which are expressed as a percentage of the related revenue. This information should be read in conjunction with the Selected Financial Data and Consolidated Financial Statements included elsewhere herein:

                         
    Fiscal Year Ended
    April 3,   April 5,   April 6,
    2004
  2003
  2002
Net product revenue
    55.8 %     48.7 %     59.0 %
Service revenue
    44.2       51.3       41.0  
 
   
 
     
 
     
 
 
Total revenue
    100.0       100.0       100.0  
Product gross profit
    19.3       17.8       18.8  
Service gross profit
    28.1       34.6       38.5  
 
   
 
     
 
     
 
 
Gross profit
    23.2       26.5       26.9  
Selling, general and administrative
    31.8       33.7       36.6  
Research and development
    0.9       6.4       10.8  
Restructuring charges
    (0.3 )     1.8       4.2  
 
   
 
     
 
     
 
 
Operating loss
    (9.2 )     (15.4 )     (24.7 )
Other income, net
    0.8       1.2       3.6  
Gain (loss) on foreign currency transactions
          0.8       (0.5 )
Equity in net loss and write-down of net investment of affiliate
                (8.1 )
Income tax (expense) benefit
    3.8       (0.2 )     (20.9 )
 
   
 
     
 
     
 
 
Net loss
    (4.6 )%     (13.6 )%     (50.6 )%
 
   
 
     
 
     
 
 

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     Fiscal Year 2004 Compared to Fiscal Year 2003

     Net product revenue: Net product revenue for fiscal year 2004 increased $6.3 million, or 16% from fiscal year 2003. This increase was comprised of a $3.0 million and a $3.3 million, or 15% and 17%, increase in domestic product and international product revenue, respectively. The increase in net product revenue is primarily a result of entering into the EMC reseller agreement in the fourth quarter of fiscal 2003. Our ability to sell these products enabled us to further penetrate the mid-range storage market as evidenced by the addition of 242 new customer accounts during fiscal year 2004. Also contributing to the increase in net product revenue was the addition of:

  a Vice-President of U.S. sales, with 20 years of storage experience, responsible for North American sales; and
 
  five additional veteran salespersons during fiscal 2004 who accounted for $5.2 million or 23% of total net product revenue in fiscal 2004.

     The increase in net product revenue was driven primarily by strong demand for EMC server and software products, which generally have a higher average selling price than our proprietary products. Server and software products increased from fiscal 2003 by $6.2 million and $2.3 million, respectively, offset by a decrease of $2.2 million from tape library sales. The decline in tape library revenue is attributable to a shift in focus towards developing expertise selling the EMC product set.

     Service revenue: Service revenue was $36.7 million for fiscal year 2004, a decrease of $5.6 million, or 13%, from fiscal year 2003. This decrease was attributable to decreased maintenance revenue of $6.2 million, offset by increased professional services revenue of $0.6 million. Subsequent to the end of fiscal year 2003, we became a reseller and service provider of EMC Automated Networked Storage Systems and software. Commencing with the sale of the EMC array of products, most EMC hardware products are sold with up to a 3-year 24x7 warranty. As a result, the revenue associated with post-warranty service contracts for those hardware product sales will not occur until expiration of the warranty period. Therefore, service revenues decreased from fiscal year 2003 to fiscal year 2004. However, as sales of EMC products increase, we expect that sales of back-up products, which are not a part of the EMC reseller’s agreement, will increase and those products carry shorter warranty periods thus providing the opportunity for increased maintenance contracts. Another factor that contributed to the decrease in maintenance revenue is the expiration of maintenance contracts without offsetting renewed and new maintenance contracts related to MTI-branded products. In order to mitigate these decreases, during fiscal 2004 we became a member of the EMC Authorized Services Network and are now able to provide end-to-end service for EMC’s CLARiiON family of systems.

     Product gross profit: Product gross profit was $8.9 million for fiscal year 2004, an increase of $1.8 million, or 25%, from fiscal year 2003. The gross profit percentage of net product sales was 19% for fiscal year 2004 as compared to 18% for fiscal year 2003. The increase in product gross profit was primarily the result of an increase in product sales, principally EMC server and software products, coupled with a $1.7 million reduction in inventory obsolescence related charges as compared to fiscal year 2003, partially offset by lower standard product margin percentages on a transaction-by-transaction basis.

     Service gross profit: Service gross profit for fiscal year 2004 decreased $4.3 million, or 29%, from fiscal year 2003. The gross profit percentage for service revenue was 28% in fiscal year 2004, as compared to 35% for fiscal year 2003. We attribute the decreases in service gross profit to reduced field service revenue, particularly maintenance revenue which is supported by a relatively fixed cost structure. In an effort to improve our service gross profit, the following actions have been taken:

  effective October 1, 2003, we outsourced our domestic Customer Response Center operations to Directpointe, Inc., a related party, for a minimum monthly charge of $0.01 million; and
 
  in the third quarter of fiscal year 2004, we eliminated eight full time positions in our field service operations. We expect these reductions to provide quarterly cost savings of $0.2 million.

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     Selling, general and administrative expenses: Selling, general and administrative expenses for fiscal year 2004 decreased $1.3 million, or 5%, from fiscal year 2003. The decrease was primarily due to a 19% or $1.2 million decrease in fixed charges such as depreciation, rent, insurance, property taxes and utilities expenses; a 37% or $0.4 million decrease in marketing expense; an 11% or $0.8 million decrease in outside purchases such as consulting and professional services, tax services, bank fees and bad debt expense and an 11% or $0.1 million decrease in supplies. The decrease in fixed charges was primarily the current year impact of asset disposals and facilities abandonments in the prior fiscal year. The decreases in marketing, outside purchases and supplies expenses were the result of a directed program to cut expenses in order to return to profitability The above decreases were offset by a 4% or $0.5 million increase in salary and benefits expense and a 3% or $0.1 million increase in travel and lodging expense. These increases were a result of increased headcount in our sales department. Also, during fiscal year 2003, we recovered $0.6 million from accounts that were previously determined to be uncollectible, as compared to bad debt expense of $0.03 million in fiscal 2004.

     Research and development expenses: Research and development expenses in fiscal year 2004 decreased $4.5 million, or 85%, from fiscal year 2003. These decreases were primarily attributable to decreases in salary and benefit expenses of $2.5 million resulting from the headcount reductions that occurred primarily during fiscal year 2003 and the first quarter of fiscal year 2004, decreases in outside consulting expense of $1.0 million, decreases in rent, utilities, repair and maintenance, depreciation, insurance and property tax expenses of $0.8 million and decreases in travel and lodging and supplies expenses of $0.2 million. These decreases were the result of our change to our business model from the sale of MTI-branded products to the sale of co-branded solutions serving the storage and enhanced data protection market.

     Restructuring Charges: We recorded a net restructuring benefit of $0.2 million in fiscal 2004. This was the result of a reversal of the restructuring reserve in the second quarter of fiscal year 2004 of $0.3 million due to higher than anticipated lease payments from sub-lessees and usage of space in our Westmont, Illinois facilities. This benefit was partially offset by an additional charge in the first quarter of fiscal year 2004 of $0.1 million due to lower than anticipated lease payments from sub-lessees in our Sunnyvale, California facility.

     We recorded a $1.0 million restructuring charge in the first quarter of fiscal year 2003, which consisted of charges of approximately $0.5 million related to a headcount reduction of 39 employees, or 15% of our workforce, and $0.5 million related to the disposal or abandonment of fixed assets. Of the 39 employees terminated, 14, 3, 6, 1, 14, and 1 were from the Sales, Marketing, General and Administrative, Customer Service, Research and Development, and Manufacturing departments, respectively. The cash outflow of the restructuring charge is $0.5 million related to severance, which was paid during fiscal year 2003.

     In the third quarter of fiscal year 2003, we recorded a $0.2 million restructuring charge due to lower than anticipated lease payments from sub-lessees in our Sunnyvale, California and Raleigh, North Carolina facilities.

     In the fourth quarter of fiscal year 2003, we recorded a $0.2 million restructuring charge due to lower than anticipated lease payments from sub-lessees in our European facilities.

     The changes to the restructuring reserve from its inception in the fourth quarter of fiscal year 2002 are as follows (in millions):

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Abandoned facilities:
       
Balance as of April 6, 2002
  $ 4.3  
Add: Fiscal year 2003 restructuring charges
    0.4  
Less: Fiscal year 2003 utilization
    (1.8 )
 
   
 
 
Balance as of April 5, 2003
    2.9  
Less: Fiscal year 2004 restructuring reversal
    (0.2 )
Less: Fiscal year 2004 utilization
    (0.9 )
 
   
 
 
Balance as of April 3, 2004
    1.8  
 
   
 
 
Workforce reduction:
       
Balance as of April 6, 2002
    0.2  
Add: Fiscal year 2003 severance charges
    0.5  
Less: Fiscal year 2003 severance payments
    (0.7 )
 
   
 
 
Balance as of April 5, 2003 and April 3, 2004
     
 
   
 
 
Total accrued restructuring, as of April 3, 2004
  $ 1.8  
 
   
 
 

     Other income, net: Other income, net, which includes interest income and expense, in fiscal year 2004 decreased $0.4 million, or 37%, over fiscal year 2003. This decrease was primarily due to the $1.2 million gain on the sale of a security investment included in fiscal year 2003. Additional interest expense of $0.1 million in fiscal year 2004 due to higher borrowings on the line of credit also contributed to the decrease. These decreases were partially offset by $0.7 million in interest income related to the IRS refund recorded in fiscal year 2004.

     Gain (loss) on foreign currency transactions: We recorded a $0.03 million gain on foreign currency transactions during fiscal year 2004, as compared to a $0.6 million gain in fiscal year 2003. During fiscal year 2004, the Euro appreciated against the U.S. dollar in approximately the same percentage as compared to fiscal year 2003; however, these foreign currency gains were offset by losses caused by the appreciation of the British Pound Sterling against the Euro.

     Income taxes: We recorded a net tax benefit of $3.2 million for fiscal year 2004, as compared to a net tax expense of $0.2 million for fiscal year 2003. The net tax benefit is due to the IRS settlement on income tax audits for fiscal years 1992 through 1996 which resulted in a tax payable of $0.2 million for which we had accrued $1.7 million and an income tax receivable of $1.7 million for fiscal years 1982 through 1990 based upon the carry-back of the net operating losses which were confirmed by the IRS for the fiscal years 1993 through 1995.

     Fiscal Year 2003 Compared to Fiscal Year 2002

     Net product revenue: Net product revenue for fiscal year 2003 decreased $29.4 million, or 42% from fiscal year 2002. This decrease was primarily because of a $27.7 million and a $1.7 million, or 58% and 8%, decrease in domestic product and international product revenue, respectively. In terms of product mix on a worldwide basis, this decrease was the result of decreased revenue of $22.8 million, $3.6 million and $3.0 million from server products, tape libraries and tape related software products, respectively. Server products revenue in fiscal year 2003 from the Vivant product family was $14.7 million, down 59% from $36.0 million in fiscal 2002. The decrease was primarily due to the decrease in sales volume rather than average sales price. In general, we have found that our customer base has become much more cautious in its buying patterns and purchasing is being confined to an as-needed basis, with increasing levels of customer justification and management approval required during the sales process. This more difficult sales environment was partially a result, but not solely a result, of the global economic downturn, coupled with the U.S. war against Iraq. As a result, our customers delayed or reduced their expenditures, including those for information technology, thus decreasing the current demand for our information-storage systems and software. Additionally, aggressive competition in the form of pricing discounts offered by Hitachi Data Systems, Hewlett-Packard Company, Sun Microsystems, Inc., IBM, and Network Appliance, Inc., each of which has substantially greater name recognition, marketing capabilities and financial and personnel resources than we have, have contributed to the decrease in our sales.

     Service revenue: Service revenue was $42.3 million for fiscal year 2003, a decrease of $6.1 million, or 13%, from fiscal year 2002. This decrease was attributable to decreased maintenance revenue of $4.1 million, decreased consulting revenue of $1.2 million and other decreased service revenue of $0.8 million. The decrease in

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maintenance revenue is primarily due to the expiration of maintenance contracts without offsetting renewed and new maintenance contracts. We attribute the lower number of renewals to the loss of customers to our competitors, customers that have updated their technology which is now covered by warranty, and customers that have ceased operations. The decrease in consulting and other revenue is primarily attributable to decreased product revenue. In fiscal year 2003, we changed our Service and Business Systems operations throughout the world to operate under one leadership in an attempt to minimize duplication of costs, increase efficiencies and exploit successful operations.

     Product gross profit: Product gross profit was $7.2 million for fiscal year 2003, a decrease of $5.9 million, or 45%, from fiscal year 2002. The gross profit percentage of net product sales was 18% for fiscal year 2003 as compared to 19% for fiscal year 2002. This decrease was primarily due to continued pricing pressures and changes in product mix. In fiscal year 2003, we sold more library and software products than server products, particularly the Vivant product family, and library and software products carry lower margins than server products. The unfavorable change in product mix was partially offset by improved manufacturing efficiencies, our ability to sell $1.2 million of non-Vivant inventory that was previously fully reserved and reduced inventory charges from $7.0 million, which consisted primarily of additional reserves for Gladiator 6700, 8700 and 8900 inventories, in the fiscal year 2002 to $3.2 million, which consisted primarily of reserves for Vivant, VCACHE and S-200, in fiscal year 2003.

     Service gross profit: Service gross profit for fiscal year 2003 decreased $4.0 million, or 22%, from fiscal year 2002. The gross profit percentage for service revenue was 35% in fiscal year 2003, as compared to 39% for fiscal year 2002. In addition to the relatively fixed cost structure, we attribute the decreases in service gross profit to a 23% decrease in domestic customer service revenue, particularly maintenance revenue, partially offset by a 5% increase in international customer service revenue.

     Selling, general and administrative expenses: In fiscal year 2003, selling, general and administrative expenses decreased $15.5 million, or 36%, over fiscal year 2002. The decrease was primarily due to a 32% or $7.5 million decrease in salary and benefit expenses which resulted from reduced headcounts of 22%; a 54% or $3.0 million decrease in outside purchases such as consulting and professional services, tax services, bank fees and bad debt expense; a 64% or $1.7 million decrease in marketing and promotional expenses; an 18% or $1.3 million decrease in fixed charges such as rent and utilities expenses; a 52% or $1.4 million decrease in supplies and telecommunication expenses; and a 26% or $0.6 million decrease in travel and lodging expenses. During fiscal year 2003, we recovered $0.6 million from accounts that were previously determined to be uncollectible, as compared to bad debt expense of $1.9 million in the preceding fiscal year. The decreased expenditures were the result of a directed program to bring expenditures in line with the reduced product and service revenues and resultant margins noted above.

     Research and development expenses: Research and development expenses in fiscal year 2003 decreased $7.5 million, or 59%, from fiscal year 2002. These decreases were primarily attributable to decreases in salary and benefit expenses of $4.1 million resulting from a 47% headcount reduction over fiscal year 2002, decreases in project costs of $0.9 million, decreases in rent, utilities, repair and maintenance expenses, depreciation, insurance and property tax expenses of $2.0 million, decreases in travel and lodging, consulting and loss on disposal of fixed assets of $0.4 million, and decreases in communication expenses of $0.1 million. As part of our change in business model we have changed our emphasis from the sale of MTI-branded products to the sale of co-branded solutions serving the storage and enhanced data protection market. Our focus towards EMC networked storage systems will result in limited partnering of products beyond the EMC line of products and those products related to backup functions. The primary goal of the restructuring was to refocus on the design and implementation of storage solutions at a significantly lower cost. In support of this, our Engineering department has been redeployed within our professional services organization.

     Other income, net: Other income, net, which includes interest income and expense, in fiscal year 2003 decreased $3.2 million, or 76%, over fiscal year 2002. This decrease was primarily due to an absence of income from sale of patents to EMC as we received the final annual payment in advance of $5.0 million from the sale of certain patents in January 2001 and recorded the payments as other income proportionately during the fourth quarter of fiscal year 2001 and the first nine months of fiscal year 2002. Thus, we recorded other income of $0 related to the sale of patents in fiscal year 2003, as compared to $3.6 million in fiscal year 2002. Other factors contributing to

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the decrease in other income, net, were decreases in interest income and sales tax refund. These decreases were partially offset by a gain on the sale of a security investment of $1.2 million in fiscal year 2003.

     Equity in net loss and write-down of net investment of affiliate: Equity in net loss of affiliate for fiscal year 2002 represents our proportionate share of The SCO Group, Inc.’s (“SCO”) net losses and amortization of the goodwill related to the investment made in SCO in August 1999. The original investment in SCO was $7.6 million and included: (a) cash payment of $3.0 million, (b) note payable of $3.0 million bearing interest at the prime rate plus one percent per annum and payable in two equal semi-annual payments beginning February 2000 and (c) investment costs of $1.6 million, including the issuance of a warrant to purchase 150,000 shares of our common stock. The excess of our investment in SCO over the related underlying equity in net assets of $6.9 million was being amortized on a straight-line basis over seven years. However, we adopted Statement 142 as of April 8, 2001, the beginning of fiscal year 2002, and therefore, ceased to amortize the remaining balance of goodwill related to the investment in SCO of $4.2 million, which was written off during the third quarter of fiscal year 2002 due to an other than temporary decline in value and recognizing our proportional share of SCO’s net loss. Such loss has been included in “Equity in net loss and write-down of net investment of affiliate” in our fiscal year 2002 Consolidated Statement of Operations.

     Gain (loss) on foreign currency transactions: We recorded a $0.6 million gain on foreign currency transactions during fiscal year 2003, as compared to a $0.5 million loss in fiscal year 2002. The $1.1 million increase in the gain on foreign currency transactions was primarily due to the weakening U.S. dollar against the Euro.

     Income taxes: We recorded a net tax expense of $0.2 million for fiscal year 2003, as compared to a net tax expense of $24.6 million for fiscal year 2002. In fiscal year 2002, we recorded a net tax expense of $24.6 million of which $24.3 million was related to the valuation allowance for deferred-tax assets recorded in the first quarter of fiscal year 2002. Because of the continued decline in the market value of our investment in SCO and continued softness in the domestic and European markets for our products, management believed that it was more likely than not that we would not realize the benefits of the net deferred tax assets existing on April 6, 2002.

Liquidity and Capital Resources

     As of April 3, 2004, working capital was $2.7 million, as compared to $2.1 million at the end of the prior fiscal year, and we had cash and cash equivalents of $3.0 million as of April 3, 2004, as compared to $9.8 million as of April 5, 2003. The $6.8 million decrease in cash and cash equivalents was the result of net cash used in operating and investing activities of $11.0 million and $0.1 million, respectively, partially offset by net cash provided by financing activities of $3.4 million and $0.9 million from the effect of exchange rate changes on cash and cash equivalents.

     Net cash used in operating activities was $11.0 million in fiscal year 2004, compared to net cash provided by operating activities of $0.4 million in fiscal year 2003. A significant factor contributing to the cash used in operating activities was an increase in accounts receivable of $8.5 million. This was the result of increasing revenue particularly in the last two quarters of fiscal year 2004. Also contributing to the cash used in operating activities was an increase of $4.1 million in prepaid expenses, other receivables and other assets. This was primarily due to an increase of $1.4 million related to pre-paid maintenance contracts and $2.5 million related to the IRS income tax refund recorded in fiscal year 2004. This refund was received subsequent to the end of the year. These increases were partially offset by a $5.1 million increase in accounts payable. This increase was primarily due to increased payables to EMC related to increased product sales at the end of fiscal year 2004. If we are able to execute our growth strategy, we expect cash used in operations to decrease significantly in fiscal year 2005, primarily as a result of increased revenue generated from sales of EMC products and our professional services organization as well as improved accounts receivable collection efforts.

     Subsequent to April 3, 2004, we executed a letter of credit with Comerica bank for $6.0 million, for the benefit of EMC. This additional letter of credit is incremental to the existing EMC credit line of $5.0 million, thereby extending our purchasing credit limit with EMC to $11.0 million. This additional letter of credit is secured by a $6.0 million certificate of deposit. Our credit limit with EMC is for purchases only. Our credit terms with EMC are net 45 days from shipment. Our credit terms with our customers generally range from 30 to 60 days.

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Often there is a gap between when we pay EMC and when we ultimately collect the receivable from our customer. This gap is funded by our working capital as well as our line of credit with Comerica.

     Net cash used in investing activities was $0.1 million in fiscal year 2004 compared to net cash provided by investing activities of $0.7 million in fiscal year 2003. Capital expenditures in fiscal year 2004 used cash of $0.2 million. This usage was partially offset by proceeds from the sale of property, plant and equipment of $0.1 million. Due to our plan to increase headcount in fiscal year 2005, we expect that our capital expenditures will increase mainly due to the purchase of additional computer equipment.

     Net cash provided by financing activities was $3.4 million in fiscal year 2004 compared to cash used in financing activities of $0.2 million in fiscal year 2003. Current year borrowings on the line of credit provided cash of $5.4 million which was partially offset by payments on the line of credit and capital lease obligations of $3.2 million and $0.2 million, respectively. Proceeds from the issuance of shares and exercise of options and warrants provided cash of $1.3 million.

     In November 2002, we entered into a loan agreement with Comerica Bank for a line of credit of $7.0 million at an interest rate equal to the prime rate. The line of credit is secured by a letter of credit that is guaranteed by the Canopy Group, Inc. (“Canopy”), our major stockholder. Canopy’s guarantee was to mature on November 30, 2003, but on June 30, 2003, we received an extension on the $7.0 million letter of credit until June 30, 2004. The Comerica loan agreement was to mature on October 31, 2003, but on June 30, 2003, we received a renewal on the line of credit for $7.0 million until May 31, 2004. On June 18, 2004, we received an additional extension on the letter of credit until June 30, 2005. Also on June 18, 2004, we received an additional renewal on the Comerica line of credit until May 31, 2005. Ralph J. Yarro, III, one of our Directors, is also a Director, President and Chief Executive Officer of Canopy. Darcy G. Mott, one of our Directors, is also a Vice President, Treasurer and Chief Financial Officer of Canopy. Canopy beneficially owns approximately 44% of our outstanding common stock.

     The Comerica loan agreement contains negative covenants placing restrictions on our ability to engage in any business other than the businesses currently engaged in, suffer or permit a change in control, and merge with or acquire another entity. Although we are currently in compliance with all of the terms of the Comerica loan agreement, and believe that we will remain in compliance, there can be no assurance that we will be able to continue to borrow under the Comerica loan agreement through the expiration date. Upon an event of default, Comerica may terminate the Comerica loan agreement and declare all amounts outstanding immediately due and payable. As of April 3, 2004, there was $3.9 million outstanding and $3.1 million available for borrowing under the Comerica line of credit.

     On June 17, 2004, the Company sold 566,797 shares of Series A Convertible Preferred Stock in a private placement financing at $26.46 per share, which raised $15 million in gross proceeds, before consideration of professional fees. The sale included issuance to the investors of warrants to purchase 1,624,308 shares of the Company’s common stock with an exercise price of $3.10 per share. The shares of common stock into which the warrants are exercisable represent twenty-five percent (25%) of the aggregate number of shares of common stock into which the Series A Convertible Preferred Stock are convertible plus an additional 207,315 shares of common stock. Each share of Series A Convertible Preferred Stock is convertible into common stock at an initial conversion rate of ten shares of common stock for each share of Series A Convertible Preferred Stock, subject to adjustments upon certain dilutive issuances of securities by the Company at the initial stated price per share. The Series A Convertible Preferred Stock carries a cumulative dividend of 8% per year payable when and if declared by the Board of Directors. The warrants are exercisable on or after December 20, 2004, and expire on June 17, 2015. As part of the private placement, a representative of the investors has joined the Company’s Board of Directors.

     The Company’s principal source of liquidity is cash and cash equivalents, the Comerica line of credit under the Comerica loan agreement and expected cash flows from operations. Fiscal year 2004 represented our first full year of operations under our reseller agreement with EMC. Since the inception of this relationship, we have recorded sequential quarterly growth in both product revenues and total revenues and reduced our operating loss by 39%. We believe that as we continue to execute our growth strategy, we will see increased liquidity through cash generated by operating activities. We believe that our current working capital, coupled with the borrowing ability under the Comerica line of credit as well as the cash generated from the sale of the Series A Convertible Preferred Stock is adequate to fund operations for at least the next 12 months. We believe that the increase in liquidity as a

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result of the Series A Convertible Preferred Stock offering will provide us with the required capital to grow our business and improve profitability. Using the proceeds from the offering, we plan to add experienced sales professionals in our sales organization and add technical professionals in our professional services organization. We believe we are able to manage our cash flow by reducing discretionary spending and limiting headcount additions in order to meet needs and opportunities as they arise. Our future growth is dependent upon many factors, including but not limited to, recruiting, hiring, training and retaining significant numbers of qualified personnel, forecasting revenues, controlling expenses and managing assets. In particular, significant growth will require that we train, integrate and retain qualified sales personnel in various geographic regions. The inability to recruit, train and retain additional personnel in a timely manner could have a material adverse effect on our results of operations. See “Factors That May Affect Future Results.”

     The following represents a comprehensive list of our contractual obligations and commitments as of April 3, 2004:

                                                         
    Payments Due by Fiscal Period
    Total
  2005
  2006
  2007
  2008
  2009
  Thereafter
                            (In millions)                
Line of Credit
  $ 3.9     $ 3.9     $     $     $     $     $  
Operating Lease Obligations
    10.8       3.3       2.7       1.5       1.1       0.5       1.7  
Capital Lease Obligations
    0.3       0.2       0.1                          
 
   
 
     
 
     
 
     
 
     
 
     
 
     
 
 
 
  $ 15.0     $ 7.4     $ 2.8     $ 1.5     $ 1.1     $ 0.5     $ 1.7  
 
   
 
     
 
     
 
     
 
     
 
     
 
     
 
 

Inflation and Foreign Currency Exchange

     We recorded a $0.03 million foreign exchange gain during fiscal year 2004, which resulted from the weakening U.S. dollar against the Euro, partially offset by the appreciation of the British Pound Sterling against the Euro. In fiscal 2004, approximately 50% of total revenue was generated outside the United States, particularly in Germany, France and the United Kingdom. Sales denominated in currencies other than the U.S. dollar expose us to market risk from unfavorable movements in foreign exchange rates between the U.S. dollar and the foreign currency, particularly the British Pound Sterling and the Euro. In fiscal year 2004, we did not enter into forward exchange contracts to sell foreign currency to fix the U.S. dollar amount we will receive on sales denominated in that currency. Historically, in order to minimize the risk of foreign exchange loss, we have entered into foreign currency forward contracts. However, in order to conserve cash, we ended our hedging program in fiscal year 2003.

     The Company has assets and liabilities outside the United States that are subject to fluctuations in foreign currency exchange rates. Assets and liabilities outside the United States are primarily located in Ireland, Germany, France and the United Kingdom. The Company’s investments in foreign subsidiaries with a functional currency other than the U.S. dollar are generally considered long-term. Accordingly, the Company does not hedge these net investments.

Factors That May Affect Future Results

     This Annual Report on Form 10-K contains forward-looking statements. Statements in this document that are not historical facts, including statements relating to future plans and developments, financial goals and operating performance that are based on our management’s current beliefs and assumptions constitute forward-looking statements and are subject to change based on a number of factors, including those outlined in this section. Any other statements contained herein (including without limitation statements to the effect that we “estimate,” “expect,” “anticipate,” “plan,” “believe,” “project,” “continue,” “may,” “will,” “could,” or “would” or statements concerning “potential” or “opportunity” or variations thereof or comparable terminology or the negative thereof) that are not statements of historical fact are also forward-looking statements. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to update publicly any of them in light of new information or future events. Our actual results may differ materially from those discussed in these statements. The sections entitled “Factors That May Affect Future Results,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business” contain a discussion of some of the factors that could contribute to those

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differences. Factors that could contribute to these differences include those discussed below and elsewhere in this Form 10-K.

We are dependent upon EMC as the main supplier for our storage solutions, and disruptions in supply or significant increases in costs could harm our business materially.

     Effective March 31, 2003, we entered into a Reseller Agreement with EMC where we became a reseller of EMC storage products. The agreement gives us a right to sell and license EMC hardware and software products but also restricts our ability to resell data storage hardware platforms that compete with EMC products. As a result of the agreement, we depend on EMC to manufacture and supply us with their storage products. We may fail to obtain required storage products in a timely manner or to obtain it in the quantities we desire in the future. If EMC were to decide to modify their channel strategy, they may cease supplying us with their storage products. If EMC were to unexpectedly cancel the reseller agreement, we may be unable to find other vendors as a replacement in a timely manner. Any interruption or delay in the supply of EMC storage products, or the inability to obtain these products at acceptable prices and within a reasonable amount of time, would impair our ability to meet scheduled product deliveries to our customers and could cause customers to cancel orders. This lost storage product revenue could harm our business, financial condition and operating results rendering us unable to continue operating at our current level of operations.

The storage market is characterized by rapid technological change, and our success will depend on EMC’s ability to develop new products.

The market for data storage products is characterized by rapid technology changes. The market is sensitive to changes in customer demands and very competitive with respect to timely innovation. New product introductions representing new or improved technology or industry standards may cause our existing products to become obsolete. When we became a reseller of EMC disk-based storage products, we agreed not to sell data storage hardware platforms that compete with EMC products. EMC’s ability to introduce new or enhanced products into the market on a timely basis at competitive price levels will affect our future results.

The markets for the products and services that we sell are intensely competitive, which may lead to reduced sales of our products, reduced profits and reduced market share for our business.

The market for our products and services is intensely competitive. If we fail to maintain or enhance our competitive position, we could experience pricing pressures and reduced sales, margins, profits and market share, each of which could materially harm our business. Furthermore, new products and technologies developed by third parties may depress the sales of existing products and technologies. Our customers’ requirements and the technology available to satisfy those requirements are continually changing. We must be able to respond to these changes in order to remain competitive. Since we emphasize integrating third party products, our ability to respond to new technologies will be substantially dependent upon our contractual relationships with the third parties whose products we sell, particularly EMC. In addition, we must be able to quickly and effectively train our employees with respect to any new products or technologies developed by our third party suppliers and resold by us. Since we are not exclusive resellers, the third party products we sell are available from a large number of sources. Therefore, we must distinguish ourselves by the quality of our service and support. The principal elements of competition in our markets include:

  quality of professional services consulting and support;
 
  responsiveness to customer and market needs;
 
  product price, quality, reliability and performance; and
 
  ability to sell, service and deploy new technology.

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     We have a number of competitors in various markets, including: Hewlett-Packard, Sun Microsystems, IBM, Hitachi and Network Appliance, each of which has substantially greater name recognition, marketing capabilities, and financial, technological, and personnel resources than MTI.

Our future operating results may depend on the success of our cost reduction initiatives.

     In fiscal year 2003, we implemented restructuring activities in an effort to reduce costs. These measures included reductions in our workforce and the partial or complete closure of certain under-utilized facilities, including offices in Sunnyvale, California; Boston, Massachusetts; Austin, Texas; Denver, Colorado; Orlando, Florida; Westmont, Illinois; Raleigh, North Carolina; Dublin, Ireland; Godalming, England; and Chatou, France. We reduced the number of our full-time employees by approximately 50% within the last two fiscal years (from 549 as of April 7, 2001, to 277 as of July 3, 2004).

     We cannot predict with any certainty the long-term impact of our workforce reductions. Reductions in our workforce could negatively impact our financial condition and results of operations by, among other things, making it difficult to motivate and retain the remaining employees, which in turn may affect our ability to deliver our products in a timely fashion. We also cannot assure you that these measures will be successful in achieving the expected benefits within the expected time frames or that the workforce reductions will not impair our ability to achieve our current or future business objectives.

We may need additional financing to continue to carry on our existing operations and such additional financing may not be available.

     We require substantial working capital to fund our operations. We use cash generated from our operations, equity capital and bank financings to fund capital expenditures, as well as to invest in and operate our existing operations.

     We believe that our working capital, expected cash flow from operating activities and amounts available under our loan agreement with Comerica Bank will be sufficient to meet our operating and capital expenditure requirements for at least the next 12 months. We have granted a lien on all of our assets to the Canopy Group, Inc., which liens secures Canopy’s guaranty of our indebtedness to Comerica Bank, and we would not be able to obtain additional secured financing without the agreement of Canopy and Comerica. Projections for our capital requirements are subject to numerous uncertainties, including the cost savings expected to be realized from the restructuring, the amount of service and product revenue generated in fiscal 2005 and general economic conditions. If we do not realize substantial cost savings from our restructuring and achieve profitability, we may require additional funds in order to carry on our operations, and may seek to raise such funds through bank borrowings or public or private offerings of equity or debt securities or from other sources. No assurance can be given that additional financing will be available or that, if available, will be on terms favorable to us.

     If additional financing is required but not available to us, we would have to implement additional measures to conserve cash and reduce costs, which may include, among other things, making additional cost reductions. However, there is no assurance that such measures would be successful. Our failure to raise required additional funds or to secure an additional credit facility would adversely affect our ability to:

  grow the business;
 
  maintain or enhance our product offerings;
 
  respond to competitive pressures; and
 
  continue operations.

     Additional funds raised through the issuance of equity securities or securities convertible into our common stock may include restrictive covenants and have the following negative effects on the then current holders of our common stock:

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  dilution in percentage of ownership in MTI;
 
  economic dilution if the pricing terms offered to investors are more favorable to them than the current market price; and
 
  subordination of the rights, preferences or privileges of common stockholders to the rights, preferences or privileges of new security holders.

We are party to long term, non-cancelable facility leases for facilities which we do not use and may not be able to sublease on terms that will offset our lease obligations, which may result in a continuing unfavorable impact on our cash position.

     We are party to long term, non-cancelable facility leases with respect to facilities we no longer utilize and which are located in geographic regions that have undergone a significant decrease in real property values. For example, we no longer utilize our facilities in Sunnyvale, California, Westmont, Illinois, Raleigh, North Carolina and various facilities in Europe. As a result, we are obligated to continue making lease payments related to our unutilized facilities, and we have been able to sublease these facilities for rent aggregating $0.5 million in fiscal year 2004. In the aggregate, in fiscal year 2005 and 2006, we are obligated to pay gross lease payments of approximately $1.3 million and $1.0 million, respectively, for facility space which we no longer utilize, and we cannot assure you that we will be able to sublease the unutilized facilities on terms that will significantly offset these obligations.

A significant portion of our revenues occurs in the last month of a given quarter. Consequently, our results of operations for that quarter may be difficult to predict.

     We have experienced, historically, a significant portion of our orders, sales and shipments in the last month or weeks of each quarter. In fiscal year 2004, 57%, 55%, 60% and 62%, respectively, of our total revenue was recorded in the last month of each successive quarter. We expect this pattern to continue, and possibly to increase, in the future. This uneven pattern makes our ability to forecast revenues, earnings and working capital requirements for each quarter difficult and uncertain. If we do not receive orders that we have anticipated or complete shipments within a given quarter, our results of operations could be harmed materially for that quarter.

     Additionally, due to receiving a significant portion of our orders in the last month of the quarter, we may experience a situation in which we have exceeded our credit limits with our vendors thereby making our ability to ship to our customers very difficult. If we experience such situations and are unable to extend our credit limits with our vendors, this could materially harm our results of operations.

Our quarterly results may fluctuate from period-to-period. Therefore, historical results may not be indicative of future results or be helpful in evaluating the results of our business.

     We have experienced quarterly fluctuations in operating results and we anticipate that these fluctuations may continue into the future. These fluctuations have resulted from, and may continue to be caused by, a number of factors, including:

  the introduction of new products by our competitors and competitive pricing pressures;
 
  the size, timing and terms of customer orders;
 
  the timing of the introduction of new products and new versions of best-of-breed products;
 
  shifts in our product or services mix;
 
  changes in our operating expenditures; and
 
  decreases in our gross profit as a percentage of revenues for mature products.

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    Accordingly, we believe that quarter-to-quarter comparisons of our operating results are not necessarily meaningful and that such comparisons cannot be relied upon as indications of our future performance. We cannot assure you that we will be profitable on a quarter-to-quarter basis or that our future revenues and operating results will meet or exceed the expectations of securities analysts and investors. Failure to be profitable on a quarterly basis or to meet such expectations could cause a significant decrease in the trading price of our common stock. The table below quantifies the fluctuations in our period-to-period results in fiscal year 2004. (amounts in thousands)

                                 
                            NET
    TOTAL   GROSS   OPERATING PROFIT   INCOME
    REVENUE
  PROFIT
  (LOSS)
  (LOSS)
2004:
                               
Fourth quarter
  $ 23,651     $ 5,482     $ (1,521 )   $ (742 )
Third quarter
    21,210       4,674       (1,857 )     1,458  
Second quarter
    20,526       4,428       (1,768 )     (1,725 )
First quarter
    17,778       4,692       (2,548 )     (2,857 )
 
   
 
     
 
     
 
     
 
 
Total
  $ 83,165     $ 19,276     $ (7,694 )   $ (3,866 )
 
   
 
     
 
     
 
     
 
 

Our solutions are complex and may contain undetected software or hardware errors that could be difficult, costly, and time-consuming to repair.

     Although we have not experienced significant undetected software or hardware errors to date, given the complex nature of our solutions, we believe the risk of undetected software or hardware errors may occur in networking products primarily when they are first introduced or as new versions of products are released. These errors, if significant, could:

  adversely affect our sales;
 
  cause us to incur significant warranty and repair costs;
 
  cause significant customer relations problems;
 
  harm our competitive position;
 
  hurt our reputation; and
 
  cause purchase delays.

And any of these effects could materially harm our business or results of operations.

All domestic employment at MTI, including employment of our domestic key personnel, is “at will.”

     Both the Company and its U.S. employees have the right to terminate employment at any time, with or without advance notice, and with or without cause. We believe that our success is dependent, to a significant extent, upon the efforts and abilities of our salespeople, technical staff and senior management team, particularly our executive officers, who have been instrumental in setting our strategic plans. The loss of the services of our key personnel, especially to our competitors, could materially harm our business. The failure to retain key personnel, or to implement a succession plan to prepare qualified individuals to join us upon the loss of a member of our key personnel, could materially harm our business.

We are subject to financial and operating risks associated with international sales and services.

     International sales and services represented approximately 50% of our total sales and service revenue for fiscal year 2004. Prior to fiscal year 2004, international sales and service also represented a significant portion of total revenue. As a result, our results of operations are subject to the financial and operating risks of conducting business internationally, including:

  unexpected changes in, or impositions of, legislative or regulatory requirements;

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  fluctuating exchange rates, tariffs and other barriers;
 
  difficulties in staffing and managing foreign subsidiary operations;
 
  import or export restrictions;
 
  greater difficulties in accounts receivable collection and longer payment cycles;
 
  potentially adverse tax consequences;
 
  potential hostilities and changes in diplomatic and trade relationships;
 
  changes in a country’s economic or political conditions; and
 
  differing customer and/or technology standards requirements.

     All of our sales and services in international markets are priced in the applicable local currencies and are subject to currency exchange rate fluctuations. From time to time, we enter into foreign currency exchange contracts on a limited basis in an attempt to minimize foreign currency exposure. Such contracts can be costly or limited in their effectiveness. If we are faced with significant changes in the regulatory and business climate in our international markets, our business and results of operations could suffer.

We may have difficulty managing any future growth effectively.

     During fiscal year 2003 as part of the restructuring plan, we completely ceased manufacturing our legacy products, resulting in workforce reductions of manufacturing, R&D and sales positions and the partial and complete closures of under-utilized facilities. At the same time, we made a strategic shift from manufacturing our products to reselling EMC products when we entered into the Reseller Agreement with EMC on March 31, 2003.

     Historically, we have not experienced difficulty managing growth. However, as a result of the restructuring plan and our transition to becoming a reseller, our facilities, personnel, operating and financial systems may not be sufficient to effectively manage our expected future growth and, as a result, we may lose our ability to respond to new opportunities promptly. Additionally, our expected revenue growth may not materialize and increases in our operating expenses in response to the expected revenue growth may harm our operating results and financial condition.

     Our growth is currently focused on increasing EMC product sales and providing a broad range of professional services. To accomplish these goals, we are dependent upon many factors, including but not limited to, recruiting, hiring, training and retaining significant numbers of qualified sales and professional services personnel in various geographic regions.

We may face inherent costly damages or litigation costs if third parties claim that the products we sell infringe upon their intellectual property rights.

     Although we have not experienced material costs with respect to proprietary rights infringement cases, there is risk that our business activities may infringe upon the proprietary rights of others, and other parties may assert infringement claims against us. Though the majority of our future product sales are expected to be third party products, and the applicable third party manufacturers will defend their own intellectual property rights, in the event such claims are made against our suppliers, we may be faced with a situation in which we cannot sell the products and thus our results of operations could be significantly and adversely affected. In addition, we may receive communications from other parties asserting that our own intellectual property infringes on their proprietary rights. If we become liable to any third party for infringing its intellectual property rights, we could be required to pay substantial damage awards and to develop non-infringing technology, obtain licenses, or to cease selling the applications that contain the infringing intellectual property. Litigation is subject to inherent uncertainties, and any outcome unfavorable to us could materially harm our business. Furthermore, we could incur substantial costs in

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defending against any intellectual property litigation, and these costs could increase significantly if any dispute were to go to trial. Our defense of any litigation, regardless of the merits of the complaint, likely would be time-consuming, costly, and a distraction to our management personnel. Adverse publicity related to any intellectual property litigation also could harm the sale of our products and damage our competitive position.

If we and/or our partners are unable to comply with evolving industry standards and government regulations, we may be unable either to sell our solutions or to be competitive in the marketplace.

     Our solutions must comply with current industry standards and government regulations in the U.S. and internationally. Any new products and product enhancements that we sell in the future also must meet industry standards and government regulations at the time they are introduced. Failure to comply with existing or evolving industry standards or to obtain timely domestic or foreign regulatory approvals could materially harm our business. In addition, such compliance may be time-consuming and costly.

     Our solutions integrate SAN, NAS, DAS and CAS technologies into a single storage architecture. Components of these architectures must comply with evolving industry standards, and we depend upon our suppliers to provide us with products that meet these standards. If our suppliers or customers do not support the same industry standards that we do, or if competing standards emerge that we do not support, market acceptance of our products could suffer.

Our stock ownership is concentrated in a few stockholders who may be able to influence corporate decisions.

     Our stock ownership is concentrated in a few stockholders who may be able to influence corporate decisions. As a result of this, these few stockholders may be able to influence actions of the Company that require stockholder approval, in particular with regard to significant corporate transactions. Among other things, this may delay or prevent a change in control of the Company that may be favored by other stockholders, and may in general make it difficult for the Company to effect certain actions without the support of the larger stockholders.

     Ralph J. Yarro III, one of our Directors, is also a Director and the President and Chief Executive Officer of The Canopy Group, Inc. (“Canopy”), which beneficially owns approximately 35% of our outstanding common stock. In addition, the selling stockholders named in this prospectus, as a result of their acquisition of securities issued in our June 2004 private placement described more fully in the Selling Stockholders section of this prospectus, the selling stockholders beneficially own approximately 17% of the Company’s outstanding common stock.

Our stock price may be volatile, which could lead to losses by investors and to securities litigation.

     The value of an investment in our company could decline due to the impact of any of the following factors upon the market price of our common stock:

  the timing and announcement of new products or services by us, our partners or by our competitors;
 
  failure of our results from operations to meet the expectations of public market analysts and investors;
 
  speculation in the press or investment community about our business or our competitive position;
 
  the volume of trading in our common stock; and
 
  market conditions and the trading price of shares of technology companies generally.

     In addition, stock markets, particularly The Nasdaq SmallCap Market, where our shares are listed, have experienced extreme price and volume fluctuations, and the market prices of securities of companies such as ours have been highly volatile. These fluctuations have often been unrelated to the operating performance of such companies. Fluctuations such as these may affect the market price of our common stock. In the past, securities

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class action litigation has often been instituted against companies following periods of volatility in their stock price. This type of litigation could result in substantial costs and could divert our management’s attention and resources.

We may fail to comply with Nasdaq Marketplace Rules.

     Our securities have been trading on the Nasdaq SmallCap Market since August 16, 2002. We are currently in compliance with Nasdaq SmallCap Market continued listing requirements. However, we failed to comply with Nasdaq Marketplace Rules particularly with the minimum bid price requirement in fiscal year 2002, and may once again fail to comply with the minimum bid price requirement, or other continued listing requirements of the Nasdaq SmallCap Market. If that happens and we do not regain compliance by the end of the applicable grace period, our stock will be delisted and we would likely seek listing of our common stock on the over-the-counter market, which is viewed by many investors as a less liquid marketplace. As a result, the price per share of our common stock would likely decrease materially and the trading market for our common stock, our ability to issue additional securities and our ability to secure additional financing would likely be materially and adversely affected.

We have adopted anti-takeover defenses that could affect the price of our common stock.

     Our restated certificate of incorporation and amended and restated bylaws contain various provisions, including notice provisions and provisions authorizing us to issue preferred stock, that may make it more difficult for a third party to acquire, or may discourage acquisition bids for, our company. Also, the rights of holders of our common stock may be affected adversely by the rights of holders of any preferred stock that we may issue in the future that would be senior to the rights of the holders of our common stock. Furthermore, we are subject to the provisions of Section 203 of the Delaware General Corporation Law regulating corporate takeovers. These provisions could also limit the price that investors might be willing to pay in the future for shares of our common stock.

Our stockholders may be diluted by the conversion of outstanding Series A Convertible Preferred Stock and the exercise of warrants to purchase common stock issued in our June 2004 private placement.

     There are currently 566,797 shares of our Series A Convertible Preferred Stock outstanding, which are held by the selling stockholders and which are convertible at any time into an aggregate of 5,667,970 shares of common stock. Dividends accrue on the Series A Convertible Preferred Stock at an annual rate of 8%, and the holders of Series A Convertible Preferred Stock may convert the accrued dividends into shares of common stock to the extent the Company has not previously paid such dividends in cash. The holders of Series A Convertible Preferred Stock are also entitled to antidilution protection, pursuant to which the conversion price would be reduced using a weighted-average calculation in the event the Company issues certain additional securities at a price per share less than the conversion price then in effect. In addition, the holders of Series A Convertible Preferred Stock have preemptive rights to purchase a pro rata portion of certain future issuances of equity securities by the Company.

     There are currently warrants outstanding to purchase up to 1,624,308 shares of our common stock, which are held by the selling stockholders. The exercise price for such warrants is $3.10 per share. The warrants will become exercisable on December 20, 2004.

     If the selling stockholders convert Series A Convertible Preferred Stock or exercise the warrants they hold, the Company would be required to issue additional shares of common stock, resulting in dilution of existing common stockholders and potentially a decline in the market price of our common stock.

Item 7A. Quantitative and Qualitative Disclosures About Market Risks

     Our European operations transact in foreign currencies and may be exposed to financial market risk resulting from fluctuations in foreign currency exchange rates, particularly the British Pound Sterling and the Euro. In the prior year, in order to minimize the risk of foreign exchange loss, we entered into foreign currency forward contracts. However, in order to conserve cash, we ended our hedging program in fiscal year 2003.

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     Our exposure to short-term interest rate fluctuations is limited to our short-term borrowings under our line of credit. Our line of credit allows borrowings up to $7.0 million and therefore a 1% increase in interest rates would increase annual interest expense by $0.07 million if the line of credit were fully utilized.

Item 8. Financial Statements and Supplementary Data

     The information required by this Item is incorporated herein by reference to the consolidated financial statements and supplementary data listed in Item 15(a)(1) and 15(a)(2) of Part IV of this report.

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

     Effective September 25, 2003, we dismissed KPMG LLP (“KPMG”) as our certifying accountants. Our Audit Committee and Board of Directors approved this action.

     The reports of KPMG on our financial statements for the past two fiscal years ended April 6, 2002, and April 5, 2003, contained no adverse opinion or disclaimer of opinion and were not qualified or modified as to uncertainty, audit scope or accounting principles.

     During our two most recent fiscal years ended April 6, 2002, and April 5, 2003, and the subsequent interim period through September 25, 2003, there were no disagreements with KPMG on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which disagreements, if not resolved to the satisfaction of KPMG, would have caused KPMG to make reference thereto in connection with its reports on the financial statements for such years.

     On September 30, 2003, we engaged Grant Thornton LLP as our new independent accountant. Our Audit Committee and Board of Directors approved this action.

     We have agreed to indemnify and hold KPMG harmless against and from any and all legal costs and expenses incurred by KPMG in a successful defense of any legal action or proceeding that arises as a result of KPMG’s consent to the inclusion of its audit report on the Company’s past financial statements included in this Form 10-K.

Item 9A. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

     The Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the Company’s “disclosure controls and procedures” as of the end of the period covered by this report, pursuant to Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended. Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures, as of the end of the period covered by this report, were effective in timely alerting them to material information relating to the Company required to be included in the Company’s periodic filings.

Changes in Internal Control Over Financial Reporting

     There has been no change in the Company’s internal control over financial reporting during the Company’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

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PART III

Item 10. Directors and Executive Officers of the Registrant

Directors

                 
NAME
  AGE
  POSITION(S)
  COMMITTEE(S)
Thomas P. Raimondi, Jr.
    46     Chairman of the Board of Directors, President and Chief Executive Officer, Nominee   Nominating (until September 8, 2004)
Franz L. Cristiani(1)
    62     Director, Nominee   Audit
Val Kreidel
    49     Director, Nominee   Nominating
Darcy G. Mott
    51     Director, Nominee   Compensation
John Repp
    65     Director, Nominee   Audit and Compensation
Kent D. Smith(2)
    55     Director, Nominee   Audit and Compensation
Ralph J. Yarro, III(3)
    39     Director, Nominee   Nominating
Michael Pehl
    43     Director, Nominee   Compensation (effective June 17, 2004)


(1)   Chairman of the Audit Committee and Lead Director
 
(2)   Chairman of the Compensation Committee
 
(3)   Chairman of the Nominating Committee

     There are no family relationships among the directors or executive officers of the Company.

     Thomas P. Raimondi, Jr. was named President and Chief Executive Officer of the Company in December 1999 and Chairman of the Board of Directors in July 2002. From April 2001 until July 2002, Mr. Raimondi was Vice Chairman of the Board of Directors. From July 1998 to December 1999, Mr. Raimondi was the Company’s Chief Operating Officer. Mr. Raimondi served as Senior Vice President and General Manager from May 1996 until July 1998 and was Vice President, Strategic Planning, Product Marketing and Director of Marketing from 1987 until May 1996. Mr. Raimondi joined the Company in 1987. Since September 1999 Mr. Raimondi has served as a member of the Board of Directors of The SCO Group, Inc., (“SCO”) (formerly Caldera Systems Inc.), a systems software company.

     Franz L. Cristiani was elected a director of the Company in December 2000. From 1976 to 1999, Mr. Cristiani was a partner with Arthur Andersen & Company (“Arthur Andersen”), specializing in accounting services offered to public companies. Mr. Cristiani is presently self-employed. Mr. Cristiani has been a member of the Board of Directors of BioMarin Pharmaceutical Inc. since June 2002 and Nature’s Sunshine Produce Inc., since May 2004. Mr. Cristiani was a member of the Board of Directors of U.S. Aggregates, Inc. from December 1999 to February 2001.

     Val Kreidel was elected a director of the Company in January 1994. Ms. Kreidel has served as a financial analyst for NFT Ventures, Inc. and DSC Ventures, Inc., private investment companies, since May 1989. From May 1985 to May 1989, Ms. Kreidel served as a Vice President of Atlantic Financial Savings Bank in its Real Estate Loan Department. Since 1984, Ms. Kreidel has been employed as an analyst for The Canopy Group, Inc. (“Canopy”), a technology investment company.

     Darcy G. Mott, a certified public accountant, was elected a director of the Company in July 2002. Mr. Mott has served as Vice President, Treasurer and Chief Financial Officer of Canopy since May 1999. Mr. Mott has served as a member of the Board of Directors of SCO since March 2002. Mr. Mott also serves as a member of the Board of Directors of various privately held companies.

     John Repp has been a director of the Company since February 1998. Mr. Repp has been a sales consultant to several technology firms, including the Company, since 1996. From 1989 to 1995, Mr. Repp was the Vice President of Sales for Seagate Technology, Inc. (“Seagate”), a software developer and manufacturer of disk drives.

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Prior to joining Seagate, Mr. Repp spent twenty-two years with Control Data Corporation in various positions in sales and operations.

     Kent D. Smith was elected a director of the Company in August 2001. Mr. Smith has been Vice President, Sales of Wily Technology Inc. since June 2002. Mr. Smith was a partner with Smith, Diamond and Associates, a consulting firm specializing in sales and services consulting for technology companies, from February 2001 to June 2002. From 1995 to 2001, Mr. Smith was an Executive Vice President for Worldwide Sales with Legato Systems, Inc. (“Legato”), an organization that delivers worldwide enterprise class software solutions and services. Prior to that, Mr. Smith was Chief Operating Officer of Legato. From 1994 to 1995, Mr. Smith was Vice President, Emerging Market Products for Verifone, Inc. (“Verifone”), a global provider of secure electronic payment solutions for financial institutions, merchants and consumers. Prior to joining Verifone, Mr. Smith served as General Manager of IBM Corporation, China, from 1989 to 1993, and as a sales representative, sales manager, sales executive and regional manager of IBM Corporation from 1974 to 1988.

     Ralph J. Yarro, III was elected a director of the Company in March 2000. Mr. Yarro has worked for Canopy since April 1995 and is currently Canopy’s President, Chief Executive Officer and a member of its Board of Directors. Mr. Yarro is also the Chairman of the Board of Directors of SCO since September 1998. Mr. Yarro also serves as a member of the Board of Directors of various privately held companies.

     Michael Pehl was elected a director of the Company in June 2004. Mr. Pehl is an Operating Partner of Advent International Corporation. Prior to working with Advent, he was President and COO of Razorfish Inc., which he joined in 1999 following the merger of Razorfish and iCube. Mr. Pehl was Chairman and CEO of iCube from 1996 to 1999. Prior to iCube, he founded and spearheaded International Consulting Solutions (“ICS”), an SAP implementation and business process consultancy.

Executive Officers

     The following table sets forth the names and ages of all executive officers of the Company as of July 9, 2004. A summary of the background and experience of each of these individuals is set forth below.

             
NAME
  AGE
  POSITION(S)
Thomas P. Raimondi, Jr.
    46     Chairman, President and Chief Executive Officer
Keith Clark
    51     Executive Vice President Worldwide Operations
Todd Schaeffer
    38     Chief Financial Officer and Secretary
Richard L. Ruskin
    45     Executive Vice President for Sales and Marketing
Bill Decker
    62     Senior Vice President of the Office of the President
Nick Boland
    48     Senior Vice President European Finance

     Thomas P. Raimondi, Jr. was named President and Chief Executive Officer of the Company in December 1999 and Chairman of the Board of Directors in July 2002. From April 2001 until July 2002, Mr. Raimondi was Vice Chairman of the Board of Directors. From July 1998 to December 1999, Mr. Raimondi was the Company’s Chief Operating Officer. Mr. Raimondi served as Senior Vice President and General Manager from May 1996 until July 1998 and was Vice President, Strategic Planning, Product Marketing and Director of Marketing from 1987 until May 1996. Mr. Raimondi joined the Company in 1987. Since September 1999 Mr. Raimondi has served as a member of the Board of Directors of SCO.

     Keith Clark was named our Executive Vice President Worldwide Operations in February 2003. Mr. Clark was our Senior Vice President and General Manager Europe from April 2000 to February 2003 and our Vice President European Operations from April 1994 to April 2000. Mr. Clark joined the Company in January 1990 as European Client Services Manager. Before joining the Company, Mr. Clark served in a number of senior-management positions within Europe during a ten-year period for System Industries, Inc., a data-storage company in the DEC marketplace.

     Todd Schaeffer was named our Chief Financial Officer in August 2003. Mr. Schaeffer was our Vice President, Corporate Controller and Chief Accounting Officer from September 2001 to August 2003. Mr. Schaeffer

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served as Director of Accounting and Finance from June 2000 to September 2001 and Manager of Financial Planning and Analysis from June 1998 to May 2000. Mr. Schaffer joined the Company in 1995 and was our Senior Financial Analyst from February 1995 to June 1998. Before joining MTI, from September 1992 to February 1995, Mr. Schaeffer was a Senior Accountant at KPMG LLP.

     Richard L. Ruskin was named Executive Vice President for Sales and Marketing in September 2003. Mr. Ruskin rejoins the Company in the role he held at MTI from 1997- 2001. Mr. Ruskin spent a total of 11 years at MTI, starting as Regional Sales Manager in 1990 and eventually running the sales and marketing efforts for several years. Between 2001 and 2003, Mr. Ruskin ran the sales and Field Operations organization for Storability Software, a provider of Storage management software. Prior to joining MTI in 1990, Mr. Ruskin spent seven years in various Sales Management positions at System Industries, a pioneer in the plug compatible storage industry. Mr. Ruskin has now spent the last 20 years exclusively in the data storage business.

     Bill Decker was named Senior Vice President of the Office of the President in March 2003. Mr. Decker was our Senior Vice President of Business Development from March 1997 to March 2003. Mr. Decker joined the Company in March 1995 as Sales Manager. Prior to joining the Company, Mr. Decker served in Sales and Operations as a Partner in National Peripherals Inc. (NPI), for 6 years, prior to MTI acquiring NPI in 1995. Prior to NPI, Mr. Decker served 10 years with ADP in various executive level positions managing sales and service operations. 10 years prior were spent with Central Data Corporation in sales and sales management, selling large scale computer systems and peripheral products. Mr. Decker has 40 years experience in the data storage industry.

     Nick Boland was named our Senior Vice President European Finance in April 2000. Mr. Boland was our Vice President European Finance from April 1994 to April 2000 and our European Financial Controller from December 1993 to April 1994. Mr. Boland joined the Company in December 1993 as European Financial Controller. Before joining the Company, Mr. Boland served in a number of senior-management positions within Europe during a ten-year period for System Industries, Inc., a data-storage company in the DEC marketplace.

Audit Committee

     The members of the Audit Committee during fiscal year 2004 were Messrs. Cristiani, Repp and Smith. The Board of Directors has determined that the members of the Audit Committee are independent, as that term is defined in Rule 4200(a)(14) of the Nasdaq Rules.

     Mr. Cristiani was a partner with Arthur Andersen from 1976 to 1999, specializing in the auditing of public companies. The Board of Directors has determined, in accordance with Section 407 of the Securities Exchange Act of 1934, as amended, that Mr. Cristiani is an “Audit Committee financial expert.”

Stockholder Recommendation Of Board Candidates

     Any stockholder desiring to submit a recommendation for consideration by the Nominating Committee of a candidate that the stockholder believes is qualified to be a Board nominee at any upcoming stockholders meeting may do so by submitting that recommendation in writing to the Nominating Committee not later 120 days prior to the first anniversary of the date on which the proxy materials for the prior year’s annual meeting were first sent to stockholders. However, if the date of the upcoming annual meeting has been changed by more than 30 days from the date of the prior year’s meeting, the recommendation must be received within a reasonable time before the Company begins to print and mail its proxy materials for the upcoming annual meeting. In addition, the recommendation should be accompanied by the following information: (i) the name and address of the nominating stockholder and of the person or persons being recommended for consideration as a candidate for Board membership; (ii) the number of shares of voting stock of the Company that are owned by the nominating stockholder, his or her recommended candidate and any other stockholders known by the nominating stockholder to be supporting the candidate’s nomination; (iii) a description of any arrangements or understandings, that relate to the election of directors of the Company, between the nominating stockholder, or any person that (directly or indirectly through one or more intermediaries) controls, or is controlled by, or is under common control with, such stockholder and any other person or persons (naming such other person or persons); (iv) such other information regarding each such recommended candidate as would be required to be included in a proxy statement filed pursuant to the proxy rules of the Securities and Exchange Commission; and (v) the written consent of each such recommended candidate

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to be named as a nominee and, if nominated and elected, to serve as a director. Such nominations should be sent to the Nominating Committee care of the Corporate Secretary, MTI Technology Corporation, 14661 Franklin Avenue, Tustin, California 92780.

Compliance With Section 16(A) Of The Securities Exchange Act Of 1934

     Section 16(a) of the Securities and Exchange Act of 1934, as amended, requires that the Company’s executive officers and directors file reports of beneficial ownership on Form 3 and changes in beneficial ownership on Forms 4 and 5 with the Securities and Exchange Commission (“SEC”). Based solely on its review of the Forms 3, 4 and 5 filed on behalf of its executive officers and directors, the Company believes that, during the fiscal year ended April 3, 2004, all Section 16(a) filing requirements applicable to its executive officers and directors were complied with pursuant to the SEC rules.

Code Of Business Conduct

     We have adopted a Code of Business Conduct for our directors, officers and employees, that also includes specific ethical policies and principles that apply to our Chief Executive Officer and other key accounting and financial personnel. Copies of our Code of Business Conduct can be found on our website at www.mti.com. We intend to disclose, at this location on our website, any amendments to that Code and any waivers of the requirements of that Code that may be granted to our Chief Executive Officer or Chief Financial Officer.

Item 11. Executive Compensation

Compensation Of Directors And Executive Officers And Other Information

     The following table sets forth for each of the Company’s last three completed fiscal years the compensation of Thomas P. Raimondi, Jr., the Company’s Chairman, President and Chief Executive Officer, and the four most highly compensated executive officers as of the fiscal year ended April 3, 2004, other than Mr. Raimondi whose total annual salary and bonus for the last fiscal year exceeded $100,000 (collectively, the “Named Executive Officers”).

SUMMARY COMPENSATION TABLE

ANNUAL COMPENSATION

                                                 
                                    LONG TERM    
                                    COMPENSATI    
                                    ON AWARDS    
                                    NUMBER OF    
                                    SECURITIES    
NAME AND PRINCIPAL                           OTHER ANNUAL   UNDERLYING   ALL OTHER
POSITION
  YEAR
  SALARY ($)
  BONUS ($)
  COMPENSATION ($)
  OPTIONS (#)
  COMPENSATION ($)
Thomas P. Raimondi, Jr.
    2004       337,000             *       450,000       30,968 (2)
President, Chief Executive
    2003       353,687             *       336,000       18,653 (1)
Officer and Chairman of the Board
    2002       398,846             *       53,125       19,934 (1)
Keith Clark
    2004       330,333 (3)     26,782       41,218 (4)     200,000       6,222 (5)
Executive Vice President,
    2003       302,619 (3)           31,821 (4)     250,000       6,111 (5)
Worldwide Operations
    2002       271,908 (3)           *       31,250       3,132 (5)
Todd Schaeffer
    2004       192,461             *       200,000       3,497 (2)
Chief Financial Officer and
    2003       160,625       5,000       *       55,000       884 (2)
Secretary
    2002       125,942       154       *       55,579        
Nick Boland(6)
    2004       340,414 (7)           52,566 (8)     150,000       8,420 (9)
Senior Vice President,
    2003                                
European Finance
    2002                                
Richard L. Ruskin(10)
    2004       158,654             *       200,000       618 (2)
Executive Vice President,
    2003                                
Sales and Marketing
    2002                                


*   Amount does not exceed the lesser of $50,000 or ten percent of the total annual salary and bonus reported for the individual.

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(1)   Includes the amounts of $18,013 and $19,081 for medical reimbursements for fiscal year 2003 and 2002, respectively. Also includes the amounts of $640 and $853 for life insurance premium paid by the Company for fiscal year 2003 and 2002, respectively, with respect to term life insurance for the benefit of the Named Executive Officers.
 
(2)   Represents medical reimbursements.
 
(3)   Mr. Clark’s salary was paid in British Pounds and translated to U.S. Dollars at the applicable exchange rates. The annual increases were due to the weakening U.S. Dollar against the British Pound.
 
(4)   Includes the amounts of $22,025 and $17,024 for auto allowance for fiscal year 2004 and 2003, respectively. Also includes the amounts of $19,193 and $14,797 for pension for fiscal year 2004 and 2003, respectively.
 
(5)   Includes the amount of $2,506 and $2,732 for medical reimbursements for fiscal year 2004 and 2003, respectively. Also includes the amounts of $3,716, $3,379 and $3,132 for life insurance premium paid by the Company for fiscal year 2004, 2003 and 2002, respectively, with respect to term life insurance for the benefit of the Named Executive Officers.
 
(6)   Mr. Boland was elected as an officer of the Company on August 21, 2003.
 
(7)   Mr. Boland’s salary was paid in Euro and translated to U.S. Dollars at the applicable exchange rates.
 
(8)   Includes the amounts of $27,107 for auto allowance and $25,459 for pension for fiscal year 2004.
 
(9)   Includes the amount of $4,100 for medical reimbursements for fiscal year 2004. Also includes the amounts of $4,320 for life insurance premium paid by the Company for fiscal year 2004, with respect to term life insurance for the benefit of the Named Executive Officers.
 
(10)   Mr. Ruskin was elected as an officer of the Company on November 19, 2003.

Summary of Option Grants

     The following table sets forth the individual grants of stock options made by the Company during the fiscal year ended April 3, 2004 to each of the Named Executive Officers.

OPTION GRANTS IN LAST FISCAL YEAR

                                                 
    INDIVIDUAL GRANTS
  POTENTIAL REALIZABLE
                                    VALUE AT ASSUMED
            % OF                   ANNUAL RATES OF STOCK
            TOTAL                   PRICE APPRECIATION FOR
            OPTIONS                   OPTION TERM(2)
    NUMBER OF   GRANTED          
    SECURITIES   TO                
    UNDERLYING   EMPLOYEES                
    OPTIONS   IN FISCAL   PRICE   EXPIRATION   5%   10%
NAME
  GRANTED (#)
  YEAR(1)
  ($/SH)(1)
  DATE
  ($)
  ($)
Thomas P. Raimondi, Jr.(3)
    450,000       13 %     2.20       11/19/2013       622,606       1,577,805  
Todd Schaeffer(3)
    200,000       6 %     2.20       11/19/2013       276,714       701,247  
Keith Clark(3)
    200,000       6 %     2.20       11/19/2013       276,714       701,247  
Nick Boland(3)
    150,000       4 %     2.20       11/19/2013       207,535       525,935  
Richard L. Ruskin(4)
    200,000       6 %     1.75       09/22/2013       220,113       557,810  


(1)   Based on an aggregate of 3,385,000 options granted to directors and employees of the Company in fiscal year 2004, including the Named Executive Officers.
 
(2)   The potential realizable value is calculated based on the term of the option at its time of grant (ten years). It is calculated by assuming that the stock price appreciates at the indicated annual rate compounded annually for the entire term of the option and that the option is exercised and sold on the last day of its term for the appreciated stock price. No gain to the option holder is possible unless the stock price increases over the option term.
 
(3)   These options will fully vest on November 19, 2006.
 
(4)   These options will fully vest on September 22, 2005.

All options grants presented within this table have provisions accelerating the vesting in the event of a change in control.

Summary Of Options Exercised

     The following table sets forth information concerning exercises of stock options during the year ended April 3, 2004 by each of the Named Executive Officers and the value of unexercised options at April 3, 2004.

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AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR-END OPTION VALUES

                                 
                    NUMBER OF    
                    SECURITIES   VALUE OF
                    UNDERLYING   UNEXERCISED IN-
                    UNEXERCISED   THE-MONEY
                    OPTIONS AT FISCAL   OPTIONS AT FISCAL
                    YEAR END (#)   YEAR END ($)
    SHARES      
 
    ACQUIRED            
    ON   VALUE        
    EXERCISE   REALIZED(1)   EXERCISABLE/   EXERCISABLE/
NAME
  (#)
  ($)
  UNEXERCISABLE
  UNEXERCISABLE(2)
Thomas P. Raimondi, Jr.
                733,663/343,812       15,583/265,440  
Todd Schaeffer
                152,580/209,999       252,966/261,585  
Keith Clark
                551,250/262,500       779,843/368,906  
Nick Boland
                382,938/195,312       371,768/245,507  
Richard L. Ruskin
                50,000/150,000       82,500/247,500  


(1)   Value realized is based on estimated fair market value of Common Stock on the date of exercise minus the exercise price.
 
(2)   Value is based on the closing price of the Company’s Common Stock on the Nasdaq SmallCap Market as of April 2, 2004 ($3.40), minus the exercise price.

Directors’ Fees And Options

     Each non-employee director received annual compensation in the amount of $25,000, paid in quarterly installments at the beginning of each fiscal quarter. In addition, each Compensation Committee member, Audit Committee member, Chair of the Audit Committee and Lead Director received annual fees of $2,500, $5,000, $5,000 and $15,000 respectively. The Company’s employee director, Mr. Raimondi, did not receive any cash compensation for serving on the Board of Directors for the fiscal year ended April 3, 2004, but was reimbursed for expenses incurred in attending the meetings. Since February 1999, the Company has included each non-employee director with the named executives of the Company in the Company’s executive medical plan. During fiscal 2004, the Company paid $11,553, $12,403 and $413 for medical expenses not otherwise covered by insurance for Messrs. Repp, Cristiani and Smith, respectively.

     Since March 2000, the Company has included each non-employee director with the named executives of the Company in the Company’s investment and tax planning program. During fiscal year 2004, no expenses were reimbursed to, or fees incurred on behalf of, any director under this program.

     Each non-employee director of the Company is granted a nonqualified option to purchase 50,000 shares of Common Stock under the 2001 Non-Employee Director Option Program (the “Program”) upon election or appointment to the Board of Directors. These options will vest and become exercisable in three equal installments on each anniversary of the grant date. In addition, the Program provides that each non-employee director who is a director immediately prior to an annual meeting of the Company’s stockholders and who continues to be a director after such meeting, provided that such director has served as such for at least 11 months, will be granted an option to purchase 25,000 shares of Common Stock on the related annual meeting date. Options granted under the Program vest and become appreciable in three equal installments on each anniversary of their respective grant date. On August 21, 2003, the Company granted each non-employee director an option to purchase 25,000 shares of Common Stock with an exercise price of $1.07.

Severance Agreements

     The Company has entered into Severance Agreements with all Named Executive Officers. These agreements have two-year terms and are automatically renewable for successive one-year terms thereafter. Pursuant to their terms, if the executive’s employment with the Company is terminated within 12 months of a change in control of the Company (as defined in the agreement), the level of benefits the executive will receive depends on the reason for such termination. If the termination is for cause (as defined in the agreement), by reason

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of the executive’s disability or death or by the employee for other than “good reason” (as defined in the agreement), the Company will pay the employee all accrued, unpaid compensation, and, except where terminated by the Company for cause, a pro rata portion of the annual bonus under the Company’s bonus plan (no bonus plan is currently in effect). If the executive is terminated for any other reason by the Company or the executive terminates his employment with “good reason,” the Company will pay to the executive (i) all accrued, unpaid compensation, (ii) a pro rata portion of the annual bonus under the Company’s bonus plan and (iii) an amount equal to one year of annual base salary and annual bonus under the bonus plan (no bonus plan is currently in effect), and, for a period of 12 months following termination, will provide the executive and his dependents medical insurance benefits.

Compensation Committee Interlocks And Insider Participation

     As of April 3, 2004, the Compensation Committee consisted of Messrs. Mott, Repp, and Smith. None of these persons is or has been an officer or employee of the Company or any of its subsidiaries. In addition, there are no Compensation Committee interlocks among the Company and other entities involving its executive officers and members of the Board of Directors who serve as executive officers of such entities.

Compensation Committee Report On Executive Compensation

     The Compensation Committee members are Darcy G. Mott, John Repp and Kent D. Smith. Mr. Smith serves as the Chairman of the Compensation Committee. It has been determined that the members of the Compensation Committee are “independent” under NASD Marketplace Rule 4200 and responsible for establishing and administering the policies that govern the compensation of executive officers, including the Chief Executive Officer and the other Named Executive Officers. The Compensation Committee has furnished the following report on executive compensation:

COMPENSATION COMMITTEE REPORT

     The Compensation Committee (“Committee”) of the Board of Directors reviews and administers the Company’s various incentive plans, including the cash compensation levels of members of management, the Company’s bonus plan and the Company’s stock incentive plans.

     General Compensation Policy. The Committee’s fundamental compensation policy is to make a substantial portion of an executive’s total potential compensation contingent upon the financial performance of the Company. Accordingly, in addition to each executive’s base salary, the Company offers stock option awards to provide incentives to the executive officers through an equity interest in the Company. The Committee believes that the stockholders benefit by aligning the long-term interests of stockholders and employees.

     Stock Option Awards. The Company has granted stock options under its various stock option plans generally at prices equal to the fair market value of the Company’s Common Stock at the date of grant. The grants to executive officers are based on their responsibilities and relative positions in the Company and are considered an integral component of total compensation. The Committee believes the granting of options to be beneficial to stockholders, because such grants increase management’s incentive to enhance stockholder value. Option grants were proposed by the Chief Executive Officer and reviewed by the Committee based on the individual’s potential contribution to the Company’s overall performance. No specific quantitative weight was given to any particular performance measure. The Committee believes that stock option grants are necessary to retain and motivate key employees of the Company.

     Chief Executive Officer Compensation. In March 2000, the base annual salary rate of Mr. Raimondi, the Chief Executive Officer, was set at $425,000 upon recommendation by the Committee and approval of the Board of Directors. That salary was determined primarily based upon the Committee’s review of the salaries of chief executive officers at companies in the computer industry of similar size and in the same geographic area as the Company. In July 2002, Mr. Raimondi voluntarily reduced, on a temporary basis, his base annual salary rate to assist in the Company’s cost-cutting efforts. The reduced salary rate is still in effect and Mr. Raimondi’s total annual salary as of the fiscal year ended April 3, 2004 was $337,000. Mr. Raimondi did not receive an annual cash bonus in FY2004. At this point in the Company’s history, the Committee feels that equity incentive based

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compensation for Mr. Raimondi is in the best interests of the Company and its stockholders, in that it preserves cash, and is the best method of compensating Mr. Raimondi in that equity incentive compensation better aligns Mr. Raimondi’s compensation with the interests of the Company’s stockholders. Stock option grants to Mr. Raimondi are currently generally determined by the Board of Directors, upon recommendation of the Committee, based upon operational and financial accomplishments. Mr. Raimondi was awarded options to purchase 450,000 shares of Common Stock during fiscal 2004. The options were granted on November 19, 2003 at the fair market value exercise price per share and will fully vest on November 19, 2006.

     Policy Regarding Deductibility of Compensation. Section 162(m) of the Internal Revenue Code (“Section 162(m)”) provides that for federal income tax purposes, the otherwise allowable deduction for compensation paid or accrued to a covered employee of a publicly held corporation is limited to no more than $1 million per year. The Company is not presently affected by Section 162(m) because, for the fiscal year ended April 3, 2004, no executive officer’s compensation exceeded $1 million, and the Company does not believe that the compensation of any executive officer will exceed $1 million for the 2005 fiscal year. Options granted under the Company’s Stock Incentive Plan will be considered performance-based compensation. As performance-based compensation, compensation attributable to options granted under the Company’s Stock Incentive Plan and awarded to covered employees will not be subject to the compensation deduction limitations of Section 162(m).

    COMPENSATION COMMITTEE
Kent D. Smith, Chairman
Darcy G. Mott
John Repp

The foregoing Compensation Committee Report shall not be deemed to be incorporated by reference in any previous or future documents filed by the Company with the Securities and Exchange Commission under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent that the Company specifically incorporates the foregoing Compensation Committee Report by reference in any such document.

Company Stock Price Performance

     The following performance graph assumes an investment of $100 on March 31, 1999 and compares the change to April 3, 2004 in the market prices of the Common Stock with a broad market index (Nasdaq Stock Market — U.S.) and an industry index (Nasdaq Computer Manufacturer Index). The Company paid no dividends during the periods shown; the performance of the indexes is shown on a total return (dividend reinvestment) basis. The graph lines merely connect the prices on the dates indicated and do not reflect fluctuations between those dates.

     The following Company Stock Price Performance graph shall not be deemed to be incorporated by reference in any previous or future documents filed by the Company with the Securities and Exchange Commission under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent that the Company specifically incorporates the following Company Stock Price Performance graph by reference in any such document.

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(PERFORMANCE GRAPH)

Item 12. Security Ownership Of Certain Beneficial Owners And Management And Related Stockholders Matters

Securities Authorized For Issuance Under Equity Compensation Plans

     The following table sets forth information about stock of the Company that may be issued upon exercise of options under all of the Company’s equity compensation plans as of April 3, 2004

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                    Number of securities
                    remaining available for
    Number of securities           future issuance under
    to be issued upon   Weighted-average   equity compensation
    exercise of   exercise price per share   plans (excluding
    outstanding options,   of outstanding options,   securities reflected in
    warrants and rights   warrants and rights   column (a))
Plan category
  (a)
  (b)
  (c)
Equity compensation plans approved by security holders
    11,047,024     $ 4.8065       2,032,114  
Equity compensation plans not approved by security holders
                 
 
   
 
     
 
     
 
 
Total
    11,047,024     $ 4.8065       2,032,114  
 
   
 
     
 
     
 
 


(1)   Includes 891,046 shares of Common Stock available for future issuance under the 2001 Employee Stock Purchase Plan.

VOTING SECURITIES AND PRINCIPAL HOLDERS THEREOF

     The following table sets forth certain information regarding the beneficial ownership of Common Stock as of July 9, 2004, by (i) each person known by the Company to own more than 5% of such shares, (ii) each of the Company’s directors, (iii) the Company’s Chief Executive Officer and each of its named executive officers at April 3, 2004, and (iv) all directors and executive officers as a group. As of July 9, 2004, there were 34,621,664 issued and outstanding shares of Common Stock of the Company, not including treasury shares or shares issuable upon exercise of options or warrants. Ownership information has been supplied by the persons concerned.

                 
    SHARES    
    OWNED(2)
  BENEFICIALLY
NAME AND ADDRESS OF BENEFICIAL OWNER(1)
  NUMBER
  PERCENT
The Canopy Group,Inc.(3)
333 South 520 West, Suite 300
Lindon, Utah 84042
    14,463,285       41.78 %
Advent International Corporation(4)
75 State Street, 29th Floor
Boston, MA 02109
    5,347,671       13.38 %
Thomas P. Raimondi, Jr.(5)
    1,269,111       3.54 %
Franz L. Cristiani(6)
    85,001       *  
Val Kreidel(7)
    140,001       *  
Darcy G. Mott(8)
    14,504,953       41.85 %
John Repp(9)
    80,001       *  
Kent D. Smith(10)
    75,001       *  
Ralph J. Yarro, III(11)
    14,758,286       42.28 %
Michael Pehl(12)
    5,347,671       13.38 %
Keith Clark(13)
    645,274       1.83 %
Todd Schaeffer(14)
    211,391       *  
Richard L. Ruskin(15)
    95,667       *  
Bill Decker(16)
    758,750       2.17 %
Nick Boland(17)
    448,047       1.28 %
All directors and officers as a group (13 persons)(18)
    23,955,869       60.80 %


    *Less than 1%
 
(1)   Unless otherwise indicated, the address for each beneficial owner is 14661 Franklin Avenue, Tustin, CA 92780.
 
(2)   Except as indicated in the footnotes to this table and pursuant to applicable community property laws, the Company believes that the persons named in this table have sole voting and investment power with respect to all shares.
 
(3)   Based on the Schedule 13D filed with the SEC on February 24, 2004.
 
(4)   Based on the Schedule 13G filed with the SEC on June 29, 2004. Includes 1,191,159 shares issuable upon exercise of warrants. The warrants are exercisable after December 20, 2004. Please see discussion above under the section “Voting at the Annual Meeting” regarding the June 2004 private placement and the proxy agreement among Canopy and the Series A investors.
 
(5)   Includes 1,190,111 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(6)   Represents 85,001 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(7)   Represents 140,001 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.

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(8)   Represents shares owned by Canopy, plus 41,668 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004. Mr. Mott is Vice President, Treasurer and Chief Financial Officer of Canopy. Except to the extent of his pecuniary interest therein, Mr. Mott disclaims beneficial ownership of all shares held by Canopy.
 
(9)   Represents 80,001 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(10)   Represents 75,001 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(11)   Represents shares owned by Canopy, 10,000 shares owned by Mr. Yarro, plus 285,001 shares issuable upon exercise of options and warrants exercisable within 60 days of July 9, 2004. Mr. Yarro is President, Chief Executive Officer and a member of the Board of Directors of Canopy. Except to the extent of his pecuniary interest therein, Mr. Yarro disclaims beneficial ownership of all shares held by Canopy.
 
(12)   Represents shares owned by Advent International Corporation. Mr. Pehl is an Operating Partner of Advent. Except to the extent of his pecuniary interest therein, Mr. Pehl disclaims beneficial ownership of all shares held by Advent. Michael Pehl became a Director on July 17, 2004. Please see discussion above under the section “Voting at the Annual Meeting” regarding the June 2004 private placement and the proxy agreement among Canopy and the Series A investors.
 
(13)   Includes 645,062 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(14)   Represents 211,391 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(15)   Includes 91,667 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(16)   Includes 338,750 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(17)   Includes 447,047 shares issuable upon exercise of options exercisable within 60 days of July 9, 2004.
 
(18)   Represents shares held by entities affiliated with directors and executive officers of the Company as described above, including an aggregate of 4,821,860 shares issuable upon exercise of stock options and warrants exercisable within 60 days of July 9, 2004. The warrants held by Advent are exercisable after December 20, 2004.

Item 13. Certain Relationships And Related Transactions

Certain Relationships And Related Transactions

     In November 2002, the company entered into an agreement with Comerica Bank for a line of credit of $7,000,000 at an interest rate equal to the prime rate. The line of credit is secured by a letter of credit that is guaranteed by Canopy. Canopy’s guarantee was to mature on November 30, 2003, but on June 30, 2003, the company received an extension on the letter of credit for $7,000,000 until June 30, 2004. On June 18, 2004, the Company received an additional extension of the letter of credit for $7,000,000 until June 30, 2005. Also on June 18, 2004, the Company received an additional renewal on the Comerica line of credit for $7,000,000 until May 31, 2005. Canopy’s obligations under the guaranty are secured by a lien in favor of Canopy on all of the Company’s assets.

     During fiscal year 2004, the Company’s total purchases of goods and services from Directpointe (formerly known as Center 7, Inc.) were $140,000. Canopy has an equity interest in Directpointe. During fiscal year 2004, the Company’s total sales of goods and services to companies affiliated with Canopy were $85,000. These purchases and sales were made in the ordinary course of business on the Company’s standard terms and conditions.

     Thomas P. Raimondi, Jr., our President, Chief Executive Officer and Chairman of the Board of Directors, is a member of the Board of Directors of SCO. Mr. Yarro, a director of our Company, is President, Chief Executive Officer and a member of the Board of Directors of Canopy and is Chairman of the Board of Directors of SCO. Mr. Mott, a director of our Company, is Vice President, Treasurer and Chief Financial Officer of Canopy. Canopy beneficially owns 38.7% of the outstanding shares of common stock of SCO based on the Definitive Proxy Statement filed with the SEC on February 27, 2004.

     The Company’s certificate of incorporation authorizes the Company to enter into indemnification agreements with each of its directors and officers. The Company has entered into indemnification agreements with its directors and officers, which provide for the indemnification of the Company’s directors or officers against any and all expenses, judgments, fines, penalties and amounts paid in settlement, to the fullest extent permitted by law.

ITEM 14. Principal Accounting Fees And Services

Audit, Audit-Related And Tax Fees

     The following tables present fees for professional services rendered by KPMG LLP and Grant Thornton LLP for the audit of the Company’s annual financial statements in fiscal year 2003 and 2004, and fees billed for other services rendered by KPMG LLP and Grant Thornton LLP.

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FEES PAID TO KPMG LLP

                         
    Audit   Audit-Related   Tax
    Fees($)
  Fees($)(1)
  Fees($)(2)
2004
    35,340       51,100       78,185  
2003
    349,000       4,200       170,000  


(1)   Audit related fees consisted principally of audits of financial statements of certain employee benefit plans.
 
(2)   Other non-audit fees consisted principally of tax compliance and tax consulting services.

Financial Information Systems Design And Implementation Fees

     KPMG LLP performed no services and no fees were incurred or paid relating to financial information systems design and implementation during fiscal years 2003 and 2004.

All Other Fees

     No other services and no other fees were incurred or paid to KPMG LLP during fiscal years 2003 and 2004.

FEES PAID TO GRANT THORNTON LLP

                         
    Audit   Audit-Related   Tax
    Fees($)
  Fees($)(1)
  Fees($)(2)
2004
    374,000       15,000       83,000  


(1)   Audit related fees consisted principally of reviews of registration statements, issuance of consents and audits of financial statements of certain employee benefit plans.
 
(2)   Other non-audit fees consisted principally of tax compliance and tax consulting services.

Financial Information Systems Design And Implementation Fees

     Grant Thornton LLP performed no services and no fees were incurred or paid relating to financial information systems design and implementation during fiscal year 2004.

All Other Fees

     No other services and no other fees were incurred or paid to Grant Thornton LLP during fiscal year 2004.

Policy On Audit Committee Pre-Approval Of Audit And Permissible Non-Audit Services Of Independent Auditor

     Consistent with SEC policies regarding auditor independence, the Audit Committee has responsibility for appointing, setting compensation and overseeing the work of the independent auditor. In recognition of this responsibility, the Audit Committee has established a policy to pre-approve all audit and permissible non-audit services provided by the independent auditor.

     Prior to engagement of the independent auditor for the next year’s audit, the Company’s management will submit an aggregate of services expected to be rendered during that year for each of four categories of services to the Audit Committee for approval.

1.   Audit services include audit work performed in the preparation of financial statements, as well as work that generally only the independent auditor can reasonably be expected to provide, including comfort letters, statutory audits, and attest services and consultation regarding financial accounting and/or reporting standards.

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2.   Audit-related services are for assurance and related services that are traditionally performed by the independent auditor, including review of registration statements, issuances of consents, due diligence related to mergers and acquisitions, employee benefit plan audits, and special procedures required to meet certain regulatory requirements.
 
3.   Tax services include all services performed by the independent auditor’s tax personnel except those services specifically related to the audit of the financial statements, and includes fees in the areas of tax compliance, tax planning, and tax advice.
 
4.   Other fees are those associated with services not captured in the other categories. The Company generally doesn’t request such services from the independent auditor.

     Prior to engagement, the Audit Committee pre-approves these services by category of service. The fees are budgeted and the Audit Committee requires the independent auditor and management to report actual fees versus the budget periodically throughout the year by category of service. During the year, circumstances may arise when it may become necessary to engage the independent auditor for additional services not contemplated in the original pre-approval. In those instances, the Audit Committee requires specific pre-approval before engaging the independent auditor.

     The Audit Committee may delegate pre-approval authority to one or more of its members. The member to whom such authority is delegated must report, for informational purposes only, any pre-approval decisions to the Audit Committee at its next scheduled meeting.

PART IV

Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K

     The following Consolidated Financial Statements of MTI and the Reports of Independent Registered Public Accounting Firms are attached hereto beginning on pages 37 and 34, respectively.

     (a)(1) Consolidated Financial Statements:

     Report of Independent Registered Public Accounting Firm — Grant Thornton LLP

     Independent Auditors’ Report — BDO Simpson Xavier

     Report of Independent Registered Public Accounting Firm — KPMG LLP

     Consolidated Balance Sheets as of April 3, 2004 and April 5, 2003

     Consolidated Statements of Operations for the fiscal years ended 2004, 2003 and 2002

     Consolidated Statements of Stockholders’ Equity for the fiscal years ended 2004, 2003 and 2002

     Consolidated Statements of Cash Flows for the fiscal years ended 2004, 2003 and 2002

     Notes to Consolidated Financial Statements

     (2) The following financial statement schedule for fiscal years 2004, 2003 and 2002 is submitted herewith:

     Schedule II — Valuation and Qualifying Accounts (See page 77)

     All other schedules are omitted because they are not applicable or the required information is shown in the Consolidated Financial Statements or notes thereto.

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     (3) Exhibits

     An exhibit index has been filed as part of this report and is incorporated herein by this reference.

     (b) Reports on Form 8-K

     A Current Report on Form 8-K, dated February 17, 2004, was filed during the fourth quarter of 2004 pursuant to Item 12 containing the press release relating to the Company’s financial results for the quarterly period ended January 3, 2004. (The information in the foregoing report on Form 8-K, including all exhibits thereto, was furnished pursuant to Item 9 or 12 of Form 8-K and shall not be deemed “filed” for the purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference herein.)

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SIGNATURES

     Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized, on the 22nd day of December, 2004.

         
    MTI TECHNOLOGY CORPORATION
 
       
  By:   /s/ THOMAS P. RAIMONDI, JR.
     
 
      Thomas P. Raimondi, Jr.
      Chairman, President and Chief Executive Officer

     Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons in the capacities and on the dates indicated.

         
Signature
  Title
  Date
/s/ Thomas P. Raimondi, Jr.
  Chairman, President and Chief Executive Officer
(Principal Executive Officer)
  December 22, 2004
 
       
/s/ Scott Poteracki
  Chief Financial Officer and Secretary (Principal
Financial & Accounting Officer)
  December 22, 2004
 
       
Franz L. Cristiani*
  Director   December 22, 2004
 
       
Val Kreidel*
  Director   December 22, 2004
 
       
Darcy G. Mott*
  Director   December 22, 2004
 
       
Michael Pehl*
  Director   December 22, 2004
 
       
John Repp*
  Director   December 22, 2004
 
       
Kent D. Smith*
  Director   December 22, 2004
 
       
Ralph J. Yarro, III*
  Director   December 22, 2004
 
       
* Executed pursuant to a power of
       
attorney previously filed.
       
 
       
          /s/ Thomas P. Raimondi, Jr.
       

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INDEX TO FINANCIAL STATEMENTS

         
Report of Independent Registered Public Accounting Firm — Grant Thornton LLP
    48  
Independent Auditors’ Report — BDO Simpson Xavier
    49  
Report of Independent Registered Public Accounting Firm — KPMG LLP
    50  
Consolidated Balance Sheets as of April 3, 2004 and April 5, 2003
    51  
Consolidated Statements of Operations for the fiscal years ended April 3, 2004, April 5, 2003 and April 6, 2002
    52  
Consolidated Statements of Stockholders’ Equity for the fiscal years ended April 3, 2004, April 5, 2003 and April 6, 2002
    53  
Consolidated Statements of Cash Flows for the fiscal years ended April 3, 2004, April 5, 2003 and April 6, 2002
    54  
Notes to Consolidated Financial Statements
    55  
FINANCIAL STATEMENT SCHEDULE
       
Schedule II — Valuation and Qualifying Accounts
    77  

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Shareholders

MTI Technology Corporation

     We have audited the accompanying consolidated balance sheet of MTI Technology Corporation and subsidiaries as of April 3, 2004, and the related consolidated statements of operations, stockholders’ equity, and cash flows for the year then ended. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit. We did not audit the financial statements of MTI France SA, a consolidated subsidiary, which statements reflect total assets and revenue constituting 18% and 16%, respectively, in 2004 of the related consolidated totals. Those statements were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for MTI France SA, is based solely on the report of the other auditors.

     We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

     In our opinion, based on our audit and the report of the other auditors, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of MTI Technology Corporation and subsidiaries as of April 3, 2004, and the results of their consolidated operations and their consolidated cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America.

     We have also audited Schedule II of MTI Technology Corporation for the year ended April 3, 2004. In our opinion, this schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

/s/ GRANT THORNTON LLP

Irvine, California
June 7, 2004 (except for note 16,
as to which the date is June 18, 2004)

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INDEPENDENT AUDITORS’ REPORT

To the Board of Directors and Shareholders

MTI France SA:

     We have audited the balance sheet of MTI France SA as of April 3, 2004, and the related statements of operations, stockholders’ equity and cash flows for year ended April 3, 2004. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.

     We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

     In our opinion, such financial statements present fairly, in all material respects, the financial position of the Company as of April 3, 2004, and the results of its operations and cash flows for the year ended April 3, 2004, in conformity with accounting principles generally accepted in the United States of America.

/s/ BDO SIMPSON XAVIER

Dublin, Ireland
June 4, 2004

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors

MTI Technology Corporation:

     We have audited the accompanying consolidated balance sheet of MTI Technology Corporation and subsidiaries as of April 5, 2003, and the related consolidated statements of operations, stockholders’ equity and cash flows for each of the years in the two-year period ended April 5, 2003. In connection with our audits of the consolidated financial statements, we also have audited the accompanying financial statement schedule of Valuation and Qualifying Accounts for the years ended April 5, 2003 and April 6, 2002. These consolidated financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.

     We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

     In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of MTI Technology Corporation and subsidiaries as of April 5, 2003, and the results of their operations and their cash flows for each of the years in the two-year period ended April 5, 2003, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

     As discussed in note 1 to the consolidated financial statements, effective April 8, 2001, the Company adopted Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets.”

/s/ KPMG LLP

Costa Mesa, California
May 23, 2003, except as to the second
paragraph of note 7, which is as
of June 30, 2003

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MTI TECHNOLOGY CORPORATION

CONSOLIDATED BALANCE SHEETS

                 
    April 3,   April 5,
    2004
  2003
    (In thousands except per
    share amounts)
ASSETS
               
Current assets:
               
Cash and cash equivalents
  $ 3,017     $ 9,833  
Accounts receivable, less allowance for doubtful accounts and sales returns of $437 in 2004 and $476 in 2003
    22,352       13,913  
Inventories
    6,186       8,297  
Income tax refund and interest receivable
    2,464        
Prepaid expenses and other receivables
    5,792       4,330  
 
   
 
     
 
 
Total current assets
    39,811       36,373  
Property, plant and equipment, net
    1,401       2,833  
Goodwill, net
    5,184       5,184  
Other
    216       166  
 
   
 
     
 
 
 
  $ 46,612     $ 44,556  
 
   
 
     
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
Current liabilities:
               
Line of credit
  $ 3,933     $ 1,740  
Current portion of capital lease obligations
    176       161  
Accounts payable
    13,650       8,562  
Accrued liabilities
    6,097       7,321  
Accrued restructuring charges
    1,830       2,931  
Deferred revenue
    11,382       13,587  
 
   
 
     
 
 
Total current liabilities
    37,068       34,302  
Capital lease obligations, less current portion
    95       286  
Deferred revenue
    2,308       994  
 
   
 
     
 
 
Total liabilities
    39,471       35,582  
 
   
 
     
 
 
Commitments and contingencies
           
Stockholders’ equity:
               
Preferred stock, $.001 par value; authorized 5,000 shares; issued and outstanding, none
           
Common stock, $.001 par value; authorized 80,000 shares; issued and outstanding 34,473 and 32,969 shares in 2004 and 2003, respectively
    34       33  
Additional paid-in capital
    136,316       134,931  
Accumulated deficit
    (126,149 )     (122,282 )
Accumulated other comprehensive loss
    (3,060 )     (3,708 )
 
   
 
     
 
 
Total stockholders’ equity
    7,141       8,974  
 
   
 
     
 
 
 
  $ 46,612     $ 44,556  
 
   
 
     
 
 

See accompanying notes to consolidated financial statements.

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MTI TECHNOLOGY CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

Fiscal Years Ended April 3, 2004, April 5, 2003 and April 6, 2002

                         
    2004
  2003
  2002
    (In thousands, except per share data)
Net product revenue
  $ 46,442     $ 40,101     $ 69,519  
Service revenue
    36,723       42,285       48,399  
 
   
 
     
 
     
 
 
Total revenue, including $85, $104 and $836 from related parties in 2004, 2003 and 2002, respectively
    83,165       82,386       117,918  
 
   
 
     
 
     
 
 
Product cost of revenue
    37,499       32,948       56,466  
Service cost of revenue
    26,390       27,640       29,751  
 
   
 
     
 
     
 
 
Total cost of revenue
    63,889       60,588       86,217  
 
   
 
     
 
     
 
 
Gross profit
    19,276       21,798       31,701  
Operating expenses:
                       
Selling, general and administrative
    26,405       27,754       43,211  
Research and development
    776       5,238       12,742  
Restructuring charges
    (211 )     1,467       4,911  
 
   
 
     
 
     
 
 
Total operating expenses
    26,970       34,459       60,864  
 
   
 
     
 
     
 
 
Operating loss
    (7,694 )     (12,661 )     (29,163 )
Other income (expense):
                       
Interest expense
    (242 )     (299 )     (236 )
Interest income
    865       76       514  
Gain (loss) on foreign currency transactions
    29       639       (542 )
Other income, net
    8       1,231       3,904  
Equity in net loss and write-down of net investment of affiliate
                (9,504 )
 
   
 
     
 
     
 
 
Loss before income taxes
    (7,034 )     (11,014 )     (35,027 )
Income tax expense (benefit)
    (3,168 )     205       24,598  
 
   
 
     
 
     
 
 
Net loss
  $ (3,866 )   $ (11,219 )   $ (59,625 )
 
   
 
     
 
     
 
 
Net loss per share:
                       
Basic and diluted
  $ (0.12 )   $ (0.34 )   $ (1.83 )
 
   
 
     
 
     
 
 
Weighted average shares used in per share computations:
                       
Basic and diluted
    33,482       32,852       32,548  
 
   
 
     
 
     
 
 

See accompanying notes to consolidated financial statements.

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MTI TECHNOLOGY CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

Fiscal Years Ended April 3, 2004, April 5, 2003 and April 6, 2002

                                                         
                                    Accumulated        
    Common Stock   Additional           Other   Total   Total
   
  Paid-in   Accumulated   Comprehensive   Stockholders’   Comprehensive
    Shares
  Amount
  Capital
  Deficit
  Loss
  Equity
  Income (Loss)
                            (In thousands)                
Balance at April 7, 2001
    32,357     $ 33     $ 133,784     $ (51,050 )   $ (4,017 )   $ 78,750          
Net loss
                      (59,625 )           (59,625 )   $ (59,625 )
Foreign currency translation adjustments
                            338       338       338  
 
                                                   
 
 
Comprehensive loss for the year ended April 6, 2002
                                                  $ (59,287 )
 
                                                   
 
 
Exercise of stock options
    131             202                   202          
Treasury shares issued under Employee Stock Purchase Plan
    81             135                   135          
Treasury shares issued for employee compensation
    106             201       (27 )           174          
Issuance of warrant
                139                   139          
 
   
 
     
 
     
 
     
 
     
 
     
 
         
Balance at April 6, 2002
    32,675     $ 33     $ 134,461     $ (110,702 )   $ (3,679 )   $ 20,113          
Net loss
                      (11,219 )           (11,219 )   $ (11,219 )
Foreign currency translation adjustments
                            (29 )     (29 )     (29 )
 
                                                   
 
 
Comprehensive loss for the year ended April 5, 2003
                                                  $ (11,248 )
 
                                                   
 
 
Shares issued under Employee Stock Purchase Plan
    142             429       (361 )           68          
Shares issued for employee compensation
    152             41                   41          
 
   
 
     
 
     
 
     
 
     
 
     
 
         
Balance at April 5, 2003
    32,969     $ 33     $ 134,931     $ (122,282 )   $ (3,708 )   $ 8,974          
Net loss
                      (3,866 )           (3,866 )   $ (3,866 )
Foreign currency translation adjustments
                            648       648       648  
 
                                                   
 
 
Comprehensive loss for the year ended April 5, 2003
                                                  $ (3,218 )
 
                                                   
 
 
Shares issued under Employee Stock Purchase Plan
    133             76                   76          
Exercise of stock options
    1,331       1       1,269                   1,270          
Deferred compensation
                40                   40          
Warrants conversion
    40                                        
 
   
 
     
 
     
 
     
 
     
 
     
 
         
Balance at April 3, 2004
    34,473     $ 34     $ 136,316     $ (126,148 )   $ (3,060 )   $ 7,142          
 
   
 
     
 
     
 
     
 
     
 
     
 
         

See accompanying notes to consolidated financial statements.

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MTI TECHNOLOGY CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

Fiscal Years Ended April 3, 2004, April 5, 2003 and April 6, 2002

                         
    2004
  2003
  2002
            (In thousands)        
Cash flows from operating activities:
                       
Net loss
  $ (3,866 )   $ (11,219 )   $ (59,625 )
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
                       
Depreciation and amortization
    1,419       3,460       6,798  
Provision for (recovery of) sales returns and losses on accounts receivable, net
    25       (602 )     1,884  
Provision for inventory obsolescence
    1,469       1,950       8,850  
Loss on disposal of fixed assets
    210       1,186       1,101  
Deferred income tax expense
                24,300  
Deferred revenue
    (887 )     (1,315 )     (7,841 )
Net loss in equity of affiliate
                9,504  
Restructuring charges
    (211 )     1,467       4,473  
Non-cash compensation from issuance of restricted stock, options and warrants
    40       41       154  
Gain on sale of investment
          (1,070 )      
Changes in assets and liabilities, net of effect of acquisitions:
                       
Accounts receivable
    (8,540 )     4,680       1,743  
Inventories
    625       4,799       10,541  
Prepaid expenses, other receivables and other assets
    (4,087 )     2,678       (1,658 )
Accounts payable
    5,052       (940 )     (1,517 )
Accrued and other liabilities
    (2,202 )     (4,710 )     (5,089 )
 
   
 
     
 
     
 
 
Net cash provided by (used in) operating activities
    (10,953 )     405       (6,382 )
 
   
 
     
 
     
 
 
Cash flows from investing activities:
                       
Capital expenditures for property, plant and equipment
    (157 )     (378 )     (3,311 )
Proceeds from the sale of investment
          1,070        
Proceeds from the sale of property, plant and equipment
    50       7        
 
   
 
     
 
     
 
 
Net cash provided by (used in) investing activities
    (107 )     699       (3,311 )
 
   
 
     
 
     
 
 
Cash flows from financing activities:
                       
Borrowings under line of credit
    5,393       4,490        
Borrowings under note payable
                1,900  
Proceeds from issuance of common stock, treasury shares and exercise of options and warrants
    1,346       68       496  
Payment of capital lease obligations
    (176 )     (149 )     (152 )
Repayments of notes payable
          (1,900 )      
Repayments of line of credit
    (3,200 )     (2,750 )      
 
   
 
     
 
     
 
 
Net cash provided by (used in) financing activities
    3,363       (241 )     2,244  
 
   
 
     
 
     
 
 
Effect of exchange rate changes on cash
    881       550       (451 )
 
   
 
     
 
     
 
 
Net increase (decrease) in cash and cash equivalents
    (6,816 )     1,413       (7,900 )
Cash at beginning of year
    9,833       8,420       16,320  
 
   
 
     
 
     
 
 
Cash at end of year
  $ 3,017     $ 9,833     $ 8,420  
 
   
 
     
 
     
 
 
Supplemental disclosures of cash flow information:
                       
Cash paid during the period for:
                       
Interest
  $ 241     $ 443     $ 98  
Income taxes
    166       105        

See accompanying notes to consolidated financial statements.

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except share and per share data)

(1) Summary of Significant Accounting Policies

     Company

     The Company is a system integrator providing storage solutions for the mid-range enterprise market. Historically, the Company partnered with independent storage technology companies to develop, integrate and maintain high-performance, high-availability storage solutions for the mid-range and Global 2000 companies worldwide. The Company continues to service select third party hardware and software, and its professional services organization provides planning, consulting and implementation support for storage products from other leading vendors. The Company believes that there is as much value in creating, integrating, implementing and providing umbrella services around these various technologies as there is in developing the raw technology. On March 31, 2003, the Company entered into a reseller agreement with EMC Corporation, a world leader in information storage systems, software, networks and services, and has become a reseller and service provider of EMC Automated Networked Storage TM systems and software. Although the Company intends to focus primarily on EMC products, it will continue to support and service customers that continue to use MTI-branded RAID controller technology and partnered independent storage technology. The Company believes that it can differentiate itself through its ability to offer umbrella services on a wide range of storage products covering online storage, replicated site environments and data protection from leading technology companies.

     Basis of Financial Statement Presentation and Principles of Consolidation

     The accompanying consolidated financial statements include the accounts of MTI Technology Corporation and subsidiaries (the “Company” or “MTI”). All significant inter-company accounts and transactions have been eliminated in consolidation.

     Fiscal Year

     The Company’s year-end is the first Saturday following March 31. Fiscal years 2004, 2003 and 2002 ended on April 3, April 5 and April 6, respectively, and consisted of 52 weeks.

     Revenue Recognition

     The Company derives revenue from sales of products and services. The following summarizes the major terms of the contractual relationships with customers and the manner in which the Company accounts for sales transactions.

Product Revenue

     Product revenue consists of the sale of disk and tape based hardware and software. The Company recognizes revenue pursuant to Emerging Issues Task Force No. 00-21, “Revenue Arrangements with Multiple Deliverables” (EITF 00-21) and Staff Accounting Bulletin No. 104, “Revenue Recognition in Financial Statements” (SAB 104). In accordance with these revenue recognition guidelines, if the arrangement between the Company and the customer does not require significant production, modification, or customization of hardware or software, revenue is recognized when all of the following criteria are met:

o   persuasive evidence of an arrangement exists
 
o   delivery has occurred
 
o   fee is fixed or determinable
 
o   collectibility is probable

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

     Generally, product sales are not contingent upon customer testing, approval and/or acceptance. However, if sales require customer acceptance or include significant post-delivery obligations, revenue is recognized upon customer acceptance or fulfillment of any post delivery obligations. Product sales with post-delivery obligations generally relate to professional services, including installation services or other projects. Professional services revenue is not recognized until the services have been completed. In transactions where the Company sells directly to an end user, generally there are no acceptance clauses. However, the Company also sells to leasing companies who in turn lease the product to their lessee, the end user. For this type of sale, generally there are lessee acceptance criteria in the purchase order or contract. For these transactions, the Company defers the revenue until written acceptance is received from the lessee. Generally, credit terms with customers range from net 30 to net 60.

     Product returns are estimated in accordance with Statement of Financial Accounting Standards No. 48, “Revenue Recognition When Right of Return Exists” (Statement 48). Customers have a limited right of return which allows them to return non-conforming products. Accordingly, reserves for estimated future returns are provided in the period of sale based on contractual terms and historical data and are recorded as a reduction of revenue.

     In bundled sales transactions that include software combined with hardware and services, the software is considered incidental to the overall product solution, and therefore the Company applies EITF 00-21 to account for these multiple element transactions – see disclosure below. Sales of software products on a standalone basis are not frequent. These sales are generally “add-on” sales to customers that have previously purchased hardware. For sales transactions that include software products on a stand-alone basis, coupled with software maintenance contracts, the Company applies Statement of Position 97-2, “Software Revenue Recognition” (SOP 97-2) as amended by Statement of Position 98-9 “Modification of SOP 97-2 with Respect to Certain Transactions” (SOP 98-9). The total arrangement revenue is allocated between the software and the services using the residual method, whereby revenue is first allocated to the undelivered element, the services, using VSOE. VSOE for software service contracts is established based on stand-alone renewal rates. Revenue is recognized from software licenses, provided all the revenue recognition criteria noted above have been met, at the time the license is delivered to the customer. The Company recognizes revenue from software maintenance agreements ratably over the term of the related agreement.

Service revenue

     Service revenue is generated from the sale of professional services, maintenance contracts and time and materials billings. The following describes how the Company accounts for service transactions, provided all the other revenue recognition criteria noted above have been met.

     Generally, professional services revenue, which includes installation, training, consulting and engineering services, is recognized upon completion of the services. If the professional service project includes independent milestones, revenue is recognized as milestones are met and upon acceptance from the customer.

     Maintenance revenue is generated from the sale of hardware and software maintenance contracts. These contracts generally range from one to three years. Maintenance revenue is recorded as deferred revenue and is recognized as revenue ratably over the term of the related agreement.

Multiple element arrangements

     The Company considers sales contracts that include a combination of systems, software or services to be multiple element arrangements. Revenue recognition with multiple elements whereby software is incidental to the overall product solution is recorded in accordance with EITF 00-21. An item is considered a separate element if it involves a separate earnings process. If an arrangement includes undelivered elements that are not essential to the functionality of the delivered elements, the Company uses the residual method, whereby it defers the fair value of the undelivered elements with the residual revenue allocated to the delivered elements. Discounts are allocated only to the delivered elements. Fair value is determined by examining renewed service contracts and based upon the price charged when the element is sold separately or prices provided by vendors if sufficient standalone sales information is not available. Undelivered elements typically include installation, training, warranty, maintenance and professional services.

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

Other

     The Company considers sales transactions that are initiated by EMC and jointly negotiated and closed by EMC and MTI’s sales-force as Partner Assisted Transactions (PATs). The Company recognizes revenue from PATs on a gross basis, in accordance with EITF 99-19, because it bears the risk of returns and collectability of the full accounts receivable. Product revenue of the delivered items is recorded at residual value upon pickup by a common carrier for Free Carrier (FCA) origin shipments. For FCA destination shipments, product revenue is recorded upon delivery to the customer. If the Company subcontracts the undelivered items such as maintenance and professional services to EMC or other third parties, it records the costs of those items as deferred costs and amortizes the costs using the straight-line method over the life of the contract. The Company defers the revenue for the undelivered items at fair value based upon list prices with EMC according to EITF 00-21. At times, MTI’s customers prefer to enter into service agreements directly with EMC. In such instances, the Company may assign the obligation to perform services to EMC, or other third parties, and therefore, it does not record revenue nor defer any costs related to the services. Finally, upon assignment of maintenance and professional services to EMC, EMC may elect to subcontract the professional services to MTI. In this case, the Company defers the revenue for the professional services at fair value according to EITF 00-21.

     For certain sales transactions, an escrow account is utilized to facilitate payment obligations between all parties involved in the transaction. In these transactions, generally the end-user or lessor will fund payment into the escrow account and the bank will distribute the payment to each party in the transaction pursuant to mutually agreed upon escrow instructions. The Company only receives cash which represents the net margin on the sales transaction. For these transactions, the Company recognizes revenue on a net basis as the Company does not bear credit risk in the transaction.

     The Company may allow customers that purchase new equipment to trade-in used equipment to reduce the purchase price under the sales contract. These trade-in credits are considered discounts and are allocated to the delivered elements in accordance with EITF 00-21. Thus, product revenue from trade-in transactions is recognized net of trade-in value.

Shipping

     Products are generally drop-shipped directly from suppliers to MTI’s customers. Upon the supplier’s delivery to a carrier, title and risk of loss pass to the Company. Revenue is recognized at the time of shipment when shipping terms are Free Carrier (FCA) shipping point as legal title and risk of loss to the product pass to the customer. For FCA destination shipments, revenue is recorded upon delivery to the customer. For legacy sales, product is shipped from the Company’s facility in Ireland. The Company retains title and risk of loss until the product clears U.S. customs and therefore revenue is not recognized until the product clears customs for FCA origin shipments and upon delivery to the customer for FCA destination shipments.

     Cash and Cash Equivalents

     The Company considers all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. There were no cash equivalents at April 3, 2004 and April 5, 2003.

     Inventories

     Inventories are valued at the lower of cost (first-in, first-out) or market, net of an allowance for obsolete, slow-moving, and unsalable inventory. The allowance is based upon management’s review of inventories on-hand, historical product sales, and future sales forecasts. Historically, the Company used rolling forecasts based upon anticipated product orders to determine its component and product inventory requirements. As a reseller, the Company procures inventory primarily upon receipt of purchase orders from customers; as such, management believes the risk of EMC production inventory obsolescence is low. The Company’s logistics inventory reserve is based on a combined analysis of historical usage, current and anticipated maintenance contract renewals and future product sales.

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

     Property, Plant and Equipment

     Property, plant and equipment are recorded at cost. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets. Plant equipment, office furniture and fixtures are amortized over a period of two to five years. Computer equipment is amortized over five years. Leasehold improvements are amortized using the straight-line method over the lesser of the useful life of the improvement or the term of the related lease. Maintenance and repairs are expensed as incurred. Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. If the fair value is less that the carrying value, a loss is recognized for the difference.

     Allowance for Doubtful Accounts and Sales Returns

     The Company maintains an allowance for doubtful accounts for estimated sales returns and losses resulting from the inability of our customers to make payments for products sold or services rendered. The Company analyzes accounts receivable, customer credit-worthiness, current economic trends and changes in customer payment terms when evaluating the adequacy of the allowance for doubtful accounts and sales returns. All new customers are reviewed for credit-worthiness upon initiation of the sales process.

     Accounting for Stock-Based Compensation

     The Company accounts for its stock-based awards to employees in accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25) and related interpretations, rather than the alternative fair value accounting allowed by Statement of Financial Accounting Standards No. (Statement) 123, “Accounting for Stock Based Compensation.” APB 25 provides that compensation expense relative to the Company’s employee stock options is measured based on the intrinsic value of stock options granted and the Company recognizes compensation expense in its statement of operations using the straight-line method over the vesting period for fixed awards. Under Statement 123, the fair value of stock options at the date of grant is recognized in earnings over the vesting period of the options. In December 2002, the Financial Accounting Standards Board (FASB) issued Statement 148, “Accounting for Stock-Based Compensation — Transition and Disclosure.” Statement 148 amends Statement 123 to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, Statement 148 amends the disclosure requirements of Statement 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method on reported results. The Company adopted the disclosure provisions of Statement 148 as of April 5, 2003, and continues to follow APB 25 for stock-based employee compensation.

     The following table shows pro forma net loss as if the fair value method of Statement 123 had been used to account for stock-based compensation expense:

                         
    2004
  2003
  2002
Net loss, as reported
  $ (3,866 )   $ (11,219 )   $ (59,625 )
Add: Stock-based employee compensation expense included in reported net loss, net of related tax effects
          41       174  
Deduct: Stock-based employee compensation expense determined under the fair value based method for all awards, net of related tax effects
    (5,531 )     (9,413 )     (16,440 )
 
   
 
     
 
     
 
 
Pro forma net loss
  $ (9,397 )   $ (20,591 )   $ (75,891 )
 
   
 
     
 
     
 
 
Net loss per share:
                       
Basic and diluted, as reported
  $ (0.12 )   $ (0.34 )   $ (1.83 )
 
   
 
     
 
     
 
 
Basic and diluted, pro forma
  $ (0.28 )   $ (0.63 )   $ (2.33 )
 
   
 
     
 
     
 
 

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

     The fair value of the options granted has been estimated at the date of grant using the Black-Scholes option-pricing model. The following represents the weighted-average fair value of options granted and the assumptions used for the calculations:

                         
    2004
  2003
  2002
Weighted-average fair value of options granted
  $ 1.49     $ 0.49     $ 1.48  
Expected volatility
    0.9       1.5       1.2  
Risk-free interest rate
    3.15 %     2.78 %     4.62 %
Expected life (years)
    5.0       5.0       5.0  
Dividend yield
                 

     The Black-Scholes option valuation model was developed for use in estimating the value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including expected stock price volatility.

     Income Taxes

     Under the asset and liability method of Statement 109, “Accounting for Income Taxes,” deferred tax assets and liabilities are determined based on differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities and operating loss and tax credit carryforwards using enacted tax rates in effect for the year in which the differences are expected to reverse, net of a valuation allowance for deferred tax assets which are determined to not be more likely than not realizable. Under Statement 109, the effect on deferred taxes of a change in tax rates is recognized in operations in the period that includes the enactment date.

     Intangible Assets and Goodwill

     In July 2001, the Financial Accounting Standards Board (“FASB”) issued Statement 141, “Business Combinations,” and Statement 142, “Goodwill and Other Intangible Assets.” The Company chose to early adopt the provisions of Statement 142 effective April 8, 2001. The Company adopted Statement 141 immediately upon its release. Statement 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001. Statement 141 also specifies criteria intangible assets acquired in a purchase method business combination must meet to be recognized and reported apart from goodwill. Statement 142 requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment annually or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors the Company considers important which could trigger an impairment review include significant underperformance relative to expected historical or projected future operating results, significant changes in the manner of use of acquired assets or the strategy for the overall business, and significant negative industry or economic trends. Upon the adoption of Statement 142, the carrying value of the Company’s goodwill and other intangible assets was determined to not be impaired. The Company completed its annual assessment for goodwill impairment in the fourth quarter of fiscal year 2004. Based upon factors such as the market valuation approach, comparison between the reporting units’ estimated fair value using discounted cash flow projections over the next three years, and carrying value, the Company concluded that there was no impairment of goodwill. The provisions of Statement 142 were in effect for all periods presented.

     Foreign Currency Translation

     The Company follows the principles of Statement 52, “Foreign Currency Translation,” using the local currencies as the functional currencies of its foreign subsidiaries. Accordingly, all assets and liabilities outside the U.S. are translated into dollars at the rate of exchange in effect at the balance sheet date. Income and expense items are translated at the weighted-average exchange rates prevailing during the period. Net foreign-currency translation adjustments accumulate as other accumulated comprehensive loss in stockholders’ equity. A net foreign currency transaction exchange gain (loss) of $29, $639 and $(542) was realized in fiscal years 2004, 2003 and 2002, respectively.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

     Concentration of Credit Risk and Dependence upon Suppliers

     Credit is extended to all customers based on financial condition and, generally, collateral is not required. Concentrations of credit risk with respect to trade receivables are limited because of the large number of customers comprising the Company’s customer base and dispersion across many different industries and geographies. As of April 3, 2004, one customer represented approximately 11% of accounts receivable. Effective March 31, 2003, the Company became a reseller of EMC disk-based storage products. Therefore, the Company depends on EMC to manufacture and supply the Company with their storage products. If the supply of EMC disk-based storage products becomes disrupted for any reason, the Company’s operations and financial condition could be adversely impacted.

     Loss Per Share

     Basic loss per share is computed by dividing loss available to common shareholders by the weighted-average number of common shares outstanding during the period. Diluted loss per share is computed by dividing loss available to common shareholders by the weighted-average number of common shares outstanding during the period increased to include the number of additional common shares that would have been outstanding if the dilutive potential common shares had been issued. The dilutive effect of outstanding options and warrants is reflected in diluted loss per share by application of the treasury-stock method. Such shares are not included when there is a loss from continuing operations as the effect would be anti-dilutive.

     Fair Value of Financial Instruments

     Statement 107, “Disclosure about Fair Value of Financial Instruments,” requires all entities to disclose the fair value of financial instruments, both assets and liabilities recognized and not recognized on the balance sheet, for which it is practicable to estimate fair value. Statement 107 defines fair value of a financial instrument as the amount at which the instrument could be exchanged in a current transaction between willing parties. As of April 3, 2004, the fair value of all financial instruments, including cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities, capital lease obligation and line of credit approximate carrying value due to their short-term nature and variable market interest rates.

     Reclassifications

     Certain reclassifications have been made to the fiscal year 2003 and 2002 financial statements to conform with the fiscal year 2004 presentation.

     Use of Estimates

     The financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, and as such, include amounts based upon informed estimates and judgments of management. Actual results could differ from these estimates.

     Recently Adopted Accounting Standards

     The FASB issued Statement 143, “Accounting for Asset Retirement Obligations,” addressing financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. Statement 143 requires an enterprise to record the fair value of an asset retirement obligation as a liability in the period in which it incurs a legal obligation associated with the retirement of a tangible long-lived asset. Statement 143 also requires the enterprise to record the contra to the initial obligation as an increase to the carrying amount of the related long-lived asset and to depreciate that cost over the remaining useful life of the asset. The liability is changed at the end of each period to reflect the passage of time and changes in the estimated future cash flows underlying the initial fair value measurement. Statement 143 is effective for fiscal years beginning after June 15, 2002. The Company adopted Statement 143 in the first quarter of fiscal year 2004. The adoption did not have a material impact on the results of its operations or financial position.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

     The Emerging Issues Task Force “EITF” reached a consensus on its conclusions for EITF 00-21, “Revenue Arrangements with Multiple Deliverables.” EITF 00-21 provides accounting guidance for customer solutions where delivery or performance of products, services and/or performance may occur at different points in time or over different periods of time. Companies are required to adopt this consensus for fiscal periods beginning after June 15, 2003, with early application permitted. The Company adopted EITF 00-21 in the first quarter of fiscal year 2004. The adoption did not have a material impact on the results of its operations or financial position.

     In April 2003, the FASB issued Statement 149, an amendment of FASB Statement No. 133, “Accounting for Derivative Instruments and Hedging Activities, which requires prospective application for contracts entered into or modified after June 30, 2003, except for contracts which exist in fiscal quarters that began prior to June 15, 2003, and for hedging relationships designated after June 30, 2003. For existing contracts for fiscal quarters that began prior to June 15, 2003, the provisions of this Statement that relate to Statement 133 Implementation Issues should continue to be applied in accordance with their respective effective dates. Statement 149 requires that contracts with comparable characteristics be accounted for similarly. The Company adopted Statement 149 in the second quarter of fiscal year 2004. Because the Company discontinued its hedging activities in fiscal 2003, the adoption did not have a material impact on the results of its operations or financial position.

     In May 2003, the FASB issued Statement 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” Statement 150 establishes standards for classifying and measuring certain financial instruments with characteristics of both liabilities and equity. Statement 150 requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances) because that financial instrument embodies an obligation of the issuer. Statement 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective for the first interim period beginning after June 15, 2003, except for mandatorily redeemable financial instruments of a nonpublic entity for which this statement is effective for fiscal periods beginning December 15, 2003. The Company adopted Statement 150 in the second quarter of fiscal year 2004. The adoption did not have a material impact on the results of its operations or financial position.

     In January 2003, the FASB issued Interpretation 46, “Consolidation of Variable Interest Entities.” In December 2003, the FASB issued Interpretation 46 (Revised) (“FIN 46-R”) to address certain Interpretation 46 implementation issues. FIN 46-R requires that the assets, liabilities and results of activities of a Variable Interest Entity (“VIE”) be consolidated into the financial statements of the enterprise that has a controlling interest in the VIE. FIN 46-R also requires additional disclosures by primary beneficiaries and other significant variable interest holders. For entities acquired or created before February 1, 2003, this interpretation is effective no later than the end of the first interim or reporting period ending after March 15, 2004, except for those VIE’s that are considered to be special purpose entities, for which the effective date is no later than the end of the first interim or annual reporting period ending after December 15, 2003. For all entities acquired subsequent to January 31, 2003, this interpretation is effective as of the first interim or annual period ending after December 31, 2003. The adoption of the provisions of the interpretation did not have a material impact on the Company’s results of operations or financial position.

     In December 2003, The Securities and Exchange Commission issued Staff Accounting Bulletin No. 104 (“SAB No. 104”), which supercedes SAB No. 101 “Revenue Recognition in Financial Statements.” The primary purpose of SAB No. 104 is to rescind accounting guidance contained in SAB No. 101 related to multiple element revenue arrangements that was superceded as a result of the issuance of EITF 00-21. While the wording of SAB No. 104 has changed to reflect the issuance of EITF 00-21, the revenue recognition principles of SAB No. 101 remain largely unchanged by the issuance of SAB No. 104. The adoption of SAB No. 104 did not have a material impact on the Company’s financial position, results of operations or liquidity.

(2) Restructuring and Other Reductions in Staff

     Due to a reduction in volume as well as a shift in focus from developing technology to becoming a product integrator, the Company initiated an approved restructuring plan in the fourth quarter of fiscal year 2002. It was determined that certain underutilized facilities would be exited and a significant number of positions, primarily in sales, marketing, research and development and manufacturing would be terminated. It was also determined that the Company’s manufacturing and integration facility would be consolidated in Dublin, Ireland. The majority of the

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

restructuring actions were completed by the first quarter of fiscal year 2003. The Company remains liable on the leases of its abandoned facilities through fiscal year 2006. Further detail regarding the restructuring charge is below.

     During the fourth quarter of fiscal year 2002, the Company recorded a restructuring charge of $4,911 which consisted of $4,266, $277 and $368 charges related to the abandonment of either underutilized or historically unprofitable facilities, a headcount reduction of 56 employees, and the disposal of certain fixed assets, respectively. The cash outflow of the restructuring charge was $277, related to severance, of which $70 was paid in fiscal year 2002. The remaining $207 was paid in the first quarter of fiscal year 2003.

     During the first quarter of fiscal year 2003, the Company recorded a restructuring charge of $1,046 which consisted of charges of $545 related to a headcount reduction of 39 employees, or 15% of the Company’s workforce, and $501 related to the disposal or abandonment of fixed assets. Of the 39 employees terminated, 14, 3, 6, 1, 14, and 1 were from the Sales, Marketing, General and Administrative, Customer Service, Research and Development, and Manufacturing departments, respectively. The cash outflow of the restructuring charge was $545 related to severance, which was paid during fiscal year 2003.

     In the third quarter of fiscal year 2003, the Company recorded a $221 additional restructuring charge due to lower than anticipated lease payments from sub-lessees in its Sunnyvale, California and Raleigh, North Carolina facilities.

     In the fourth quarter of fiscal year 2003, the Company recorded a $200 restructuring charge due to lower than anticipated lease payments from sub-lessees in its European facilities.

     The Company also completed consolidating its manufacturing facility to Dublin, Ireland, in July 2002, and reduced the amount of space leased for its corporate headquarters by moving from Anaheim, California to Tustin, California in January 2003.

     In the first quarter of fiscal year 2004, the Company recorded an additional $40 restructuring charge due to lower than anticipated lease payments from sub-lessees in its Sunnyvale, California facility. Also in the first quarter of fiscal year 2004, the Company eliminated 18 full-time positions, 1, 16 and 1 from the domestic general and administrative, global customer solutions and manufacturing departments, respectively.

     In the second quarter of fiscal year 2004, the Company reversed $251 of the restructuring charge due to higher than anticipated lease payments from sub-lessees and usage of space in its Westmont, Illinois facility.

     In the third quarter of fiscal year 2004, the Company eliminated 21 full time positions, 8 from its field service department, 7 from its manufacturing department, 2 from its general and administrative department and 4 from its sales department. The cash outflow from this reduction in staff was $228 related to severance, which was paid in the third quarter of fiscal year 2004. This charge was not reflected as a restructuring charge as it was not part of the Company’s formal restructuring plan.

     The changes to the restructuring reserve established in the fourth quarter of fiscal year 2002 are as follows:

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

         
Abandoned facilities:
       
Balance as of April 6, 2002
  $ 4,266  
Add: fiscal year 2003 restructuring charges
    421  
Less: fiscal year 2003 utilization
    (1,756 )
 
   
 
 
Balance as of April 5, 2003
    2,931  
Less: Current year restructuring charges, net of reversal
    (211 )
Less: Current year utilization
    (890 )
 
   
 
 
Balance as of April 3, 2004
    1,830  
Workforce reduction:
       
Balance as of April 6, 2002
    207  
Add: Current year severance charges
    545  
Less: Current year severance payments
    (752 )
 
   
 
 
Balance as of April 5, 2003 and April 3, 2004
     
 
   
 
 
Total accrued restructuring, as of April 3, 2004
  $ 1,830  
 
   
 
 

(3) Inventories

     Inventories consist of the following:

                 
    April 3, 2004
  April 5, 2003
Service spares and components
  $ 3,147     $ 4,942  
Work-in-process
    2       296  
Finished goods
    3,037       3,059  
 
   
 
     
 
 
 
  $ 6,186     $ 8,297  
 
   
 
     
 
 

     The above amounts are shown net of an inventory reserve for slow moving and obsolete items of $5,387 and $6,754 as of April 3, 2004 and April 5, 2003, respectively, of which $4,219 and $4,100 related to service spares and component inventory. For the year ended April 3, 2004, the Company recorded an additional inventory provision of $1,469 and reduced the reserve by $2,836 related to inventory disposals. The total inventory write-down in fiscal year 2004 was comprised of $1,200 related to logistics (spare parts) inventory and $269 related to production inventory. The logistics inventory was written down due to the continued decline in our legacy product installed base. As maintenance contracts expire and are not renewed, the amount of logistics inventory needed to support the legacy installed base decreases. The Company performs a logistic inventory reserve analysis quarterly based on review of historical usage, current and anticipated maintenance contract renewals and future product sales. The $0.2 million write-down of production inventory was due to technological obsolescence of certain legacy products.

     The inventory write-down in fiscal year 2003 was $1.9 million. This write-down was comprised of $0.9 million related to logistics inventory and $1.0 million related to production inventory. The logistics inventory write-down was due to the declining installed base as noted above. The production inventory write-down was related to technological obsolescence of legacy products, specifically for the Vivant, Vcache and S-200 product lines.

     The inventory write-down in fiscal year 2002 was $8.8 million. This write-down all related to production inventory. This write-down was the result of two factors: 1) due to declining revenue it was determined that there was excess inventory on hand to meet future demand and 2) In 2002, MTI introduced a new generation product line called the V400. This product utilized a Mylex RAID controller card. MTI shifted focus to selling this product and as such, much of the inventory that used the MTI proprietary controller card was written-down.

     The majority of the inventory that was written-down was either scrapped or sold to scrap dealers.

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(4) Composition of Certain Financial Statement Captions

     Prepaid expenses and other receivables are summarized as follows:

                 
    April 3, 2004
  April 5, 2003
Prepaid maintenance contracts
  $ 4,455     $ 3,011  
Other
    1,337       1,319  
 
   
 
     
 
 
 
  $ 5,792     $ 4,330  
 
   
 
     
 
 

     Property, plant and equipment, at cost, are summarized as follows:

                 
    April 3, 2004
  April 5, 2003
Plant equipment, office furniture and fixtures
  $ 9,178     $ 15,605  
Computer equipment
    12,307       12,376  
Leasehold improvements
    2,452       2,232  
 
   
 
     
 
 
 
    23,937       30,213  
Less accumulated depreciation and amortization
    22,536       27,380  
 
   
 
     
 
 
 
  $ 1,401     $ 2,833  
 
   
 
     
 
 

     Property under capitalized leases in the amount of $846 at April 3, 2004 and April 5, 2003, is included in plant equipment, office furniture and fixtures. Accumulated amortization of this property under capital leases amounted to $575 and $399 at April 3, 2004 and April 5, 2003, respectively.

(5) Investment in Affiliate

     In August 1999, the Company purchased 5,333,333 shares of SCO (formerly Caldera International, Inc.), representing approximately 25% of the outstanding capital stock of SCO upon completion of the purchase. SCO develops and markets software based on the Linux operating system and provides related services. Canopy (a related party) owned all the issued and outstanding shares of SCO before this transaction.

     Also, in August 1999, after the Company’s initial investment in SCO, the Company’s percentage ownership was diluted to approximately 20% as a result of Canopy exercising a convertible note payable from SCO. Additionally, on March 21, 2000, SCO completed its initial public offering, further diluting the Company’s percentage ownership to approximately 14%. The Company accounted for its investment in SCO under the equity method because the Company had significant influence, but not control, of the operations of SCO. This significant influence was the result of two factors: 1) Mr. Ray Noorda was Chairman of the Board of Directors for both MTI and Canopy. Canopy was the majority shareholder of SCO’s common stock; 2) Mr. Thomas Raimondi, Jr., MTI’s CEO and Mr. Dale Boyd, MTI’s CFO were also on the Board of Directors of SCO, effectively giving MTI three out of the seven SCO board seats. These relationships allowed MTI to exercise significant influence over the activities of SCO.

     The original investment in SCO was $7,598 and included: (a) cash payment of $3,000, (b) note payable of $3,000 bearing interest at the prime rate plus one percent per annum and payable in two equal semi-annual payments beginning February 2000 and (c) investment costs of $1,598, including the issuance of a warrant to purchase 150,000 shares of the Company’s common stock. On March 21, 2000, SCO completed its initial public offering. The Company recorded its share of the change in the affiliate’s equity resulting from the public offering as an increase to additional paid-in-capital of $6,194, net of the tax impact of $3,336. The excess of the Company’s investment in SCO over the related underlying equity in net assets of $6,931 was being amortized on a straight-line basis over seven years. However, the Company adopted Statement 142 as of April 8, 2001, the beginning of fiscal year 2002, and therefore, ceased to amortize the remaining balance of goodwill related to the investment in SCO of

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$4,209, which was written off during the third quarter of fiscal year 2002 as an other than temporary decline in value and to record its proportional share of SCO’s net loss. Such loss has been included in “Equity in net loss and write-down of net investment of affiliate” in the Company’s fiscal year 2002 Consolidated Statement of Operations.

     As of August 1999, the Company owned 5,333,333 shares of SCO’s stock. SCO shareholders approved a one-for-four reverse stock split on March 14, 2002, which converted the Company’s ownership to 1,333,334 shares. The Company sold 1,800 shares and 142,500 shares on April 1, 2002 and April 8, 2002, respectively. On July 23, 2002, the Company sold its remaining shares of SCO common stock to SCO for approximately $1,070 in net proceeds, which it used to pay down the Company’s credit line with Canopy. The Company recognized a gain of $1,070 from the sale of SCO shares, which is recorded in other income, net in the 2003 Consolidated Statement of Operations.

(6) Accrued Liabilities

     Accrued liabilities consist of the following:

                 
    April 3, 2004
  April 5, 2003
Salaries and benefits
  $ 2,546     $ 2,593  
Commissions
    478       234  
Sales tax
    2,038       2,814  
Warranty costs
    603       876  
Other
    432       804  
 
   
 
     
 
 
 
  $ 6,097     $ 7,321  
 
   
 
     
 
 

     Product warranties

     For proprietary hardware products, the Company provides its customers with a warranty against defects for one year domestically and for two years internationally. Currently, the Company is selling most EMC hardware products with up to 3-year 24x7x365 warranties and EMC software products with 90-day warranties. The Company accrues warranty expense at the time revenue is recognized and maintains a warranty accrual for the estimated future warranty obligation based upon the relationship between historical and anticipated costs and sales volumes. Upon expiration of the warranty, the Company may sell extended maintenance contracts to its customers. The Company records revenue from equipment maintenance contracts as deferred revenue when billed and it recognizes this revenue as earned over the period in which the services are provided, primarily straight-line over the term of the contract.

     The changes in the Company’s warranty obligation for fiscal 2004 and 2003 are as follows (in thousands):

                 
    April 3, 2004
  April 5, 2003
Balance at the beginning of the period
  $ 876     $ 896  
Current year warranty charges
    513       275  
Utilization
    (786 )     (295 )
 
   
 
     
 
 
Balance at the end of the period
  $ 603     $ 876  
 
   
 
     
 
 

(7) Debt

     Credit Agreement and Lines of Credit

     On December 5, 2002, the Company paid off the outstanding $1,685 loan with the Canopy Group, Inc. This loan agreement remains in effect, but with a zero balance and the Company may not re-borrow any funds thereunder. However, pursuant to the loan agreement, as amended in June 2004, Canopy has guaranteed a letter of credit in support of the Company’s obligations to Comerica Bank discussed below and the Company’s obligations to Canopy are secured by a security interest in substantially all of the Company’s assets. Ralph J. Yarro, III, one of the

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Company’s Directors, is also a Director, President and Chief Executive Officer of Canopy. Darcy G. Mott, one of the Company’s Directors, is also a Vice President, Treasurer and Chief Financial Officer of Canopy. Canopy beneficially owns approximately 44% of the Company’s outstanding common stock.

     In November 2002, the Company entered into an agreement (the “Comerica Loan Agreement”) with Comerica Bank (“Comerica”) for a line of credit of $7.0 million at an interest rate equal to the prime rate. As discussed above, the line of credit is secured by a letter of credit that is guaranteed by Canopy. Canopy’s guarantee was to mature on November 30, 2003, but on June 30, 2003, the Company received an extension on the letter of credit for $7.0 million until June 30, 2004. The Comerica Loan Agreement was to mature on October 31, 2003, but on June 30, 2003, the Company received a renewal on the line of credit for $7.0 million until May 31, 2004. On June 18, 2004 the Company received an additional extension on the letter of credit for $7.0 million until June 30, 2005. Also on June 18, 2004, the Company received an additional renewal on the Comerica line of credit for $7.0 million until May 31, 2005 (see note 16).

     The Comerica Loan Agreement contains negative covenants placing restrictions on the Company’s ability to engage in any business other than the businesses currently engaged in, suffer or permit a change in control, and merge with or acquire another entity. Although we are currently in compliance with all of the terms of the Comerica Loan Agreement, and believe that we will remain in compliance, there can be no assurance that we will be able to continue to borrow under the Comerica Loan Agreement through the expiration date. Upon an event of default, Comerica may terminate the Comerica Loan Agreement and declare all amounts outstanding immediately due and payable. As of April 3, 2004, there was $3,933 million outstanding under the Comerica line of credit.

(8) Income Taxes

     The components of loss before income taxes are as follows:

                         
    Fiscal Year Ended
    April 3, 2004
  April 5, 2003
  April 6, 2002
U.S.
  $ (5,554 )   $ (11,062 )   $ (33,986 )
Foreign
    (1,480 )     48       (1,041 )
 
   
 
     
 
     
 
 
 
  $ (7,034 )   $ (11,014 )   $ (35,027 )
 
   
 
     
 
     
 
 

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     Income tax expense (benefit) consists of the following:

                                 
            Current
  Deferred
  Total
2004:
                               
 
  Federal   $ (3,127 )   $     $ (3,127 )
 
  State     6             6  
 
  Foreign     (47 )           (47 )
 
           
 
     
 
     
 
 
 
          $ (3,168 )   $     $ (3,168 )
 
           
 
     
 
     
 
 
2003:
                               
 
  Federal   $     $     $  
 
  State     68             68  
 
  Foreign     137             137  
 
           
 
     
 
     
 
 
 
          $ 205     $     $ 205  
 
           
 
     
 
     
 
 
2002:
                               
 
  Federal   $     $ 24,300     $ 24,300  
 
  State     126             126  
 
  Foreign     172             172  
 
           
 
     
 
     
 
 
 
          $ 298     $ 24,300     $ 24,598  
 
           
 
     
 
     
 
 

     Reconciliations of the federal statutory tax rate to the effective tax rate are as follows:

                         
    Fiscal Year Ended
    April 3, 2004
  April 5, 2003
  April 6, 2002
Federal statutory rate
    (35.0 )%     (35.0 )%     (35.0 )%
Effect of foreign operations
    (0.6 )     1.2       1.2  
State taxes, net of federal benefit
    (5.8 )     (5.8 )     (5.8 )
Change in valuation allowance
    37.9       37.0       113.8  
Elimination of reserve for tax audit
    (20.8 )            
Tax benefit from NOL carryback
    (23.7 )            
Non-deductible expenses
    2.9       0.1       0.3  
Other
    0.1       4.3       (5.1 )
 
   
 
     
 
     
 
 
 
    (45.0 )%     1.8 %     69.4 %
 
   
 
     
 
     
 
 

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     Deferred-tax assets and liabilities result from differences between the financial-statement carrying amounts and the tax bases of existing assets and liabilities. The significant components of the deferred income tax assets and liabilities are as follows:

                         
    2004
  2003
  2002
Tax operating loss carryforwards
  $ 43,588     $ 48,348     $ 40,056  
Tax basis of intangible assets greater than book basis
    2,707       3,109       3,726  
Accrued expenses not deductible for tax purposes
    2,174       3,674       2,714  
Inventory reserves
    1,398       2,185       3,544  
Book depreciation greater than tax depreciation
    1,306       2,791       4,195  
Recognition of income reported on different methods for tax purposes than for financial reporting
    403       361       430  
Tax credit carryforwards
    783              
Capital loss carryforwards
    2,646              
Other
    37       253       2,043  
 
   
 
     
 
     
 
 
 
    55,042       60,721       56,708  
Less valuation allowance
    55,042       60,721       56,708  
 
   
 
     
 
     
 
 
 
  $     $     $  
 
   
 
     
 
     
 
 

     At April 3, 2004, the Company had federal net operating loss (“NOL”) carryforwards, available to offset future taxable income of $112,645. These carryforwards begin to expire in fiscal year 2005. The utilization of these carryforwards may be limited.

     In the first quarter of fiscal year 2002, the Company recorded $24,300 of tax expense related to establishing a valuation allowance for deferred-tax assets. The change in the valuation allowance from fiscal year 2003 to fiscal year 2004 was $(5,684) and the change in the valuation allowance from fiscal year 2002 to fiscal year 2003 was $4,013. Because of the continued softness in the American and European markets for the Company’s products, management believes that it is more likely than not that the Company will not realize the benefits of the net deferred tax asset existing on April 3, 2004.

     On August 13, 2002, the Company received a notice of deficiency in its federal income tax due for fiscal year 1992 in the amount of $1,119. The notice of deficiency also advised the Company of related examination changes to its taxable income as reported for fiscal years 1993 through fiscal year 1995. The Company filed a timely petition in the United States Tax Court asking for a review of the IRS determinations. During the fourth quarter of fiscal year 2004, the Company received a decision from the United States Tax Court which obligates the Company to pay an additional $193 in income tax due for fiscal year 1992. The Company had accrued income taxes of $1,655 related to the IRS audits for fiscal years 1992 through fiscal year 1996. During the third quarter of fiscal year 2004, the Company reduced this accrual to $193 and recognized an income tax benefit of $1,462. Additionally, the Company will receive income tax refunds for fiscal years 1982 through 1990 totaling $1,665. The income tax refunds allowed by the IRS are based upon the carryback of the net operating losses which were confirmed by the IRS for fiscal years 1993, 1994 and 1995. During the third quarter of fiscal year 2004, the Company accrued the income tax refunds of $1,668 and recorded an income tax benefit in the same amount. In the fourth quarter of fiscal year 2004, the Company received the interest calculation from the IRS and accrued the interest receivable of $741 related to the income tax refunds and recognized interest income in the same amount. Subsequent to year-end, the Company received all outstanding receivables from the IRS.

     The IRS is conducting an examination of the Company’s fiscal years 1996 and 1997 federal income tax returns. During May 2004, the Company received notice from the IRS of proposed adjustments for fiscal 1996. The Company, after consultation with tax counsel, continues to believe in the propriety of its positions as set forth in its tax return and will file a protest with the IRS regarding these proposed adjustments. The Company believes the ultimate resolution of the examination will not result in a material impact on the Company’s consolidated financial position, results of operations or liquidity.

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     In the third quarter of fiscal year 2004, the Company received notice of re-assessment from the French Treasury. The French tax authorities have argued that the Company’s France subsidiary should have paid VAT on the waiver of intercompany debts granted by its U.S. parent company and by its Irish subsidiary. The amount of re-assessment is $79 and $605 related to fiscal years 2002 and 2001, respectively, plus penalties and interest. Through discussions with its tax advisors, the Company believes that intercompany debt waivers are not subject to VAT and therefore believes that this re-assessment is without merit and it is not probable that it will be required to pay the re-assessed amounts. Therefore, the Company has not recorded a liability for such amounts at April 3, 2004. The Company has appealed this re-assessment.

(9) Stockholders’ Equity

     Net Loss Per Share

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

                         
    2004
  2003
  2002
Numerator:
                       
Net loss, basic and diluted
  $ (3,866 )   $ (11,219 )   $ (59,625 )
 
   
 
     
 
     
 
 
Denominator:
                       
Denominator for net loss per share, basic and diluted — weighted-average shares outstanding
    33,482       32,852       32,548  
 
   
 
     
 
     
 
 
Net loss per share, basic and diluted
  $ (0.12 )   $ (0.34 )   $ (1.83 )
 
   
 
     
 
     
 
 

     Options and warrants to purchase 11,068,024 shares of common stock were outstanding at April 3, 2004, but were not included in the computation of diluted earnings per share for the year then ended because the effect would be antidilutive.

     Options and warrants to purchase 10,233,404 shares of common stock were outstanding at April 5, 2003, but were not included in the computation of diluted earnings per share for the year then ended because the effect would be antidilutive.

     Options and warrants to purchase 10,954,976 shares of common stock were outstanding at April 6, 2002, but were not included in the computation of diluted earnings per share for the year then ended because the effect would be antidilutive.

Stock Options

     The Company granted stock options under its 1987 Incentive Stock Option Plan and Non-Qualified Stock Option Plan, its 1992 Stock Incentive Plan, its 1996 Stock Incentive Plan, and its 2001 Stock Inventive Plan, generally at prices equal to the estimated fair market value of the Company’s common stock at date of grant.

     The Company’s stockholders approved the 2001 Stock Incentive Plan (“SIP”), the 2001 Non-Employee Director Option Program (“Program”) and the 2001 Employee Stock Purchase Plan (the “Stock Purchase Plan”) on July 11, 2001. Upon approval of these plans, all prior plans were terminated. Therefore, the Company will no longer issue options under its prior plans and has granted stock options under its SIP. Options currently outstanding under prior plans as of April 3, 2004, shall remain in effect in accordance with the respective terms of such plans. In the first quarter of fiscal year 2004, the Board approved the amended Stock Incentive Plan (the “Amended SIP”) to increase the number of shares issuable by 2,500,000 shares. Under the Amended SIP, the maximum aggregate number of shares of Common Stock available for grant shall be 6,500,000 shares. A maximum of 1,200,000, 450,000 and 9,477,000 shares are authorized for issuance under the Stock Purchase Plan, the Program and the SIP, respectively. The Program functions as part of the SIP.

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     In the third and fourth quarter of fiscal year 2002, the Company granted 106,043 shares and 55,083 shares of common stock, respectively, to an employee to compensate for services for fiscal year 2002. The shares were issued out of treasury shares at a per share price of $1.20 and $0.57, respectively. The Company recorded compensation expense of $234 in connection with the grants.

     In the third quarter of fiscal year 2003, the Company granted 96,724 shares of common stock to an employee to compensate him for his participation in starting up its business in the Pacific Rim. The shares were issued at a per share price of $0.58. The Company recorded compensation expense of $56 in connection with the grants.

     Stock Purchase Warrants

     At April 3, 2004, a warrant to purchase 150,000 shares of the Company’s common stock at a price of $18.75 per share was outstanding. The warrant was issued in August 1999 to an individual affiliated with Canopy in connection with services provided to the Company and expires in August 2009. At April 3, 2004, the warrant was fully exercisable.

     At April 3, 2004, warrants to purchase 57,240 shares of the Company’s common stock at a price of $12.00 per share were outstanding. The original warrants were issued in February 1998 to GB Storage in connection with a French distribution agreement and expire in February 2008. On February 12, 2002, the original warrants were replaced by warrants issued to Gerard Bantchik, Emmanuel Moreau, Alain Mariotta and Florence Ferraz to purchase 32,398 shares, 15,913 shares, 6,411 shares and 2,518 shares of the Company’s stock, respectively. The exercise price and expiration date of the warrants remain unchanged. On April 3, 2004, the warrants were fully exercisable.

     On January 16, 2004, Silicon Valley bank converted all its outstanding warrants to purchase 190,678 shares of the Company’s common stock into 40,176 shares of common stock through a cashless warrant exercise.

     Non-Employee Directors Option Program

     On July 11, 2001, the Company’s shareholders approved the 2001 Non-Employee Directors Option Program (the “Program”) which functions as part of the SIP described above. Upon approval of the Program, the 1994 Director’s Non-Qualified Stock Option Plan was terminated, although options currently outstanding under the prior plan shall remain in effect in accordance with the respective terms of such plan. Under the Program, each non-employee director first elected to the Board of Directors following the effective date of the SIP will automatically be granted an option to acquire 50,000 shares of Common Stock at an exercise price per share equal to the fair market value of Common Stock on the date of grant. These options will vest and become exercisable in three equal installments on each anniversary of the grant date. Upon the date of each annual stockholders’ meeting, each non-employee director who has been a member of the Board of Directors for at least 11 months prior to the date of the stockholders’ meeting will receive an automatic grant of options to acquire 25,000 shares of the Company’s Common Stock at an exercise price equal to the fair market value of the Company’s Common Stock at the date of grant. These options will vest and become exercisable in three equal installments on each anniversary of the grant date. As of April 3, 2004, there were options to purchase 375,000 shares outstanding under this program.

     Options granted typically vest over a period of three years from the date of grant. At April 3, 2004 and April 5, 2003, the number of options exercisable was 6,902,848 and 5,833,550 respectively, and the weighted-average exercise price of those options was $6.05 and $7.08. As of April 3, 2004 there were 2,156,076 shares available for grant.

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     A summary of all stock option transactions follows (in thousands, except per share data):

                 
            Weighted Average
    Shares
  Exercise Price
Options outstanding at April 7, 2001
    9,355     $ 9.39  
Granted
    4,241       1.83  
Exercised
    (132 )     5.16  
Forfeited
    (2,906 )     8.26  
 
   
 
         
Options outstanding at April 6, 2002
    10,558     $ 6.62  
Granted
    3,556       0.53  
Exercised
           
Forfeited
    (3,881 )     5.42  
 
   
 
         
Options outstanding at April 5, 2003
    10,233     $ 4.97  
Granted
    3,385       2.11  
Exercised
    (1,331 )     0.96  
Forfeited
    (1,468 )     4.97  
 
   
 
         
Options outstanding at April 3, 2004
    10,819     $ 4.58  
 
   
 
         

     The per share weighted average fair value of stock options granted during fiscal years 2004, 2003 and 2002 was $1.49, $0.49 and $1.48, respectively, on the date of grant.

     A summary of stock options outstanding at April 3, 2004 follows (in thousands, except per share data):

                                             
                                Exercisable(1)
                Weighted                
                Average   Weighted            
        Number of   Remaining   Average           Weighted
        Options   Contractual   Exercise   Number of   Average Exercise
Range of Exercise Price
  Outstanding
  Life
  Price
  Options
  Price
$ 0.2700 –   $0.3800     251       8.58     $ 0.3251       115     $ 0.3401  
  0.5500 –     0.5500     1,643       8.25       0.5500       1,388       0.5500  
  0.5700 –     1.3500     1,187       7.75       1.1751       943       1.2309  
  1.5800 –     2.1250     1,598       7.78       1.9494       1,019       2.0078  
  2.2000 –     2.2000     2,450       9.63       2.2000              
  2.2500 –     4.1250     1,415       6.48       3.6631       1,191       3.7683  
  4.3125 –     8.3125     1,211       4.89       6.3995       1,193       6.4066  
  8.3750 –   30.0625     989       5.51       22.6437       979       22.7801  
  36.8750 –   36.8750     15       5.75       36.8750       15       36.8750  
  45.8750 –   45.8750     60       5.94       45.8750       60       45.8750  
         
 
     
 
     
 
     
 
     
 
 
          10,819       7.57     $ 4.5756       6,903     $ 6.0480  
         
 
     
 
     
 
     
 
     
 
 

Note:

(1)   Options exercisable at April 3, 2004, April 5, 2003 and April 6, 2002, were 6,903, 5,834 and 5,472, respectively.

     Employee Stock Purchase Plan

     On July 11, 2001, the Company’s shareholders approved the Stock Purchase Plan. A maximum of 1,200,000 shares of common stock is authorized for issuance under the Stock Purchase Plan. The Company will no longer issue options under the 1994 Employee Stock Purchase Plan. Under the Stock Purchase Plan, all employees of the Company, and its designated parents or subsidiaries, whose customary employment is more than five months

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

in any calendar year and more than 20 hours per week are eligible to participate. The Stock Purchase Plan was implemented through overlapping offer periods of 24 months duration commencing each January 1 and July 1, except that the initial offer period commenced on July 11, 2001 and ends on June 30, 2003. Purchase periods generally commence on the first day of each offer period and terminate on the next following June 30 or December 31 respectively; provided, however, that the first purchase period commenced on July 11, 2001 and ended on December 31, 2001. The price per share at which shares of Common Stock are to be purchased under the Stock Purchase Plan during any purchase period is eighty-five percent (85%) of the fair market value of the Common Stock on the first day of the offer period or eighty-five percent (85%) of the fair market value of the Common Stock on the last day of the purchase period, whichever is lower. During fiscal year 2004, 2003 and 2002, 132, 141 and 81 shares of common stock, respectively, were issued pursuant to the Stock Purchase Plan.

     Issuance of Restricted Stock

     During the third quarter of fiscal year 2004, the Company granted 85 shares of restricted stock. Based on the fair market value at the date of grant, the Company will record $187 in compensation expense ratably over the vesting period of the restricted stock. The restricted stock vests 50% at the end of the first year and the remaining 50% at the end of the second year. The Company recorded $40 in compensation expense in fiscal year 2004.

(10) Commitments and Contingencies

     Leases

     The Company leases facilities and certain equipment under non-cancelable operating leases. Under the lease agreements for facilities, the Company is required to pay insurance, taxes, utilities and building maintenance and is subject to certain consumer-price-index adjustments.

     Future minimum lease payments at April 3, 2004 under all non-cancelable operating leases for subsequent fiscal years are as follows:

         
2005
  $ 3,372  
2006
    2,681  
2007
    1,479  
2008
    1,086  
2009
    487  
Thereafter
    1,744  
 
   
 
 
 
  $ 10,849  
 
   
 
 

     Future minimum capital lease payments at April 3, 2004 for subsequent fiscal years are as follows:

         
2005
  $ 210  
2006
    80  
2007 and thereafter
     
 
   
 
 
Total minimum lease payments
    290  
Less: Amount representing interest
    (19 )
 
   
 
 
Present value of minimum lease payments
    271  
Less: current portion
    (176 )
 
   
 
 
Capital lease obligations excluding current portion
  $ 95  
 
   
 
 

     Rent expense totaled $2,372, $3,624 and $5,000, for fiscal years 2004, 2003 and 2002, respectively.

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

     Litigation

     Between July and September 2000, several complaints were filed in the United States District Court for the Central District of the California against the Company and several current or former officers seeking unspecified damages for its alleged violation of the Securities Exchange Act of 1934, as amended, by failing to disclose certain adverse information primarily during fiscal year 2000. On or about December 5, 2000, the several complaints were consolidated as In re MTI Technology Corp. Securities Litigation II.

     On October 17, 2002, the parties reached a tentative settlement in principle of this action. On or about December 3, 2002, the parties executed and submitted to the court for preliminary approval their agreement to settle the litigation. On May 19, 2003, the District Court preliminarily approved the settlement. On July 28, 2003, the District Court gave final approval of the settlement, all but $125 of which was paid by the Company’s insurers, in return for a release of all claims against the Company and the other defendants, and dismissed the litigation with prejudice. The settlement has now become final under its terms, as the time to appeal from the dismissal has run.

     The Company is also, from time to time, subject to claims and suits arising in the ordinary course of business. In its opinion, the ultimate resolution of these matters is not expected to have a materially-adverse effect on the Company’s consolidated financial position, results of operations, or liquidity.

     Employment Agreements

     The Company has entered into agreements with certain executive officers of the Company that call for payment of compensation totaling 12 month’s base salary and the acceleration of vesting of stock options under certain circumstances related to a change in control of the Company. As of April 3, 2004, the estimated payout related to these agreements would be $1,700.

(11) Business Segment and International Information

     The Company is a systems integrator providing storage solutions for the mid-range enterprise market and has one reportable business segment. The Company has two operating segments which are identified by geographic regions, United States and Europe. These operating segments are aggregated into one reporting segment as they have similar economic characteristics. The Company’s operations are structured to achieve consolidated objectives. As a result, significant interdependence and overlap exists among the Company’s geographic areas. Accordingly, revenue, operating loss and identifiable assets shown for each geographic area may not be the amounts which would have been reported if the geographic areas were independent of one another. Revenue and transfers between geographic areas are generally priced to recover cost, plus an appropriate mark-up for profit. Operating loss is revenue less cost of revenues and direct operating expenses.

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

     A summary of the Company’s operations by geographic area is presented below:

                         
    2004
  2003
  2002
Revenue:
                       
United States
  $ 43,326     $ 47,125     $ 81,300  
Europe
    41,757       38,861       39,662  
Transfers between areas
    (1,918 )     (3,600 )     (3,044 )
 
   
 
     
 
     
 
 
Total revenue
  $ 83,165     $ 82,386     $ 117,918  
 
   
 
     
 
     
 
 
Operating loss:
                       
United States
  $ (5,739 )   $ (11,992 )   $ (28,362 )
Europe
    (1,955 )     (669 )     (801 )
 
   
 
     
 
     
 
 
Total operating loss
  $ (7,694 )   $ (12,661 )   $ (29,163 )
 
   
 
     
 
     
 
 
Identifiable assets:
                       
United States
  $ 21,802     $ 22,953          
Europe
    19,626       16,419          
 
   
 
     
 
         
Tangible assets
    41,428       39,372          
Goodwill — United States
    3,059       3,059          
Goodwill — Europe
    2,125       2,125          
 
   
 
     
 
         
 
  $ 46,612     $ 44,556          
 
   
 
     
 
         

     The Company’s revenues by product type are summarized below:

                         
    2004
  2003
  2002
Server
  $ 28,716     $ 22,535     $ 45,311  
Tape libraries
    12,024       14,251       17,904  
Software
    5,702       3,315       6,304  
Service
    36,723       42,285       48,399  
 
   
 
     
 
     
 
 
 
  $ 83,165     $ 82,386     $ 117,918  
 
   
 
     
 
     
 
 

     No single customer accounted for more than 10% of revenue in fiscal year 2004, 2003 and 2002.

(12) Sale of Patents

     Effective February 9, 1996, the Company entered into an EMC asset purchase agreement by which it sold to EMC substantially all of the Company’s existing patents, patent applications and related rights. Pursuant to the EMC asset purchase agreement, the Company was entitled to receive $30,000 over the life of this agreement, in six equal annual installments of $5,000 each. As of January 2001, the Company had received all installments. The Company also would receive royalty payments in the aggregate of up to a maximum of $30,000 over the term of the EMC asset purchase agreement. As part of the maximum $30,000 of royalties, minimum royalties of $10,000 would be received in five annual installments, beginning within thirty days of the first anniversary of the effective date of the EMC asset purchase agreement, and within thirty days of each subsequent anniversary thereof. As of March 2001, the Company had received all installments. Also, as a result of a computer and technology agreement between EMC and IBM announced in March 1999, the minimum royalties of $10,000 were to be increased to $15,000. Payments were to be received under the EMC asset purchase agreement in five equal annual installments. The Company received the first three annual installments in March 2000, March 2001 and March 2002.

     On April 1, 2003, the Company entered into an amended asset purchase agreement with EMC, under which EMC paid the Company $5,857, which satisfied all obligations of EMC under the original agreement. Also, the Company granted EMC immunity from suit for patent infringement with respect to its patents. Included in net product revenue for fiscal years 2003 and 2002 are $2,733 and $3,840, and other income of $0 and $3,600, respectively, related to this agreement. In addition, pursuant to the terms of the EMC asset purchase agreement, the Company also received an irrevocable, non-cancelable, perpetual and royalty-free license to exploit, market, and

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

sell the technology protected under the applicable patents. Pursuant to the terms and conditions of the EMC asset purchase agreement, this license will terminate in the event of a change in control of the Company involving certain acquirers.

     Subsequent to fiscal year 2004, the Company assigned to EMC all of its rights, title and interest in and to all of its remaining patents and patent applications.

(13) Related–party Transactions

     In the normal course of business, the Company sold and purchased goods and services to and from subsidiaries of Canopy. Goods and services purchased from the subsidiaries of Canopy in fiscal year 2004 was $140. There were no purchases of goods and services from the subsidiaries of Canopy in fiscal years 2003 and 2002. Goods and services sold to the subsidiaries of Canopy in fiscal year 2004, 2003 and 2002 were $85, $104 and $836, respectively. At April 3, 2004, there was no outstanding amount due to/from the subsidiaries of Canopy. Ralph J. Yarro, III, one of the Company’s Directors, is also a Director, President and Chief Executive Officer of Canopy. Darcy G. Mott, one of the Company’s Directors, is also a Vice President, Treasurer and Chief Financial Officer of Canopy. Canopy beneficially owns approximately 44% of the Company’s outstanding Common Stock.

     In November 2002, the Company entered into an agreement with Comerica Bank for a line of credit of $7,000 at an interest rate equal to the prime rate. The line of credit is secured by a letter of credit that is guaranteed by Canopy. Canopy’s guarantee was to mature on November 30, 2003, but the Company received an extension on the letter of credit for $7.0 million until June 30, 2005 (see Note 7).

(14) Employee Benefits

     The Company maintains an employee savings plan which is intended to qualify under section 401(k) of the Internal Revenue Code. The Company’s contributions to the plan are determined at the discretion of the Board of Directors. During fiscal years 2003, 2002 and 2001, the Company did not contribute to the plan.

(15) Quarterly Financial Data (Unaudited)

     Selected quarterly financial data for continuing operations for fiscal years 2004 and 2003 are as follows:

                                 
                            Net Income
                            (Loss)
                    Net   Per Share,
    Total   Gross   Income   Basic and
    Revenue
  Profit
  (Loss)
  Diluted
2004:
                               
Fourth quarter
  $ 23,651     $ 5,482     $ (742 )   $ (0.02 )
Third quarter
    21,210       4,674       1,458       0.04  
Second quarter
    20,526       4,428       (1,725 )     (0.05 )
First quarter
    17,778       4,692       (2,857 )     (0.09 )
 
   
 
     
 
     
 
         
Total
  $ 83,165     $ 19,276     $ (3,866 )        
 
   
 
     
 
     
 
         
2003:
                               
Fourth quarter
  $ 22,383     $ 7,778     $ 602     $ 0.02  
Third quarter
    19,644       5,957       (1,389 )     (0.04 )
Second quarter
    22,320       7,025       133        
First quarter
    18,039       1,038       (10,565 )     (0.32 )
 
   
 
     
 
     
 
         
Total
  $ 82,386     $ 21,798     $ (11,219 )        
 
   
 
     
 
     
 
         

     The Company has experienced significant quarterly fluctuations in operating results and anticipates that these fluctuations may continue into the future. These fluctuations have been and may continue to be caused by a number of factors, including: competitive pricing pressures, the timing of customer orders (a large majority of which

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MTI TECHNOLOGY CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

have historically been placed in the last month of each quarter), the timing of the introduction of EMC’s new products, shifts in product mix and the timing of sales and marketing expenditures. Future operating results may fluctuate as a result of these and other factors, including EMC’s ability to continue to develop innovative products, the introduction of new products by the Company’s competitors and decreases in gross profit margin for mature products.

     During the third quarter of fiscal year 2004, the Company accrued income tax refunds of $1,668 and recorded an income tax benefit in the same amount. In the fourth quarter of fiscal year 2004, the Company received the interest calculation from the IRS and accrued the interest receivable of $741 related to the income tax refunds and recognized interest income in the same amount (see Note 8).

     The Company had operated historically without a significant backlog of orders and, as a result, net product revenue in any quarter was dependent upon orders booked and products shipped during that quarter. However, as a result of the new EMC relationship, the Company operates with a more significant backlog since its order shipments depends on the availability of EMC products and both the Company and EMC have concurrent quarter ends. Even though the orders shipped determines the Company’s revenue for any given quarter, its order backlog may not be a reliable indicator of its future revenue since its customers have the rights to cancel or delay shipment of their orders. A significant portion of the Company’s operating expenses are relatively fixed in nature and planned expenditures are based primarily upon sales forecasts. If revenue does not meet the Company’s expectations in any given quarter, the adverse effect on the Company’s liquidity and operating results may be magnified by the Company’s inability to reduce expenditures quickly enough to compensate for the revenue shortfall. Further, as is common in the computer industry, the Company historically has experienced an increase in the number of orders and shipments in the latter part of each quarter and it expects this pattern to continue into the future. The Company’s failure to receive anticipated orders or to complete shipments in the latter part of a quarter could have a materially adverse effect on the Company’s results of operations for that quarter.

     Because of all of the foregoing factors, the Company believes that period-to-period comparisons of its operating results are not necessarily meaningful and that such comparisons cannot be relied upon as indicators of future performance. There can be no assurance that the Company will achieve profitability on a quarter-to-quarter basis or that future revenues and operating results will not be below the expectations of public market analysts and investors, which could result in a materially adverse effect on the Company’s common stock.

(16) Subsequent Events

     On June 17, 2004, the Company sold 566,797 shares of Series A Convertible Preferred Stock in a private placement financing at $26.46 per share, which raised $15 million in gross proceeds, before consideration of professional fees. The sale included issuance to the investors of warrants to purchase 1,624,308 shares of the Company’s common stock with an exercise price of $3.10 per share. The shares of common stock into which the warrants are exercisable represent twenty-five percent (25%) of the aggregate number of shares of common stock into which the Series A Convertible Preferred Stock are convertible plus an additional 207,315 shares of common stock. Each share of Series A Convertible Preferred Stock is convertible into common stock at an initial conversion rate of ten shares of common stock for each share of Series A Convertible Preferred Stock, subject to adjustments upon certain dilutive issuances of securities by the Company at the initial stated price per share. The Series A Convertible Preferred Stock contains a beneficial conversion feature valued at $5.8 million. This will be reflected as a non-cash charge to retained earnings in the first quarter of fiscal year 2005. The Series A Convertible Preferred Stock carries a cumulative dividend of 8% per year payable when and if declared by the Board of Directors. The warrants are exercisable on or after December 20, 2004, and expire on June 17, 2015. As part of the private placement, a representative of the investors has joined the Company’s Board of Directors. EMC was a participating investor in the private placement, contributing $4 million of the $15 million raised.

     On June 18, 2004, the Company received an extension on the Canopy letter of credit for $7.0 million until June 30, 2005. Also on June 18, 2004 the Company received a renewal on the Comerica line of credit for $7.0 million until May 31, 2005. (See Note 7).

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SCHEDULE II

MTI TECHNOLOGY CORPORATION

VALUATION AND QUALIFYING ACCOUNTS

For the Fiscal Years Ended April 3, 2004, April 5, 2003 and April 6, 2002

                                 
            Allowance for Bad           Balance at
    Balance at   Debts Charged to   Bad Debts   End of
    Beginning of Period
  SG&A
  Write-Offs
  Period
Year ended April 3, 2004
                               
Allowance for doubtful accounts
  $ 276     $ 25     $ (64 )   $ 237  
 
   
 
     
 
     
 
     
 
 
Year ended April 5, 2003
                               
Allowance for doubtful accounts
  $ 960     $ (602 )   $ (82 )   $ 276  
 
   
 
     
 
     
 
     
 
 
Year ended April 6, 2002
                               
Allowance for doubtful accounts
  $ 1,531     $ 1,884     $ (2,455 )   $ 960  
 
   
 
     
 
     
 
     
 
 
                                 
            Allowance for Sales            
    Balance at   Returns Accounted           Balance at
    Beginning   for as a Reduction   Sales   End of
    of Period
  in Revenue
  Return
  Period
Year ended April 3, 2004
                               
Allowance for sales returns
  $ 200     $     $     $ 200  
 
   
 
     
 
     
 
     
 
 
Year ended April 5, 2003
                               
Allowance for sales returns
  $ 489     $     $ (289 )   $ 200  
 
   
 
     
 
     
 
     
 
 
Year ended April 6, 2002
                               
Allowance for sales returns
  $ 607     $     $ (118 )   $ 489  
 
   
 
     
 
     
 
     
 
 

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EXHIBIT INDEX

       
Exhibit Number
  Description
23.1     Consent of Independent Registered Public Accounting Firm — Grant Thornton LLP
       
23.2     Consent of Independent Registered Public Accounting Firm — KPMG LLP
       
31.1     Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
       
31.2     Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
       
32.1     Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
       
32.2     Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

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