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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



---



FORM 10-K



(Mark One)

|x | ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ------------------------------------------------------------------------------------



For the fiscal year ended September 30, 2004



OR



| ̈ | 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 0-23084



INTEGRATED SILICON SOLUTION, INC.

(Exact name of Registrant as specified in its charter)



|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Delaware                                                       |  | 77-0199971                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)
|                                                               | 
|2231 Lawson Lane, Santa Clara, California                      |  | 95054                               
|(Address of principal executive offices)                       |  | (zip code)                          



Registrants
telephone number, including area code (408) 969-6600



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



|                                          |  |                                          
|----------------------------------------- |  | -----------------------------------------
|Title of each class                       |  | Name of each exchange on which registered
|Common Stock, par value $0.0001 per share |  | Nasdaq National Market                   



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

None

(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  x    No ̈



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



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



The aggregate market value of the common stock held by
non-affiliates of the registrant, based upon the price at which the registrants Common Stock was last sold as of March 31, 2004 (the last business day of the registrants second quarter of fiscal 2004), was approximately $551.2 million.
Shares of Common Stock held by each officer and director and by each person who owns 5% or more of the outstanding Common Stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not
necessarily a conclusive determination for other purposes.



The number of outstanding shares of the registrants Common Stock on December 6, 2004 was 36,256,285.



DOCUMENTS INCORPORATED BY REFERENCE



Portions of the Proxy Statement for the Registrants 2004 Annual Meeting of Stockholders to be held on February 4, 2005 are incorporated by reference
in Part III of this Form 10-K.



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TABLE OF CONTENTS



|           |  |                                                                                                                  |  |   
|---------- |  | ---------------------------------------------------------------------------------------------------------------- |  | --
|PART I     |  |                                                                                                                 
|           |  |                                                                                                                 
|Item 1.    |  | Business                                                                                                         |  | 1 
|           |  |                                                                                                                 
|Item 2.    |  | Properties                                                                                                       |  | 12
|           |  |                                                                                                                 
|Item 3.    |  | Legal Proceedings                                                                                                |  | 12
|           |  |                                                                                                                 
|Item 4.    |  | Submission of Matters to a Vote of Security Holders                                                              |  | 12
|           | 
|PART II    |  |                                                                                                                 
|           |  |                                                                                                                 
|Item 5.    |  | Market for the Registrants Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities |  | 13
|           |  |                                                                                                                 
|Item 6.    |  | Selected Consolidated Financial Data                                                                             |  | 14
|           |  |                                                                                                                 
|Item 7.    |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                            |  | 15
|           |  |                                                                                                                 
|Item 7a.   |  | Quantitative and Qualitative Disclosures about Market Risk                                                       |  | 33
|           |  |                                                                                                                 
|Item 8.    |  | Financial Statements and Supplementary Data                                                                      |  | 35
|           |  |                                                                                                                 
|Item 9.    |  | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure                             |  | 63
|           |  |                                                                                                                 
|Item 9a.   |  | Controls and Procedures                                                                                          |  | 63
|           |  |                                                                                                                 
|Item 9b.   |  | Other Information                                                                                                |  | 63
|           | 
|PART III   |  |                                                                                                                 
|           |  |                                                                                                                 
|Item 10.   |  | Directors and Executive Officers of the Registrant                                                               |  | 63
|           |  |                                                                                                                 
|Item 11.   |  | Executive Compensation                                                                                           |  | 63
|           |  |                                                                                                                 
|Item 12.   |  | Security Ownership of Certain Beneficial Owners and Management                                                   |  | 64
|           |  |                                                                                                                 
|Item 13.   |  | Certain Relationships and Related Transactions                                                                   |  | 64
|           |  |                                                                                                                 
|Item 14.   |  | Principal Accountant Fees and Services                                                                           |  | 64
|           | 
|PART IV    |  |                                                                                                                 
|           |  |                                                                                                                 
|Item 15.   |  | Exhibits and Financial Statement Schedules                                                                       |  | 64
|           | 
|SIGNATURES |  | 66                                                                                                              



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References in this Annual Report on Form 10-K to we, us, our and ISSI mean
Integrated Silicon Solution, Inc. and all entities owned or controlled by Integrated Silicon Solution, Inc.



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All brand names, trademarks and trade names referred to in this report are
the property of their respective holders.



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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS



We have made forward-looking statements in this report that are subject to
risks and uncertainties. Forward-looking statements include information concerning possible or assumed future results of our operations. Also, when we use words such as believes, expects, anticipates or similar
expressions, we are making forward-looking statements. You should note that an investment in our securities involves certain risks and uncertainties that could affect our future financial results. Our actual results could differ materially from
those anticipated in our forward-looking statements as a result of certain factors, including those set forth in Certain Factors Which May Affect Our Business or Future Operating Results and elsewhere in this report.



We believe it is important to communicate our expectations to our investors.
However, there may be events in the future that we are not able to predict accurately or over which we have no control. The risks described in Certain Factors Which May Affect Our Business or Future Operating Results included in this
report, as well as any cautionary language in this report, provide examples of risks, uncertainties and events that may cause our actual results to differ materially from the expectations we describe in our forward-looking statements. Before you
invest in our common stock, you should be aware that the occurrence of the events described in Certain Factors Which May Affect Our Business or Future Operating Results and elsewhere in this report could harm our business.



All forward-looking statements made by us are expressly qualified in their
entirety by the cautionary statements set forth in this report. Except as required by federal securities laws, we are under no obligation to update any forward-looking statement, whether as a result of new information, future events, or otherwise.



PART I



Item 1. Business



Overview



We are a fabless semiconductor company that designs and markets high
performance integrated circuits for the following key markets: (i) digital consumer electronics, (ii) networking, (iii) mobile communications and (iv) automotive electronics. Our primary products are high speed and low power SRAM and low and
medium density DRAM. We also design and market EEPROMs and SmartCards, and we are developing selected non-memory products focusing on wireless chipsets using short range BlueTooth technology. We target high growth markets with our low cost, high quality semiconductor products and seek to build
long-term relationships with our customers. We remain committed to produce many of the lower density and older memories that are of less interest to many larger manufacturers.



Our outsourced manufacturing model is based upon a history of joint technology development relationships with key Asian
foundries. For example, we had a technology development program for a 0.13 micron process with Taiwan Semiconductor Manufacturing Corporation (TSMC). We will also agree with a foundry to design a specific device to be manufactured in their wafer
fabrication facility. We also make strategic equity purchases in selected foundries. For example, we invested a total of $42.0 million in Semiconductor Manufacturing International Corporation (SMIC). We have an established presence in the important
Asian market that includes design groups in Shanghai, China and Hsinchu, Taiwan. These wholly-owned subsidiaries also have product engineering, sales and marketing, quality assurance, production control, and other operating functions. Our world
headquarters are based in Santa Clara, California.



Our
customers include leaders in each of our four target markets including Apex, ChangHong, D-Link, Samsung and Sony in consumer electronics; 3Com, Ambit, Askey, Cisco and Yahoo! Japan in networking; Ericsson, LG Electronics, Motorola and Nokia in
mobile communications; and Bose, Delphi, Philips and



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Siemens in automotive electronics. Due to their significant size and market influence, these customers generally drive memory volumes in their market
segments and help define the direction of future memory needs.



Company
Background



We were incorporated in California in October
1988 and changed our state of incorporation to Delaware in August 1993. Our principal executive offices are located at 2231 Lawson Lane, Santa Clara, California 95054, and our telephone number is (408) 969-6600. On our Investor Relations web site,
located at www.issi.com, we post the following filings as soon as reasonably practicable after they are electronically filed with or furnished to the Securities and Exchange Commission: our annual report on Form 10-K, our quarterly reports on
Form 10-Q, our current reports on Form 8-K and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934. All such filings on our Investor Relations web site are available free of
charge.



Market Background



In recent years, the need for sophisticated semiconductor memory
architecture has expanded beyond the PC market and into electronic systems in a wide variety of markets including digital consumer electronics, networking, mobile communications and automotive electronics. Advances in technology have allowed for
increasingly complex digital consumer systems such as DVD players, set-top boxes, digital cameras and HDTVs. Memory content is often required in these products to manage large amounts of data that create images and sounds in a digital format. As a
result, virtually all digital consumer electronic systems incorporate semiconductor memory devices to enable and enhance system performance.



As more consumers and businesses utilize the internet and broadband communications networks, the demand for products that connect to these networks has
accelerated. Consumers and businesses require high speed access to internet content and other services to transmit and receive large amounts of data, such as highly graphical web sites, mp3 audio files and streaming multimedia applications. The
numerous and complex applications that facilitate connections within networking and broadband products such as modems, switches and routers require optimized high speed memory architectures to maximize bus bandwidth and speed data transfer.



Mobile communications products have gained broad acceptance
among consumers. Applications for cellular communications, wide local area networks (WLAN) and global positioning systems (GPS) are increasingly able to access a range of data services, from internet connectivity to location detection, and are
delivering information to consumers through mobile products. As the complexity and functionality of mobile communications products increases, so does the need for increased memory. These applications require the same memory performance as a
non-mobile device, but the memory device must also conform to the mobile needs of low power and small footprint. The base stations interacting with mobile devices also have memory content that can be supplied by ISSI.



The complexity of automobile electronics is also increasing rapidly. The
significant increase in automotive electronics systems has resulted in an increase in microcontrollers and memory responsible for delivering control and command functionality. Automobile designers are increasing semiconductor content in automobiles
to allow for improved telematics, digital audio and video entertainment systems, and powertrain functions such as engine control and fuel efficiency management systems. These systems require memory devices that must meet the automotive
industrys high quality and reliability standards.



Integrated circuits that address the semiconductor memory market can be segmented into volatile memory, such as DRAM and SRAM, and non-volatile memory, such as Flash and EEPROM. Volatile memory loses the data if the electricity is turned
off while non-volatile memory retains the data when the electricity is turned off. SRAM is used for applications that require very high speed access to stored data, and typically requires four to six transistors to store each bit of data. DRAM uses
only a single transistor to store each bit of data. This is why



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the storage capacity of DRAM tends to be much greater than that of SRAM. Because of these factors, SRAM is faster than DRAM, but more expensive on a cost per
bit basis. The same equipment manufacturers that use high performance SRAM may also use low and medium density DRAM, and such products can be sold through the same channels.



System designers use SRAM in the most performance sensitive portions of their memory architecture. High performance SRAM
operates at either very high speed or very low power. High speed SRAM is used in applications such as base stations, bridges, routers, modems and peripherals. Low power SRAM is used in applications such as the wireless handheld and mobile phone
markets.



The DRAM market can be segmented into high density
devices (currently 512 Mb and above) and low and medium density devices (currently 256 Mb and below). High density DRAM is used in applications that require high capacity storage such as PCs and other high-end computing devices. Currently, DRAM in
PCs is migrating from 256 Mb to 512 Mb and above. Low and medium density DRAM is used in applications such as digital consumer electronics, networking, mobile communications and automotive electronics which require less memory capacity than PCs and
high end computing applications. Large captive memory manufacturers tend to focus production on higher density DRAM devices, where the volumes are greater and manufacturing economies of scale can be optimized. As a result, to the extent the large,
captive memory manufacturers limit or cease production of low and medium density DRAM, customers may seek a new long-term, steady supply of these products.



Memory suppliers compete on the basis of speed, power consumption, density, reliability and cost, all of which are a function of process technology and
design expertise. Success in the memory market is determined not only by the quality of the device design but also by the process through which the device can be fabricated. Process technology improvements allow design line widths to be reduced,
which in turn allow the integrated circuit design to operate at faster speeds and increased memory density. To meet the demands for high performance memories, a memory supplier must also have a wafer fabrication strategy allowing it to migrate to
the newest generations of process technology on a timely basis. Process technology shifts occur frequently and are developed in high end wafer fabrication facilities that typically cost over $1.0 billion. Although most of the large multinational
memory companies fabricate their own semiconductor wafers, fabless suppliers rely on third-party wafer foundries. The fabless model is much less capital intensive, but requires strong relationships with foundries to secure wafer supply and access to
advanced process technology.



The manufacturing of many
products in the digital consumer electronics, networking and mobile communication markets is largely based in Asia. As a result, many semiconductor companies have increased their sales and design presence in Asia to be closer to key customers, and
to obtain access to lower cost engineering and manufacturing resources. Semiconductor companies that have a strong Asian presence may have a competitive advantage in securing business from manufacturers located in this region.



The demand for high performance memory products across a variety of end
markets provides a substantial opportunity for a focused supplier of high performance memory integrated circuits.



Strategy



Since our inception in 1988, we have developed a broad range of SRAM products that enable designers to meet the demanding density, speed, cost,
reliability and power consumption requirements of semiconductors used in high technology products. We have also established ourselves as a supplier of low and medium density DRAM products, which are complementary to our SRAM products. For both
product lines, we emphasize our commitment to be a long-term provider of the older, smaller density products that are of less interest to some of our larger competitors. Our customers are among the largest manufacturers in the digital consumer
electronics, networking, mobile communications and automotive electronic markets. Unlike many other fabless semiconductor companies, we employ our own process development team to work collaboratively with our key



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foundry suppliers. From time to time we have also made equity purchases in selected wafer foundries. Our management has extensive experience working with
Asian foundries. These factors allow us to build strong relationships with our foundry suppliers and facilitate access to leading edge process technology and wafer capacity. The key elements of our strategy are:



Build Collaborative Relationships with Leading Edge
Foundries.    We work in a highly collaborative mode with our principal wafer foundries in developing leading edge process technology that is critical in advanced memories. We entered our first development program with TSMC
in 1990 and with Chartered Semiconductor in 1994. Through this collaborative model, we have been able to repeatedly be in the forefront as process technology moves to smaller geometries. In addition, from time to time we will agree to design a
specific memory device requested by a foundry. As part of our manufacturing strategy, we have also made strategic equity purchases in key foundries such as SMIC, and in the past, TSMC. We believe our collaborative development efforts and equity
purchases have enabled us to have more secure access to wafer capacity even during industry up cycles. For example, in late 2003 and early 2004, foundry wafers were generally on allocation but we were able to increase our wafer starts and grow our
revenue on a quarterly basis.



Commit to Being a Long-Term
Supplier of our Products.    We are a long-term supplier of products to many of our customers. Our fabless model provides us the flexibility to accommodate small volume production runs for products such as low and medium
density memories. In contrast, many large captive suppliers will reduce or cease production of lower density products in periods of tight capacity as manufacturing such products is less attractive to them than making higher density memories which
typically have higher volumes and greater economies of scale. As an example, we still supply low density 4 Mb DRAM and 64K SRAM, while most large captive memory companies ceased production of such devices several years ago.



Continue to Develop and Offer High Performance
Products.    We provide cost effective, high performance products including a complete family of SRAM products and a range of low and medium density DRAM products. We work with our customers to identify the memory
requirements of their next generation products and then focus our development efforts on achieving high performance standards through advanced process technology, circuit density, high speed, reliability and optimized power consumption. Examples of
our high performance product offerings include a 36 Mb synchronous SRAM product targeting high-end networking applications and a 256 Mb Synchronous DRAM product targeting the digital consumer electronics and networking markets.



Expand our Low Cost Asian-Based Development Teams Close to our
Customers.    We intend to continue to capitalize on our extensive experience in Asia. We have established low cost engineering development teams close to our customers through our subsidiaries in Taiwan and China. As
evidence of this strategy, in the last year we have grown our design and engineering groups in Shanghai, China and Hsinchu, Taiwan, and we now employ over 90 design and engineering professionals in these locations. In fact, we now employ more
individuals in Asia than in North America.



Further
Penetrate Industry Leading Customers.    We leverage our expertise in producing high quality memory products to penetrate our target markets through industry leading accounts, such as Apex, ChangHong, D-Link, Samsung and Sony
in digital consumer electronics; 3Com, Ambit, Askey, Cisco and Yahoo! Japan in networking; Ericsson, LG Electronics, Motorola and Nokia in mobile communications; and Bose, Delphi, Philips and Siemens in automotive electronics. We target these
customers because we believe they drive high volumes in their markets and define the direction of future memory requirements. Our success with these market leaders enables us to attract other customers and diversify our customer base.



Develop Selected Non-Memory Products for Key
Markets.    We are developing selected non-memory products for use in our key markets. Our goal is to increase product diversification and to offer products that are synergistic with our SRAM and DRAM expertise. Our initial
non-memory products are expected to be Bluetooth and other wireless chipsets. Most of the development work for our non-memory products is performed by our Taiwan and China design groups. We believe we can succeed in these markets by capitalizing on
our experience in small die size design and low cost manufacturing.



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Customers and Marketing



Over the years, we have established a strong customer base including industry leading accounts. Our key customers in each of our target markets are
presented in the following table:



|                            |  |              |  |                      |  |                      
|--------------------------- |  | ------------ |  | -------------------- |  | ---------------------
|DigitalConsumer Electronics |  | Networking   |  | MobileCommunications |  | AutomotiveElectronics
|Apex                        |  | 3Com         |  | Ericsson             |  | Bose                 
|ChangHong                   |  | Alcatel      |  | LG Electronics       |  | Delphi               
|D-Link                      |  | Ambit        |  | Motorola             |  | Philips              
|LG Electronics              |  | Askey        |  | Nokia                |  | Siemens              
|Lexmark                     |  | Cisco        |  | UTStarcom            |  | Temic                
|NEC                         |  | Huawei       |  |                      |  |                      
|Samsung                     |  | Nortel       |  |                      |  |                      
|Sharp                       |  | Yahoo! Japan |  |                      |  |                      
|Sony                        |  | ZTE          |  |                      |  |                      



Our sales and
marketing efforts are directed from our Santa Clara headquarters, but we also have sales and marketing teams in Asia and a sales team in Europe. We market and sell our products in Asia, the U.S. and Europe through our direct sales force, independent
sales representatives and distributors. We have distributors in North America and in many countries in Europe, including a Pan-European distributor. In Asia, we sell primarily through distributors who work closely with our Asian resident direct
sales force. We have sales offices in the U.S., Europe, Taiwan, China, Hong Kong, Korea and India. Our marketing group focuses on product strategy, product development road maps, new product introduction, demand assessment and competitive analysis.
The group also ensures that product launches, channel marketing programs, and ongoing demand and supply planning occur on a well-managed, timely basis.



In fiscal 2004, no single customer accounted for over 10% of our total net sales. In fiscal 2003, sales to ATM Electronic Corporation, a distributor in
Taiwan, accounted for approximately 10% of our total net sales. A substantial portion of our sales to ATM were for delivery to Ambit. In fiscal 2002 no single customer accounted for over 10% of our total net sales. The percentage of our revenues
from customers located outside the U.S. was approximately 70%, 87%, and 87% in fiscal 2002, 2003, and 2004, respectively. We anticipate that sales to international customers will continue to represent a significant percentage of our net sales. The
percentages of our revenues by region are set forth in the following table:



|       |  |                                |   |  |      |   |  |      |  
|------ |  | ------------------------------ | - |  | ---- | - |  | ---- | -
|       |  | Fiscal Year EndedSeptember 30, |  
|       |  | 2002                           |   |  | 2003 |   |  | 2004 |  
|Asia   |  | 56                             | % |  | 77   | % |  | 75   | %
|Europe |  | 14                             |   |  | 10   |   |  | 11   |  
|U.S.   |  | 30                             |   |  | 13   |   |  | 13   |  
|Other  |  |                               |   |  |     |   |  | 1    |  
|       |  |                                |   |  |      |   |  |      |  
|Total  |  | 100                            | % |  | 100  | % |  | 100  | %
|       |  |                                |   |  |      |   |  |      |  



Our sales are
generally made pursuant to standard purchase orders, which can be revised to reflect changes in the customers requirements. Generally, our purchase orders and OEM agreements allow customers to reschedule delivery dates and cancel purchase
orders without significant penalties. For these reasons, we believe that our backlog, while useful for scheduling production, is not necessarily a reliable indicator of future revenues.



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Markets and Products



Our memory products are used in a variety of specific applications within the digital consumer electronics, networking, mobile communications and
automotive electronics markets. In particular, our SRAM products are used in WLANs, base stations, networking switches and routers, DSL modems, LCD TVs, set-top boxes, GPS systems, instrumentation, engine control systems, telematics, audio and video
equipment, satellite radio, POS terminals, fax machines, copiers, tape drives, and other applications. Our low and medium density DRAM products are used in base stations, DVD players, DSL modems, set-top boxes, digital cameras, flat panel TVs, LCD
TVs, HDTVs, printers, audio equipment and other applications. Many of the same customers that purchase our SRAM products also purchase our DRAM products.



Historically, SRAM products generated a majority of our revenue, largely for networking and telecommunications applications. However, in the last several
years, these markets remained relatively flat and, in the same period, we experienced rapid growth in the consumer electronics market for our low and medium density DRAM products. As a result, we now derive a majority of our revenue from DRAM
products.



SRAM.    Our SRAM
strategy is to offer a broad range of devices and be a complete supplier of a customers SRAM requirements. We offer advanced, leading-edge products, such as our new 36 Mb synchronous SRAM, and we also make long-term supply commitments on
established SRAM products, such as a 32K x 8, 5 volt asynchronous SRAM. Our high performance SRAM products generally focus on either high speed or low power applications.



We offer both asynchronous and synchronous high speed SRAM products. Our high speed asynchronous SRAM products are used in
applications such as LANs, telecommunication equipment and base stations, bridges, routers, modems, automotive electronics, multimedia products, peripherals, and industrial instrumentation. Driven by demand in the wireless handheld and mobile phone
markets, we have developed a low power family of SRAM products for wireless applications. Our high speed synchronous SRAM products are used in a variety of networking and telecommunications, such as high performance bridges and routers, as well as
in automotive applications. Additional SRAM products under development are expected to include performance-leading features in speed, configuration, power levels, density and packaging.



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The following table illustrates our principal SRAM products and the markets in which they can be used:



|                                |  |               |  |         |  |                            |  |            |   |                      |  |                       |  |  |   | 
|------------------------------- |  | ------------- |  | ------- |  | -------------------------- |  | ---------- | - | -------------------- |  | --------------------- |  |  | - | 
|Product Description             |  | Configuration |  | Density |  | DigitalConsumerElectronics |  | Networking |   | MobileCommunications |  | AutomotiveElectronics
|Asynchronous SRAM               |  |               |  |         |  |                            |  |            |   |                      |  |                       |  |  |   | 
|High Speed 5 Volt (3.3 Volt)    |  | 128K x 8      |  | 1 Mb    |  | ü                          |  |            | ü |                      |  | ü                     |  |  | ü | 
|High Speed 5 Volt (3.3 Volt)    |  | 64K x 16      |  | 1 Mb    |  | ü                          |  |            | ü |                      |  | ü                     |  |  | ü | 
|High Speed (3.3 Volt)           |  | 128K x 16     |  | 2 Mb    |  | ü                          |  |            | ü |                      |  | ü                     |  |  | ü | 
|High Speed (3.3 Volt)           |  | 256K x 16     |  | 4 Mb    |  | ü                          |  |            | ü |                      |  |                       |  |  | ü | 
|High Speed (3.3 Volt)           |  | 512K x 8      |  | 4 Mb    |  | ü                          |  |            | ü |                      |  |                       |  |  | ü | 
|High Speed (3.3 Volt)           |  | 512K x 16     |  | 8 Mb    |  | ü                          |  |            | ü |                      |  |                       |  |  |   | 
|High Speed (3.3 Volt)           |  | 1M x 8        |  | 8 Mb    |  | ü                          |  |            |   |                      |  |                       |  |  | ü | 
|Low/Ultra Low Power             |  | 128K x 8      |  | 1 Mb    |  | ü                          |  |            |   |                      |  |                       |  |  | ü | 
|Low/Ultra Low Power             |  | 64K x 16      |  | 1 Mb    |  | ü                          |  |            |   |                      |  | ü                     |  |  | ü | 
|Low/Ultra Low Power             |  | 128K x 16     |  | 2 Mb    |  | ü                          |  |            |   |                      |  |                       |  |  |   | 
|Low/Ultra Low Power             |  | 256K x 8      |  | 2 Mb    |  | ü                          |  |            |   |                      |  |                       |  |  | ü | 
|Low/Ultra Low Power             |  | 256K x 16     |  | 4 Mb    |  | ü                          |  |            |   |                      |  |                       |  |  |   | 
|Low/Ultra Low Power             |  | 512K x 8      |  | 4 Mb    |  |                            |  |            | ü |                      |  | ü                     |  |  |   | 
|Low/Ultra Low Power             |  | 1M x 8        |  | 8 Mb    |  |                            |  |            |   |                      |  | ü                     |  |  | ü | 
|Low/Ultra Low Power             |  | 512K x 16     |  | 8 Mb    |  |                            |  |            | ü |                      |  |                       |  |  |   | 
|Synchronous SRAM                |  |               |  |         |  |                            |  |            |   |                      |  |                       |  |  |   | 
|Pipeline Burst/FlowThru         |  | 128K x 32/36  |  | 4 Mb    |  | ü                          |  |            | ü |                      |  |                       |  |  | ü | 
|Pipeline Burst/FlowThru         |  | 256K x 18     |  | 4 Mb    |  |                            |  |            | ü |                      |  |                       |  |  |   | 
|Pipeline Burst/FlowThru/No Wait |  | 256K x 36     |  | 9 Mb    |  |                            |  |            | ü |                      |  |                       |  |  |   | 
|Pipeline Burst/FlowThru/No Wait |  | 512K x 18     |  | 9 Mb    |  |                            |  |            | ü |                      |  |                       |  |  |   | 
|Pipeline Burst/FlowThru/No Wait |  | 256K x 72     |  | 18 Mb   |  |                            |  |            | ü |                      |  |                       |  |  |   | 
|Pipeline Burst/FlowThru/No Wait |  | 512K x 36     |  | 18 Mb   |  |                            |  |            | ü |                      |  |                       |  |  |   | 
|Pipeline Burst/FlowThru/No Wait |  | 1M x 18       |  | 18 Mb   |  |                            |  |            | ü |                      |  |                       |  |  |   | 
|Quad/DDR II                     |  | 2M x 18       |  | 36 Mb   |  |                            |  |            | ü |                      |  |                       |  |  |   | 
|Quad/DDR II                     |  | 1M x 36       |  | 36 Mb   |  |                            |  |            | ü |                      |  |                       |  |  |   | 



DRAM.    Our DRAM strategy is to be a long-term supplier of low and medium density DRAM products. Our DRAM is not targeted at the main memory DRAM market and we do not compete in markets requiring the highest
density DRAM products used in PCs and workstations. Instead, we provide 4, 16, 64 and 128 Mb DRAM and, in the second quarter of fiscal 2005, we will begin selling a 256 Mb DRAM. Applications for our low and medium density DRAM include products such
as DVD players, set-top boxes, DSL modems, digital still cameras, printers, automotive electronics, base stations, networking equipment, disk drives, tape drives and PDAs. Most of these applications do not require high density products, and our
customers memory component strategy typically follows behind one or more generations the high density DRAM market. Additional DRAM products, including low power synchronous DRAM products, are under development.



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The following table describes our principal DRAM products and the markets in which they can be used:



|                               |  |               |  |         |  |                            |  |            |   |                      |  |                       |  |  |   | 
|------------------------------ |  | ------------- |  | ------- |  | -------------------------- |  | ---------- | - | -------------------- |  | --------------------- |  |  | - | 
|Product Description            |  | Configuration |  | Density |  | DigitalConsumerElectronics |  | Networking |   | MobileCommunications |  | AutomotiveElectronics
|Synchronous 3.3 Volt           |  | 1M x 16       |  | 16 Mb   |  | ü                          |  |            |   |                      |  |                       |  |  | ü | 
|Synchronous 3.3 Volt           |  | 4M x 16       |  | 64 Mb   |  | ü                          |  |            | ü |                      |  | ü                     |  |  |   | 
|Synchronous 3.3 Volt           |  | 2M x 32       |  | 64 Mb   |  | ü                          |  |            | ü |                      |  |                       |  |  |   | 
|Synchronous 3.3 Volt           |  | 16M x 8       |  | 128 Mb  |  |                            |  |            |   |                      |  |                       |  |  | ü | 
|Synchronous 3.3 Volt           |  | 8M x 16       |  | 128 Mb  |  | ü                          |  |            | ü |                      |  | ü                     |  |  | ü | 
|Synchronous 3.3 Volt           |  | 4M x 32       |  | 128 Mb  |  | ü                          |  |            | ü |                      |  |                       |  |  |   | 
|Low Power Synchronous 2.5 Volt |  | 16M x 8       |  | 128 Mb  |  |                            |  |            |   |                      |  | ü                     |  |  | ü | 
|Low Power Synchronous 2.5 Volt |  | 8M x 16       |  | 128 Mb  |  |                            |  |            |   |                      |  | ü                     |  |  |   | 
|Low Power Synchronous 2.5 Volt |  | 4M x 32       |  | 128 Mb  |  |                            |  |            |   |                      |  | ü                     |  |  |   | 



EEPROM and Other
Memory Products.    Our other memory products include high performance serial EEPROM, embedded EEPROM products targeted at SmartCard applications, and voice recording chips. Applications for these products include pagers,
networking systems, modems, telephone sets, security systems, video games, automobiles and other consumer products. Annual revenue from these products did not exceed 5% of our total annual revenue for fiscal 2002, 2003 or 2004.



Product Warranty.    Consistent with semiconductor
memory industry practice, we generally provide a limited warranty that our semiconductor memory devices are in compliance with specifications existing at the time of delivery. Liability for a stated warranty period is usually limited to replacement
of defective items or return of amounts paid.



Manufacturing



We outsource our manufacturing operations including wafer fabrication,
assembly and testing. Our wafer fabrication strategy is to build collaborative relationships with leading foundries and we sometimes purchase strategic equity interests in selected foundries. Because memory products are particularly well suited for
the development of advanced process technology, we seek to participate in developing and refining the process technology used to manufacture many of our products. We believe that this strategy gives us a competitive advantage and enables us to
achieve the early introduction of smaller geometries for our memory products, which results in increased performance and lower manufacturing costs, as well as facilitates access to needed capacity. Historically, our principal manufacturing
relationships have been with TSMC in Taiwan and with Chartered Semiconductor in Singapore. In fiscal 2002, we began production at SMIC in China and, in fiscal 2003, we began production at ProMOS and Powerchip in Taiwan.



In addition to building process technology development relationships, we are
differentiated from many other fabless semiconductor companies because we have purchased strategic equity interests in selected foundries. For example, in fiscal 2000, we committed to purchase $40.0 million in equity in SMIC, the first 8-inch wafer
foundry in China, located in the Shanghai/Pudong area near our China subsidiary. Our Chairman and Chief Executive Officer served on SMICs board of directors until SMICs initial public offering in March 2004. Previously, we held equity
interests in TSMC and United Microelectronics Corporation (UMC).



The manufacturing of our products begins at independent wafer foundries. Once the foundry has completed wafer processing, the wafers are shipped to subcontractors for wafer testing. They are then cut into individual memory chips, assembled
into final packages and tested at our third-party subcontractors in Taiwan, Singapore and China. Our operations groups in the U.S., China and Taiwan perform subcontractor management. We are certified under ISO 9001/2000 standards and our quality
system is periodically reviewed and approved by both ISO certifiers and our customers. We plan to achieve compliance with ISO/TS 16949:2002, the new automotive standard, and ISO 14001, the environmental standard, in the future.



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Each of our wafer suppliers also fabricates for other integrated circuit companies, including certain of
our competitors. In addition, some of our wafer suppliers manufacture memories for their own account. Although we are allocated specific wafer capacity from our suppliers, we may not be able to obtain such capacity in periods of tight supply. There
can be no assurance that the foundries we use will not encounter construction or production difficulties or that they will allocate sufficient wafer capacity to satisfy our wafer requirements, especially in times of wafer capacity shortages.
Moreover, there can be no assurance that we would be able to qualify additional manufacturing sources for existing or new products in a timely manner or that such additional manufacturing sources would be able to produce an adequate supply of
wafers. If we were unable to obtain an adequate supply of wafers from our current or any alternative sources in a timely manner, our business and operating results would be harmed.



Our suppliers for wafer testing, assembly, and final test also provide services to other companies. There can be no
assurance that these suppliers will not encounter production difficulties or that they will allocate sufficient capacity to satisfy our requirements. If we were unable to obtain an adequate supply of wafer testing, assembly, or final test services,
our business and operating results would be harmed.



Competition



The semiconductor market is intensely competitive and has
been characterized by cyclical market conditions, an oversupply of product, price erosion, rapid technological change and short product life cycles. We compete primarily on the basis of the following factors:



| |  | the pricing of our products;
| | - | ----------------------------



| |  | the supply and cost of wafers;
| | - | ------------------------------



| |  | product design, functionality, performance and reliability;
| | - | -----------------------------------------------------------



| |  | successful and timely product development;
| | - | ------------------------------------------



| |  | wafer manufacturing over or under capacity;
| | - | -------------------------------------------



| |  | access to advanced process technologies at competitive prices; and
| | - | ------------------------------------------------------------------



| |  | access to assembly and test capacity.
| | - | -------------------------------------



We may not be able to compete successfully in the future as to any of these factors and our failure to do so could harm our business.



In the market for SRAM products we compete with several domestic and
international semiconductor companies including Alliance Semiconductor, Cypress, Etron, Giga Semiconductor, ICSI, Integrated Device Technology, NEC, Renesas Technology, Samsung, Sony and ST Microelectronics. We also may face significant competition
from other domestic and foreign integrated circuit manufacturers which have advanced technological capabilities but are not currently participating in the SRAM market sector.



In the low to medium density DRAM area we generally compete with Hynix, ICSI, Micron, Nanya, Samsung, Oki and Winbond. In
addition, there are several fabless Taiwanese companies that are competitors, including ESMT, and Etron. Other large DRAM manufacturers could address the low and medium density DRAM market in the future.



In the EEPROM market, our primary competitors include Atmel, Catalyst and
STMicroelectronics. We also compete with many small to medium-sized companies in one or more segments of the market.



Certain of our competitors offer broader product lines and have greater financial, technical, marketing, distribution and other resources than us. In
industry down cycles, they may be willing to sell below fully absorbed costs at prices we cannot match. We may not be able to compete successfully against any of these competitors.



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The process technology used by our manufacturing sources, including process technology that we have
developed jointly with our foundries, can be used by such foundries to produce products for other companies, including our competitors. Although we believe that our participation in the development of the processes provides us the advantage of early
access to such processes, the knowledge of the wafer manufacturer may be used to benefit our competitors.



Research and Development



Rapid technological change and continuing price competition require research and development efforts on both new products and advanced processes employing smaller geometries. Our research and development activities are focused primarily on
the development of new memory circuit designs at the smallest die size and utilization of advanced process technology with the smallest geometries. We currently have design teams in Santa Clara, California, Taiwan, and China. Our research and
development expenditures in fiscal 2004, 2003, and 2002, were $20.8 million, $23.4 million, and $29.8 million, respectively.



New SRAM products in design include high speed synchronous devices and several asynchronous SRAMs we re-designed for more advanced process technology. We
have new 64 Mb and 128 Mb DRAM devices under design. We are developing new products on advanced 0.13, 0.14 and 0.15 micron process technologies. We are presently evaluating 90-nanometer process technology for our next generation products. In
nonvolatile memory, our future products are expected to include 256K and 512K density serial EEPROM devices.



We plan to add selected non-memory products to diversify our product portfolio. Our non-memory products will be targeted at our key markets. Our wireless
chipset product line is a non-memory product line. In fiscal 2002, we acquired certain Bluetooth and wireless chipset rights and technology in connection with an equity investment in a development-stage company, Signia Technologies, and have formed
a joint development program with them. Our Bluetooth and other wireless chipsets can be used for short distance wireless communication for applications such as cell phones, PDAs, PC peripherals, headsets and other consumer products. Most of the
development work for our non-memory products is performed by our Taiwan and China design groups. Through fiscal 2004, there has been no revenue from our non-memory products, and we do not predict material revenue being generated from such products
in fiscal 2005.



Patents and Intellectual Property



As of September 30, 2004, we held 73 U.S. patents. These patents expire
between 2010 and 2020. We have 10 additional patent applications pending and expect to continue to file patent applications where appropriate to protect our proprietary technologies. We do not currently hold any non-U.S. patents. Although patents
are an important element of our intellectual property, we believe that our continued success depends primarily on factors such as the technological skills and innovation of our personnel rather than on our patents. The process of seeking patent
protection can be expensive and time consuming. There can be no assurance that patents will be issued from pending or future applications or that, if patents are issued, they will not be challenged, invalidated or circumvented, or that any rights
granted thereunder will provide meaningful protection or other commercial advantage to us. Moreover, there can be no assurance that any patent rights will be upheld in the future or that we will be able to preserve any of our other intellectual
property rights.



In the semiconductor industry, it is not
unusual for companies to receive notices alleging infringement of patents or other intellectual property rights of others. We have been, and from time-to-time expect to be, notified of claims that we may be infringing patents, maskwork rights or
copyrights owned by third parties. If it appears necessary or desirable, we may seek licenses under patents that we are alleged to be infringing. Although patent holders commonly offer such licenses, licenses may not be offered and the terms of any
offered licenses may not be acceptable to us. The failure to obtain a license under a key patent or intellectual property right from a third party for technology used by us could harm our business.



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Part of our outsourcing strategy includes licensing product designs. To control our R&D expenses, we
regularly license some of our SRAM and DRAM designs from ICSI, other companies or our foundries. We also license our own designs to ICSI or other companies.



Employees



As of September 30, 2004, we had 310 employees worldwide, including 108 employees in the U.S., 89 in China, 98 in Taiwan, 8 in Hong Kong, 2 in India, 2 in
Europe and 3 in Korea. Our future success will largely be dependent on our ability to attract, retain and motivate highly qualified technical and management personnel. The employment market for such personnel is competitive and there can be no
assurance that we will successfully staff all necessary positions. Our employees are not represented by any collective bargaining agreements, we have never experienced a work stoppage and we believe our employee relations are good.



Executive Officers



Our executive officers and their ages as of September 30, 2004 are as follows:



|                |  |     |  |                                                                          
|--------------- |  | --- |  | -------------------------------------------------------------------------
|Name            |  | Age |  | Position                                                                 
|Jimmy S.M. Lee  |  | 49  |  | Chairman, Chief Executive Officer, and Director                          
|                |  |    
|Gary L. Fischer |  | 53  |  | President, Chief Operating Officer, Chief Financial Officer, and Director
|                |  |    
|Ching Hu        |  | 49  |  | Executive Vice President, ISSI and President, ISSI-Asia                  
|                |  |    
|Paul Song       |  | 49  |  | Senior Vice President, Engineering                                       



Set forth below is
certain information relating to our executive officers.



Jimmy S.M. Lee has served as our Chairman, Chief Executive Officer and a director since he co-founded ISSI in October 1988. He also served as our President until May 2000. From 1985 to 1988, Mr. Lee was engineering manager at
International CMOS Technology, a semiconductor company, and from 1983 to 1985, he was a design manager at Signetics Corporation, a semiconductor company. Previously, Mr. Lee was a project manager at Toshiba Semiconductor Corporation and a design
engineer at National Semiconductor Corporation. Mr. Lee has served as a director of ICSI, a memory supplier, since September 1990; as a director of NexFlash Technologies, a flash memory semiconductor company, since October 1998; as a director of
GetSilicon, a semiconductor supply chain management software company since April 2000; as a director of Signia Technologies, a developer of wireless semiconductors, since July 2000; and as a director of E-CMOS, a peripheral interface device company,
since September 2001. He served as a director of SMIC, a semiconductor foundry, from July 2000 until February 2004. ISSI holds equity interests in E-CMOS, GetSilicon, ICSI, NexFlash, Signia and SMIC. Mr. Lee holds an M.S. degree in electrical
engineering from Texas Tech University and a B.S. degree in electrical engineering from National Taiwan University.



Gary L. Fischer has been with us since June 1993 and has served as our President and Chief Operating Officer since April 2001, and as Chief
Financial Officer since November 2002. He also served as our Executive Vice President and Chief Financial Officer from April 1995 to March 2001, and as Vice President and Chief Financial Officer from June 1993 to March 1995. From January 1989 to
December 1992, Mr. Fischer was Chief Financial Officer of Synergy Semiconductor Corporation, a manufacturer of high performance SRAM and logic integrated circuits. Mr. Fischer has served as a director of ESST, a fabless semiconductor company, since
August 2004. From November 2001 to June 2003, he was a director of E-CMOS, a peripheral interface device company. Mr. Fischer holds an M.B.A. degree from the University of Santa Clara and a B.A. degree from the University of California, Santa
Barbara.



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Ching Hu has been with us since September 2001 and has served as our Executive Vice President,
ISSI and President ISSI-Asia since December 2003. From September 2001 to November 2003, he served as General Manager of ISSI-Taiwan. From April 1998 to April 2001, he was Vice President of Operations at Nanya Technology Corporation, a semiconductor
company. Mr. Hu holds an MS degree in material science engineering from the University of California at Santa Barbara, and a BS degree in material science and engineering from National Tsing-Hua University in Taiwan.



Paul Song has been with us since July 1990 and has served as Senior
Vice President, Engineering since April 2000. He served as Vice President, Engineering from April 1999 to April 2000, and as Vice President, Design Engineering from July 1996 to April 1999. He joined us as Director, Nonvolatile Memory Design
Engineering. Previously he held design engineering positions at Integrated Circuit Technology Corp., a user-programmable integrated circuits company; Exel Microelectronics, a supplier of EEPROM semiconductors; and Advanced Micro Devices, a supplier
of logic and memory integrated circuits. Dr. Song holds a Ph.D. degree in electrical engineering from Stanford University, an M.S. degree in electrical engineering from the University of California, Santa Barbara, and a B.S. degree in electrical
engineering from National Taiwan University.



Officers serve at
the discretion of the Board and are appointed annually. There are no family relationships between the directors or officers of ISSI.



Item 2. Properties



Our
headquarters consists of approximately 93,400 square feet of office space located in Santa Clara, California. The lease on this building expires in February 2007. Our China subsidiary occupies approximately 31,000 square feet under a lease that
expires in February 2006. Our Taiwan subsidiary occupies approximately 19,000 square feet under lease that expires in July 2007. We also lease field sales offices in the U.S., Asia and Europe. We believe our existing facilities are adequate to meet
our current needs and that we can renew our existing leases or obtain alternative space on terms that would not have a material impact on our financial results.



Item 3. Legal Proceedings



On
June 16, 2003, Symbol Technologies filed suit against us in the Supreme Court of the State of New York. The complaint alleges causes of action for breach of express warranty, negligent misrepresentation, breach of implied contract, negligence and
breach of implied warranty of fitness for a particular purpose related to certain of our products purchased by Symbol. The complaint sought monetary damages in an amount of $5.0 million, pre-judgment interest and court costs. In October 2004, the
parties settled this matter out of court and a stipulation of discontinuance with prejudice was approved by the court.



We are not currently subject to any other material pending legal proceedings. However, we may become subject to other lawsuits from time to time in the
ordinary course of our business, and any such lawsuit could harm our business.



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



There were no matters submitted to a vote of security holders during the fourth quarter of fiscal 2004.



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##### Table of Contents

PART II



Item 5. Market for Registrants Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities



Market for Common Stock



Our common stock has been quoted on the Nasdaq National Market under the symbol ISSI since our initial public offering in February 1995. Prior to such
date, there was no public market for our common stock. The following table sets forth, for the fiscal quarters indicated, the high and low sale prices per share for our common stock as reported on the Nasdaq National Market. These prices are
over-the-counter market quotations which reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions.



|                 |  |   |       |  |   |      
|---------------- |  | - | ----- |  | - | -----
|Fiscal Year 2003 |  |   |       |  |   |      
|First Quarter    |  | $ | 6.10  |  | $ | 2.36 
|Second Quarter   |  | $ | 4.96  |  | $ | 2.24 
|Third Quarter    |  | $ | 6.95  |  | $ | 2.32 
|Fourth Quarter   |  | $ | 13.11 |  | $ | 6.35 
|                 |  |  
|Fiscal Year 2004 |  |   |       |  |   |      
|First Quarter    |  | $ | 19.50 |  | $ | 9.57 
|Second Quarter   |  | $ | 19.87 |  | $ | 13.25
|Third Quarter    |  | $ | 19.35 |  | $ | 10.81
|Fourth Quarter   |  | $ | 12.30 |  | $ | 7.01 



Holders of Record



As of December 6, 2004, there were approximately 210 stockholders of
record of our common stock and approximately 16,200 beneficial holders of our common stock.



Dividends



We have
never declared or paid cash dividends. We currently intend to retain any earnings for use in our business and do not anticipate paying any cash dividends on our capital stock in the foreseeable future.



13



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##### Table of Contents

Item 6. Selected Consolidated Financial Data



The selected consolidated financial data set forth below should be read in conjunction with Managements Discussion and Analysis of Financial Condition and Results of Operations and our Consolidated Financial
Statements and the Notes thereto included elsewhere in this report. The consolidated statement of operations data set forth below for the three year period ended September 30, 2004 and the consolidated balance sheet data set forth below at September
30, 2003 and 2004 have been derived from our audited financial statements included elsewhere in this report. The consolidated statement of operations data set forth below for the fiscal years ended September 30, 2000 and September 30, 2001 and the
consolidated balance sheet data set forth below at September 30, 2000, 2001 and 2002 have been derived from our audited financial statements not included in this report. The historical results are not necessarily indicative of results to be expected
for any future period.



|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|------------------------------------------------------------------------ |  | ------------------------------------- | ------- | ---- | - | ------- | ---- |  | - | ------- | - |  | ---- | ------- | - |  | - | ------- | -
|                                                                         |  | Fiscal Years Ended September 30,      |        
|                                                                         |  | 2000                                  |         | 2001 |   |         | 2002 |  |   | 2003    |   |  | 2004 |        
|                                                                         |  | (In thousands, except per share data) |        
|Consolidated Statement of Operations Data:                               |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Net sales                                                                |  | $                                     | 141,923 |      | $ | 152,048 |      |  | $ | 70,448  |   |  | $    | 97,660  |   |  | $ | 181,012 |  
|Cost of sales                                                            |  |                                       | 97,759  |      |   | 144,869 |      |  |   | 86,213  |   |  |      | 86,046  |   |  |   | 154,315 |  
|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Gross profit (loss)                                                      |  |                                       | 44,164  |      |   | 7,179   |      |  |   | (15,765 | ) |  |      | 11,614  |   |  |   | 26,697  |  
|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Operating expenses                                                       |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Research and development                                                 |  |                                       | 18,287  |      |   | 25,303  |      |  |   | 29,841  |   |  |      | 23,394  |   |  |   | 20,838  |  
|Selling, general and administrative                                      |  |                                       | 15,627  |      |   | 20,721  |      |  |   | 15,962  |   |  |      | 13,328  |   |  |   | 16,403  |  
|Acquired in-process technology                                           |  |                                       |        |      |   |        |      |  |   | 4,689   |   |  |      |        |   |  |   |        |  
|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Total operating expenses                                                 |  |                                       | 33,914  |      |   | 46,024  |      |  |   | 50,492  |   |  |      | 36,722  |   |  |   | 37,241  |  
|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Operating income (loss)                                                  |  |                                       | 10,250  |      |   | (38,845 | )    |  |   | (66,257 | ) |  |      | (25,108 | ) |  |   | (10,544 | )
|Other income (expense), net                                              |  |                                       | 4,626   |      |   | 38,412  |      |  |   | 2,392   |   |  |      | (255    | ) |  |   | 12,112  |  
|Provision (benefit) for income taxes                                     |  |                                       | 680     |      |   | 150     |      |  |   | (3,220  | ) |  |      | 3       |   |  |   | 488     |  
|Equity in net income (loss) of affiliates/minority interest              |  |                                       | 10,830  |      |   | 1,698   |      |  |   | (6,895  | ) |  |      | (2,711  | ) |  |   | 2,405   |  
|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Net income (loss)                                                        |  | $                                     | 25,026  |      | $ | 1,115   |      |  | $ | (67,540 | ) |  | $    | (28,077 | ) |  | $ | 3,485   |  
|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Basic net income (loss) per share (1)                                    |  | $                                     | 1.07    |      | $ | 0.04    |      |  | $ | (2.49   | ) |  | $    | (1.01   | ) |  | $ | 0.10    |  
|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Diluted net income (loss) per share (1)                                  |  | $                                     | 0.96    |      | $ | 0.04    |      |  | $ | (2.49   | ) |  | $    | (1.01   | ) |  | $ | 0.10    |  
|                                                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Consolidated Balance Sheet Data:                                         |  |                                       |         |      |   |         |      |  |   |         |   |  |      |         |   |  |   |         |  
|Cash, cash equivalents and short-term investments                        |  |                                       | 97,578  |      |   | 122,859 |      |  |   | 78,822  |   |  |      | 58,442  |   |  |   | 138,965 |  
|Total assets                                                             |  |                                       | 260,724 |      |   | 237,852 |      |  |   | 184,676 |   |  |      | 158,099 |   |  |   | 300,864 |  
|Total long-term obligations and current portion of long-term obligations |  |                                       | 454     |      |   | 314     |      |  |   | 158     |   |  |      |        |   |  |   |        |  
|Stockholders equity                                                     |  |                                       | 211,235 |      |   | 214,437 |      |  |   | 155,423 |   |  |      | 131,949 |   |  |   | 263,037 |  

---

|(1) | See Note 1 of Notes to Consolidated Financial Statements for an explanation of the basis used to calculate net income (loss) per share.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------



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



Overview



We are a fabless semiconductor company that designs and markets high performance integrated circuits for the following key markets: (i) digital consumer
electronics, (ii) networking, (iii) mobile communications and (iv) automotive electronics. Our primary products are high speed and low power SRAM and low and medium density DRAM. We were founded in October 1988 and initially focused on high
performance, low cost SRAM for PC cache memory applications. In 1997, we introduced our first low and medium density DRAM products. Historically, our SRAM product family generated most of our revenue. However, in the year 2001, the high-end
networking and telecom markets slowed and this impacted our SRAM revenue. During this period, we increased our focus on the digital consumer electronics, mobile communications and automotive electronics markets. As a result of our success in the
digital consumer electronics market, sales of our low and medium density DRAM products have increased significantly and represented a majority of our net sales in fiscal 2004.



In order to limit and control our operating expenses, in recent years, we have reduced our headcount in the U.S. and
transferred various functions to our subsidiary in Taiwan and our subsidiary in China. We believe this has enabled us to limit our operating expenses while simultaneously locating these functions closer to our manufacturing partners and our
customers. As a result of these efforts, we currently have more employees in Asia than we do in the U.S. Part of our outsourcing strategy includes licensing product designs. To control our R&D expenses, we regularly license some of our SRAM and
DRAM designs from ICSI, other companies or our foundries. We also license our own designs to ICSI or other companies. We intend to continue these strategies going forward.



As a fabless semiconductor company, our business model is less capital intensive because we rely on third parties to
manufacture, assemble and test our products. Because of our dependence on third-party wafer foundries, our ability to increase our unit sales volumes depends on our ability to increase our wafer capacity allocation from current foundries, add
additional foundries and improve yields of die per wafer.



Although average selling prices of our SRAM and DRAM products have generally declined over time, the selling prices are very sensitive to supply and demand conditions in our target markets. While the average selling prices for certain of
our products had increased during the first three quarters of fiscal 2004, in the September 2004 quarter the average selling prices for our products declined significantly. We expect average selling prices for our products to decline in the future,
principally due to increased market competition and an increased supply of competitive products in the market. Any future decreases in our average selling prices would have an adverse impact on our revenue growth rate, gross margins and operating
margins. Our ability to maintain or increase revenues will be highly dependent upon our ability to increase unit sales volumes of existing products and to introduce and sell new products in quantities sufficient to compensate for the anticipated
declines in average selling prices of existing products. Declining average selling prices will adversely affect gross margins unless we are able to offset such declines with commensurate reductions in per unit costs or changes in product mix in
favor of higher margin products.



Revenue from product sales to
our direct customers is recognized upon shipment provided that persuasive evidence of a sales arrangement exists, the price is fixed and determinable, title has transferred, collection of resulting receivables is reasonably assured, there are no
customer acceptance requirements and there are no remaining significant obligations. A portion of our sales is made to distributors under agreements that provide the possibility of certain sales price rebates and limited product return privileges.
Given the uncertainties associated with the levels of returns and other credits that will be issued to these distributors, we defer recognition of such sales until our products are sold by the distributors to their end customers. Revenue from sales
to distributors who do not have sales price rebates or product return privileges is recognized at the time our products are sold by us to the distributors.



We market and sell our products in Asia, the U.S. and Europe through our direct sales force, distributors and sales representatives. The percentage of our
revenues shipped outside the U.S. was approximately 70%, 87% and



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87% in fiscal 2002, 2003 and 2004, respectively. We measure revenue location by the shipping destination, even if the customer is headquartered in the U.S.
The increase in our revenues from Asia is due to our success in the digital consumer electronics market. We anticipate that sales to international customers will continue to represent a significant percentage of our net sales. The percentages of our
revenues by region are set forth in the following table:



|       |  |                                  |   |  |      |   |  |      |  
|------ |  | -------------------------------- | - |  | ---- | - |  | ---- | -
|       |  | Fiscal Years Ended September 30, |  
|       |  | 2002                             |   |  | 2003 |   |  | 2004 |  
|Asia   |  | 56                               | % |  | 77   | % |  | 75   | %
|Europe |  | 14                               |   |  | 10   |   |  | 11   |  
|U.S.   |  | 30                               |   |  | 13   |   |  | 13   |  
|Other  |  |                                 |   |  |     |   |  | 1    |  
|       |  |                                  |   |  |      |   |  |      |  
|Total  |  | 100                              | % |  | 100  | % |  | 100  | %
|       |  |                                  |   |  |      |   |  |      |  



Our sales are
generally made by purchase orders. Because industry practice allows customers to reschedule or cancel orders on relatively short notice, backlog is not a good indicator of our future sales. Cancellations of customer orders or changes in product
specifications could result in the loss of anticipated sales without allowing us sufficient time to reduce our inventory and operating expenses.



Since a significant portion of our revenue is from the digital consumer electronics market, our business may be subject to seasonality, with increased
revenues in the third and fourth calendar quarters of each year, when customers place orders to meet year-end holiday demand. However, broad fluctuations in our overall business in the past several years makes it difficult for us to assess the
impact of seasonal factors on our business.



We hold equity
interests in a number of other companies. We acquired these interests for strategic reasons, such as developing a strong relationship with a third-party wafer foundry we rely on to manufacture our products. Our financial results for fiscal 2002,
fiscal 2003 and fiscal 2004 reflect accounting for our investment in Integrated Circuit Solution, Inc. (ICSI) on the equity basis and include our percentage share of the results of ICSIs operations. Our financial results for fiscal 2002 and
fiscal 2003 through the 7 month period ending April 30, 2003 reflect accounting for our investment in E-CMOS Technology Corporation (E-CMOS) on the equity basis and include our percentage share of the results of E-CMOS operations. Effective
May 2003, our ownership of E-CMOS became less than 20% and we began accounting for E-CMOS on the cost basis. Our financial results for fiscal 2002, fiscal 2003 and fiscal 2004 reflect accounting for GetSilicon, NexFlash Technologies, and Signia
Technologies on the cost basis. Our financial results for fiscal 2002, fiscal 2003 and for fiscal 2004 until their IPO in March 2004, reflect accounting for Semiconductor Manufacturing International Corporation (SMIC) on the cost basis. Since
SMICs IPO, we account for our shares in SMIC under the provisions of FASB Statement No. 115 and have marked our investment to the market value as of September 30, 2004 by increasing other assets and by increasing accumulated comprehensive
income in the equity section of our balance sheet. ICSI is a Taiwan-based fabless memory supplier, E-CMOS is a Taiwan-based peripherals interface device company, GetSilicon is a semiconductor supply chain management software company, NexFlash is a
Flash memory supplier, Signia Technologies is a developer of wireless semiconductors, and SMIC is a China-based semiconductor foundry. At September 30, 2004, we owned approximately 29% of ICSI, approximately 11% of E-CMOS, approximately 16% of
GetSilicon, approximately 14% of NexFlash, approximately 15% of Signia Technologies and less than 2% of SMIC.



We are subject to the risks of conducting business internationally, including economic conditions in Asia, particularly Taiwan and China, changes in trade
policy and regulatory requirements, duties, tariffs and other trade barriers and restrictions, the burdens of complying with foreign laws and, possibly, political instability. All of our foundries and assembly and test subcontractors are located in
Asia. Although we transact business predominately in U.S. dollars, we do have some transactions in New Taiwan dollars, in Hong Kong dollars and in China Renminbi. Such transactions expose us to the risk of exchange rate fluctuations. We monitor our
exposure to



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foreign currency fluctuations, but have not to date adopted any hedging strategy. There can be no assurance that exchange rate fluctuations will not harm our
business and operating results in the future.



Fiscal Year Ended September
30, 2004 Compared to Fiscal Year Ended September 30, 2003



Net sales.    Net sales consist principally of total product sales less estimated sales returns. Net sales increased by 85% to $181.0 million in fiscal 2004 from $97.7 million in fiscal 2003. The increase in sales
was principally due to an increase in the average selling prices of our DRAM products, specifically our 64 and 16 Mb devices, in fiscal 2004 compared to fiscal 2003. In addition, sales in fiscal 2004 benefited from shipments of our new 128 Mb DRAM
product. An increase in unit shipments of our SRAM products in fiscal 2004 compared to fiscal 2003, more than offset any declines in the average selling prices for such products resulting in an overall increase in SRAM revenue. We anticipate that
the average selling prices of our existing products will decline over time, although the rate of decline may fluctuate for certain products. In this regard, we anticipate a decline in the average selling prices for our DRAM and certain of our SRAM
products in the December 2004 quarter compared to the September 2004 quarter. There can be no assurance that any future price declines will be offset by higher volumes or by higher prices on newer products.



In fiscal 2004, no single customer accounted for over 10% of net sales. Sales
to ATM Electronic Corporation, one of our Asian distributors, accounted for approximately 10% of our net sales in fiscal 2003. A substantial portion of our sales to ATM were for delivery to Ambit.



Gross profit.    Cost of sales includes die cost
from the wafers acquired from foundries, subcontracted package, assembly and test costs, costs associated with in-house product testing, quality assurance and import duties. Gross profit increased by $15.1 million to $26.7 million in fiscal 2004
from $11.6 million in fiscal 2003. Gross margin increased to 14.7% in fiscal 2004 from 11.9% in fiscal 2003. In fiscal 2004, we recorded inventory write-downs of $17.3 million predominately for lower of cost or market adjustments and to a lesser
extent, excess inventory. In fiscal 2003, we recorded inventory write-downs of $4.1 million predominately for lower of cost or market adjustments. Our gross margin for fiscal 2004 benefited from the sale of $1.6 million of parts previously written
down to zero carrying value. Excluding the effect of the inventory write-downs, the increase in gross profit was principally due to an increase in the average selling prices of our DRAM products, specifically our 64 and 16 Mb devices, in fiscal 2004
compared to fiscal 2003. In addition, our gross profit in fiscal 2004 benefited from sales of our new 128 Mb DRAM product. Increases in the average selling prices of our DRAM products in fiscal 2004 compared to fiscal 2003 more than offset any
increases in product costs resulting in higher gross margins for our DRAM products. Reductions in the cost of our SRAM products more than offset declines in the average selling prices of such products in fiscal 2004 compared to fiscal 2003,
resulting in an increase in gross profit. We believe that the average selling prices of our products will decline over time and, unless we are able to reduce our cost per unit to the extent necessary to offset such declines, the decline in average
selling prices will result in a material decline in our gross margin. In addition, product unit costs could increase if our suppliers raise prices, which could result in a material decline in our gross margin. In the past, foundries have raised
wafer prices when demand for end products increases. Although we have product cost reduction programs in place that involve efforts to reduce internal costs and supplier costs, there can be no assurance that product costs will be reduced or that
such reductions will be sufficient to offset the expected declines in average selling prices. We do not believe that such cost reduction efforts are likely to have a material adverse impact on the quality of our products or the level of service
provided by us.



Research and
development.    Research and development expenses decreased by 11% to $20.8 million in fiscal 2004 from $23.4 million in fiscal 2003. As a percentage of net sales, research and development expenses decreased to 11.5% in
fiscal 2004 from 24.0% in fiscal 2003. The decrease in absolute dollars was primarily the result of a reduction in expenses through the closing of our design centers in Korea and Hong Kong, a reduction of headcount and related expenses in the U.S.,
and the transfer of some design and engineering efforts to the lower-cost Asian countries of China and Taiwan. In addition, depreciation expense and contracted development costs decreased in fiscal 2004 compared to fiscal 2003. The increased costs
associated with the development of new products could result in our research and development expenses increasing in absolute dollars in future periods.



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Selling, general and administrative.    Selling, general and administrative
expenses increased by 23% to $16.4 million in fiscal 2004 from $13.3 million in fiscal 2003. As a percentage of net sales, selling, general and administrative expenses decreased to 9.1% in fiscal 2004 from 13.6% in fiscal 2003. The increase in
absolute dollars was primarily the result of increased selling commissions associated with higher revenues in fiscal 2004 compared to fiscal 2003. In addition, facility expenses increased in fiscal 2004 compared to fiscal 2003 due to the expiration
of certain of our subleases. Changes in corporate governance rules, in particular, complying with the internal control requirements of the Sarbanes-Oxley Act of 2002, Section 404, will result in increased internal efforts, significantly higher fees
from our independent accounting firm and significantly higher fees from third party contractors. As a result, we expect our selling, general and administrative expenses will increase in absolute dollars in future quarters, although such expenses may
fluctuate as a percentage of net sales.



Gain on sale of
investments.The gain on sale of investments increased by $10.3 million to $10.9 million in fiscal 2004 from $0.6 million in fiscal 2003. On March 17, 2004, SMIC completed its IPO. As a result of our sale of shares of SMIC
in the IPO, we recorded gross proceeds of approximately $13.2 million in the March 2004 quarter, resulting in a pre-tax gain of approximately $8.8 million. In the September 2004 quarter, we sold additional shares of SMIC and recorded gross proceeds
of approximately $5.0 million and a pre-tax gain of approximately $2.1 million. In fiscal 2003, we sold shares of E-CMOS for approximately $2.8 million which resulted in a pre-tax gain of $0.6 million.



Other income (expense), net.    Other income, net
was $1.2 million in fiscal 2004 compared to other expense of $(0.8) million in fiscal 2003. In fiscal 2003, we recorded approximately a $1.3 million impairment loss on our investment in Signia Technologies. In fiscal 2004, interest income increased
by approximately $0.6 million compared to fiscal 2003 as the result of higher cash balances.



Provision (benefit) for income taxes.We recorded a tax provision of approximately $488,000 for fiscal 2004 compared to a tax provision of approximately $3,000 for fiscal 2003. The
provision for income taxes for fiscal 2004 of $488,000 reflects taxes for U.S. federal alternative minimum tax, state minimum tax and tax in certain foreign jurisdictions. The provision for income taxes for fiscal 2003 reflects taxes for foreign
jurisdictions.



Equity in net income (loss) of affiliated
companies.Equity in net income (loss) of affiliated companies was $2.4 million income in fiscal 2004 compared to a $2.7 million loss in fiscal 2003. This primarily reflects an improvement in ICSIs financial results
in the twelve months ended September 30, 2004 compared to the twelve months ended September 30, 2003.



Fiscal Year Ended September 30, 2003 Compared to Fiscal Year Ended September 30, 2002



Net sales.    Net sales increased by 39% to $97.7 million in fiscal 2003 from $70.4 million in fiscal 2002. The increase in
sales was principally due to an increase in unit shipments of our DRAM products, specifically our 4, 16 and 64 Mb devices, partially offset by declines in the average selling prices for such products in fiscal 2003 compared to fiscal 2002. While
SRAM units shipped increased slightly in fiscal 2003 compared to fiscal 2002, the impact of the reduction in average selling prices for such products resulted in an overall reduction in our SRAM revenue.



Sales to ATM Electronic Corporation, one of our Asian distributors, accounted
for approximately 10% of our net sales in fiscal 2003. A substantial portion of our sales to ATM were for delivery to Ambit. In fiscal 2002, no single customer accounted for over 10% of net sales.



Gross profit (loss).    Gross profit increased by
$27.4 million to $11.6 million gross profit in fiscal 2003 from $15.8 million gross loss in fiscal 2002. Gross margin increased to 11.9% in fiscal 2003 from (22.4)% in fiscal 2002. In fiscal 2003, we recorded inventory write-downs of $4.1 million
predominately for lower of cost or market adjustments. We recorded inventory write-downs of $28.6 million in fiscal 2002 predominately for lower



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of cost or market adjustments and to a lesser extent, excess inventory. Our gross margin for fiscal 2002 benefited from the reversal of approximately $5.2
million in antidumping duties previously charged to cost of sales as a result of the favorable termination of an antidumping case. In fiscal 2002, we charged $1.2 million to cost of sales for the write-off of a prepaid license fee as the average
selling price for the impacted parts was less than the cost of the parts. Excluding the inventory write-downs, the benefit of the reversal of antidumping duties and the write-off of the prepaid license fee, the increase in gross profit was
principally due to an increase in unit shipments of our DRAM products and, to a lesser extent, our SRAM products, in fiscal 2003 compared to fiscal 2002. In addition, reductions in the cost of our DRAM and SRAM products more than offset declines in
the average selling prices of such products in fiscal 2003 compared to fiscal 2002, resulting in an increase in gross profit.



Research and development.    Research and development expenses decreased by 22% to $23.4 million in fiscal 2003 from $29.8
million in fiscal 2002. As a percentage of net sales, research and development expenses decreased to 24.0% in fiscal 2003 from 42.4% in fiscal 2002. The decrease in absolute dollars was primarily the result of a reduction in expenses associated with
new product development as we limited the focus of our development efforts resulting in a substantial reduction in mask costs and engineering wafers. In addition, we reduced research and development expenses through salary reductions, headcount
reductions and the transfer of some design and engineering efforts to Asia. In fiscal 2003, we recorded a $0.7 million charge for the sale of fixed assets as a result of closing our design centers in Hong Kong and Korea. In fiscal 2002, we wrote-off
the unamortized balance of the Purple Ray patent applications of approximately $0.8 million.



Selling, general and administrative.    Selling, general and administrative expenses decreased by 17% to $13.3 million in fiscal 2003 from $16.0 million in fiscal 2002. As a percentage of
net sales, selling, general and administrative expenses decreased to 13.6% in fiscal 2003 from 22.7% in fiscal 2002. The decrease in absolute dollars was primarily the result of controlling expenses through salary reductions, headcount reductions
and limiting discretionary spending.



In-process
technology.    On February 13, 2002, we acquired Purple Ray. The assets of Purple Ray consisted primarily of intellectual property. The transaction was accounted for using the purchase method of accounting. The total purchase
price of $7.1 million consisted of the fair market value of ISSIs common stock of $5.2 million, the fair value of options to purchase Purple Ray common stock assumed by ISSI of $1.7 million and transaction costs of $0.2 million. The
transaction resulted in an in-process technology charge of $4.7 million in our March 31, 2002 quarter.



Gain on sale of investments.The gain on the sale of investments increased to $0.6 million in fiscal 2003 from $35,000 in
fiscal 2002. In fiscal 2003, we sold shares of E-CMOS for approximately $2.8 million which resulted in a pre-tax gain of $0.6 million. In fiscal 2002, we sold shares of ICSI for approximately $64,000 resulting in a pre-tax gain of $35,000.



Other income (expense),
net.    Other income (expense), net, decreased by $3.2 million to $(0.8) million in fiscal 2003 from $2.4 million in fiscal 2002. The decrease was primarily the result of a $2.0 million decrease in interest income as the
result of lower cash balances and interest rates. In fiscal 2003, we recorded an impairment loss of approximately $1.3 million on our investment in Signia Technologies based on the share price of a subsequent investment in Signia Technologies in
July 2003. In addition, in fiscal 2003, we recorded a charge of approximately $0.3 million related to the decline in the fair value of an embedded derivative associated with the ICSI convertible debenture. Fiscal 2002 includes a write-off of
approximately $0.4 million for the impairment of certain of our equity investments.



Provision (benefit) for income taxes.We recorded a tax provision of approximately $3,000 for fiscal 2003 compared to a tax benefit of approximately $3.2 million for fiscal 2002. The
provision for income taxes for fiscal 2003 reflects taxes for foreign jurisdictions. We recorded a tax benefit of approximately $3.2 million for fiscal 2002 that principally reflected our ability to recover alternative minimum taxes previously
incurred as a result of changes in tax laws in 2002.



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Equity in net loss of affiliated companies.Equity in net loss of
affiliated companies decreased by $4.2 million to $2.7 million in fiscal 2003 from $6.9 million in fiscal 2002. This primarily reflects a decrease in the loss from our percentage share of ICSIs financial results in fiscal 2003 compared to
fiscal 2002.



Minority interest in net loss of consolidated
subsidiary.In October 2001, we invested $3.0 million for a 95% interest in D2Code, a subsidiary that we established in Korea to focus on semiconductor design activities. The results of their operations are included in our
consolidated financial statements. The minority interest in net loss of consolidated subsidiary decreased to $17,000 in fiscal 2003 from $50,000 in fiscal 2002. In fiscal 2003, we closed D2Code and transferred certain personnel to our U.S. facility.



Liquidity and Capital Resources



As of September 30, 2004, our principal sources of liquidity included cash,
cash equivalents, restricted cash and short-term investments of approximately $139.0 million. During fiscal 2004, operating activities used cash of approximately $37.4 million compared to $22.4 million in fiscal 2003. The increase in cash used by
operations was primarily due to increases in inventory of $28.1 million to support expected higher revenue, increases in accounts receivable of $15.0 million, decreases in accrued expenses of $1.5 million, increases in other assets of $0.4 million
and net income of $3.5 million adjusted for depreciation of $3.2 million, the gain on the sale of SMIC shares of $10.9 million, equity in net income of affiliated companies of $2.4 million, and other non-cash items of $0.9 million. This was
partially offset by an increase in accounts payable of $13.3 million primarily for inventory purchases.



In fiscal 2004, we used $66.3 million for investing activities compared to $27.6 million generated in fiscal 2003. The cash used for investing activities
in fiscal 2004 primarily resulted from net purchases of available-for-sale securities of $82.0 million. We generated approximately $13.2 million from our sale of shares in the SMIC IPO in March 2004, resulting in a pre-tax gain of approximately $8.8
million. In the September 2004 quarter, we generated approximately $5.0 million from the sale of additional shares of SMIC, resulting in a pre-tax gain of approximately $2.1 million. The cash generated from investing activities in fiscal 2003 was
primarily the result of net sales of available-for-sale securities of $28.8 million. In fiscal 2003, we sold shares of E-CMOS for $2.8 million which resulted in a pre-tax gain of approximately $0.6 million. In addition, in fiscal 2003, we made an
additional investment of $2.0 million in SMIC and other investments of $0.9 million.



In fiscal 2004, we made capital expenditures of approximately $2.6 million for test equipment, engineering tools, computer software and leasehold improvements. We expect to spend approximately $2.0 million to $5.0
million to purchase capital equipment during the next twelve months, principally for the purchase of design and engineering tools, additional test equipment, and computer software and hardware.



We generated $100.8 million from financing activities during fiscal 2004
compared to $3.1 million in fiscal 2003. In the March 2004 quarter, we completed a follow-on public offering of our common stock whereby we sold 6,025,000 shares at a public offering price of $16.50 per share. Proceeds from this offering, net of
commissions, discounts and expenses, were $93.5 million. In addition, in fiscal 2004, we generated $8.8 million from the issuance of common stock from option exercises and sales under our employee stock purchase plan. In fiscal 2004, we used $1.5
million to secure a letter of credit for the purchase of equipment. Cash generated from financing activities for fiscal 2003 was primarily the result of proceeds from the issuance of common stock of $3.2 million from option exercises and sales under
our employee stock purchase plan.



Our headquarters are located
in a leased site in Santa Clara, California. Outside of the U.S., we have operations in leased sites in China, Taiwan, and Hong Kong. In addition to these sites, we lease sales offices in the U.S., Europe, and Asia. Our leases expire at various
dates through 2007. Our outstanding commitments under these leases are approximately $4.5 million.



We generally warrant our products against defects in materials and workmanship for a period of 12 months. Liability for a stated warranty period is
usually limited to the replacement of defective items or return of amounts paid. Warranty expense has historically been immaterial to our financial statements.



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Our contractual cash obligations at September 30, 2004 are outlined in the table below:



|                                          |  |                        |        |                 |   |          |  |          |       |                  |   |     |  |   |  
|----------------------------------------- |  | ---------------------- | ------ | --------------- | - | -------- |  | -------- | ----- | ---------------- | - | --- |  | - | -
|                                          |  | Payments Due by Period
|Contractual Obligations                   |  | Total                  |        | Less than1 year |   | 1-3years |  | 3-5years |       | More than5 years
|                                          |  | (In thousands)        
|Operating leases                          |  | $                      | 4,486  |                 | $ | 1,863    |  | $        | 1,841 |                  | $ | 782 |  | $ | 
|Purchase obligations with wafer foundries |  |                        | 21,681 |                 |   | 21,681   |  |          |      |                  |   |    |  |   | 
|Non-cancelable purchase commitments       |  |                        | 245    |                 |   | 245      |  |          |      |                  |   |    |  |   | 
|                                          |  |                        |        |                 |   |          |  |          |       |                  |   |     |  |   |  
|Total contractual cash obligations        |  | $                      | 26,412 |                 | $ | 23,789   |  | $        | 1,841 |                  | $ | 782 |  | $ | 
|                                          |  |                        |        |                 |   |          |  |          |       |                  |   |     |  |   |  



We believe our
existing funds will satisfy our anticipated working capital and other cash requirements through at least the next 12 months. We may from time to time take actions to further increase our cash position through equity or debt financings, sales of
shares of investments, bank borrowings, or the disposition of certain assets. From time to time, we may also commit to acquisitions or equity investments, including strategic investments in wafer fabrication foundries or assembly and test
subcontractors. To the extent we enter into such transactions, any such transaction could require us to seek additional equity or debt financing to fund such activities. There can be no assurance that any such additional financing could be obtained
on terms acceptable to us, if at all.



Off-Balance Sheet Arrangements



As of September 30, 2004, we did not have any significant
off-balance sheet arrangements, as defined in Item 303 (a)(4)(ii) of SEC Regulation S-K.



Critical Accounting Policies



The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make difficult and subjective estimates, judgments and assumptions. These estimates, judgments and
assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenue and expenses during the reporting period. The
estimates and judgments that we use in applying our accounting policies have a significant impact on the results we report in our financial statements. We base our estimates and judgments on our historical experience combined with knowledge of
current conditions and our beliefs of what could occur in the future, considering the information available at the time. Actual results could differ from those estimates and such differences may be material to our financial statements. We reevaluate
our estimates and judgments on an ongoing basis.



Our critical
accounting policies which are impacted by our estimates are: (i) the valuation of our inventory, which impacts cost of goods sold and gross profit; (ii) the valuation of our allowance for sales returns and allowances, which impacts net sales; (iii)
the valuation of our allowance for doubtful accounts, which impacts general and administrative expense; and (iv) the valuation of our non-marketable equity securities, which impacts gains and losses on equity securities when we record impairments.
Each of these policies is described in more detail below. We also have other key accounting policies that may not require us to make estimates and judgments that are as subjective or difficult, for instance, our policies with regard to revenue
recognition, including the deferral of revenues on sales to distributors with sales price rebates and product return privileges. These policies are described in the notes to our financial statements contained elsewhere in this Report on Form 10-K.



Valuation of inventory.    Our
inventories are stated at the lower of cost or market value. Determining market value requires us to project unit prices and volumes for future periods in which we expect to sell inventory on hand as of the balance sheet date. As a result of these
estimates, we may record a charge to cost of



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goods sold, which decreases our gross profit, in advance of when the inventory is actually sold to reflect market values that are below our manufacturing and
sales commission costs. Conversely, if we sell inventory that has previously been written down to the lower of cost or market at more favorable prices than we had forecasted at the time of the write-down, our gross profit may be higher. In addition
to lower of cost or market write-downs, we also analyze inventory to determine whether any of it is excess, obsolete or defective. We write down to zero dollars (which is a charge to cost of goods sold) the carrying value of inventory on hand in
excess of six months historical sales volumes to cover estimated excess and obsolete exposures, unless adjustments are made based on our judgments for newer products, end of life products or planned inventory increases. In making such
judgments to write down inventory, we take into account the product life cycles which can range from six to 30 months, the stage in the life cycle of the product, and the impact of competitors announcements and product introductions on our
products.



Valuation of allowance for sales returns and
allowances.    Net sales consist principally of total product sales less estimated sales returns. To estimate sales returns and allowances, we analyze potential customer specific product application issues, potential quality
and reliability issues and historical returns. We evaluate quarterly the adequacy of the reserve for sales returns and allowances. This reserve is reflected as a reduction to accounts receivable in our consolidated balance sheets. Increases to the
reserve are recorded as a reduction to net sales. Because the reserve for sales returns and allowances is based on our judgments and estimates, particularly as to product application, quality and reliability issues, our reserves may not be adequate
to cover actual sales returns and other allowances. If our reserves are not adequate, our net sales could be adversely affected.



Valuation of allowance for doubtful accounts.    We maintain an allowance for doubtful accounts for losses that we estimate
will arise from our customers inability to make required payments for goods and services purchased from us. We make our estimates of the uncollectibility of our accounts receivable by analyzing historical bad debts, specific customer
creditworthiness and current economic trends. Once an account is deemed unlikely to be fully collected, we write down the carrying value of the receivable to the estimated recoverable value, which results in a charge to general and administrative
expense, which decreases our profitability.



Valuation of
non-marketable securities.    Our ability to recover our strategic investments in equity securities that are non-marketable and to earn a return on these investments is largely dependent on financial market conditions and the
occurrence of liquidity events, such as initial public offerings, mergers or acquisitions, and private equity transactions. The timing of when any of these events may occur is uncertain and very difficult to predict. In addition, under our
accounting policy, we are required to periodically review all of our investments for impairment. In the case of non-marketable equity securities, this requires significant judgment on our part, including an assessment of the investees
financial condition, the existence of subsequent rounds of financing and the impact of any relevant equity preferences, as well as the investees historical results of operations and projected results and cash flows. If the actual outcomes for
the investees are significantly different from their forecasts, the carrying value of our non-marketable equity securities may be overstated, and we may incur additional charges in future periods, which will decrease our profitability. At
September 30, 2004, our strategic investments in non-marketable securities totaled $4.0 million.



Impact of Recently Issued Accounting Standards



In March 2004, the Financial Accounting Standards Board (FASB) approved the consensus reached on the Emerging Issues Task Force (EITF) Issue No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments. The Issues objective is to provide guidance for identifying other-than-temporarily impaired investments. EITF 03-1 also provides new disclosure requirements for investments that are deemed to be
temporarily impaired. In September 2004, the FASB issued a FASB Staff Position (FSP) EITF 03-1-1 that delays the effective date of the measurement and recognition guidance in EITF 03-1 until after further deliberations by the FASB. The disclosure
requirements of EITF 03-1 are effective beginning with our fiscal 2004 annual report. The adoption of the disclosure requirements of EITF 03-1 did not have a material effect on our results of operations and financial condition. The adoption of the
measurement and recognition guidance will not have a material impact on our results of operations and financial condition.



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Certain Factors Which May Affect Our Business or Future Operating Results



We have incurred significant losses prior to fiscal 2004, and there can be no assurance
that we will be able to sustain profitability in the future.



Though we were profitable in the first three quarters of fiscal 2004, we incurred a loss of $15.6 million in the fourth quarter of fiscal 2004, which included an inventory write-down of $12.1 million. We incurred losses in the ten
consecutive quarters ended September 30, 2003 totaling $124.0 million. We may incur losses in subsequent quarters. Our ability to achieve and maintain profitability on a quarterly or fiscal year basis in the future will depend on a variety of
factors, including our ability to increase net sales, maintain or expand gross margins, introduce new products on a timely basis, secure sufficient wafer fabrication capacity and control operating expenses. Adverse developments with respect to these
or other factors could result in quarterly or annual operating losses in the future.



If we are unable to obtain an adequate supply of wafers, our business will be harmed.



If we are unable to obtain an adequate supply of wafers from our current suppliers or any alternative sources in a timely manner, our business will be
harmed. Our principal manufacturing relationships are with SMIC, Taiwan Semiconductor Manufacturing Corporation, or TSMC, Chartered Semiconductor Manufacturing, ProMOS Technologies and Powerchip Semiconductor. Each of our wafer foundries also
supplies wafers to other semiconductor companies, including certain of our competitors. Although we are allocated specific wafer capacity from our suppliers, we may not be able to obtain such capacity in periods of tight supply. If any of our
suppliers experience manufacturing failures or yield shortfalls, choose to prioritize capacity for other uses, or reduce or eliminate deliveries to us, we may not be able to obtain enough wafers to meet the market demand for our products which would
adversely affect our revenues. In particular, our supply of wafers, especially from SMIC, in the June 2004 quarter was lower than our needs, which adversely impacted our results for such period. Once a product is in production at a particular
foundry, it is time consuming and costly to have such product manufactured at a different foundry. In addition, we may not be able to qualify additional manufacturing sources for existing or new products in a timely manner and we cannot be certain
that other manufacturing sources would be able to deliver an adequate supply of wafers to us.



Our operating results are expected to continue to fluctuate and may not meet our financial guidance or published analyst forecasts. This may cause the price of our common stock to decline significantly.



Our future quarterly and annual operating results are
subject to fluctuations due to a wide variety of factors, including:



| |  | the cyclicality of the semiconductor industry;
| | - | ----------------------------------------------



| |  | declines in average selling prices of our products;
| | - | ---------------------------------------------------



| |  | excess inventory levels at our customers;
| | - | -----------------------------------------



| |  | decreases in the demand for our products;
| | - | -----------------------------------------



| |  | oversupply of memory products in the market;
| | - | --------------------------------------------



| |  | shortages in foundry, assembly or test capacity;
| | - | ------------------------------------------------



| |  | disruption in the supply of wafers, assembly or test services;
| | - | --------------------------------------------------------------



| |  | changes in our product mix which could reduce our gross margins;
| | - | ----------------------------------------------------------------



| |  | cancellation of existing orders or the failure to secure new orders;
| | - | --------------------------------------------------------------------



| |  | our failure to introduce new products and to implement technologies on a timely basis;
| | - | --------------------------------------------------------------------------------------



| |  | market acceptance of ours and our customers products;
| | - | ------------------------------------------------------



| |  | economic slowness and low end-user demand;
| | - | ------------------------------------------



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| |  | our failure to anticipate changing customer product requirements;
| | - | -----------------------------------------------------------------



| |  | fluctuations in manufacturing yields at our suppliers;
| | - | ------------------------------------------------------



| |  | our failure to deliver products to customers on a timely basis;
| | - | ---------------------------------------------------------------



| |  | the timing of significant orders;
| | - | ---------------------------------



| |  | increased expenses associated with new product introductions, masks or process changes;
| | - | ---------------------------------------------------------------------------------------



| |  | the ability of customers to make payments to us; and
| | - | ----------------------------------------------------



| |  | the commencement of, or developments with respect to, any litigation or future antidumping proceedings.
| | - | -------------------------------------------------------------------------------------------------------



Our sales depend on DRAM and SRAM products and reduced demand for these products or a decline in average selling prices could harm our
business.



Approximately 96% of our net sales are derived
from the sale of DRAM and SRAM products, which are subject to unit volume fluctuations and declines in average selling prices that could harm our business. For example, in fiscal 2004, we experienced a sequential decline in revenue from $58.1
million in our June 2004 quarter to $31.1 million in our September 2004 quarter. This decline was a result of a decrease in unit shipments of our products due to lower demand for electronic products that use our devices, as well as a decline in the
average selling prices of our products. We may not be able to offset any future price declines by higher volumes or by higher prices on newer products. Historically, average selling prices for semiconductor memory products have declined, and we
expect that average selling prices for our products will decline in the future. In this regard, we anticipate a decline in the average selling prices for our DRAM and certain of our SRAM products in the December 2004 quarter compared to the
September 2004 quarter. Our ability to maintain or increase revenues will depend upon our ability to increase unit sales volume of existing products and introduce and sell new products that compensate for the anticipated declines in the average
selling prices of our existing products.



Any future downturn in the markets
we serve would harm our business and financial results.



Substantially all of our products are incorporated into products for the digital consumer electronics, networking, mobile communications and automotive electronics markets. Historically, these markets have experienced cyclical depressed
business conditions, often in connection with, or in anticipation of, a decline in general economic conditions or due to adverse supply and demand conditions in such markets. For example, our sales declined significantly in the fourth quarter of
fiscal 2004 compared to the third quarter of fiscal 2004 due to an oversupply of DRAM devices in the market and a general softening of SRAM demand. As a result, our sales in the digital consumer and networking markets declined significantly in the
September 2004 quarter. We are unable to predict when or to what extent the digital consumer and networking markets will recover. Industry downturns have resulted in reduced demand and declining average selling prices for our products which
adversely affected our business. We expect that industry downturns will occur again, but are unable to predict when any such downturn will occur or how long it will last.



Shifts in industry-wide capacity may cause our results to fluctuate. These shifts may occur quickly with little or no advance notice. In
the past, such shifts have resulted in significant inventory write-downs.



The semiconductor industry is highly cyclical and is subject to significant downturns resulting from excess capacity, overproduction, reduced demand or technological obsolescence. Shifts in industry-wide capacity from
shortages to oversupply or from oversupply to shortages may result in significant fluctuations in our quarterly or annual operating results. These shifts in industry conditions can occur quickly with little or no advance notice to us. Adverse
changes in industry conditions are likely to result in a decline in average selling prices and the stated value of inventory. In fiscal 2002, fiscal 2003 and fiscal 2004, we recorded inventory write-downs of $28.6 million, $4.1 million and $17.3
million, respectively. The inventory write-downs were predominately for lower of cost or market accounting on our products, and to a lesser extent, excess inventory.



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We write down to zero carrying value of inventory on hand in excess of six months historical sales
volumes to cover estimated excess and obsolete exposures, unless adjustments are made based on managements judgments for newer products, end of life products or planned inventory increases. In making such judgments to write down inventory,
management takes into account the product life cycles which can range from six to 30 months, the stage in the life cycle of the product, the impact of competitors announcements and product introductions on our products.



We believe that six months is an appropriate period because it is difficult
to accurately forecast for a specific product beyond this time frame due to the potential introduction of products by competitors, technology obsolescence or fluctuations in demand. Future additional inventory write-downs may occur due to lower of
cost or market accounting, excess inventory or inventory obsolescence.



Our
gross margins may decline even in periods of increasing revenue.



Our gross margin is affected by a variety of factors including our mix of products sold, average selling prices for our products and cost of wafers. Even when our revenues are increasing, our gross margin may be adversely affected if such
increased revenue is from products with lower margins or declining average selling prices. During periods of strong demand, wafer capacity is likely to be in short supply and we will likely have to pay higher prices for wafers which would adversely
affect our gross margin unless we are able to increase our product prices to offset such costs. To maintain our gross margins when average selling prices are declining, we must introduce new products with higher margins or reduce our cost per unit.
There can be no assurance that we will be able to increase unit sales volumes, introduce and sell new products or reduce our cost per unit.



We rely on third-party contractors to assemble and test our products and our failure to successfully manage our relationships with these contractors could damage our
relationships with our customers, decrease our sales and limit our growth.



We rely on third-party contractors located in Asia to assemble and test our products. There are significant risks associated with our reliance on these third-party contractors, including:



| |  | reduced control over product quality;
| | - | -------------------------------------



| |  | potential price increases;
| | - | --------------------------



| |  | reduced control over delivery schedules;
| | - | ----------------------------------------



| |  | capacity shortages;
| | - | -------------------



| |  | their inability to increase production and achieve acceptable yields on a timely basis;
| | - | ---------------------------------------------------------------------------------------



| |  | absence of long-term agreements;
| | - | --------------------------------



| |  | limited warranties on products supplied to us; and
| | - | --------------------------------------------------



| |  | general risks related to conducting business internationally.
| | - | -------------------------------------------------------------



If any of these risks are realized, our business and results of operations could be adversely affected until our subcontractor is able to remedy the
problem or until we are able to secure an alternative subcontractor.



The
loss of a significant customer or a reduction in orders from such a customer could adversely affect our operating results.



As sales to our customers are executed pursuant to purchase orders and no purchasing contracts typically exist, our customers can cease doing business
with us at any time. In fiscal 2004, no single customer accounted for over 10% of our total net sales. In fiscal 2003, sales to ATM Electronic Corporation, a distributor in Taiwan, accounted for approximately 10% of our total net sales. A
substantial portion of our sales to ATM were for



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delivery to Ambit. In fiscal 2002 no single customer accounted for over 10% of our total net sales. During the September quarter of fiscal 2004, we
experienced cancelled or reduced orders from some of our larger customers that adversely impacted our operating results. We may not be able to retain our key customers, such customers may cancel or reschedule orders, and in the event of canceled
orders, such orders may not be replaced by other sales. In addition, sales to any particular customer may fluctuate significantly from quarter to quarter, and such fluctuating sales could harm our business and financial results.



We have significant international sales and operations and risks related to our
international activities could harm our operating results.



In fiscal 2004, approximately 13% of our net sales was attributable to shipments in the U.S., 11% was attributable to shipments in Europe and 75% was attributable to shipments in Asia. In fiscal 2003, approximately 13% of our net sales was
attributable to shipments in the U.S., 10% was attributable to shipments in Europe and 77% was attributable to shipments in Asia. In fiscal 2002, approximately 30% of our net sales was attributable to shipments in the U.S., 14% was attributable to
shipments in Europe and 56% was attributable to shipments in Asia. We anticipate that sales to international sites will continue to represent a significant percentage of our net sales. In addition, all of our wafer foundries and assembly and test
subcontractors are in Taiwan, China and Singapore.



We are
subject to the risks of conducting business internationally, including:



| |  | global economic conditions, particularly in Taiwan and China;
| | - | -------------------------------------------------------------



| |  | duties, tariffs and other trade barriers and restrictions;
| | - | ----------------------------------------------------------



| |  | changes in trade policy and regulatory requirements;
| | - | ----------------------------------------------------



| |  | transportation delays;
| | - | ----------------------



| |  | the burdens of complying with foreign laws;
| | - | -------------------------------------------



| |  | foreign currency fluctuations;
| | - | ------------------------------



| |  | imposition of foreign currency controls;
| | - | ----------------------------------------



| |  | language barriers;
| | - | ------------------



| |  | difficulties in hiring experienced engineers in countries such as China;
| | - | ------------------------------------------------------------------------



| |  | difficulties in collecting foreign accounts receivable;
| | - | -------------------------------------------------------



| |  | travel or other restrictions related to public health issues such as severe acute respiratory syndrome (SARS);
| | - | --------------------------------------------------------------------------------------------------------------



| |  | political instability, including any changes in relations between China and Taiwan; and
| | - | ---------------------------------------------------------------------------------------



| |  | earthquakes and other natural disasters.
| | - | ----------------------------------------



Our revenues and business would be harmed if we are not able to successfully develop, introduce and sell new products and develop and implement new manufacturing
technologies in a timely manner.



We operate in highly
competitive, quickly changing markets which are characterized by rapid obsolescence of existing products. As a result, our future success depends on our ability to develop and introduce new products that our customers choose to buy in significant
quantities. If we fail to introduce new products in a timely manner or if our customers products do not achieve commercial success, our business and results of operations could be seriously harmed. The design and introduction of new products
is challenging as such products typically incorporate more functions and operate at faster speeds than prior products. Increasing complexity generally requires smaller features on a chip. This makes developing new generations of products
substantially more difficult than prior generations. Further, new products may not work properly in our customers applications. If we are unable to design, introduce, market and sell new products successfully, our business and financial
results would be seriously harmed.



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Our products are complex and could contain defects, which could reduce sales of those products or result in claims
against us.



We develop complex and evolving products.
Despite testing by us and our customers, errors may be found in existing or new products. This could result in a delay in recognition or loss of revenues, loss of market share or failure to achieve market acceptance. These defects also may cause us
to incur significant warranty, support and repair costs, may divert the attention of our engineering personnel from our product development efforts, and could harm our relationships with our customers. The occurrence of these problems could result
in the delay or loss of market acceptance of our products and would likely harm our business. Defects, integration issues or other performance problems in our products could result in financial or other damages to our customers or could lessen
market acceptance of our products. Our customers could also seek and obtain damages from us for their losses. From time to time, we have been involved in disputes regarding product warranty issues. Although we seek to limit our liability, a product
liability claim brought against us, even if unsuccessful, would likely be time consuming and could be costly to defend.



Potential intellectual property claims and litigation could subject us to significant liability for damages and could invalidate our proprietary rights.



In the semiconductor industry, it is not unusual for
companies to receive notices alleging infringement of patents or other intellectual property rights of others. We have been, and from time-to-time expect to be, notified of claims that we may be infringing patents, maskwork rights or copyrights
owned by third-parties. If it appears necessary or desirable, we may seek licenses under patents that we are alleged to be infringing. Licenses may not be offered and the terms of any offered licenses may not be acceptable to us.



The failure to obtain a license under a key patent or intellectual property
right from a third party for technology used by us could cause us to incur substantial liabilities and to suspend the manufacture of the products utilizing the invention or to attempt to develop non-infringing products, any of which could harm our
business. Furthermore, we may become involved in protracted litigation regarding the alleged infringement by us of third-party intellectual property rights or litigation to assert and protect our patents or other intellectual property rights. Any
litigation relating to patent infringement or other intellectual property matters could result in substantial cost and diversion of our resources, which could harm our business.



We may be unable to effectively protect our intellectual property, which would negatively impact our ability to compete.



We believe that the protection of our intellectual proprietary rights
will continue to be important to the success of our business. We rely on a combination of patent, copyright, trademark and trade secret laws and restrictions on disclosure to protect our intellectual property rights. We also enter into
confidentiality or license agreements with our employees, consultants and business partners, and control access to and distribution of our documentation and other proprietary information. Despite these efforts, unauthorized parties may attempt to
copy or otherwise obtain and use our proprietary technology. Monitoring unauthorized use of our technology is difficult, and we cannot be certain that the steps we have taken will prevent unauthorized use of our technology, particularly in foreign
countries where the laws may not protect our proprietary rights as fully as do the laws of the U.S. Many U.S. companies have encountered substantial infringement problems in foreign countries, including countries in which we design and sell our
products. We do not currently hold any non-U.S. patents. We cannot be certain that patents will be issued as a result of our pending applications nor can we be certain that any issued patents would protect or benefit us or give us adequate
protection from competing products. For example, issued patents may be circumvented or challenged and declared invalid or unenforceable. We also cannot be certain that others will not develop our unpatented proprietary technology or effective
competing technologies on their own.



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We have acquired equity positions for strategic reasons in other companies which may significantly decrease in value.



Over the last few years, we have acquired equity
positions for strategic reasons in other technology companies and we may make similar equity purchases in the future. At September 30, 2004, our strategic investments in non-marketable securities totaled $4.0 million. These equity securities may not
increase in value and there is the possibility that they could decrease in value over time, even to the point of becoming completely worthless. These equity securities are tested for impairment on a recurring basis and any reductions in the carrying
value would lower our profitability. In this regard, we recorded approximately a $0.3 million impairment loss on one of our equity positions in fiscal 2004. In addition, we recorded approximately $0.4 million and $1.3 million in impairment losses
during fiscal 2002 and fiscal 2003, respectively.



In addition,
we own shares in SMIC with a cost basis of approximately $34.6 million and a market value at September 30, 2004 of approximately $59.7 million. The market value of SMIC shares is subject to fluctuation and our carrying value will be subject to
adjustments to reflect the current market value. Our shares in SMIC are subject to certain lockup restrictions and therefore are not freely tradable. These lockup restrictions generally lapse at the rate of 15% of the Companys pre-offering
shares every 180 days following the IPO. Thus all of our shares in SMIC will be freely tradable 3 years and 180 days following the IPO. As a result of these lockup restrictions and potential fluctuations in SMICs stock price, we may be unable
to realize the market value at September 30, 2004.



Our financial statements
account for the results of our former subsidiary, ICSI, on the equity basis and fluctuations in ICSIs results will also impact our results.



We held approximately 29% of the equity of our former wholly-owned subsidiary, ICSI, at September 30, 2004. Our financial results for fiscal 2004, fiscal
2003 and fiscal 2002 reflect accounting for ICSI on the equity basis and include our percentage share of the results of ICSIs operations. As a result, our net income/loss will be impacted by the financial results of ICSI. We have limited
visibility as to the future financial results of ICSI. Any unexpected fluctuations in ICSIs results would have an unexpected impact on our net income which could be material to our financial results. ICSIs shares are publicly traded on
the Taiwan stock exchange and its share price is subject to market fluctuations. The market value of our investment in the common stock of ICSI at September 30, 2004 was approximately $24.6 million, based on quoted market prices. As our total
carrying value of this investment as of September 30, 2004 was approximately $20.8 million, of which $16.1 million is included in other assets and $4.7 million is included in other comprehensive income in the equity portion of our balance sheet, a
significant decline in the stock price of ICSI may require us to record an impairment loss related to these shares.



Due to the potential value of our strategic investments, we could be determined to be an investment company and, if such a determination were made, we would become
subject to significant regulation that would adversely affect our business.



We are a fabless semiconductor company engaged in the design and marketing of high performance integrated circuits. We have acquired non-controlling equity positions in SMIC and other companies for strategic,
commercial reasons relating to our primary business. Most of our equity positions are in privately held entities that do not have a readily determinable market value. However, the shares we hold in our former wholly-owned subsidiary, ICSI, are
publicly traded in Taiwan and our shares in SMIC are publicly traded on the Hong Kong Stock Exchange and the New York Stock Exchange. These securities have significant value and may increase in value in the future. In addition, our equity positions
could be considered to be investment securities under the Investment Company Act of 1940 (1940 Act), raising a question of whether we are an investment company required to register and be regulated under the 1940 Act. We
believe that we are primarily engaged in the semiconductor business and that any such securities we own are ancillary and strategically related to our semiconductor business. Accordingly, we do not believe that we are an investment company. If a
court or the SEC disagrees with this interpretation, we may be required to either dispose of a portion of the securities we own



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in SMIC and other companies to comply with the 1940 Act or register under the 1940 Act. If we choose to dispose of an additional portion of our securities in
SMIC, our ability to secure access to wafer capacity from SMIC may be adversely impacted. If we choose to register as an investment company, we will become subject to significant regulation under the 1940 Act which would materially adversely affect
our ability to operate as a semiconductor company.



Recently enacted and
proposed changes in securities laws and regulations may increase our costs.



The Sarbanes-Oxley Act of 2002 that became law in July 2002, as well as new rules subsequently implemented by the Securities and Exchange Commission and the Nasdaq Stock Market, have required, and will require,
changes to some of our accounting and corporate governance practices, including a report on our internal controls as required by Section 404 of the Sarbanes-Oxley Act of 2002. We expect these new rules and regulations to increase our accounting,
legal and other costs, and to make some activities more difficult, time consuming and/or costly. In particular, complying with the internal control requirements of Sarbanes-Oxley Section 404 will result in increased internal efforts, significantly
higher fees from our independent accounting firm and significantly higher fees from third party contractors. We also expect these new rules and regulations to make it more difficult and more expensive for us to obtain director and officer liability
insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These new rules and regulations could also make it more difficult for us to attract and retain qualified executive officers and
qualified members of our board of directors, particularly to serve on our audit committee.



We may experience difficulties and increased expenses in complying with Sarbanes-Oxley Section 404.



While we believe we currently have adequate internal control over financial reporting, we are required to evaluate our internal controls under
Section 404 of the Sarbanes-Oxley Act of 2002 and any adverse results from such evaluation could result in a loss of investor confidence in our financial reports and have an adverse effect on our stock price.



Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, beginning with our
Annual Report on Form 10-K for the fiscal year ending September 30, 2005, we will be required to furnish a report by our management on our internal control over financial reporting. Such report will contain among other matters, an assessment of the
effectiveness of our internal control over financial reporting as of the end of our fiscal year, including a statement as to whether or not our internal control over financial reporting is effective. This assessment must include disclosure of any
material weaknesses in our internal control over financial reporting identified by management. Such report must also contain a statement that our auditors have issued an attestation report on managements assessment of such internal controls.
Public Company Oversight Board Auditing Standard No. 2 provides the professional standards and related performance guidance for auditors to attest to, and report on, managements assessment of the effectiveness of internal control over
financial reporting under Section 404.



While we currently
believe our internal control over financial reporting is effective, we are still performing the system and process documentation and evaluation needed to comply with Section 404, which is both costly and challenging. During this process, if our
management identifies one or more material weaknesses in our internal control over financial reporting, we will be unable to assert such internal control is effective. If we are unable to assert that our internal control over financial reporting is
effective as of September 30, 2005 (or if our auditors are unable to attest that our managements report is fairly stated or they are unable to express an opinion on the effectiveness of our internal controls), we could lose investor confidence
in the accuracy and completeness of our financial reports, which would have an adverse effect on our stock price.



While we currently anticipate being able to satisfy the requirements of Section 404 in a timely fashion, we cannot be certain as to the timing of
completion of our evaluation, testing and any required remediation due in large part to the fact that there is no precedent available by which to measure compliance with the new Auditing Standard No. 2. If we are not able to comply with the
requirements of Section 404 in a timely manner or if our



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auditors are not able to complete the procedures required by Auditing Standard No. 2 to support their attestation report, we could lose investor confidence
in the accuracy and completeness of our financial reports, which would have an adverse effect on our stock price.



Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States.



We prepare our financial statements in conformity with accounting principles
generally accepted in the U.S. These accounting principles are subject to interpretation by the Financial Accounting Standards Board, the American Institute of Certified Public Accountants, the Securities and Exchange Commission and various bodies
formed to interpret and create appropriate accounting policies. A change in these policies or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the
announcement of a change. For example, while current accounting rules allow us to exclude the expense of stock options from our financial statements, several agencies and entities are considering, and the Financial Accounting Standards Board (FASB)
has proposed changes to US GAAP that, if implemented, would require us to record a charge to earnings for employee stock option grants, likely for all awards unvested at and granted after July 1, 2005. This pending regulation would negatively impact
our earnings. Technology companies generally, and our company, specifically, rely on stock options as a major component of our employee compensation packages. If we are required to expense options, we may be less likely to sustain profitability or
we may have to decrease or eliminate options grants. Decreasing or eliminating option grants may negatively impact our ability to attract and retain qualified employees.



We may encounter difficulties in effectively integrating acquired businesses.



From time to time, we intend to acquire other companies that we believe to
be complementary to our business. Acquisitions may result in use of our cash resources, potentially dilutive issuances of equity securities, incurrence of debt and contingent liabilities, amortization expenses related to intangible assets, and the
possible impairment of goodwill, which could harm our profitability. In addition, acquisitions involve numerous risks, including:



| |  | higher than estimated acquisition expenses;
| | - | -------------------------------------------



| |  | difficulties in successfully assimilating the operations, technologies and personnel of the acquired company;
| | - | -------------------------------------------------------------------------------------------------------------



| |  | diversion of managements attention from other business concerns;
| | - | -----------------------------------------------------------------



| |  | risks of entering markets in which we have no, or limited, direct prior experience;
| | - | -----------------------------------------------------------------------------------



| |  | the risk that the markets for acquired products do not develop as expected; and
| | - | -------------------------------------------------------------------------------



| |  | the potential loss of key employees and customers as a result of the acquisition.
| | - | ---------------------------------------------------------------------------------



In this regard, in February 2002, we acquired Purple Ray, a privately held research and development stage company developing
network search engine and content addressable memory integrated circuits. To date, we have not generated any revenue as a result of this acquisition and none is anticipated. In addition, the transaction resulted in an in-process technology charge of
$4.7 million in our March 31, 2002 quarter. As of June 30, 2003, we had written off substantially all of the value of our acquisition of Purple Ray. Any future acquisitions may not contribute positively to our business or operating results.



We depend on our ability to attract and retain our key technical and
management personnel.



Our success depends upon the
continued service of our key technical and management personnel, including Jimmy S.M. Lee, our Chairman and Chief Executive Officer, and Gary L. Fischer, our President, Chief Operating Officer, and Chief Financial Officer. Several of our important
manufacturing and other subcontractor



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relationships are based on personal relationships between our senior executive officers and such parties. In particular, our Chairman and Chief Executive
Officer has long-term relationships with our key foundries. If we were to lose the services of any key executives, it may negatively impact the related business relationships since we have no long-term contractual agreements with such parties. Our
success also depends on our ability to continue to attract, retain and motivate qualified technical personnel, particularly experienced circuit designers and process engineers. The competition for such employees is intense. We have no employment
contracts or key person life insurance policies with or for any of our employees. The loss of the service of one or more of our key personnel could harm our business.



Our stock price is expected to be continue to be volatile.



The trading price of our common stock has been and is expected to be subject to wide fluctuations in response to:



| |  | quarter-to-quarter variations in our operating results;
| | - | -------------------------------------------------------



| |  | general conditions or cyclicality in the semiconductor industry or the end markets that we serve;
| | - | -------------------------------------------------------------------------------------------------



| |  | new or revised earnings estimates or guidance by us or industry analysts;
| | - | -------------------------------------------------------------------------



| |  | comments or recommendations issued by analysts who follow us, our competitors or the semiconductor industry;
| | - | ------------------------------------------------------------------------------------------------------------



| |  | aggregate valuations and movement of stocks in the broader semiconductor industry;
| | - | ----------------------------------------------------------------------------------



| |  | announcements of new products, strategic relationships or acquisitions by us or our competitors;
| | - | ------------------------------------------------------------------------------------------------



| |  | increases or decreases in available wafer capacity;
| | - | ---------------------------------------------------



| |  | governmental regulations, trade laws and import duties;
| | - | -------------------------------------------------------



| |  | announcements related to future or existing litigation involving us or any of our competitors;
| | - | ----------------------------------------------------------------------------------------------



| |  | announcements of technological innovations by us or our competitors;
| | - | --------------------------------------------------------------------



| |  | additions or departures of senior management; and
| | - | -------------------------------------------------



| |  | other events or factors, many of which are beyond our control.
| | - | --------------------------------------------------------------



In addition, stock markets have experienced extreme price and trading volume volatility in recent years. This volatility has had a substantial effect on
the market prices of securities of many technology companies for reasons frequently unrelated to the operating performance of the specific companies. These broad market fluctuations may adversely affect the market price of our common stock. For
example, on March 24, 2003, our closing stock price was $2.26 per share, rose to $19.87 per share on January 13, 2004, and subsequently declined to $7.01 per share on September 28, 2004.



Foundry capacity can be limited, and we may be required to enter into costly arrangements to secure foundry capacity.



If we are not able to obtain additional foundry capacity as required, our
relationships with our customers would be harmed and our future sales would be adversely impacted. In order to secure foundry capacity, we have entered into in the past, and may enter into in the future, various arrangements with suppliers, which
could include:



| |  | purchases of equity or debt securities in foundries;
| | - | ----------------------------------------------------



| |  | joint ventures;
| | - | ---------------



| |  | process development relationships with foundries;
| | - | -------------------------------------------------



| |  | contracts that commit us to purchase specified quantities of wafers over extended periods;
| | - | ------------------------------------------------------------------------------------------



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| |  | increased price for wafers;
| | - | ---------------------------



| |  | option payments or other prepayments to foundries; and
| | - | ------------------------------------------------------



| |  | nonrefundable deposits with, or loans to, foundries in exchange for capacity commitments.
| | - | -----------------------------------------------------------------------------------------



We may not be able to make any such arrangements in a timely fashion or at all, and such arrangements, if any, may not be on
terms favorable to us. Once we make commitments to secure foundry capacity, we may incur significant financial penalties if we subsequently determine that we are not able to utilize all of that capacity. Such penalties may be substantial and could
harm our financial results.



Our foundries may experience lower than
expected yields which could adversely effect our business.



The manufacture of integrated circuits is a highly complex and technically demanding process. Production yields and device reliability can be affected by a large number of factors. As is typical in the semiconductor industry, our outside
foundries have from time to time experienced lower than anticipated manufacturing yields and device reliability problems, particularly in connection with the introduction of new products and changes in such foundrys processing steps. There can
be no assurance that our foundries will not experience lower than expected manufacturing yields or device reliability problems in the future, which could materially and adversely affect our business and operating results.



Strong competition in the semiconductor memory market may harm our business.



The semiconductor memory market is intensely competitive
and has been characterized by an oversupply of product, price erosion, rapid technological change, short product life cycles, cyclical market patterns, and heightened foreign and domestic competition. Many of our competitors offer broader product
lines and have greater financial, technical, marketing, distribution and other resources than us. In particular, a competitor with a materially smaller die size and lower cost could dramatically gain market share in a short period of time. We may
not be able to compete successfully against any of these competitors. Our ability to compete successfully in the memory market depends on factors both within and outside of our control, including:



| |  | the pricing of our products;
| | - | ----------------------------



| |  | the supply and cost of wafers;
| | - | ------------------------------



| |  | product design, functionality, performance and reliability;
| | - | -----------------------------------------------------------



| |  | successful and timely product development;
| | - | ------------------------------------------



| |  | the performance of our competitors and their pricing policies;
| | - | --------------------------------------------------------------



| |  | wafer manufacturing over or under capacity;
| | - | -------------------------------------------



| |  | real or perceived imbalances in supply and demand for our products;
| | - | -------------------------------------------------------------------



| |  | the rate at which OEM customers incorporate our products into their systems;
| | - | ----------------------------------------------------------------------------



| |  | the success of our customers products and end-user demand;
| | - | -----------------------------------------------------------



| |  | access to advanced process technologies at competitive prices;
| | - | --------------------------------------------------------------



| |  | achievement of acceptable yields of functional die;
| | - | ---------------------------------------------------



| |  | the capacity of our third-party contractors to assemble and test our products;
| | - | ------------------------------------------------------------------------------



| |  | the gain or loss of significant customers; and
| | - | ----------------------------------------------



| |  | the nature of our competitors and general economic conditions.
| | - | --------------------------------------------------------------



In addition, we are vulnerable to technology advances utilized by competitors to manufacture higher performance or lower cost products. We may not be able
to compete successfully in the future as to any of these factors. Our failure to compete successfully in these or other areas could harm our business and financial results.



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Terrorist attacks, threats of further attacks, acts of war and threats of war may negatively impact all aspects of our
operations, revenues, costs and stock price.



The
September 2001 terrorist attacks in the U.S., as well as future events occurring in response or connection to them, including future terrorist attacks against U.S. targets, rumors or threats of war, actual conflicts involving the U.S. or its allies
(such as the war in Iraq), conflict between China and Taiwan, or trade disruptions impacting our domestic or foreign suppliers or our customers, may impact our operations and may, among other things, cause delays or losses in the delivery of wafers
or other products to us and decreased sales of our products. More generally, these events have affected, and are expected to continue to affect, the general economy and customer demand for products sold by our customers. Any of these occurrences
could have a significant impact on our operating results, revenues and costs, which in turn may result in increased volatility in our common stock price and a decline in the price of our common stock.



Item 7a. Quantitative and Qualitative Disclosures about Market Risk



Our financial market risk includes risks associated with international operations and related foreign currencies. We anticipate that international sales
will continue to account for a significant portion of our consolidated revenue. Our international sales are largely denominated in U.S. dollars and therefore are not subject to material foreign currency exchange risk. We have operations in China,
Europe, Taiwan, Hong Kong, India and Korea. Expenses of our international operations are denominated in each countrys local currency and therefore are subject to foreign currency exchange risk; however, through September 30, 2004 we have not
experienced any significant negative impact on our operations as a result of fluctuations in foreign currency exchange rates. We do not currently engage in any hedging activities.



We had short-term investments of $120.5 million at September 30, 2004. The primary objective of our investment activities is
to preserve principal while at the same time maximizing yields without increasing risk. We invest primarily in high-quality, short-term debt instruments such as municipal auction rate certificates and instruments issued by high quality financial
institutions and companies, including money market instruments. A hypothetical one percentage point decrease in interest rates would result in approximately a $1.2 million decrease in our interest income.



We own approximately 29% of ICSI, a public company listed on the Taiwan Stock
Exchange. We account for this investment on the equity basis and our total carrying value of this investment as of September 30, 2004 was approximately $20.8 million of which $16.1 million is included in other assets and $4.7 million is included in
other comprehensive income in the equity portion of our balance sheet. The market value of our investment in the common stock of ICSI at September 30, 2004 was approximately $24.6 million, based on quoted market prices. The share price of ICSI is
subject to fluctuations. A significant decline in the stock price of ICSI may require us to record a loss related to this investment. In addition, we own approximately $3.2 million of ICSI convertible debentures. As a result of changes in
ICSIs convertible debenture price, as of September 30, 2004, we recorded an accumulated unrealized gain of approximately $200,000 related to the ICSI convertible debentures. This gain was included in other comprehensive income in the equity
portion of our balance sheet. In addition, in fiscal 2004, we recorded a charge of approximately $174,000, related to the decline in the fair value of an embedded derivative associated with the ICSI convertible debenture. The charge associated with
the embedded derivative is included in other income (expense). Any future decline in ICSIs debenture price would result in additional losses.



We own less than 2% of SMIC. On March 17, 2004, SMIC completed its IPO. SMICs ordinary shares are traded on the Hong Kong Stock Exchange and SMIC
American Depository Receipts (ADR) are traded on the New York Stock Exchange. Each SMIC ADR represents fifty (50) ordinary shares. As a result of our sale of shares of SMIC in the IPO, we recorded gross proceeds of approximately $13.2
million in the March 2004 quarter resulting in a pre-tax gain of approximately $8.7 million. In the September 2004 quarter, we sold additional shares of SMIC and recorded gross proceeds of approximately $5.0 million and a pre-tax gain of
approximately $2.1 million. Since SMICs IPO, we account for our shares in SMIC under the provisions of



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FASB 115 and have marked our investment to the market value as of September 30, 2004 by increasing other assets and by increasing accumulated comprehensive
income in the equity section of the balance sheet. The cost basis of our shares in SMIC is approximately $34.6 million and the market value at September 30, 2004 was approximately $59.7 million. The market value of SMIC shares is subject to
fluctuations and our carrying value will be subject to adjustments to reflect the current market value. Our shares in SMIC are subject to certain lockup restrictions and therefore are not freely tradable. These lockup restrictions generally lapse at
the rate of 15% of our pre-offering shares every 180 days following the IPO. Thus all of our shares in SMIC will be freely tradable 3 years and 180 days following the IPO. As a result of these lockup restrictions and potential fluctuations in
SMICs stock price, we may be unable to realize the market value at September 30, 2004.



We have investments in equity securities of privately held companies for the promotion of business and strategic objectives of approximately $4.0 million at September 30, 2004. These investments are generally in
companies in the semiconductor industry. These investments are included in other assets and are accounted for using the cost method. For investments in which no public market exists, our policy is to review the operating performance, recent
financing transactions and cash flow forecasts for such companies in assessing the net realizable values of the securities of these companies. Impairment losses on equity investments are recorded when events and circumstances indicate that such
assets are impaired and the decline in value is other than temporary. In this regard, we recorded approximately a $0.3 million impairment loss on one of our equity positions in fiscal 2004. In addition, we recorded approximately a $1.3 million
impairment loss on our investment in Signia Technologies during fiscal 2003.



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Item 8. Financial Statements and Supplementary Data



INTEGRATED SILICON SOLUTION, INC.



INDEX TO CONSOLIDATED FINANCIAL STATEMENTS



|                                                                                      |  |   
|------------------------------------------------------------------------------------- |  | --
|Report of Ernst & Young LLP, Independent Registered Public Accounting Firm            |  | 36
|                                                                                      | 
|Financial Statements:                                                                 |  |   
|                                                                                      | 
|Consolidated Statements of Operations                                                 |  |   
|For Fiscal Years Ended September 30, 2002, September 30, 2003, and September 30, 2004 |  | 37
|                                                                                      | 
|Consolidated Balance Sheets                                                           |  |   
|As of September 30, 2003 and September 30, 2004                                       |  | 38
|                                                                                      | 
|Consolidated Statements of Stockholders Equity                                       |  |   
|For Fiscal Years Ended September 30, 2002, September 30, 2003, and September 30, 2004 |  | 39
|                                                                                      | 
|Consolidated Statements of Cash Flows                                                 |  |   
|For Fiscal Years Ended September 30, 2002, September 30, 2003, and September 30, 2004 |  | 40
|                                                                                      | 
|Notes to Consolidated Financial Statements                                            |  | 41



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REPORT OF ERNST & YOUNG LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM



The Board of Directors and Stockholders

Integrated Silicon Solution, Inc.



We have audited the accompanying consolidated balance sheets of Integrated
Silicon Solution, Inc. as of September 30, 2004 and 2003, and the related consolidated statements of operations, stockholders equity, and cash flows for each of the three years in the period ended September 30, 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 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 consolidated financial position of Integrated Silicon Solution, Inc. at September 30, 2004 and 2003, and the consolidated results of its operations and its cash flows for
each of the three years in the period ended September 30, 2004, in conformity with U.S. generally accepted accounting principles.



/s/    ERNST & YOUNG LLP



San Jose, California

October 27, 2004



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INTEGRATED SILICON SOLUTION, INC.



CONSOLIDATED STATEMENTS OF OPERATIONS



|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|------------------------------------------------------------------------------------------------------------ |  | ------------------------------------- | ------- | - | ---- | - | ------- | ---- |  | - | ------- | -
|                                                                                                             |  | Years Ended September 30,             |        
|                                                                                                             |  | 2002                                  |         |   | 2003 |   |         | 2004 | 
|                                                                                                             |  | (in thousands, except per share data) |        
|Net sales (See Note 16)                                                                                      |  | $                                     | 70,448  |   |      | $ | 97,660  |      |  | $ | 181,012 |  
|Cost of sales (See Note 16)                                                                                  |  |                                       | 86,213  |   |      |   | 86,046  |      |  |   | 154,315 |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Gross profit (loss)                                                                                          |  |                                       | (15,765 | ) |      |   | 11,614  |      |  |   | 26,697  |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Operating expenses                                                                                           |  |                                       |         |   |      |   |         |      |  |   |         |  
|Research and development                                                                                     |  |                                       | 29,841  |   |      |   | 23,394  |      |  |   | 20,838  |  
|Selling, general and administrative                                                                          |  |                                       | 15,962  |   |      |   | 13,328  |      |  |   | 16,403  |  
|Acquired in-process technology charge                                                                        |  |                                       | 4,689   |   |      |   |        |      |  |   |        |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Total operating expenses                                                                                     |  |                                       | 50,492  |   |      |   | 36,722  |      |  |   | 37,241  |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Operating loss                                                                                               |  |                                       | (66,257 | ) |      |   | (25,108 | )    |  |   | (10,544 | )
|Interest and other income (expense), net                                                                     |  |                                       | 2,420   |   |      |   | (761    | )    |  |   | 1,272   |  
|Interest expense                                                                                             |  |                                       | (63     | ) |      |   | (46     | )    |  |   | (34     | )
|Gain on sales of investments, net                                                                            |  |                                       | 35      |   |      |   | 552     |      |  |   | 10,874  |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Income (loss) before income taxes, minority interest and equity in net income (loss) of affiliated companies |  |                                       | (63,865 | ) |      |   | (25,363 | )    |  |   | 1,568   |  
|Provision (benefit) for income taxes                                                                         |  |                                       | (3,220  | ) |      |   | 3       |      |  |   | 488     |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Income (loss) before minority interest and equity in net income (loss) of affiliated companies               |  |                                       | (60,645 | ) |      |   | (25,366 | )    |  |   | 1,080   |  
|Minority interest in net loss of consolidated subsidiary                                                     |  |                                       | 50      |   |      |   | 17      |      |  |   |        |  
|Equity in net income (loss) of affiliated companies                                                          |  |                                       | (6,945  | ) |      |   | (2,728  | )    |  |   | 2,405   |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Net income (loss)                                                                                            |  | $                                     | (67,540 | ) |      | $ | (28,077 | )    |  | $ | 3,485   |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Basic net income (loss) per share                                                                            |  | $                                     | (2.49   | ) |      | $ | (1.01   | )    |  | $ | 0.10    |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Shares used in basic per share calculation                                                                   |  |                                       | 27,084  |   |      |   | 27,777  |      |  |   | 33,444  |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Diluted net income (loss) per share                                                                          |  | $                                     | (2.49   | ) |      | $ | (1.01   | )    |  | $ | 0.10    |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  
|Shares used in diluted per share calculation                                                                 |  |                                       | 27,084  |   |      |   | 27,777  |      |  |   | 36,121  |  
|                                                                                                             |  |                                       |         |   |      |   |         |      |  |   |         |  



See the accompanying
notes to consolidated financial statements



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INTEGRATED SILICON SOLUTION, INC.



CONSOLIDATED BALANCE SHEETS



|                                                                                                                                            |  |                                      |         |   |      |   |         |  
|------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------------ | ------- | - | ---- | - | ------- | -
|                                                                                                                                            |  | As of September 30,                  |        
|                                                                                                                                            |  | 2003                                 |         |   | 2004 |  
|                                                                                                                                            |  | (in thousands, exceptper share data) |        
|ASSETS                                                                                                                                      |  |                                      |         |   |      |   |         |  
|Current assets:                                                                                                                             |  |                                      |         |   |      |   |         |  
|Cash and cash equivalents                                                                                                                   |  | $                                    | 19,992  |   |      | $ | 17,015  |  
|Restricted cash                                                                                                                             |  |                                      |        |   |      |   | 1,500   |  
|Short-term investments                                                                                                                      |  |                                      | 38,450  |   |      |   | 120,450 |  
|Accounts receivable, net of allowance for doubtful accounts of $689 in 2003 and $984 in 2004                                                |  |                                      | 10,162  |   |      |   | 23,291  |  
|Accounts receivable from related parties (See Note 16)                                                                                      |  |                                      | 1,990   |   |      |   | 3,442   |  
|Inventories                                                                                                                                 |  |                                      | 16,638  |   |      |   | 44,718  |  
|Other current assets                                                                                                                        |  |                                      | 1,712   |   |      |   | 1,541   |  
|                                                                                                                                            |  |                                      |         |   |      |   |         |  
|Total current assets                                                                                                                        |  |                                      | 88,944  |   |      |   | 211,957 |  
|Property, equipment, and leasehold improvements, net                                                                                        |  |                                      | 6,295   |   |      |   | 5,622   |  
|Other assets                                                                                                                                |  |                                      | 62,860  |   |      |   | 83,285  |  
|                                                                                                                                            |  |                                      |         |   |      |   |         |  
|Total assets                                                                                                                                |  | $                                    | 158,099 |   |      | $ | 300,864 |  
|                                                                                                                                            |  |                                      |         |   |      |   |         |  
|                                                                                                                                            |  |                                     
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                        |  |                                      |         |   |      |   |         |  
|Current liabilities:                                                                                                                        |  |                                      |         |   |      |   |         |  
|Accounts payable                                                                                                                            |  | $                                    | 11,908  |   |      | $ | 27,058  |  
|Accounts payable to related parties (See Note 16)                                                                                           |  |                                      | 5,322   |   |      |   | 3,435   |  
|Accrued compensation and benefits                                                                                                           |  |                                      | 3,406   |   |      |   | 2,431   |  
|Accrued expenses                                                                                                                            |  |                                      | 5,436   |   |      |   | 4,903   |  
|                                                                                                                                            |  |                                      |         |   |      |   |         |  
|Total current liabilities                                                                                                                   |  |                                      | 26,072  |   |      |   | 37,827  |  
|                                                                                                                                            |  |                                     
|Commitments and contingencies                                                                                                               |  |                                      |         |   |      |   |         |  
|                                                                                                                                            |  |                                     
|Minority interest                                                                                                                           |  |                                      | 78      |   |      |   |        |  
|                                                                                                                                            |  |                                     
|Stockholders equity:                                                                                                                       |  |                                      |         |   |      |   |         |  
|Preferred stock, $0.0001 par value: Authorized shares5,000 in 2003 and 2004. No shares outstanding                                         |  |                                      |        |   |      |   |        |  
|Common stock, $0.0001 par value: Authorized shares70,000 in 2003 and 2004. Issued and outstanding shares28,306 in 2003 and 36,178
in 2004 |  |                                      | 3       |   |      |   | 4       |  
|Additional paid-in capital                                                                                                                  |  |                                      | 233,957 |   |      |   | 336,524 |  
|Accumulated deficit                                                                                                                         |  |                                      | (97,328 | ) |      |   | (93,843 | )
|Accumulated comprehensive income (loss)                                                                                                     |  |                                      | (4,415  | ) |      |   | 20,570  |  
|Unearned compensation                                                                                                                       |  |                                      | (268    | ) |      |   | (218    | )
|                                                                                                                                            |  |                                      |         |   |      |   |         |  
|Total stockholders equity                                                                                                                  |  |                                      | 131,949 |   |      |   | 263,037 |  
|                                                                                                                                            |  |                                      |         |   |      |   |         |  
|Total liabilities and stockholders equity                                                                                                  |  | $                                    | 158,099 |   |      | $ | 300,864 |  
|                                                                                                                                            |  |                                      |         |   |      |   |         |  



See the accompanying
notes to consolidated financial statements



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INTEGRATED SILICON SOLUTION, INC.



CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY



|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|------------------------------------------------------------------------------------------------------------------------ |  | -------------- | - | ------------------------ | ------ | - | ------------------ | - | ------- | ------------------------------------- |  | - | -------------------- | - |  | ------------------------ | ------ | - |  | - | ---- | - |  | - | ------- | -
|                                                                                                                         |  | Common Stock   |   | AdditionalPaid-InCapital |        |   | AccumulatedDeficit |   |         | AccumulatedComprehensiveIncome (Loss) |  |   | UnearnedCompensation |   |  | TotalStockholdersEquity |       
|                                                                                                                         |  | Shares         |   |                          | Amount |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |  
|                                                                                                                         |  | (in thousands) |  
|Balance at September 30, 2001                                                                                            |  | 26,539         |   |                          | $      | 3 |                    | $ | 221,502 |                                       |  | $ | (1,711               | ) |  | $                        | (5,357 | ) |  | $ |     |   |  | $ | 214,437 |  
|Components of comprehensive loss:                                                                                        |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Net loss                                                                                                                 |  |               |   |                          |        |  |                    |   |        |                                       |  |   | (67,540              | ) |  |                          |       |   |  |   |     |   |  |   | (67,540 | )
|Change in cumulative translation adjustment, net of tax                                                                  |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          | 12     |   |  |   |     |   |  |   | 12      |  
|Change in unrealized loss on investments, net of tax                                                                     |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          | (238   | ) |  |   |     |   |  |   | (238    | )
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Total comprehensive loss                                                                                                 |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   | (67,766 | )
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Stock options exercised                                                                                                  |  | 394            |   |                          |        |  |                    |   | 1,659   |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 1,659   |  
|Shares issued under stock purchase plan                                                                                  |  | 155            |   |                          |        |  |                    |   | 992     |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 992     |  
|Shares issued in conjunction with the acquisition of Purple Ray                                                          |  | 438            |   |                          |        |  |                    |   | 5,233   |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 5,233   |  
|Fair value of options assumed in conjunction with the acquisition of Purple Ray                                          |  |               |   |                          |        |  |                    |   | 1,646   |                                       |  |   |                     |   |  |                          |       |   |  |   | (889 | ) |  |   | 757     |  
|Amortization of unearned compensation                                                                                    |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          |       |   |  |   | 111  |   |  |   | 111     |  
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Balance at September 30, 2002                                                                                            |  | 27,526         |   |                          |        | 3 |                    |   | 231,032 |                                       |  |   | (69,251              | ) |  |                          | (5,583 | ) |  |   | (778 | ) |  |   | 155,423 |  
|Components of comprehensive loss:                                                                                        |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Net loss                                                                                                                 |  |               |   |                          |        |  |                    |   |        |                                       |  |   | (28,077              | ) |  |                          |       |   |  |   |     |   |  |   | (28,077 | )
|Change in cumulative translation adjustment, net of tax                                                                  |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          | 1,027  |   |  |   |     |   |  |   | 1,027   |  
|Change in unrealized loss on investments, net of tax                                                                     |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          | 141    |   |  |   |     |   |  |   | 141     |  
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Total comprehensive loss                                                                                                 |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   | (26,909 | )
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Stock options exercised                                                                                                  |  | 455            |   |                          |        |  |                    |   | 2,363   |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 2,363   |  
|Shares issued under stock purchase plan                                                                                  |  | 347            |   |                          |        |  |                    |   | 867     |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 867     |  
|Shares issued in conjunction with the acquisition of Purple Ray                                                          |  | 8              |   |                          |        |  |                    |   | 25      |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 25      |  
|Return of common stock to the Company from terminated Purple Ray employees                                               |  | (30            | ) |                          |        |  |                    |   | (1      | )                                     |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | (1      | )
|Reversal of unearned compensation on options associated with employee terminations                                       |  |               |   |                          |        |  |                    |   | (357    | )                                     |  |   |                     |   |  |                          |       |   |  |   | 357  |   |  |   |        |  
|Compensation expense associated with acceleration of vesting of stock options in connection with an employee termination |  |               |   |                          |        |  |                    |   | 28      |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 28      |  
|Amortization of unearned compensation                                                                                    |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          |       |   |  |   | 153  |   |  |   | 153     |  
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Balance at September 30, 2003                                                                                            |  | 28,306         |   |                          |        | 3 |                    |   | 233,957 |                                       |  |   | (97,328              | ) |  |                          | (4,415 | ) |  |   | (268 | ) |  |   | 131,949 |  
|Components of comprehensive income:                                                                                      |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Net income                                                                                                               |  |               |   |                          |        |  |                    |   |        |                                       |  |   | 3,485                |   |  |                          |       |   |  |   |     |   |  |   | 3,485   |  
|Change in cumulative translation adjustment, net of tax                                                                  |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          | (374   | ) |  |   |     |   |  |   | (374    | )
|Change in unrealized gain on investments, net of tax                                                                     |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          | 25,359 |   |  |   |     |   |  |   | 25,359  |  
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Total comprehensive income                                                                                               |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   | 28,470  |  
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Stock options exercised                                                                                                  |  | 1,442          |   |                          |        |  |                    |   | 7,650   |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 7,650   |  
|Shares issued under stock purchase plan                                                                                  |  | 405            |   |                          |        |  |                    |   | 1,116   |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 1,116   |  
|Shares issued in follow-on public stock offering                                                                         |  | 6,025          |   |                          |        | 1 |                    |   | 93,522  |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 93,523  |  
|Tax benefits from employee stock option plans                                                                            |  |               |   |                          |        |  |                    |   | 234     |                                       |  |   |                     |   |  |                          |       |   |  |   |     |   |  |   | 234     |  
|Unearned compensation associated with stock options granted at less than fair market value                               |  |               |   |                          |        |  |                    |   | 45      |                                       |  |   |                     |   |  |                          |       |   |  |   | (45  | ) |  |   |        |  
|Amortization of unearned compensation                                                                                    |  |               |   |                          |        |  |                    |   |        |                                       |  |   |                     |   |  |                          |       |   |  |   | 95   |   |  |   | 95      |  
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  
|Balance at September 30, 2004                                                                                            |  | 36,178         |   |                          | $      | 4 |                    | $ | 336,524 |                                       |  | $ | (93,843              | ) |  | $                        | 20,570 |   |  | $ | (218 | ) |  | $ | 263,037 |  
|                                                                                                                         |  |                |   |                          |        |   |                    |   |         |                                       |  |   |                      |   |  |                          |        |   |  |   |      |   |  |   |         |  



See the accompanying
notes to consolidated financial statements



39



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



CONSOLIDATED STATEMENTS OF CASH FLOWS



|                                                                                     |  |                           |         |   |      |   |         |      |  |   |          |  
|------------------------------------------------------------------------------------ |  | ------------------------- | ------- | - | ---- | - | ------- | ---- |  | - | -------- | -
|                                                                                     |  | Years Ended September 30, |        
|                                                                                     |  | 2002                      |         |   | 2003 |   |         | 2004 | 
|                                                                                     |  | (in thousands)            |        
|Cash flows from operating activities:                                                |  |                           |         |   |      |   |         |      |  |   |          |  
|Net income (loss)                                                                    |  | $                         | (67,540 | ) |      | $ | (28,077 | )    |  | $ | 3,485    |  
|Adjustments to reconcile net income (loss) to net cash used in operating activities: |  |                           |         |   |      |   |         |      |  |   |          |  
|Depreciation and amortization                                                        |  |                           | 4,243   |   |      |   | 4,796   |      |  |   | 3,224    |  
|Amortization of intangibles and unearned compensation                                |  |                           | 283     |   |      |   | 402     |      |  |   | 95       |  
|Acquired in-process technology charge                                                |  |                           | 4,689   |   |      |   |        |      |  |   |         |  
|Net gain on sale of investments                                                      |  |                           | (35     | ) |      |   | (552    | )    |  |   | (10,874  | )
|Loss on embedded derivative                                                          |  |                           |        |   |      |   | 309     |      |  |   | 174      |  
|Impairment of investments                                                            |  |                           | 397     |   |      |   | 1,296   |      |  |   | 250      |  
|Impairment of intangible assets                                                      |  |                           | 843     |   |      |   |        |      |  |   |         |  
|Loss on sale of fixed assets                                                         |  |                           |        |   |      |   | 716     |      |  |   |         |  
|Provision for bad debts                                                              |  |                           |        |   |      |   | 89      |      |  |   | 370      |  
|Tax benefits from employee stock option plans                                        |  |                           |        |   |      |   |        |      |  |   | 234      |  
|Net foreign currency transaction (gains) losses                                      |  |                           | 47      |   |      |   | 53      |      |  |   | (2       | )
|Equity in net (income) loss of affiliated companies                                  |  |                           | 6,945   |   |      |   | 2,728   |      |  |   | (2,405   | )
|Minority interest in net loss of consolidated subsidiary                             |  |                           | (50     | ) |      |   | (17     | )    |  |   |         |  
|Gain on liquidation of subsidiary                                                    |  |                           |        |   |      |   |        |      |  |   | (282     | )
|Changes in operating assets and liabilities:                                         |  |                           |         |   |      |   |         |      |  |   |          |  
|Accounts receivable and accounts receivable from related parties (See Note 16)       |  |                           | 1,949   |   |      |   | (3,850  | )    |  |   | (14,951  | )
|Inventories                                                                          |  |                           | 27,514  |   |      |   | 1,027   |      |  |   | (28,101  | )
|Other assets                                                                         |  |                           | 1,753   |   |      |   | 1,656   |      |  |   | (419     | )
|Accounts payable and accounts payable to related parties (See Note 16)               |  |                           | 13,233  |   |      |   | (4,546  | )    |  |   | 13,263   |  
|Accrued expenses                                                                     |  |                           | (7,835  | ) |      |   | 1,618   |      |  |   | (1,508   | )
|                                                                                     |  |                           |         |   |      |   |         |      |  |   |          |  
|Net cash used in operating activities                                                |  |                           | (13,564 | ) |      |   | (22,352 | )    |  |   | (37,447  | )
|Cash flows from investing activities:                                                |  |                           |         |   |      |   |         |      |  |   |          |  
|Acquisition of property, equipment, and leasehold improvements                       |  |                           | (6,493  | ) |      |   | (1,392  | )    |  |   | (2,555   | )
|Proceeds from sale of property, equipment, and leasehold improvements                |  |                           |        |   |      |   | 258     |      |  |   |         |  
|Purchases of available-for-sale securities                                           |  |                           | (24,000 | ) |      |   | (16,650 | )    |  |   | (209,050 | )
|Sales of available-for-sale securities                                               |  |                           | 60,350  |   |      |   | 45,400  |      |  |   | 127,050  |  
|Investment in Purple Ray                                                             |  |                           | (192    | ) |      |   |        |      |  |   |         |  
|Proceeds from sale of Integrated Circuit Solution, Inc. (ICSI) equity securities   |  |                           | 64      |   |      |   |        |      |  |   |         |  
|Investment in ICSI convertible debenture                                             |  |                           | (3,180  | ) |      |   |        |      |  |   |         |  
|Proceeds from minority shareholders of D2Code Co. Inc. (D2Code)                    |  |                           | 145     |   |      |   |        |      |  |   |         |  
|Investment in Semiconductor Manufacturing International Corp. (SMIC)               |  |                           | (21,150 | ) |      |   | (2,000  | )    |  |   |         |  
|Proceeds from sale of SMIC equity securities                                         |  |                           |        |   |      |   |        |      |  |   | 18,236   |  
|Investment in E-CMOS Technology Corporation (E-CMOS)                               |  |                           | (599    | ) |      |   |        |      |  |   |         |  
|Proceeds from sale of E-CMOS equity securities                                       |  |                           |        |   |      |   | 2,843   |      |  |   |         |  
|Other investments                                                                    |  |                           | (1,620  | ) |      |   | (859    | )    |  |   |         |  
|                                                                                     |  |                           |         |   |      |   |         |      |  |   |          |  
|Net cash provided by (used in) investing activities                                  |  |                           | 3,325   |   |      |   | 27,600  |      |  |   | (66,319  | )
|Cash flows from financing activities:                                                |  |                           |         |   |      |   |         |      |  |   |          |  
|Proceeds from follow-on public offering                                              |  |                           |        |   |      |   |        |      |  |   | 93,523   |  
|Proceeds from issuance of stock through compensation plans                           |  |                           | 2,651   |   |      |   | 3,229   |      |  |   | 8,766    |  
|Principal payments of notes payable and long-term obligations                        |  |                           | (156    | ) |      |   | (158    | )    |  |   |         |  
|Increase in restricted cash                                                          |  |                           |        |   |      |   |        |      |  |   | (1,500   | )
|                                                                                     |  |                           |         |   |      |   |         |      |  |   |          |  
|Net cash provided by financing activities                                            |  |                           | 2,495   |   |      |   | 3,071   |      |  |   | 100,789  |  
|Effect of exchange rate changes on cash and cash equivalents                         |  |                           | 57      |   |      |   | 51      |      |  |   |         |  
|                                                                                     |  |                           |         |   |      |   |         |      |  |   |          |  
|Net increase (decrease) in cash and cash equivalents                                 |  |                           | (7,687  | ) |      |   | 8,370   |      |  |   | (2,977   | )
|Cash and cash equivalents at beginning of year                                       |  |                           | 19,309  |   |      |   | 11,622  |      |  |   | 19,992   |  
|                                                                                     |  |                           |         |   |      |   |         |      |  |   |          |  
|Cash and cash equivalents at end of year                                             |  | $                         | 11,622  |   |      | $ | 19,992  |      |  | $ | 17,015   |  
|                                                                                     |  |                           |         |   |      |   |         |      |  |   |          |  



See the accompanying
notes to consolidated financial statements



40



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note
1.    Organization and Significant Accounting Policies



Organization



Integrated Silicon Solution, Inc. (the Company) was incorporated in California on October 27, 1988 and reincorporated in Delaware on August 9, 1993. The Company is a fabless semiconductor company that designs and markets high
performance integrated circuits for the following key markets: (i) digital consumer electronics, (ii) networking, (iii) mobile communications and (iv) automotive electronics. The Companys primary products are high speed and low power SRAM and
low and medium density DRAM. The Company also designs and markets EEPROMs and SmartCards and is developing selected non-memory products focused on its key markets.



Basis of Presentation



The accompanying consolidated financial statements include the accounts of Integrated Silicon Solution, Inc. and its wholly and majority owned
subsidiaries, after elimination of all significant intercompany accounts and transactions.



The Companys financial results for fiscal 2002, fiscal 2003 and fiscal 2004 reflect accounting for its investment in Integrated Circuit Solution, Inc. (ICSI) on the equity basis and include its percentage share
of the results of ICSIs operations during those periods. The Companys financial results for fiscal 2002 and fiscal 2003 through the 7 month period ending April 30, 2003 reflect accounting for its investment in E-CMOS on the equity basis
and include its percentage share of the results of E-CMOSs operations during those periods. Effective May 2003, the Companys ownership of E-CMOS became less than 20% and the Company began accounting for E-CMOS on the cost basis. The
Companys financial results for fiscal 2002, fiscal 2003 and fiscal 2004, reflect accounting for GetSilicon, NexFlash and Signia Technologies (Signia) on the cost basis. The Companys financial results for fiscal 2002, fiscal 2003 and for
fiscal 2004 until March 2004, reflect accounting for Semiconductor Manufacturing International Corporation (SMIC) on the cost basis. Since SMICs IPO in March 2004, the Company accounts for its shares in SMIC under the provisions of FASB
Statement No. 115 and have marked its investment to the market value as of September 30, 2004 by increasing other assets and by increasing accumulated comprehensive income in the equity section of the balance sheet. At September 30, 2004, the
Company owned approximately 29% of ICSI, approximately 11% of E-CMOS, approximately 16% of GetSilicon, approximately 14% of NexFlash, approximately 15% of Signia and less than 2% of SMIC.



In October 2001, the Company invested $3.0 million for a 95% interest in D2Code, a subsidiary that the Company established
in Korea to focus on semiconductor design activities. Minority interest represents the minority stockholders proportionate share of the equity interest held by employees of D2Code. In fiscal 2003, the Company closed D2Code and transferred key
designers to its U.S. team. In the March 2004 quarter, the Company completed the liquidation of D2Code and recorded a gain of approximately $282,000 of which approximately $204,000 related to the realization of cumulative translation adjustment.



Cash Equivalents and Short-Term Investments



The Company considers all highly liquid investments with an original
maturity of 90 days or less at the date of purchase to be cash equivalents. Cash equivalents consist of money market funds and government securities.



Under Statement of Financial Accounting Standards No. 115, Accounting for Certain Investments in Debt and Equity Securities all affected debt
securities must be classified as held-to-maturity, trading, or available-for-sale and equity securities must be classified as trading or available-for-sale. Management determines the appropriate classification of debt and equity securities at the
time of purchase and reevaluates such designation as of each balance sheet date.



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INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



At September 30, 2003 and 2004, all marketable debt and equity securities, other than long-term
investments, were designated as available-for-sale. Available-for-sale securities are reported at fair value, with unrealized gains or losses, net of tax, reported in a separate component of stockholders equity. The amortized cost for
available-for-sale debt securities is adjusted for the amortization of premiums and accretion of discounts to maturity. Such amortization is included in interest and other income. Realized gains and losses and declines in value judged to be
other-than-temporary on available-for-sale securities are included in loss on investments. The cost of securities sold is based on the specific identification method. Interest and dividends on securities classified as available-for-sale are included
in interest and other income. At September 30, 2003 and 2004,the cost of these securities approximated the fair value (quoted market price). Except for the gains (losses) recognized on the sales of equity securities of E-CMOS, ICSI, and SMIC
(see Note 16), there were no gains or losses on the sale of securities for the fiscal years ended September 30, 2002, 2003 and 2004.



Inventories



Inventories are stated at the lower of cost (first-in, first-out) or market. The Companys inventory valuation process is done on a part-by-part
basis. Lower of cost or market adjustments, specifically identified on a part-by-part basis, reduce the carrying value of the related inventory and takes into consideration reductions in sales prices. The Company regularly monitors inventory
quantities on hand and records a write-down for excess and obsolete inventories based primarily on the Companys estimated forecast of product demand and production requirements. Once established, these adjustments are considered permanent.



Property, Equipment, and Leasehold Improvements



Property, equipment, and leasehold improvements are
stated at cost. Depreciation and amortization are computed using the straight-line method, based upon the shorter of the estimated useful lives ranging from three to seven years, or the lease term for leasehold improvements to leased properties.



Acquisition-Related Intangibles



Purchased in-process research and development without alternative future use
is expensed when acquired.



Valuation of Long-Lived Assets
and Certain Identifiable Intangibles



Effective October 1,
2002, the Company evaluates the recoverability of property, plant and equipment and identifiable intangible assets in accordance with Statement of Financial Accounting Standards No. 144 (SFAS 144), Accounting for the Impairment or Disposal of
Long-Lived Assets. The Company performs periodic reviews to determine whether facts and circumstances exist that would indicate that the carrying amounts of property, plant and equipment and identifiable intangible assets exceed their fair
values. If facts and circumstances indicate that the carrying amount of property, plant and equipment might not be fully recoverable, projected undiscounted net cash flows associated with the related asset or group of assets over their estimated
remaining useful life is compared against their respective carrying amounts. In the event that the projected undiscounted cash flows are not sufficient to recover the carrying value of the assets, the assets are written down to their estimated fair
values based on the expected discounted future cash flows attributable to the assets.



Comprehensive Income (Loss)



Comprehensive income (loss) includes net income (loss) as well as other comprehensive income (loss). The Companys other comprehensive income (loss) consists of changes in cumulative translation adjustment and unrealized gains and
losses on investments.



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Comprehensive income (loss), net of taxes (which were immaterial for all periods presented), was as
follows:



|                                                 |  |                           |         |   |      |   |         |      |  |   |        |  
|------------------------------------------------ |  | ------------------------- | ------- | - | ---- | - | ------- | ---- |  | - | ------ | -
|                                                 |  | Years Ended September 30, |        
|                                                 |  | 2002                      |         |   | 2003 |   |         | 2004 | 
|                                                 |  | (in thousands)            |        
|Net income (loss)                                |  | $                         | (67,540 | ) |      | $ | (28,077 | )    |  | $ | 3,485  |  
|Other comprehensive income (loss), net of tax:   |  |                           |         |   |      |   |         |      |  |   |        |  
|Change in cumulative translation adjustment      |  |                           |         |   |      |   |         |      |  |   |        |  
|Changes arising during current period            |  |                           | 12      |   |      |   | 1,027   |      |  |   | (170   | )
|Reclassification for gain included in net income |  |                           |        |   |      |   |        |      |  |   | (204   | )
|Change in unrealized gain (loss) on investments  |  |                           | (238    | ) |      |   | 141     |      |  |   | 25,359 |  
|                                                 |  |                           |         |   |      |   |         |      |  |   |        |  
|Comprehensive income (loss)                      |  | $                         | (67,766 | ) |      | $ | (26,909 | )    |  | $ | 28,470 |  
|                                                 |  |                           |         |   |      |   |         |      |  |   |        |  



The accumulated
comprehensive income (loss) component within the stockholders equity section of the Balance Sheet is comprised of foreign currency translation adjustments and the unrealized loss on an investment.



The components of accumulated other comprehensive income (loss), net of tax,
were as follows at September 30:



|                                                                                   |  |                |        |   |      |   |        |  
|---------------------------------------------------------------------------------- |  | -------------- | ------ | - | ---- | - | ------ | -
|                                                                                   |  | 2003           |        |   | 2004 |  
|                                                                                   |  | (In thousands) |       
|Accumulated foreign currency translation adjustments related to investment in ICSI |  | $              | (4,553 | ) |      | $ | (4,698 | )
|Other accumulated foreign currency translation adjustments                         |  |                | 235    |   |      |   | 5      |  
|Accumulated net unrealized gain on SMIC                                            |  |                |       |   |      |   | 25,063 |  
|Accumulated net unrealized gain (loss) on other available-for-sale investments     |  |                | (97    | ) |      |   | 200    |  
|                                                                                   |  |                |        |   |      |   |        |  
|Total accumulated other comprehensive income (loss)                                |  | $              | (4,415 | ) |      | $ | 20,570 |  
|                                                                                   |  |                |        |   |      |   |        |  



Revenue Recognition
and Accounts Receivable Allowances



Revenue from product
sales to the Companys direct customers is recognized upon shipment provided that persuasive evidence of a sales arrangement exists, the price is fixed and determinable, title has transferred, collection of resulting receivables is reasonably
assured, there are no customer acceptance requirements and there are no remaining significant obligations. The Company must make estimates of potential future product returns and sales allowances related to current period product revenue. Management
analyzes historical returns, changes in customer demand, and acceptance of products when evaluating the adequacy of sales returns and allowances. Estimates made by the Company may differ from actual product returns and sales allowances. These
differences may materially impact reported revenue and amounts ultimately collected on accounts receivable.



A portion of the Companys sales is made to distributors under agreements that provide the possibility of certain sales price rebates and limited
product return privileges. Given the uncertainties associated with the levels of returns and other credits that will be issued to these distributors, the Company defers recognition of such sales until the products are sold by the distributors to
their end customers. Revenue from sales to distributors who do not have sales price rebates or product return privileges is recognized at the time the products are sold by the Company to the distributors. Accounts receivable from distributors are
recognized and inventory is relieved upon shipment, as title to inventories generally transfers upon shipment, at which point the Company has a legally enforceable right to collection under normal terms.



43



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



In addition, the Company monitors collectibility of accounts receivable primarily through review of
the accounts receivable aging. When facts and circumstances indicate the collection of specific amounts or from specific customers is at risk, the Company assesses the impact on amounts recorded for bad debts and, if necessary, will record a charge
in the period such determination is made.



The following
describes activity in the accounts receivable allowance for doubtful accounts for the years ended September 30, 2002, 2003 and 2004.



|                                 |  |                              |       |                                     |   |            |  |   |                        |      |  |   |    
|-------------------------------- |  | ---------------------------- | ----- | ----------------------------------- | - | ---------- |  | - | ---------------------- | ---- |  | - | ---
|Description                      |  | Balance atBeginningof Period |       | AdditionCharged toCosts andExpenses |   | Deductions |  |   | Balanceat Endof Period
|                                 |  | (in thousands)              
|Accounts receivable             |  |                              |       |                                     |   |            |  |   |                        |      |  |   |    
|Allowance for doubtful accounts: |  |                              |       |                                     |   |            |  |   |                        |      |  |   |    
|2002                             |  | $                            | 1,352 |                                     | $ |           |  | $ | (394                   | )(1) |  | $ | 958
|2003                             |  |                              | 958   |                                     |   | 89         |  |   | (358                   | )(1) |  |   | 689
|2004                             |  |                              | 689   |                                     |   | 370        |  |   | (75                    | )(1) |  |   | 984

---

|(1) | Uncollectible accounts written off, net of recoveries
|--- | -----------------------------------------------------



Shipping Costs



Shipping costs were immaterial for all periods presented and are included in selling, general and administrative expenses in the Consolidated Statement of
Operations.



Research and Development



Research and development expenditures are charged to operations as incurred.



Foreign Currency Translation



The Company uses the local currency as its functional currency for all
foreign subsidiaries. Translation adjustments, which result from the process of translating foreign currency financial statements into U.S. dollars, are included in the accumulated comprehensive income (loss) component of stockholders equity.



Advertising Costs



The Company expenses advertising costs as incurred and includes these costs
in selling, general and administrative expenses in the Consolidated Statement of Operations. Advertising costs totaled $446,000, $175,000 and $50,000 for the fiscal years ended September 30, 2002, 2003 and 2004, respectively.



Income Taxes



The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109 (SFAS 109), Accounting for Income Taxes. Under SFAS 109, deferred tax assets and liabilities are determined based on differences between the financial reporting and tax bases of assets and
liabilities and are measured using enacted tax rates and laws that will be in effect when the differences are expected to reverse. The Company records a valuation allowance against deferred tax assets when it is more likely than not that such assets
will not be realized.



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INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)





Stock-Based Compensation



Statement of Financial Accounting Standards No. 148, Accounting for Stock-Based Compensation-Transition and
Disclosure, an Amendment of FASB Statement No. 123, amends the disclosure requirements of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation (SFAS 123), to require more
prominent disclosures in both annual and interim financial statements regarding the method of accounting for stock-based employee compensation and the effect of the method used on reported results.



The Company applies the intrinsic-value method prescribed in APB Opinion No.
25, Accounting for Stock Issued to Employees, in accounting for employee stock options. Accordingly compensation expense is generally recognized only when options are granted with an exercise price less than fair value on the date of
grant. Any resulting compensation expense would be recognized ratably over the associated service period, which is generally the option vesting term.



Pro forma information regarding net income (loss) and earnings (loss) per share is required by SFAS 123 for awards granted or modified after September 30,
1995, as if the Company had accounted for its stock-based awards to employees under the fair value method of SFAS 123. The fair value of the Companys stock-based awards to employees was estimated using a Black-Scholes option pricing model and
amortized ratably to expense over the options vesting periods. The Black-Scholes model requires the input of highly subjective assumptions including the expected stock price volatility. Because the Companys stock-based awards to
employees have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in managements opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of its stock-based awards to employees. The fair value of the Companys stock-based awards to employees was estimated assuming no expected dividends and the following
weighted-average assumptions:



|                        |  |               |  |       |  |       |  |       |  |       |  |      
|----------------------- |  | ------------- |  | ----- |  | ----- |  | ----- |  | ----- |  | -----
|                        |  | Stock Options |  | ESPP 
|                        |  | 2002          |  | 2003  |  | 2004  |  | 2002  |  | 2003  |  | 2004 
|Expected life (years)   |  | 3.1           |  | 3.2   |  | 3.3   |  | 0.5   |  | 0.5   |  | 0.5  
|Expected volatility     |  | 0.92          |  | 0.92  |  | 0.95  |  | 0.78  |  | 0.84  |  | 0.73 
|Risk-free interest rate |  | 4.12%         |  | 2.87% |  | 3.01% |  | 1.73% |  | 1.32% |  | 1.33%



The weighted-average
fair value of options granted at market value during fiscal 2002, 2003, and 2004 was $5.43, $1.99, and $6.74 per share, respectively. The weighted-average fair value of employee stock purchase rights during fiscal 2002, 2003 and 2004 was $4.37,
$1.63 and $3.34 per share, respectively.



The Company has
determined pro forma net loss and net loss per share information as if the fair value method described in SFAS No. 123, Accounting for Stock Based Compensation, had been applied to its employee stock-based compensation. The proforma
effect on net income (loss) and net income (loss) per share is as follows for the fiscal years ending September 30, 2002, 2003 and 2004:



|                                                                                  |  |                                       |         |   |      |   |         |      |  |   |        |  
|--------------------------------------------------------------------------------- |  | ------------------------------------- | ------- | - | ---- | - | ------- | ---- |  | - | ------ | -
|                                                                                  |  | 2002                                  |         |   | 2003 |   |         | 2004 | 
|                                                                                  |  | (in thousands, except per share data) |        
|Net income (loss)as reported                                                     |  | $                                     | (67,540 | ) |      | $ | (28,077 | )    |  | $ | 3,485  |  
|Intrinsic value method expense included in reported net income (loss), net of tax |  |                                       |        |   |      |   |        |      |  |   | 95     |  
|Fair value method expense, net of tax                                             |  |                                       | (8,136  | ) |      |   | (4,538  | )    |  |   | (5,060 | )
|                                                                                  |  |                                       |         |   |      |   |         |      |  |   |        |  
|Net losspro forma                                                                |  | $                                     | (75,676 | ) |      | $ | (32,615 | )    |  | $ | (1,480 | )
|                                                                                  |  |                                       |         |   |      |   |         |      |  |   |        |  
|Basic and diluted net income (loss) per shareas reported                         |  | $                                     | (2.49   | ) |      | $ | (1.01   | )    |  | $ | 0.10   |  
|Basic and diluted net loss per sharepro forma                                    |  | $                                     | (2.79   | ) |      | $ | (1.17   | )    |  | $ | (0.04  | )



45



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Due to the subjective nature of the assumptions used in the Black-Scholes model, the proforma net
income (loss) and proforma net income (loss) per share may not be indicative of the effects on net income (loss) and net income (loss) per share in future years.



Use of Estimates



The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported amounts of revenues and expenses during the reporting period.
Such estimates relate to the useful lives and fair value of fixed assets, the fair value of investments, allowances for doubtful accounts and customer returns, inventory write-downs, potential reserves relating to litigation matters, accrued
liabilities, and other reserves. The Company bases its estimates and judgments on its historical experience, knowledge of current conditions and its beliefs of what could occur in the future, given available information. Actual results may differ
from those estimates, and such difference, may be material to the financial statements.



Concentration of Credit Risk



The Company operates in one business segment, which is to design, develop, and market high performance SRAM, DRAM, and other memory products. The Company markets and distributes its products on a worldwide basis, primarily to original
equipment manufacturers, contract manufacturers, and distributors. The Company performs ongoing credit evaluations of its customers financial condition and generally requires no collateral. In fiscal 2004, no single customer accounted for over
10% of net sales. Sales to ATM Electronic Corporation, a distributor in Taiwan, accounted for approximately 10% of net sales for fiscal 2003. In fiscal 2002, no single customer accounted for over 10% of net sales.



The Company maintains cash, cash equivalents, and short-term investments with
various high credit quality financial institutions. The Companys investment policy is designed to limit exposure to any one institution. The Company performs periodic evaluations of the relative credit standing of those financial institutions
that are considered in its investment strategy. The Company is exposed to credit risk in the event of default by the financial institutions or issuers of investments to the extent of the amount recorded on the balance sheet. To date, the Company has
not incurred losses related to these investments.



Semiconductor Industry Risks



The
semiconductor industry is characterized by rapid technological change, intense competitive pressure and cyclical market patterns. The Companys results of operations are affected by a wide variety of factors, including decreases in the demand
for its products, excess inventory levels at its customers, declines in average selling prices of its products, cancellation of existing orders or the failure to secure new orders, oversupply of memory products in the market, failure to introduce
new products and to implement technologies on a timely basis, market acceptance of the Companys and its customers products, economic slowness and low end-user demand, the failure to anticipate changing customer product requirements,
fluctuations in manufacturing yields, disruption in delivery and order fulfillment, and disruption in the supply of wafers or assembly services. Other factors include changes in product mix, the timing of significant orders, increased expenses
associated with new product introductions, masks or process changes, the ability of customers to make payments to the Company, increases in material costs, increases in general and administrative expenses, and certain production and other risks
associated with using independent manufacturers. As a result, the Company may experience substantial period-to-period fluctuations in future operating results due to the factors mentioned above or other factors.



46



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Product Warranty and Indemnifications



The Company generally warrants its products against defects in materials and
workmanship for a period of 12 months. Liability for a stated warranty period is usually limited to replacement of defective items or return of amounts paid. If there is a material increase in the rate of customer claims or the Companys
estimates of probable losses relating to specifically identified warranty exposures are inaccurate, the Company may record a charge against future cost of sales. Warranty expense has historically been immaterial to the Companys financial
statements.



The Company indemnifies certain customers,
distributors, suppliers, and subcontractors for attorney fees and damages and costs awarded against these parties in certain circumstances in which its products are alleged to infringe third party intellectual property rights, including patents,
registered trademarks, or copyrights. The terms of the Companys indemnification obligations are generally perpetual from the effective date of the agreement. In certain cases, there are limits on and exceptions to the Companys potential
liability for indemnification relating to intellectual property infringement claims. The Company cannot estimate the amount of potential future payments, if any, that it might be required to make as a result of these agreements. To date, the Company
has not paid or been required to defend any indemnification claims, and accordingly, the Company has not accrued any amounts for its indemnification obligations. However, there can be no assurances that the Company will not have any future financial
exposure under those indemnification obligations.



Net
Income (Loss) Per Share



Basic and diluted net loss per
share and basic net income per share is computed using the weighted number of common shares outstanding during the period. Diluted net income per share is computed using the weighted average number of common and dilutive common equivalent shares
outstanding, if applicable, during the period. Common equivalent shares consist of the shares issuable upon the assumed exercise of stock options under the treasury stock method.



Impact of Recently Issued Accounting Standards



In March 2004, the Financial Accounting Standards Board (FASB) approved the consensus reached on the Emerging Issues Task
Force (EITF) Issue No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. The Issues objective is to provide guidance for identifying other-than-temporarily impaired investments. EITF
03-1 also provides new disclosure requirements for investments that are deemed to be temporarily impaired. In September 2004, the FASB issued a FASB Staff Position (FSP) EITF 03-1-1 that delays the effective date of the measurement and recognition
guidance in EITF 03-1 until after further deliberations by the FASB. The disclosure requirements of EITF 03-1 are effective beginning with the Companys fiscal 2004 annual report. The adoption of the disclosure requirements EITF 03-1 did
not have a material effect on the Companys results of operations and financial condition. The adoption of the measurement and recognition guidance will not have a material impact on the Companys results of operations and financial
condition.



Reclassifications



Certain reclassifications have been made to prior year balances in order to
conform to the current years presentation.



47



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Note 2.    Cash, Cash Equivalents, Restricted Cash, and Short-Term Investments



Cash, cash equivalents and short-term investments consisted of the
following at September 30:



|                         |  |                |        |      |   |        
|------------------------ |  | -------------- | ------ | ---- | - | -------
|                         |  | 2003           |        | 2004
|                         |  | (in thousands)
|Cash                     |  | $              | 13,748 |      | $ | 13,251 
|Money market instruments |  |                | 6,244  |      |   | 3,764  
|Certificates of deposit  |  |                |       |      |   | 1,500  
|Municipal bonds          |  |                | 38,450 |      |   | 120,450
|                         |  |                |        |      |   |        
|Total                    |  | $              | 58,442 |      | $ | 138,965
|                         |  |                |        |      |   |        



Unrealized gains
(losses) on all securities were not significant as of September 30, 2003 and 2004. All debt securities held at September 30, 2004 are due in less than one year.



Note 3.    Inventories



Inventories consisted of the following at September 30:



|                     |  |                |        |      |   |       
|-------------------- |  | -------------- | ------ | ---- | - | ------
|                     |  | 2003           |        | 2004
|                     |  | (in thousands)
|Purchased components |  | $              | 6,032  |      | $ | 16,178
|Work-in-process      |  |                | 1,405  |      |   | 3,463 
|Finished goods       |  |                | 9,201  |      |   | 25,077
|                     |  |                |        |      |   |       
|                     |  | $              | 16,638 |      | $ | 44,718
|                     |  |                |        |      |   |       



In fiscal 2002, 2003
and 2004, the Company recorded inventory write-downs of $28.6 million, $4.1 million and $17.3 million (including a $1.2 million write-down for lower of cost or market issues on purchase commitments), respectively. The inventory write-downs were
predominately for lower of cost or market and excess and obsolescence issues on certain of its products.



Note 4.    Other Assets



Other assets consisted of the following at September 30:



|                                                       |  |                |        |      |   |       
|------------------------------------------------------ |  | -------------- | ------ | ---- | - | ------
|                                                       |  | 2003           |        | 2004
|                                                       |  | (in thousands)
|Investment in ICSI common stock (see Note 1)           |  | $              | 13,853 |      | $ | 16,114
|Investment in ICSI convertible debenture (see Note 18) |  |                | 2,939  |      |   | 3,180 
|Investment in SMIC (see Note 15)                       |  |                | 42,000 |      |   | 59,701
|Other equity investments                               |  |                | 3,914  |      |   | 3,962 
|Other                                                  |  |                | 154    |      |   | 328   
|                                                       |  |                |        |      |   |       
|                                                       |  | $              | 62,860 |      | $ | 83,285
|                                                       |  |                |        |      |   |       



The market value of
the Companys investment in the common stock and convertible debentures of ICSI at September 30, 2004 was approximately $24.6 million and $3.2 million, respectively, based on quoted market prices. Since ICSI is accounted for under the equity
method of accounting, the carrying value of the Companys investment in ICSIs common stock differs from the market value. The Companys total carrying value for ICSI



48



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



common stock as of September 30, 2004 was approximately $20.8 million of which approximately $4.7 million is included in other comprehensive income as
accumulated foreign currency translation adjustment in the equity portion of the balance sheet.



On March 17, 2004, SMIC completed an initial public offering (IPO). SMICs ordinary shares are traded on the Hong Kong Stock
Exchange and SMIC American Depository Receipts (ADR) are traded on the New York Stock Exchange. Each SMIC ADR represents fifty (50) ordinary shares. The Company sold certain shares of its SMIC stock in the IPO, and recorded gross
proceeds of approximately $13.2 million in the March 2004 quarter resulting in a pre-tax gain of approximately $8.8 million. In the September 2004 quarter, the Company sold additional shares of SMIC and recorded gross proceeds of approximately $5.0
million and a pre-tax gain of approximately $2.1 million. Since SMICs IPO, the Company accounts for its shares in SMIC under the provisions of FASB 115 and has marked its investment to the market value as of September 30, 2004 by increasing
other assets and by increasing accumulated comprehensive income in the equity section of the balance sheet. The cost basis of the Companys shares in SMIC is approximately $34.6 million and the market value at September 30, 2004 was
approximately $59.7 million. The market value of SMIC shares is subject to fluctuations and the Companys carrying value will be subject to adjustments to reflect the current market value. The Companys shares in SMIC are subject to
certain lockup restrictions and therefore are not freely tradable. These lockup restrictions generally lapse at the rate of 15% of the Companys pre-offering shares every 180 days following the IPO. Thus all of the Companys shares in SMIC
will be freely tradable 3 years and 180 days following the IPO.



In fiscal 2004, the Company recorded approximately a $0.3 million impairment loss on one of its equity investments accounted for under the cost method. In fiscal 2003, the Company sold shares of E-CMOS for approximately $2.8 million which
resulted in a pre-tax gain of $0.6 million. In addition, the Company recorded an impairment loss of approximately $1.3 million on its investment in Signia based on a decrease in the share price of a subsequent investment in Signia during July 2003.



Note 5.    Property, Equipment, and Leasehold
Improvements, net



Property, equipment, and leasehold
improvements, net consisted of the following at September 30:



|                                               |  |                |        |      |   |       
|---------------------------------------------- |  | -------------- | ------ | ---- | - | ------
|                                               |  | 2003           |        | 2004
|                                               |  | (in thousands)
|Machinery and equipment                        |  | $              | 33,133 |      | $ | 35,593
|Furniture and fixtures                         |  |                | 1,083  |      |   | 1,093 
|Building and improvements                      |  |                | 1,498  |      |   | 1,515 
|                                               |  |                |        |      |   |       
|                                               |  |                | 35,714 |      |   | 38,201
|Less accumulated depreciation and amortization |  |                | 29,419 |      |   | 32,579
|                                               |  |                |        |      |   |       
|                                               |  | $              | 6,295  |      | $ | 5,622 
|                                               |  |                |        |      |   |       



Note
6.    Accrued Expenses



Accrued
liabilities consisted of the following at September 30:



|                            |  |                |       |      |   |      
|--------------------------- |  | -------------- | ----- | ---- | - | -----
|                            |  | 2003           |       | 2004
|                            |  | (in thousands)
|Deferred distributor margin |  | $              | 1,191 |      | $ | 1,727
|Other                       |  |                | 4,245 |      |   | 3,176
|                            |  |                |       |      |   |      
|                            |  | $              | 5,436 |      | $ | 4,903
|                            |  |                |       |      |   |      



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Note 7.    Capital Stock



The Companys Restated Certificate of Incorporation provides for 70,000,000 authorized shares of Common Stock and
5,000,000 authorized shares of preferred stock. The terms of the preferred stock may be fixed by the Board of Directors, who have the right to determine the price, rights, preferences, privileges and restrictions, including voting rights, of those
shares without any further vote or action by the stockholders. The rights of the holders of common stock are subject to, and may be adversely affected by, the rights of the holders of any preferred stock that may be issued in the future.



In the three month period ended March 31, 2004, the Company completed a
follow-on public offering of its Common Stock whereby it sold 6,025,000 shares at a public offering price of $16.50 per share. Proceeds from this offering, net of commissions, discounts and expenses, were $93.5 million.



As of September 30, 2004, shares of common stock were reserved for future
issuance as follows:



|                                                          |  |          
|--------------------------------------------------------- |  | ---------
|Common shares reserved under Employee Stock Purchase Plan |  | 770,000  
|Common shares reserved under stock option plans           |  | 9,548,000



Note
8.    Stock Plans



1989 Stock
Option Plan



During 1989, the Company adopted a stock
option plan (the Plan) that provides for the grant of incentive stock options to employees and nonstatutory stock options to employees, consultants and nonemployee directors. The Plan expired in May 1999 and no further grants are being
made under this Plan.



Incentive stock options and nonstatutory
options granted under the Plan have ten-year terms. All incentive stock option grants and nonstatutory stock option grants must be at prices of at least 100% and 85%, respectively, of the fair market value of the stock on the date of grant, as
determined by the Board of Directors.



The options are
exercisable as determined by the Board of Directors. Generally, the stock options vest ratably over a four-year period. The options expire upon the earlier of ten years from the date of grant or 30 days following termination of employment, unless
specified otherwise in the option agreement. Options to purchase 666,000 shares, 614,000 shares and 257,000 shares were exercisable as of September 30, 2002, 2003 and 2004, respectively.



In the event of certain changes in control of the Company, the Plan requires that each outstanding option be assumed or an
equivalent option substituted by the successor corporation; however, if such successor refuses to assume the then outstanding options, the Plan provides for the full acceleration of the exercisability of all outstanding options.



1996 Stock Option Plan



On October 18, 1996, the Company adopted a stock option plan (the 1996
Plan) that provides for the grant of non-statutory stock options to non-executive employees and consultants.



Under the terms of the plan, the exercise price and exercise period of stock option grants is determined by the Board of Directors on the date of grant.
Generally, the stock options vest ratably over a four year period. The options expire upon the earlier of ten years from the date of grant or 30 days following termination of employment or consultancy, unless specified otherwise in the option
agreement. Options to purchase 1,547,000 shares, 1,989,000 shares and 2,059,000 shares were exercisable as of September 30, 2002, 2003 and 2004, respectively.



50



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



In the event of certain changes in control of the Company, the 1996 Plan requires that each
outstanding option be assumed or an equivalent option substituted by the successor corporation; however, if such successor refuses to assume the then outstanding options, the 1996 Plan provides for the full acceleration of the exercisability of all
outstanding options.



1998 Stock Option Plan



The Board of Directors and stockholders approved the 1998 Stock Option
Plan (the 1998 Plan) in October 1998 and January 1999, respectively. The 1998 Plan provides for the grant of incentive stock options to employees and nonstatutory stock options to employees, consultants and nonemployee directors of ISSI.
Stock purchase rights may also be granted under the 1998 Plan.



Under the terms of the 1998 Plan, the exercise price and exercise period of non-statutory stock option grants is determined by the Board of Directors on the date of grant. All incentive stock option grants must be at prices of at least 100%
of the fair market value of the stock on the date of grant, as determined by the Board of Directors. Generally, the stock options vest ratably over a four year period. The options expire upon the earlier of ten years from the date of grant or 90
days following termination of employment or consultancy, unless specified otherwise in the option agreement. Options to purchase 394,000 shares, 528,000 shares and 538,000 shares were exercisable as of September 30, 2002, 2003 and 2004,
respectively.



In the event of certain changes in control of
the Company, the 1998 Plan requires that each outstanding option be assumed or an equivalent option substituted by the successor corporation; however, if such successor refuses to assume the then outstanding options, the 1998 Plan provides for the
full acceleration of the exercisability of all outstanding options.



1995 Director Stock Option Plan



The Board of
Directors and stockholders approved the 1995 Director Stock Option Plan (the Director Plan) in December 1995 and January 1996, respectively. Under the terms of the Director Plan, 125,000 shares of Common Stock were authorized for
issuance. Each non-employee director will automatically receive a non-statutory option to purchase 10,000 shares of Common Stock upon first joining the Board. Each director who has been a non-employee director for at least six months will
automatically receive a non-statutory option to purchase 2,500 shares of Common Stock upon such directors annual reelection to the Board by the stockholders. The stock options vest ratably over a one year period. Options to purchase 38,000
shares, 56,000 shares and 56,000 shares were exercisable at September 30, 2002, 2003 and 2004, respectively.



Purple Ray Stock Option Plan



In connection with the Companys acquisition of Purple Ray, the Company assumed the outstanding options to purchase shares of Purple Ray common stock
and converted such options into options to purchase approximately 163,000 shares of the Companys stock. The options had exercise prices ranging from $0.31 to $3.06 with a weighted average exercise price of $2.16. No further options will be
granted under this plan. Options to purchase 11,000 shares, 8,000 shares and 0 shares were exercisable at September 30, 2002, 2003, and 2004, respectively.



51



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



The following table summarizes activity of the 1989, 1996, 1998, Director and Purple Ray Stock Option
Plans:



|                              |  |                                       |   |  |                     |   |  |                |               |                                |   |      
|----------------------------- |  | ------------------------------------- | - |  | ------------------- | - |  | -------------- | ------------- | ------------------------------ | - | -----
|                              |  |                                       |   |  | Options Outstanding
|                              |  | OptionsAvailablefor Grant             |   |  | Number ofShares     |   |  | Price PerShare |               | Weighted-AverageExercise Price
|                              |  | (in thousands, except per share data)
|Balance at September 30, 2001 |  | 2,125                                 |   |  | 4,107               |   |  | $              | 2.56-$23.38   |                                | $ | 9.36 
|Authorized                    |  | 5,500                                 |   |  |                    |   |  |                |              |                                |   |     
|Purple Ray plan assumed       |  | 163                                   |   |  |                    |   |  |                |              |                                |   |     
|Purple Ray options converted  |  | (163                                  | ) |  | 163                 |   |  |                | 0.31-    3.06 |                                |   | 2.16 
|Granted                       |  | (2,051                                | ) |  | 2,051               |   |  |                | 3.32-  11.97  |                                |   | 6.72 
|Exercised                     |  |                                      |   |  | (394                | ) |  |                | 0.31-  11.54  |                                |   | 4.21 
|Canceled                      |  | 419                                   |   |  | (419                | ) |  |                | 2.56-  23.28  |                                |   | 10.87
|                              |  |                                       |   |  |                     |   |  |                |               |                                |   |      
|Balance at September 30, 2002 |  | 5,993                                 |   |  | 5,508               |   |  | $              | 0.31-$23.38   |                                | $ | 8.42 
|Granted                       |  | (2,208                                | ) |  | 2,208               |   |  |                | 2.35-    6.60 |                                |   | 3.32 
|Exercised                     |  |                                      |   |  | (455                | ) |  |                | 0.31-  11.54  |                                |   | 5.20 
|Canceled                      |  | 1,218                                 |   |  | (1,274              | ) |  |                | 0.31-  23.38  |                                |   | 8.71 
|                              |  |                                       |   |  |                     |   |  |                |               |                                |   |      
|Balance at September 30, 2003 |  | 5,003                                 |   |  | 5,987               |   |  | $              | 0.31-$23.38   |                                | $ | 6.72 
|Granted                       |  | (1,030                                | ) |  | 1,030               |   |  |                | 2.35-  16.85  |                                |   | 10.80
|Exercised                     |  |                                      |   |  | (1,442              | ) |  |                | 0.31-  13.81  |                                |   | 5.31 
|Canceled                      |  | 261                                   |   |  | (261                | ) |  |                | 2.35-  23.38  |                                |   | 8.45 
|                              |  |                                       |   |  |                     |   |  |                |               |                                |   |      
|Balance at September 30, 2004 |  | 4,234                                 |   |  | 5,314               |   |  | $              | 0.31-$18.56   |                                | $ | 7.81 
|                              |  |                                       |   |  |                     |   |  |                |               |                                |   |      



In connection with the
acquisition of Purple Ray, the Company recorded approximately $889,000 of deferred stock-based compensation. The amortization of deferred-stock based compensation in connection with Purple Ray was approximately $111,000, $153,000, and $78,000 in
fiscal 2002, 2003, and 2004, respectively. As a result of employee terminations in fiscal 2003, the Company reversed approximately $357,000 of unamortized deferred stock-based compensation. In addition, for certain options granted in fiscal 2004,
the Company recognized as unearned compensation the excess of the deemed value for accounting purposes of the common stock issuable upon exercise of such options over the aggregate exercise price of such options. The deemed value for accounting
purposes represents the market value at the date of grant. The compensation expense is amortized ratably over the vesting period of the option. Compensation expense amounting to $17,000 was recognized for the year ending September 30, 2004 related
to the 2004 grants.



Outstanding and exercisable options
presented by price range at September 30, 2004 are as follows:



|                         |  |                                           |  |                                              |  |                            |       |                                           |       |                            |   |      
|------------------------ |  | ----------------------------------------- |  | -------------------------------------------- |  | -------------------------- | ----- | ----------------------------------------- | ----- | -------------------------- | - | -----
|                         |  | Options Outstanding                       |  | Options Exercisable                         
|Range of Exercise Prices |  | Number ofOptionsOutstanding(in thousands) |  | Wtd. AverageRemainingContractual Life(Years) |  | Wtd. AverageExercise Price |       | Number ofOptionsExercisable(in thousands) |       | Wtd. AverageExercise Price
|$0.31-$  2.82            |  | 1,189                                     |  | 7.84                                         |  | $                          | 2.75  |                                           | 548   |                            | $ | 2.76 
|2.88-    6.60            |  | 1,129                                     |  | 7.00                                         |  |                            | 4.45  |                                           | 663   |                            |   | 4.25 
|6.75-    8.06            |  | 1,100                                     |  | 7.68                                         |  |                            | 7.28  |                                           | 574   |                            |   | 7.38 
|8.56-  13.81             |  | 1,132                                     |  | 7.06                                         |  |                            | 11.20 |                                           | 744   |                            |   | 11.74
|13.92-  18.56            |  | 764                                       |  | 7.56                                         |  |                            | 16.40 |                                           | 381   |                            |   | 18.18
|                         |  |                                           |  |                                              |  |                            |       |                                           |       |                            |   |      
|$0.31-$18.56             |  | 5,314                                     |  | 7.42                                         |  | $                          | 7.81  |                                           | 2,910 |                            | $ | 8.33 
|                         |  |                                           |  |                                              |  |                            |       |                                           |       |                            |   |      



52



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INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Employee Stock Purchase Plan



Effective February 1995, the Company adopted an Employee Stock Purchase Plan (the Purchase Plan) under Section
423 of the Internal Revenue Code. The Purchase Plan initially had a term of 10 years. The Purchase Plan was extended by the Board of Directors and stockholders in fiscal 2004 and now expires in February 2015. Under the Companys Purchase Plan,
eligible employees may purchase shares of the Companys common stock through payroll deductions. The shares are purchased at a price equal to 85% of the lesser of the fair value of the Companys common stock as of the first day of the
24-month offering period or the last day of each six-month purchase period. During fiscal 2002, 2003, and 2004, 155,000, 347,000 and 405,000 shares were issued under the plan, respectively. As of September 30, 2004, 770,000 shares were available
under the plan for future issuance.



Note 9.    Income
Taxes



The provision/(benefit) for income taxes consisted
of the following for the years ended September 30:



|                          |  |                |        |   |      |   |      |  |   |    
|------------------------- |  | -------------- | ------ | - | ---- | - | ---- |  | - | ---
|                          |  | 2002           |        |   | 2003 |   | 2004
|                          |  | (in thousands)
|Current:                  |  |                |        |   |      |   |      |  |   |    
|Federal                   |  | $              | (3,250 | ) |      | $ |     |  | $ | 261
|State                     |  |                |       |   |      |   |     |  |   | 23 
|Foreign                   |  |                | 30     |   |      |   | 3    |  |   | 204
|                          |  |                |        |   |      |   |      |  |   |    
|Total current             |  | $              | (3,220 | ) |      | $ | 3    |  | $ | 488
|                          |  |                |       
|Deferred:                 |  |                |        |   |      |   |      |  |   |    
|Federal                   |  |                |       |   |      |   |     |  |   |   
|State                     |  |                |       |   |      |   |     |  |   |   
|Foreign                   |  |                |       |   |      |   |     |  |   |   
|                          |  |                |        |   |      |   |      |  |   |    
|Total deferred            |  |                |       |   |      |   |     |  |   |   
|                          |  |                |        |   |      |   |      |  |   |    
|Total provision (benefit) |  | $              | (3,220 | ) |      | $ | 3    |  | $ | 488
|                          |  |                |        |   |      |   |      |  |   |    



Pretax income (loss)
from foreign operations was approximately $(3.5 million), $(4.0 million), and $(0.2 million) for 2002, 2003, and 2004, respectively.



The Companys provision (benefit) for income taxes differs from the amount computed by applying the U.S. federal statutory rate (35%) to income
before taxes and minority interest as follows for the years ended September 30:



|                                                         |  |                |         |   |      |   |        |      |  |   |        |  
|-------------------------------------------------------- |  | -------------- | ------- | - | ---- | - | ------ | ---- |  | - | ------ | -
|                                                         |  | 2002           |         |   | 2003 |   |        | 2004 | 
|                                                         |  | (in thousands) |        
|Income taxes computed at the U.S. federal statutory rate |  | $              | (22,228 | ) |      | $ | (8,877 | )    |  | $ | 549    |  
|Unbenefited foreign losses                               |  |                | 1,236   |   |      |   | 1,416  |      |  |   | 1,311  |  
|Valuation on deferred tax assets                         |  |                | 20,276  |   |      |   | 7,464  |      |  |   |       |  
|Nontaxable gain on foreign investment                    |  |                |        |   |      |   |       |      |  |   | (90    | )
|R&D and foreign tax credits                              |  |                | (2,403  | ) |      |   |       |      |  |   |       |  
|U.S. operating loss benefited                            |  |                |        |   |      |   |       |      |  |   | (1,166 | )
|Reversal of previously provided taxes                    |  |                |        |   |      |   |       |      |  |   | (169   | )
|Other individually immaterial items                      |  |                | (101    | ) |      |   |       |      |  |   | 53     |  
|                                                         |  |                |         |   |      |   |        |      |  |   |        |  
|Total provision                                          |  | $              | (3,220  | ) |      | $ | 3      |      |  | $ | 488    |  
|                                                         |  |                |         |   |      |   |        |      |  |   |        |  



53



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INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



As of September 30, 2004 the Company had net operating loss carryforwards for federal and state
income tax purposes of approximately $80.1 million and $31.0 million, respectively. The federal and state net operating loss will expire at various dates beginning in 2014, if not utilized. The Company has federal research and development tax credit
and foreign tax credit carryforwards of approximately $2.8 million and $2.3 million, respectively. The Company also has state research and development tax credit carryforwards of approximately $1.8 million. The federal tax credits will expire at
various dates beginning in 2005 through 2024, if not utilized. The California state research and development tax credit can be carried forward indefinitely.



Utilization of the net operating loss carryforwards and credits may be subject to a substantial annual limitation due to the ownership change limitations
provided by the Internal Revenue Code of 1986, as amended, and similar state provisions. The annual limitation, should it become effective, may result in the expiration of net operating losses and credits before utilization.



Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of deferred taxes consisted of the following at September 30:



|                                                   |  |                |         |   |      |   |         |  
|-------------------------------------------------- |  | -------------- | ------- | - | ---- | - | ------- | -
|                                                   |  | 2003           |         |   | 2004 |  
|                                                   |  | (in thousands) |        
|Deferred tax assets:                               |  |                |         |   |      |   |         |  
|Depreciation                                       |  | $              | 830     |   |      | $ | 1,250   |  
|Inventory and other valuation reserves             |  |                | 8,860   |   |      |   | 16,830  |  
|Accrued expenses                                   |  |                | 4,380   |   |      |   | 2,950   |  
|Federal and state credit carryforwards             |  |                | 5,030   |   |      |   | 6,980   |  
|Federal and state net operating loss carryforwards |  |                | 34,440  |   |      |   | 29,540  |  
|Other, net                                         |  |                | 1,420   |   |      |   | 2,870   |  
|                                                   |  |                |         |   |      |   |         |  
|Subtotal                                           |  |                | 54,960  |   |      |   | 60,120  |  
|Valuation allowance                                |  |                | (51,020 | ) |      |   | (45,480 | )
|                                                   |  |                |         |   |      |   |         |  
|Total deferred tax assets                          |  | $              | 3,940   |   |      | $ | 14,940  |  
|Deferred tax liabilities:                          |  |                |         |   |      |   |         |  
|Unrealized gain on investment                      |  |                |        |   |      |   | (10,020 | )
|Equity investment basis difference                 |  |                | (3,940  | ) |      |   | (4,920  | )
|                                                   |  |                |         |   |      |   |         |  
|Net deferred tax assets                            |  | $              |        |   |      | $ |        |  
|                                                   |  |                |         |   |      |   |         |  



Management has
established a valuation allowance for a portion of the gross deferred tax assets based on managements expectations of future taxable income and the actual taxable income during the three years ended September 30, 2004. The valuation allowance
for deferred tax assets increased by $9.9 million in fiscal 2003 and decreased by $5.5 million in fiscal 2004. Approximately $12 million of the valuation allowance is attributable to tax benefits of stock option deductions which will be credited to
paid in capital when recognized.



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INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Note 10.    Per Share Data



The calculations of basic and diluted net income (loss) per share for each of the three years ended September 30, 2002, 2003
and 2004 are as follows:



|                                                             |  |                                      |         |   |      |   |         |      |  |   |       
|------------------------------------------------------------ |  | ------------------------------------ | ------- | - | ---- | - | ------- | ---- |  | - | ------
|                                                             |  | Years Ended September 30,           
|                                                             |  | 2002                                 |         |   | 2003 |   |         | 2004
|                                                             |  | (in thousands,except per share data)
|Numerator for basic and diluted net income (loss) per share: |  |                                      |         |   |      |   |         |      |  |   |       
|Net income (loss)                                            |  | $                                    | (67,540 | ) |      | $ | (28,077 | )    |  | $ | 3,485 
|                                                             |  |                                      |         |   |      |   |         |      |  |   |       
|Denominator for basic net income (loss) per share:           |  |                                      |         |   |      |   |         |      |  |   |       
|Weighted average common shares outstanding                   |  |                                      | 27,084  |   |      |   | 27,777  |      |  |   | 33,444
|Dilutive effect of stock options                             |  |                                      |        |   |      |   |        |      |  |   | 2,677 
|                                                             |  |                                      |         |   |      |   |         |      |  |   |       
|Denominator for diluted net income (loss) per share          |  |                                      | 27,084  |   |      |   | 27,777  |      |  |   | 36,121
|                                                             |  |                                      |         |   |      |   |         |      |  |   |       
|Basic and diluted net income (loss) per share                |  | $                                    | (2.49   | ) |      | $ | (1.01   | )    |  | $ | 0.10  
|                                                             |  |                                      |         |   |      |   |         |      |  |   |       



The above diluted
calculation for the years ended September 30, 2002, 2003 and 2004 does not include approximately 5,508,000, 5,987,000 and 779,000 shares attributable to options outstanding as of September 30, 2002, 2003 and 2004, respectively, as their impact would
be anti-dilutive. Of the 5,508,000 shares and 5,987,000 shares excluded from the fiscal 2002 and fiscal 2003 calculation, approximately 1,236,000 shares and 1,064,000 shares, respectively, were in the money but excluded solely because the Company
had a net loss for that period.



Note
11.    Geographic and Segment Information



The Company has one operating segment, which is to design, develop, and market high-performance SRAM, DRAM, and other memory products. The following table summarizes the Companys operations in different geographic areas:



|                             |  |                           |        |      |   |        |  |   |        
|---------------------------- |  | ------------------------- | ------ | ---- | - | ------ |  | - | -------
|                             |  | Years Ended September 30,
|                             |  | 2002                      |        | 2003 |   | 2004  
|                             |  | (in thousands)           
|Net Sales                    |  |                           |        |      |   |        |  |   |        
|United States                |  | $                         | 20,752 |      | $ | 12,852 |  | $ | 23,912 
|China                        |  |                           | 14,015 |      |   | 19,959 |  |   | 23,000 
|Hong Kong                    |  |                           | 7,512  |      |   | 12,617 |  |   | 40,401 
|Taiwan                       |  |                           | 8,913  |      |   | 24,321 |  |   | 41,268 
|Korea                        |  |                           | 1,865  |      |   | 10,540 |  |   | 9,604  
|Other Asia Pacific countries |  |                           | 6,933  |      |   | 7,734  |  |   | 21,371 
|Europe                       |  |                           | 10,084 |      |   | 9,609  |  |   | 19,309 
|Other North America          |  |                           | 374    |      |   | 28     |  |   | 2,147  
|                             |  |                           |        |      |   |        |  |   |        
|Total net sales              |  | $                         | 70,448 |      | $ | 97,660 |  | $ | 181,012
|                             |  |                           |        |      |   |        |  |   |        
|Long-lived assets            |  |                           |        |      |   |        |  |   |        
|United States                |  | $                         | 7,942  |      | $ | 4,307  |  | $ | 3,633  
|Hong Kong                    |  |                           | 691    |      |   | 70     |  |   | 49     
|China                        |  |                           | 1,771  |      |   | 1,918  |  |   | 1,646  
|Other foreign locations      |  |                           | 269    |      |   |       |  |   | 294    
|                             |  |                           |        |      |   |        |  |   |        
|Total long-lived assets      |  | $                         | 10,673 |      | $ | 6,295  |  | $ | 5,622  
|                             |  |                           |        |      |   |        |  |   |        



55



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Revenues are attributed to countries based on the shipping location of customers.



Long-lived assets by geographic area are those assets used in the
Companys operations in each area.



Net foreign currency
transaction gains (losses) of approximately ($47,000), ($53,000) and $2,000 for the years ended September 30, 2002, 2003, and 2004, respectively, were primarily the result of the settlement of intercompany transactions and are included in the
determination of net income (loss).



Note
12.    Commitments and Contingencies



Patents and Licenses



In the semiconductor
industry, it is not unusual for companies to receive notices alleging infringement of patents or other intellectual property rights of others. The Company has been, and from time-to-time expects to be, notified of claims that it may be infringing
patents, maskwork rights or copyrights owned by third parties. If it appears necessary or desirable, the Company may seek licenses under patents that it is alleged to be infringing. Although patent holders commonly offer such licenses, licenses may
not be offered and the terms of any offered licenses may not be acceptable to the Company. The failure to obtain a license under a key patent or intellectual property right from a third party for technology used by the Company could cause it to
incur substantial liabilities and to suspend the manufacture of the products utilizing the invention or to attempt to develop non-infringing products, any of which could materially and adversely affect the Companys business and operating
results. Furthermore, there can be no assurance that the Company will not become involved in protracted litigation regarding its alleged infringement of third party intellectual property rights or litigation to assert and protect its patents or
other intellectual property rights. Any litigation relating to patent infringement or other intellectual property matters could result in substantial cost and diversion of the Companys resources that could materially and adversely affect the
Companys business and operating results.



Litigation



On June 16, 2003, Symbol Technologies, Inc.
(Symbol) filed suit against the Company in the Supreme Court of the State of New York. The complaint alleged causes of action for breach of express warranty, negligent misrepresentation, breach of implied contract, negligence and breach
of implied warranty of fitness for a particular purpose related to certain of the Companys products purchased by Symbol. The complaint sought monetary damages in an amount of $5.0 million, pre-judgment interest and court costs. In October
2004, the parties settled this matter out of court and a stipulation of discontinuance with prejudice was approved by the court. The settlement of this litigation has been reflected in the Companys September 30, 2004 financial results and did
not have a material impact.



Operating Leases



The Company leases its facilities under operating lease
agreements that expire at various dates through 2007. The Company entered into a ten year lease effective December 1, 1996 for its headquarters facility in Santa Clara, California. Minimum rental commitments under these leases are as follows (in
thousands):



|                                               |  |   |      
|---------------------------------------------- |  | - | -----
|Fiscal year ending:                            |  |  
|2005 (net of expected sublease income of $131) |  | $ | 1,863
|2006 (net of expected sublease income of $22)  |  |   | 1,841
|2007                                           |  |   | 782  
|                                               |  |   |      
|Total minimum rental commitments               |  | $ | 4,486
|                                               |  |   |      



56



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Total rental expense for the years ended September 30, 2002, 2003 and 2004 was approximately $1.3
million (net of sublease income of $550,000), $1.3 million (net of sublease income of $563,000) and $1.7 million (net of sublease income of $127,000), respectively.



Commitments to Wafer Fabrication Facilities



The Company issues purchase orders for wafers to various wafer foundries. These purchase orders are generally considered to
be cancelable. However, to the degree that the wafers have entered into work-in-process, as a matter of practice it becomes increasingly difficult to cancel the purchase order. As of September 30, 2004, the Company had approximately $21.7 million of
purchase orders for which the related wafers had been entered into wafer work-in-process (manufacturing had begun).



Note 13.    Employee Benefit Plan



In August 1992, the Company established a defined contribution retirement plan with 401(k) plan features to provide retirement benefits to its eligible
United States employees. Employees may make contributions through payroll withholdings of up to the lesser of $13,000 ($16,000 for participants older than 50) or 60% of their annual compensation for 2004. The Company elected to make no contributions
during the years ended September 30, 2002, 2003 and 2004. Administrative expenses relating to the plan are insignificant.



Note 14.    Supplemental Cash Flow Information



|                                          |  |                           |       |      |   |        |      |  |   |    
|----------------------------------------- |  | ------------------------- | ----- | ---- | - | ------ | ---- |  | - | ---
|                                          |  | Years Ended September 30,
|                                          |  | 2002                      |       | 2003 |   |        | 2004
|                                          |  | (in thousands)           
|Cash paid for interest                    |  | $                         | 24    |      | $ | 10     |      |  | $ |   
|Cash paid (refunded) for income taxes     |  |                           | 1,741 |      |   | (1,929 | )    |  |   | 337
|Stock issued in acquisition of Purple Ray |  |                           | 6,879 |      |   | 24     |      |  |   |   
|Assets acquired from Purple Ray           |  |                           | 730   |      |   |       |      |  |   |   
|Liabilities assumed from Purple Ray       |  |                           | 701   |      |   |       |      |  |   |   



Note
15.    Transactions



In August 2000,
the Company made a commitment for an equity investment in SMIC, the first 8-inch wafer foundry in China. In September 2003, the Company invested an additional $2.0 million in SMICs Series C round of financing. Prior to sales in fiscal 2004,
the Company had invested a total of $42.0 million in SMIC. The Company has no further commitments to SMIC for additional equity investments.



On March 17, 2004, SMIC completed an IPO. SMICs ordinary shares are traded on the Hong Kong Stock Exchange and SMIC American Depository Receipts
(ADR) are traded on the New York Stock Exchange. Each SMIC ADR represents fifty (50) ordinary shares. The Company sold certain shares of its SMIC stock in the IPO, and recorded gross proceeds of approximately $13.2 million in the March
2004 quarter resulting in a pre-tax gain of approximately $8.8 million. In the September 2004 quarter, the Company sold additional shares of SMIC and recorded gross proceeds of approximately $5.0 million and a pre-tax gain of approximately $2.1
million.



In February 2001, the Company invested $3.0 million
for approximately 22% of E-CMOS located in Hsinchu, Taiwan. In fiscal 2002, the Company invested an additional $0.6 million in E-CMOS. In May 2003, the Company sold shares of E-CMOS for approximately $2.2 million which resulted in a pre-tax gain of
$0.4 million. In September 2003, the Company sold shares of E-CMOS for approximately $0.6 million which resulted



57



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



in a pre-tax gain of $0.1 million. Effective May 2003, the Companys ownership of E-CMOS became less than 20%, and the Company began accounting for
E-CMOS on the cost basis. At September 30, 2004, the Company owned approximately 11% of E-CMOS.



On April 19, 2002, the Company purchased $1.0 million in aggregate principal amount of Secured Convertible Promissory Notes of Signia (the
Notes).



On July 19, 2002, the Company entered into
a Series B Preferred Stock and Warrant Purchase Agreement (the Purchase Agreement) with Signia, whereby the Company purchased 3,000,000 shares of Series B Preferred Stock and warrants to purchase 3,000,000 shares of Series B Preferred
Stock for $1.5 million, including the conversion of the principal and accrued interest on the Notes.



On December 31, 2002, the Series B Preferred Stock converted into 701,203 shares of common stock. In addition, the existing Series B warrant was cancelled
and exchanged for a new warrant for the purchase of 701,203 shares of Signia common stock at NT7.27 or approximately $0.1 million. The warrant expired in fiscal 2004.



On May 1, 2003, the Company entered into a Product License and Manufacturing Agreement with Signia for the right to cross
license, manufacture and sell certain products as well as derivative products.



On July 2, 2003, the Company entered into a stock purchase agreement to acquire additional common shares of Signia Taiwan, of which the Company purchased 2,954,070 shares of common stock for NT$10 per share or
approximately $0.9 million. In the quarter ended June 30, 2003, the Company recorded an impairment loss of approximately $1.3 million on the Signia investment based on the share price of the July 2003 investment. As of September 30, 2004, the
carrying value of the investment in Signia was approximately $1.1 million.



Note 16.    Related Party Transactions



The Company sells and licenses memory products to ICSI. The Company currently has approximately a 29% ownership interest in ICSI. The Companys Chairman and Chief Executive Officer (CEO), Jimmy S.M.
Lee, is a director of ICSI.



The Company purchases goods and
contract manufacturing services from ICSI. For the years ended September 30, 2002, 2003 and 2004, purchases of goods and services were approximately $3,309,000, $132,000 and $3,720,000, respectively. The Company also pays ICSI certain product
development costs, license fees and royalties. For fiscal 2002, 2003 and 2004, these charges totaled approximately $2,905,000, $620,000 and $1,336,000, respectively.



The Company sold memory products to Marubun USA Corporation (Marubun USA) in fiscal 2002, fiscal 2003 and in the
first quarter of fiscal 2004. Hide L. Tanigami, a director of the Company, is the president and chief executive officer of Marubun USA. Effective January 1, 2004, the Company no longer sells products to Marubun USA.



The Company purchases goods from SMIC in which the Company has less than a 2%
ownership interest. The Companys Chairman and CEO, Jimmy S.M. Lee, was a director of SMIC until March 2004. Lip-Bu Tan, a director of the Company, has been a director of SMIC since January 2002. For the years ended September 30, 2002, 2003 and
2004, purchases of goods from SMIC were approximately $5,187,000, $39,490,000, and $38,799,000, respectively.



58



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Lip-Bu Tan, a director of the Company, has been a director of Flextronics since April 3, 2003. The
Company sold memory products to Flextronics in fiscal 2003 and fiscal 2004. The Company had been doing business with Flextronics prior to Mr. Tan joining the board of directors of Flextronics.



The Company provides manufacturing support services to Signia Technologies
(Signia) in which the Company currently has approximately a 15% ownership interest. The Companys Chairman and CEO, Jimmy S.M. Lee, is a director of Signia. For the years ended September 30, 2003 and 2004, the Company provided
services of approximately $523,000 and $2,799,000, respectively.



Accounts receivable from related parties consisted of the following at September 30:



|            |  |                |       |      |   |      
|----------- |  | -------------- | ----- | ---- | - | -----
|            |  | 2003           |       | 2004
|            |  | (in thousands)
|Flextronics |  | $              | 355   |      | $ | 1,861
|ICSI        |  |                | 276   |      |   | 646  
|Marubun     |  |                | 1,044 |      |   |     
|Signia      |  |                | 315   |      |   | 935  
|            |  |                |       |      |   |      
|Total       |  | $              | 1,990 |      | $ | 3,442
|            |  |                |       |      |   |      



The following table
shows sales to related parties for the years ended September 30:



|                         |  |                           |       |      |   |       |      |  |   |      
|------------------------ |  | ------------------------- | ----- | ---- | - | ----- | ---- |  | - | -----
|                         |  | Years Ended September 30,
|                         |  | 2002                      |       | 2003 |   |       | 2004
|                         |  | (in thousands)           
|Sales to related parties |  |                           |       |      |   |       |      |  |   |      
|Flextronics              |  | $                         |      |      | $ | 616   |      |  | $ | 4,249
|ICSI                     |  |                           | 1,118 |      |   | (101  | )    |  |   | 2,053
|Marubun                  |  |                           | 1,033 |      |   | 2,333 |      |  |   | 2,053
|Others                   |  |                           |      |      |   | 6     |      |  |   | 276  
|                         |  |                           |       |      |   |       |      |  |   |      
|Total                    |  | $                         | 2,151 |      | $ | 2,854 |      |  | $ | 8,631
|                         |  |                           |       |      |   |       |      |  |   |      



Accounts payable to
related parties consisted of the following at September 30:



|      |  |                |       |      |   |      
|----- |  | -------------- | ----- | ---- | - | -----
|      |  | 2003           |       | 2004
|      |  | (in thousands)
|ICSI  |  | $              | 386   |      | $ | 782  
|SMIC  |  |                | 4,936 |      |   | 2,653
|      |  |                |       |      |   |      
|Total |  | $              | 5,322 |      | $ | 3,435
|      |  |                |       |      |   |      



Note
17.    Acquisition of Purple Ray



On
February 13, 2002, the Company acquired Purple Ray, Inc. (Purple Ray) through a merger of Purple Ray with and into ISSI pursuant to the terms of an Agreement and Plan of Reorganization dated January 23, 2002. The results of Purple
Rays operations have been included in the consolidated financial statements since that date.



Purple Ray was a privately held research and development stage company developing network search engine and content addressable memory integrated
circuits. The Company acquired Purple Ray primarily to diversify its product offerings and to acquire an existing design team rather than trying to develop its own capability internally.



59



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



The assets of Purple Ray consisted primarily of intellectual property. The transaction was accounted
for using the purchase method of accounting. The total purchase price of $7.1 million consisted of the fair market value of ISSIs common stock issued of $5.2 million, the fair value of options to purchase Purple Ray common stock assumed by
ISSI of approximately $1.7 million and transaction costs of $0.2 million. The value of the shares issued was based on the three-day average closing price leading up to and including the February 13, 2002 closing. In fiscal 2003, the Company issued
8,241 additional shares of ISSI common stock to former shareholders of Purple Ray based upon meeting certain milestones and recorded a charge of approximately $25,000.



The purchase price allocation is as follows (in thousands):



|                                |  |   |      
|------------------------------- |  | - | -----
|Net tangible assets             |  | $ | 290  
|Intangible assets:              |  |   |      
|In-process technology           |  |   | 4,689
|Patent applications             |  |   | 963  
|Assembled workforce             |  |   | 248  
|Unearned compensation           |  |   | 889  
|                                |  |   |      
|Total purchase price allocation |  | $ | 7,079
|                                |  |   |      



The Company recorded
deferred compensation of approximately $0.9 million at the acquisition date, representing the intrinsic value of unvested Purple Ray options assumed. The deferred compensation is being amortized over the option vesting period of five years.



The in-process technology acquired from Purple Ray was valued
at $4.7 million. The write-off of the in-process technology acquired impacted the Companys statement of operations in the year ended September 30, 2002. The value of the acquired in-process technology represents the value of technology in the
development stage that had not yet reached technological feasibility. In reaching this determination, the Company used a present value net income approach and considered the stage of development of each product, the time and resources needed to
complete each product, and the expected income and associated risks. The rate utilized to discount the net cash flows to their present value was based on an estimated cost of capital calculation. The Company utilized a discount rate of 35% for the
in-process technology, which it believes is commensurate with the inherent risk and the expected growth of the in-process products.



In September 2002, the Company wrote-off the unamortized balance of the patent applications of approximately $0.8 million. The charge is included in
research and development expenses. The write-off was made as it became evident, based on anticipated cash flows, that the product line had not and would not meet the goals that the Company had at the time the acquisition was made and that the
Company would not recover any value for the patent applications.



In June 2003, the Company wrote-off the unamortized balance of the assembled workforce of approximately $0.1 million. The charge is included in research and development expenses. The write-off was made as the Company had terminated the
employment of the former Purple Ray employees.



60



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Note 18.    Investment in ICSI (unaudited)



The following summarizes financial information for ICSI at September 30:



|                                                |  |                |        |      |   |       
|----------------------------------------------- |  | -------------- | ------ | ---- | - | ------
|                                                |  | 2003           |        | 2004
|                                                |  | (in thousands)
|Current assets                                  |  | $              | 82,691 |      | $ | 90,191
|Property, plant, and equipment and other assets |  |                | 36,981 |      |   | 34,865
|Current liabilities                             |  |                | 41,957 |      |   | 57,545
|Long-term debt                                  |  |                | 18,812 |      |   |      



The following
summarizes financial information for ICSI, for the twelve months ended September 30, 2002, 2003 and 2004:



|                    |  |                                  |         |   |      |   |        |      |  |   |        
|------------------- |  | -------------------------------- | ------- | - | ---- | - | ------ | ---- |  | - | -------
|                    |  | Twelve Months EndedSeptember 30,
|                    |  | 2002                             |         |   | 2003 |   |        | 2004
|                    |  | (in thousands)                  
|Net sales           |  | $                                | 74,820  |   |      | $ | 96,209 |      |  | $ | 165,585
|Gross profit (loss) |  |                                  | (3,411  | ) |      |   | 7,759  |      |  |   | 31,029 
|Net income (loss)   |  |                                  | (18,773 | ) |      |   | (9,233 | )    |  |   | 8,265  



In the June 2002
quarter, the Company invested approximately $3.2 million in convertible debentures issued by ICSI. The Company classifies this investment as available-for-sale. ICSI raised approximately $17 million with the proceeds to be used for general working
capital purposes. Key terms of the issuance included: 5 year term, 0% coupon rate, convertible into ICSI common stock after 90 days, four specified conversion dates per year, conversion price at 101% over a calculated average closing price, an
anti-dilution clause, an embedded derivative put option at 4% interest after 3 years and 4.5% after 4 years, and callable after 2 years if the market price of ICSI common stock meets certain conditions.



As a result of changes in ICSIs convertible debenture price, as of
September 30, 2004, the Company recorded an accumulated unrealized gain of approximately $200,000 related to the ICSI convertible debentures. The unrealized gain is included in accumulated other comprehensive income in the equity portion of the
Companys balance sheet. In addition, in fiscal 2004, the Company recorded charges of approximately $174,000 related to the decline in the fair value of an embedded derivative associated with the ICSI convertible debenture. The charge
associated with the embedded derivative is included in other income (expense). The market value of the Companys convertible debentures at September 30, 2004 was approximately $3.2 million.



The Company accounts for investments in 50% or less owned companies over
which it has the ability to exercise significant influence using the equity method of accounting. At September 30, 2003 and 2004, approximately, $1.8 million and $4.2 million, respectively, of undistributed earnings of 50% or less owned companies
accounted for using the equity method are included in consolidated retained earnings. The Company periodically reviews these investments for other-than-temporary declines in market value and writes these investments to their fair value when an
other-than-temporary decline has occurred.



61



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##### Table of Contents

INTEGRATED SILICON SOLUTION, INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Note 19.    Quarterly Financial Information (unaudited)



The following is a summary of the quarterly results of operations for the
years ended September 30, 2003 and 2004.



|                                     |  |                                                   |         |   |        |   |        |         |  |   |         |   |  |   |         |     
|------------------------------------ |  | ------------------------------------------------- | ------- | - | ------ | - | ------ | ------- |  | - | ------- | - |  | - | ------- | ----
|                                     |  | Dec 31                                            |         |   | Mar 31 |   |        | June 30 |  |   | Sept 30 |  
|                                     |  | (in thousands, except per share data) (unaudited) |        
|Fiscal 2003                          |  |                                                   |         |   |        |   |        |         |  |   |         |   |  |   |         |     
|                                     |  |                                                   |         |  
|Net sales                            |  | $                                                 | 21,038  |   |        | $ | 22,312 |         |  | $ | 24,285  |   |  | $ | 30,025  |     
|Gross profit (loss)                  |  |                                                   | (1,222  | ) |        |   | 3,340  |         |  |   | 4,014   |   |  |   | 5,482   |     
|Operating loss                       |  |                                                   | (11,685 | ) |        |   | (6,192 | )       |  |   | (4,609  | ) |  |   | (2,622  | )   
|Net loss                             |  | $                                                 | (12,689 | ) |        | $ | (6,970 | )       |  | $ | (5,940  | ) |  | $ | (2,478  | )   
|Basic and diluted net loss per share |  | $                                                 | (0.46   | ) |        | $ | (0.25  | )       |  | $ | (0.21   | ) |  | $ | (0.09   | )   
|                                     |  |                                                   |         |  
|Fiscal 2004                          |  |                                                   |         |   |        |   |        |         |  |   |         |   |  |   |         |     
|                                     |  |                                                   |         |  
|Net sales                            |  | $                                                 | 40,255  |   |        | $ | 51,504 |         |  | $ | 58,129  |   |  | $ | 31,124  |     
|Gross profit (loss)                  |  |                                                   | 8,952   |   |        |   | 11,885 |         |  |   | 13,839  |   |  |   | (7,979  | )(1)
|Operating income (loss)              |  |                                                   | 521     |   |        |   | 2,342  |         |  |   | 3,845   |   |  |   | (17,252 | )   
|Net income (loss)                    |  | $                                                 | 895     |   |        | $ | 12,512 | (2)     |  | $ | 5,639   |   |  | $ | (15,561 | )(2)
|Basic net income (loss) per share    |  | $                                                 | 0.03    |   |        | $ | 0.38   |         |  | $ | 0.16    |   |  | $ | (0.43   | )   
|Diluted net income (loss) per share  |  | $                                                 | 0.03    |   |        | $ | 0.34   |         |  | $ | 0.15    |   |  | $ | (0.43   | )   

---

|(1) | In the September 2004 quarter, the Company recorded inventory write-downs of $12.1 million. The inventory write-downs were predominately for lower of cost or market and excess and
obsolescence issues on certain of its products.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | In the March 2004 quarter, the Company sold certain shares of its SMIC stock and recorded gross proceeds of approximately $13.2 million resulting in a pre-tax gain of approximately
$8.8 million. In the September 2004 quarter, the Company sold additional shares of SMIC and recorded gross proceeds of approximately $5.0 million and a pre-tax gain of approximately $2.1 million.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Note 20.    Subsequent Event (unaudited)



As of September 30, 2004, the Company owned approximately 15% of Signia
Technologies, a privately held wireless chipset company based in Taiwan. In November 2004, as part of its strategy to diversify into non-memory products, the Company began to acquire additional shares of Signia Technologies. As of December 14, 2004,
the Company has increased its ownership of Signia Technologies to approximately 66% by investing approximately $7.6 million. The Company may purchase additional shares of Signia Technologies in the future.



62



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



Not applicable.



Item 9a. Controls and Procedures



Our Chief Executive Officer and Chief Financial Officer, based on the evaluation of our disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934, as amended) required by
paragraph (b) of Rule 13a-15 or Rule 15d-15, have concluded that, as of September 30, 2004, our disclosure controls and procedures were effective to ensure that the information we are required to disclose in reports that we file or submit under the
Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. During the three months ended September 30, 2004, there was no change in our
internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Rule 13a-15 or Rule 15d-15 that has materially affected, or is reasonably likely to materially affect, our internal control over
financial reporting.



Item 9b. Other Information



Not
applicable.



PART III



Certain information required by Part III is omitted from this Report on Form
10-K in that the Registrant will file its definitive Proxy Statement for its Annual Meeting of Stockholders to be held on February 4, 2005, pursuant to Regulation 14A of the Securities Exchange Act of 1934, as amended (the Proxy
Statement), not later than 120 days after the end of the fiscal year covered by this Report, and certain information included in the Proxy Statement is incorporated herein by reference.



Item 10. Directors and Executive Officers of the Registrant



Executive OfficersSee the section entitled Executive Officers in Part I, Item 1 hereof.



DirectorsThe information required by this Item is incorporated by reference from the section entitled Election of Directors in the Proxy
Statement.



The disclosure required by Item 405 of Regulation
S-K is incorporated by reference to the section entitled Section 16(a) Beneficial Ownership Reporting Compliance in the Proxy Statement.



The identity of our Audit Committee members and information regarding the audit committee financial expert on our Audit Committee, as such
term is defined in SEC regulations, is incorporated herein by reference to the section entitled  Board of Directors Meetings and CommitteesThe Audit Committee in the Proxy Statement.



The information regarding our code of ethics applicable to all directors and
employees, including our principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions, is incorporated herein by reference to the section entitled Code of
Business Conduct and Ethics in the Proxy Statement.



Item 11. Executive Compensation



The information appearing in our Proxy Statement contained in the sections entitled Compensation of Executive Officers, Compensation of Directors, Compensation Committee Interlocks and Insider
Participation, Report of the Compensation Committee of the Board of Directors, and Comparison of Total Cumulative Stockholder Return, is incorporated by reference.



63



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##### Table of Contents

Item 12. Security Ownership of Certain Beneficial Owners and Management



The disclosure required by Item 403 of Regulation S-K is incorporated by reference from the sections entitled Principal Share
OwnershipBeneficial Owners and Principal Share OwnershipSecurity Ownership of Management in the Proxy Statement.



Equity Compensation Plan Information



The information required by Item 201(d) of Regulation S-K is incorporated by reference from the section entitled Equity Compensation Plan
Information in the Proxy Statement.



Item 13. Certain Relationships and Related Transactions



The information required by this Item is incorporated by reference from the section entitled Certain Transactions in the Proxy Statement.



Item 14. Principal Accountant Fees and Services



Information about principal accounting fees and services as well as related pre-approval policies appears under Fees Paid to Ernst & Young LLP and Audit Committee Pre-Approval of Audit and
Permissible Non-Audit Services of Independent Auditors in the Proxy Statement. Those portions of the Proxy Statement are incorporated by reference to this report.



Item 15. Exhibits and Financial Statement Schedules



(a) List of documents filed as part of this Report.



| | 1. | Financial Statements:See Index to Consolidated Financial Statements under Item 8 on page XX of this Annual Report.
| | -- | --------------------------------------------------------------------------------------------------------------------



The following consolidated financial statements of Integrated Silicon
Solution, Inc. are contained in Part II, Item 8 of this Report on Form 10-K:



Report of Ernst & Young LLP, Independent Registered Public Accounting Firm

Consolidated Statements of
Operations

Consolidated Balance Sheets

Consolidated Statements of Cash Flows

Consolidated Statements of Stockholders Equity

Notes to Consolidated Financial Statements



| | 2. | Financial Statement Schedules
| | -- | -----------------------------



All other schedules for which provision is made in the Applicable Accounting Regulations of the Securities and Exchange Commission are not required under
the related instructions or are inapplicable, and therefore have been omitted.



64



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##### Table of Contents

3. Exhibits



|              |  |                                                                                                                         
|------------- |  | ------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber |  | Description of Document                                                                                                 
|              | 
|3.1(2)        |  | Restated Certificate of Incorporation of Registrant.                                                                    
|              | 
|3.2(9)        |  | Amendment to Restated Certificate of Incorporation of Registrant.                                                       
|              | 
|3.3(1)        |  | Bylaws of Registrant.                                                                                                   
|              | 
|4.2(1)        |  | Form of Common Stock Certificate.                                                                                       
|              | 
|10.1(1)       |  | Form of Indemnification Agreement.                                                                                      
|              | 
|10.2(7)*      |  | Form of 1993 Employee Stock Purchase Plan, as amended, and form of Subscription Agreement.                              
|              | 
|10.3(4)*      |  | Form of 1989 Stock Plan, as amended, and form of Stock Option Agreements.                                               
|              | 
|10.4(5)*      |  | 1995 Director Stock Option Plan, as amended.                                                                            
|              | 
|10.5(3)       |  | Sublease Agreement for facility located at 2231 Lawson Lane, Santa Clara, California.                                   
|              | 
|10.6(8)*      |  | Nonstatutory Stock Plan, as amended.                                                                                    
|              | 
|10.8(6)*      |  | 1998 Stock Plan, as amended.                                                                                            
|              | 
|21.1          |  | Subsidiaries of the Registrant                                                                                          
|              | 
|23.1          |  | Consent of Ernst & Young LLP, Independent Registered Public Accounting Firm                                             
|              | 
|24.1          |  | Power of Attorney (see page 66).                                                                                        
|              | 
|31.1          |  | Certification Pursuant to SEC Release No. 33-8238, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
|              | 
|32.1          |  | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002. 

---

|* | Management contract or compensatory plan or arrangement required to be filed as an exhibit to this Report on Form 10-K pursuant to item 15(b) of this report.
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------

|(1) | Incorporated by reference to the Companys Registration Statement on Form S-1, as amended (file no. 33-72960).
|--- | --------------------------------------------------------------------------------------------------------------

|(2) | Incorporated by reference to the Companys Registration Statement on Form S-1, as amended (file no. 33-91520)
|--- | -------------------------------------------------------------------------------------------------------------

|(3) | Incorporated by reference to the Companys Annual Report on Form 10-K for the period ended September 30, 1996.
|--- | --------------------------------------------------------------------------------------------------------------

|(4) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed April 22, 1998.
|--- | ---------------------------------------------------------------------------------------------------

|(5) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed April 26, 1999.
|--- | ---------------------------------------------------------------------------------------------------

|(6) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed March 9, 2001.
|--- | --------------------------------------------------------------------------------------------------

|(7) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed March 15, 2002.
|--- | ---------------------------------------------------------------------------------------------------

|(8) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed November 21, 2002.
|--- | ------------------------------------------------------------------------------------------------------



| | (b) | Exhibits
| | --- | --------

| |  | See (3) above
| |  | -------------

| | (c) | Financial statement schedules
| | --- | -----------------------------

| |  | See (2) above
| |  | -------------



65



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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.



INTEGRATED SILICON SOLUTION, INC.By

/s/    GARY L.
FISCHERGary L. Fischer President, Chief Operating Officer and Chief Financial OfficerDate: December 14, 2004




POWER OF
ATTORNEY



KNOW ALL PERSONS BY THESE PRESENTS, that each
person whose signature appears below hereby constitutes and appoints Jimmy S.M. Lee and Gary L. Fischer, and each of them acting individually, as his or her attorney-in-fact, each with full power of substitution, for him or her in any and all
capacities, to sign any and all amendments to this Report on Form 10-K, and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming our
signatures as they may be signed by our said attorney to any and all amendments to said Report.



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



|                                        |  |                                                                                                                                
|--------------------------------------- |  | -------------------------------------------------------------------------------------------------------------------------------
|Signature                               |  | Title                                                                                                                          
|                                        | 
|/s/    JIMMY S.M. LEE(Jimmy S.M. Lee)   |  | Chairman of the Board and Chief Executive Officer (Principal Executive Officer)                                                
|                                        | 
|/s/    GARY L. FISCHER(Gary L. Fischer) |  | Director, President, Chief Operating Officer and Chief Financial Officer (Principal Financial and Principal Accounting Officer)
|                                        | 
|/s/    PING K. KO(Ping K. Ko)           |  | Director                                                                                                                       
|                                        | 
|/s/    LIP-BU
TAN(Lip-Bu Tan)           |  | Director                                                                                                                       
|                                        | 
|/s/    HIDE TANIGAMI(Hide Tanigami)     |  | Director                                                                                                                       
|                                        | 
|/s/    BRUCE A. WOOLEY(Bruce A. Wooley) |  | Director                                                                                                                       



Date:
December 14, 2004



66



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##### Table of Contents

EXHIBIT INDEX



|              |  |                                                                                                                         
|------------- |  | ------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber |  | Description of Document                                                                                                 
|              | 
|3.1(2)        |  | Restated Certificate of Incorporation of Registrant.                                                                    
|              | 
|3.2(9)        |  | Amendment to Restated Certificate of Incorporation of Registrant.                                                       
|              | 
|3.3(1)        |  | Bylaws of Registrant.                                                                                                   
|              | 
|4.2(1)        |  | Form of Common Stock Certificate.                                                                                       
|              | 
|10.1(1)       |  | Form of Indemnification Agreement.                                                                                      
|              | 
|10.2(7)*      |  | Form of 1993 Employee Stock Purchase Plan, as amended, and form of Subscription Agreement.                              
|              | 
|10.3(4)*      |  | Form of 1989 Stock Plan, as amended, and form of Stock Option Agreements.                                               
|              | 
|10.4(5)*      |  | 1995 Director Stock Option Plan, as amended.                                                                            
|              | 
|10.5(3)       |  | Sublease Agreement for facility located at 2231 Lawson Lane, Santa Clara, California.                                   
|              | 
|10.6(8)*      |  | Nonstatutory Stock Plan, as amended.                                                                                    
|              | 
|10.8(6)*      |  | 1998 Stock Plan, as amended.                                                                                            
|              | 
|21.1          |  | Subsidiaries of the Registrant                                                                                          
|              | 
|23.1          |  | Consent of Ernst & Young LLP, Independent Registered Public Accounting Firm                                             
|              | 
|24.1          |  | Power of Attorney (see page 66).                                                                                        
|              | 
|31.1          |  | Certification Pursuant to SEC Release No. 33-8238, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|              | 
|32.1          |  | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 

---

|* | Management contract or compensatory plan or arrangement required to be filed as an exhibit to this Report on Form 10-K pursuant to item 15(b) of this report.
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------

|(1) | Incorporated by reference to the Companys Registration Statement on Form S-1, as amended (file no. 33-72960).
|--- | --------------------------------------------------------------------------------------------------------------

|(2) | Incorporated by reference to the Companys Registration Statement on Form S-1, as amended (file no. 33-91520)
|--- | -------------------------------------------------------------------------------------------------------------

|(3) | Incorporated by reference to the Companys Annual Report on Form 10-K for the period ended September 30, 1996.
|--- | --------------------------------------------------------------------------------------------------------------

|(4) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed April 22, 1998.
|--- | ---------------------------------------------------------------------------------------------------

|(5) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed April 26, 1999.
|--- | ---------------------------------------------------------------------------------------------------

|(6) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed March 9, 2001.
|--- | --------------------------------------------------------------------------------------------------

|(7) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed March 15, 2002.
|--- | ---------------------------------------------------------------------------------------------------

|(8) | Incorporated by reference to the Companys Registration Statement on Form S-8 filed November 21, 2002.
|--- | ------------------------------------------------------------------------------------------------------