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**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

 

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###### **FORM 10-Q**

######  

**(Mark One)**

 
| **x**      | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE  ACT OF 1934**                                                                    |
|------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** ** | ** ** | **For the Quarterly Period Ended June 29, 2008**                                                                                                                      |
| ** ** | ** ** | ** **                                                                                                                                                                 |
| **OR**     |
| ** ** | ** ** | ** **                                                                                                                                                                 |
| **o**      | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE  ACT OF 1934**                                                                   |
| ** ** | ** ** | **For the  Transition Period  From                      To** |

 

**COMMISSIONFILE NUMBER: 000-22671**

 

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**QUICKLOGIC CORPORATION**

(Exact name ofregistrant as specified in its charter)

 

| **DELAWARE**                                                      | ** ** | **77-0188504**                        |
|-------------------------------------------------------------------|------------|---------------------------------------|
| (State  or other jurisdiction of

incorporation  or organization) |       | (I.R.S.  Employer Identification No.) |

 

**1277 ORLEANSDRIVE SUNNYVALE, CA  94089**

(Address ofprincipal executive offices, including Zip Code)

 

**(408) 990-4000**

(Registrant’stelephone number, including area code)

 

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

 

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

 

| Large  accelerated filer o                     |   | Accelerated  filer x         |
|------------------------------------------------|--------|-----------------------------------|
|                                           |   |                              |
| Non-accelerated  filer o                       |   | Smaller  reporting company o |
| (Do  not check if a smaller reporting company) |   |                              |

 

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

 

As of August 4, 2008, 29,766,404 shares of theregistrant’s common stock were outstanding.

 

 

 

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**QUICKLOGIC CORPORATION**

**FORM 10-Q**

**June 29,2008**

 
| ** **                                                                                                                                      | **Page** |
|-------------------------------------------------------------------------------------------------------------------------------------------------|----------|
|                                                                                                                                            |     |
| **Part I. Financial Information**                                                                                                          | 3        |
|                                                                                                                                            |     |
| **Item 1. Financial  Statements**                                                                                                               | 3        |
| Condensed Unaudited Consolidated Statements of  Operations for the three and six months ended June 29, 2008 and  July 1, 2007         | 3        |
| Condensed Unaudited Consolidated Balance Sheets as of  June 29, 2008 and December 30, 2007                                            | 4        |
| Condensed Unaudited Consolidated Statements of Cash  Flows for the six months ended June 29, 2008 and July 1, 2007                    | 5        |
| Condensed Unaudited Consolidated Statements of  Comprehensive Loss for the three and six months ended June 29, 2008 and  July 1, 2007 | 6        |
| Notes to Condensed Unaudited Consolidated Financial  Statements                                                                                 | 7        |
|                                                                                                                                            |     |
| **Item 2. Management’s Discussion and Analysis of Financial  Condition and Results of Operations**                                         | 22       |
|                                                                                                                                            |     |
| **Item 3. Quantitative and Qualitative Disclosures about  Market Risk**                                                                         | 34       |
|                                                                                                                                            |     |
| **Item 4. Controls and Procedures**                                                                                                             | 34       |
|                                                                                                                                            |     |
| **Part II. Other  Information**                                                                                                            | 35       |
|                                                                                                                                            |     |
| **Item 1. Legal Proceedings**                                                                                                                   | 35       |
|                                                                                                                                            |     |
| **Item  1A. Risk Factors**                                                                                                                      | 36       |
|                                                                                                                                            |     |
| **Item 4. Submission of  Matters to a Vote of Security Holders**                                                                                | 48       |
|                                                                                                                                            |     |
| **Item 6. Exhibits**                                                                                                                            | 49       |
|                                                                                                                                            |     |
| Signatures                                                                                                                                      | 50       |

 

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**PART I. Financial Information**

 

**Item 1. Financial Statements**

 

**QUICKLOGIC CORPORATION**

**CONDENSED UNAUDITED CONSOLIDATEDSTATEMENTS OF OPERATIONS**

**(in thousands, except per shareamounts)**

 
| ** **                                           | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                           | ** ** | **June 29,  2008**          | ** ** | **July 1,  2007**         | ** ** | **June 29,  2008** | ** ** | **July 1,  2007** | ** ** |
|                                                 |       |                             |       |                           |       |   |   |   |   |
| Revenue                                              |       | $                                | 8,743      |                           | $          | 8,405 |   | $ | 19,766 |   | $ | 14,647 |   |
| Cost of revenue                                      |       | 3,982                            |       | 3,975                          |       | 9,240 |   | 9,376 |   |
| Long-lived asset impairment                          |       | 1,545                            |       | —                         |       | 1,545 |   | — |   |
| Gross profit                                         |       | 3,216                            |       | 4,430                          |       | 8,981 |   | 5,271 |   |
| Operating expenses:                                  |       |                             |       |                           |       |   |   |   |   |
| Research and development                             |       | 2,610                            |       | 2,339                          |       | 5,431 |   | 4,626 |   |
| Selling, general and administrative                  |       | 3,970                            |       | 4,387                          |       | 8,290 |   | 8,980 |   |
| Long-lived asset impairment                          |       | 468                              |       | —                         |       | 468 |   | — |   |
| Restructuring costs                                  |       | 452                              |       | —                         |       | 452 |   | — |   |
| Loss from operations                                 |       | (4,284                           | )          | (2,296                         | )          | (5,660 | ) | (8,335 | ) |
| Write-down of investment in Tower Semiconductor Ltd. |       | (417                             | )          | —                         |       | (417 | ) | — |   |
| Interest expense                                     |       | (72                              | )          | (72                            | )          | (143 | ) | (157 | ) |
| Interest income and other, net                       |       | 30                               |       | 317                            |       | 134 |   | 563 |   |
| Loss before income taxes                             |       | (4,743                           | )          | (2,051                         | )          | (6,086 | ) | (7,929 | ) |
| Provision for income taxes                           |       | —                           |       | 27                             |       | 34 |   | 42 |   |
| Net loss                                             |       | $                                | (4,743     | )                              | $          | (2,078 | ) | $ | (6,120 | ) | $ | (7,971 | ) |
|                                                 |       |                             |       |                           |       |   |   |   |   |
| Net loss per share:                                  |       |                             |       |                           |       |   |   |   |   |
| Basic                                                |       | $                                | (0.16      | )                              | $          | (0.07 | ) | $ | (0.21 | ) | $ | (0.28 | ) |
| Diluted                                              |       | $                                | (0.16      | )                              | $          | (0.07 | ) | $ | (0.21 | ) | $ | (0.28 | ) |
|                                                 |       |                             |       |                           |       |   |   |   |   |
| Weighted average shares:                             |       |                             |       |                           |       |   |   |   |   |
| Basic and diluted                                    |       | 29,589                           |       | 28,966                         |       | 29,498 |   | 28,890 |   |

 

See accompanying Notes to Condensed Unaudited Consolidated FinancialStatements.

 

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**QUICKLOGIC CORPORATION**

**CONDENSED UNAUDITED CONSOLIDATEDBALANCE SHEETS**

**(in thousands, except par valueamount)**

 
| ** **                                                                                                                | ** ** | **June 29,  2008** | ** ** | **December 30,  2007** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| **ASSETS**                                                                                                                |       |                    |       |                        |       |
|                                                                                                                      |       |                    |       |                        |       |
| Current assets:                                                                                                           |       |                    |       |                        |       |
| Cash and cash equivalents                                                                                                 |       | $                       | 19,000     |                        | $          | 20,868 |   |
| Short-term investment in Tower Semiconductor Ltd.                                                                         |       | 769                     |       | 1,279                       |       |
| Accounts receivable, net of allowances for doubtful accounts of $59  and $194, respectively                               |       | 2,383                   |       | 2,634                       |       |
| Inventories                                                                                                               |       | 2,991                   |       | 5,770                       |       |
| Other current assets                                                                                                      |       | 1,320                   |       | 1,607                       |       |
| Total current assets                                                                                                      |       | 26,463                  |       | 32,158                      |       |
| Property and equipment, net                                                                                               |       | 4,400                   |       | 5,877                       |       |
| Investment in Tower Semiconductor Ltd.                                                                                    |       | 387                     |       | 644                         |       |
| Other assets                                                                                                              |       | 1,152                   |       | 2,745                       |       |
| TOTAL ASSETS                                                                                                              |       | $                       | 32,402     |                        | $          | 41,424 |   |
|                                                                                                                      |       |                    |       |                        |       |
| **LIABILITIES AND STOCKHOLDERS’  EQUITY**                                                                            |       |                    |       |                        |       |
|                                                                                                                      |       |                    |       |                        |       |
| Current liabilities:                                                                                                      |       |                    |       |                        |       |
| Trade payables                                                                                                            |       | $                       | 1,430      |                        | $          | 4,207 |   |
| Accrued liabilities                                                                                                       |       | 2,219                   |       | 2,228                       |       |
| Deferred revenue less cost of revenue                                                                                     |       | 516                     |       | 516                         |       |
| Deferred royalty revenue                                                                                                  |       | 221                     |       | 431                         |       |
| Current portion of debt and capital lease obligations                                                                     |       | 2,284                   |       | 2,497                       |       |
| Total current liabilities                                                                                                 |       | 6,670                   |       | 9,879                       |       |
|                                                                                                                      |       |                    |       |                        |       |
| Long-term liabilities:                                                                                                    |       |                    |       |                        |       |
| Debt and capital lease obligations, less current portion                                                                  |       | 1,493                   |       | 2,527                       |       |
| Total liabilities                                                                                                         |       | 8,163                   |       | 12,406                      |       |
|                                                                                                                      |       |                    |       |                        |       |
| Commitments and contingencies (see Note 15) and litigation (see  Note 16)                                       |       |                    |       |                        |       |
|                                                                                                                      |       |                    |       |                        |       |
| Stockholders’ equity:                                                                                                |       |                    |       |                        |       |
| Common stock, $0.001 par value; 100,000 shares authorized; 29,763 and  29,390 shares issued and outstanding, respectively |       | 30                      |       | 29                          |       |
| Additional paid-in capital                                                                                                |       | 168,988                 |       | 167,298                     |       |
| Accumulated other comprehensive income                                                                                    |       | —                  |       | 350                         |       |
| Accumulated deficit                                                                                                       |       | (144,779                | )          | (138,659                    | )          |
| Total stockholders’ equity                                                                                           |       | 24,239                  |       | 29,018                      |       |
| TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY                                                                           |       | $                       | 32,402     |                        | $          | 41,424 |   |

 

See accompanying Notes to Condensed Unaudited Consolidated FinancialStatements.

 

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**QUICKLOGIC CORPORATION**

**CONDENSED UNAUDITED CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

**(in thousands)**

 
| ** **                                                                    | ** ** | **Six Months Ended** | ** ** |
|-------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                    | ** ** | **June 29, 2008**    | ** ** | **July 1, 2007** | ** ** |
| ** **                                                                    | ** ** | ** **                     | ** ** | ** ** | ** ** |
| Cash flows from operating activities:                                         |       |                           |       |   |   |
| Net loss                                                                      |       | $                              | (6,120     | ) | $ | (7,971 | ) |
| Adjustments to reconcile net loss to net cash used for operating  activities: |       |                           |       |   |   |
| Depreciation and amortization                                                 |       | 1,182                          |       | 1,565 |   |
| (Gain) loss on disposal of property and equipment                             |       | 15                             |       | (95 | ) |
| Stock-based compensation                                                      |       | 1,582                          |       | 809 |   |
| Decrease in wafer credits from Tower Semiconductor Ltd.                       |       | 148                            |       | 454 |   |
| Write-down of inventories                                                     |       | 1,128                          |       | 3,224 |   |
| Long-lived asset impairment                                                   |       | 2,013                          |       | — |   |
| Write-down of marketable securities                                           |       | 417                            |       | — |   |
| Bad debt expense                                                              |       | 43                             |       | 153 |   |
| Changes in assets and liabilities:                                            |       |                           |       |   |   |
| Accounts receivable                                                           |       | 208                            |       | 28 |   |
| Inventories                                                                   |       | 1,651                          |       | 220 |   |
| Other assets                                                                  |       | 305                            |       | 245 |   |
| Trade payables                                                                |       | (2,720                         | )          | (2,612 | ) |
| Accrued liabilities                                                           |       | (9                             | )          | (254 | ) |
| Deferred income and royalty revenue                                           |       | (210                           | )          | (108 | ) |
| Net cash used for operating activities                                        |       | (367                           | )          | (4,342 | ) |
|                                                                          |       |                           |       |   |   |
| Cash flows from investing activities:                                         |       |                           |       |   |   |
| Capital expenditures for property and equipment                               |       | (363                           | )          | (545 | ) |
| Proceeds from sale of equipment                                               |       | —                         |       | 95 |   |
| Net cash used for investing activities                                        |       | (363                           | )          | (450 | ) |
|                                                                          |       |                           |       |   |   |
| Cash flows from financing activities:                                         |       |                           |       |   |   |
| Payment of debt and capital lease obligations                                 |       | (1,247                         | )          | (1,223 | ) |
| Proceeds from debt obligations                                                |       | —                         |       | 442 |   |
| Proceeds from issuance of common stock                                        |       | 109                            |       | 772 |   |
| Net cash used for financing activities                                        |       | (1,138                         | )          | (9 | ) |
|                                                                          |       |                           |       |   |   |
| Net decrease in cash and cash equivalents                                     |       | (1,868                         | )          | (4,801 | ) |
| Cash and cash equivalents at beginning of period                              |       | 20,868                         |       | 24,621 |   |
| Cash and cash equivalents at end of period                                    |       | $                              | 19,000     |   | $ | 19,820 |   |
|                                                                          |       |                           |       |   |   |
| Supplemental disclosures of cash flow information:                            |       |                           |       |   |   |
| Interest paid                                                                 |       | $                              | 148        |   | $ | 164 |   |
| Income taxes paid                                                             |       | $                              | 16         |   | $ | 16 |   |

 

See accompanying Notes to Condensed Unaudited Consolidated FinancialStatements.

 

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**QUICKLOGIC CORPORATION**

**CONDENSED UNAUDITED CONSOLIDATEDSTATEMENTS OF COMPREHENSIVE LOSS**

**(in thousands)**

 
| ** **                                               | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                               | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
|                                                     |       |                             |       |                           |       |   |   |   |   |
| Net loss                                                 |       | $                                | (4,743     | )                              | $          | (2,078 | ) | $ | (6,120 | ) | $ | (7,971 | ) |
| Other comprehensive loss, net of tax:                    |       |                             |       |                           |       |   |   |   |   |
| Unrealized gain (loss) on available-for-sale investments |       | 161                              |       | (376                           | )          | (350 | ) | (376 | ) |
| Total comprehensive loss                                 |       | $                                | (4,582     | )                              | $          | (2,454 | ) | $ | (6,470 | ) | $ | (8,347 | ) |

 

See accompanying Notes to Condensed Unaudited Consolidated FinancialStatements.

 

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**QUICKLOGIC CORPORATION**

**NOTES TO CONDENSED UNAUDITEDCONSOLIDATED FINANCIAL STATEMENTS**

 

**Note 1—The Company and Basis ofPresentation**

 

QuickLogic Corporation (“QuickLogic”or the “Company”) was founded in 1988 and reincorporated in Delaware in 1999.The Company develops and markets low power programmable solutions that enablecustomers to add features to their mobile, consumer and industrial products.The Company is a fabless semiconductor company that operates in a singleindustry segment where it designs, markets and supports Customer SpecificStandard Products (“CSSPs”), Field Programmable Gate Arrays (“FPGAs”),application solutions, associated design software and programming hardware.

 

Theaccompanying interim consolidated financial statements are unaudited. In theopinion of management, these statements have been prepared in accordance withgenerally accepted accounting principles (“GAAP”) and include all adjustments,consisting only of normal recurring adjustments, necessary to provide a fairstatement of results for the interim periods presented. The Company recommendsthat these consolidated financial statements be read in conjunction with the Company’sForm 10-K for the year ended December 30, 2007. Operating results forthe three and six months ended June 29, 2008 are not necessarilyindicative of the results that may be expected for the full year.

 

QuickLogic’sfiscal year ends on the Sunday closest to December 31.  QuickLogic’sfiscal second quarter for 2008 and 2007 ended Sunday, June 29, 2008 and July 1,2007, respectively.

 

*Liquidity*

 

The Company anticipatesthat its existing cash resources will fund operations, finance purchases ofcapital equipment and provide adequate working capital for the next twelvemonths. The Company’s liquidity is affected by many factors including, amongothers, the level of revenue and gross profit, the conversion of designopportunities into revenue, market acceptance of existing and new productsincluding ArcticLinkTM and PolarPro® solution platforms, fluctuationsin revenue as a result of product end-of-life, fluctuations in revenue as aresult of the stage in the product life cycle of its customers’ products, costsof securing access to and availability of adequate manufacturing capacity,levels of inventories, wafer purchase commitments, customer credit terms, theamount and timing of research and development expenditures, the timing of newproduct introductions, production volumes, product quality, sales and marketingefforts, the value and liquidity of its investment portfolio, the amount andfinancing arrangements for purchases of capital equipment, changes in operatingassets and liabilities, the ability to obtain or renew debt financing and toremain in compliance with the terms of existing credit facilities, the abilityto raise funds from the sale of shares of Tower Semiconductor Ltd. (“Tower”)and equity in the Company, the issuance and exercise of stock options andparticipation in the Company’s employee stock purchase plan, and other factorsrelated to the uncertainties of the industry and global economics. Accordingly,there can be no assurance that events in the future will not require theCompany to seek additional capital or, if so required, that such capital willbe available on terms acceptable to the Company.

 

*Principles of Consolidation*

 

The consolidatedfinancial statements include the accounts of QuickLogic Corporation and itswholly owned subsidiaries, QuickLogic International, Inc., QuickLogicCanada Company, QuickLogic Kabushiki Kaisha and QuickLogic Software (India)Private Ltd. The Company and its subsidiaries use the U.S. dollar as itsfunctional currency. All intercompany accounts and transactions are eliminatedin consolidation.

 

*Uses of Estimates*

 

The preparation of theseconsolidated financial statements in conformity with GAAP requires managementto make estimates and assumptions that affect the reported amounts of assetsand liabilities, the disclosures of contingent assets and liabilities and thereported amounts of revenue and expenses during the period. Actual resultscould differ from those estimates, particularly in relation to revenuerecognition, the allowance for doubtful accounts, sales returns, valuation ofinvestments, valuation of long-lived assets, valuation of inventories includingidentification of excess quantities, market value and obsolescence, measurementof stock-based compensation awards, fair value measurements of financial assetsand liabilities, accounting for income taxes and estimating accruedliabilities.

 

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**QUICKLOGIC CORPORATION**

**NOTES TOCONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

*Reclassifications*

 

For presentationpurposes, certain amounts in prior period financial statements, referred to inthese financial statements, have been reclassified to conform to the reportingin current period financial statements.

 

**Note 2—Significant AccountingPolicies**

 

There have been nomaterial changes in the Company’s significant accounting policies for the sixmonths ended June 29, 2008 from its disclosure in the Annual Report on Form 10-Kfor the year ended December 30, 2007, except as described below. For adiscussion of the significant accounting policies, please see the discussion inthe Annual Report on Form 10-K for the fiscal year ended December 30,2007.

 

*Long-Lived Assets*

 

The Company reviews therecoverability of its long-lived assets, such as property and equipment,prepaid wafer credits and investments, annually and when events or changes incircumstances occur that indicate that the carrying value of the asset or assetgroup may not be recoverable. The assessment of possible impairment is based onthe Company’s ability to recover the carrying value of the asset or asset groupfrom the expected future pre-tax cash flows, undiscounted and without interestcharges, of the related operations. If these cash flows are less than thecarrying value of the asset or asset group, an impairment loss is recognizedfor the difference between the estimated fair value and the carrying value, andthe carrying value of the related assets is reduced by this difference. Themeasurement of impairment requires management to estimate future cash flows andthe fair value of long-lived assets. The Company recorded $2.0 million oflong-lived asset impairment charges in the second quarter of 2008. See Note 12.

 

*FairValue*

 

Effective December 31,2007, the Company adopted the provisions of SFAS No. 157, “*Fair Value Measurements*,” (“SFAS 157”) andSFAS No. 159, “*The Fair Value Optionfor Financial Assets and Financial Liabilities*,” (“SFAS 159”). SFAS157 establishes a framework for measuring fair value and expands disclosuresabout fair value measurements. SFAS 159 permits companies to choose to measurecertain financial instruments and certain other items at fair value. See Note8.

 

*Recently Issued AccountingPronouncements*

 

In May 2008,the Financial Accounting Standards Board (“FASB”) issued Statement of FinancialAccounting Standards (“SFAS”) No. 162, “*TheHierarchy of Generally Accepted Accounting Principles*,” (“SFAS 162”).This standard reorganizes the GAAP hierarchy in order to improve financialreporting by providing a consistent framework for determining what accountingprinciples should be used when preparing U.S. GAAP financial statements. SFAS162 shall be effective 60 days after the Securities and Exchange Commission’s (“SEC”)approval of the Public Company Accounting Oversight Board’s amendments toInterim Auditing Standard, AU Section 411, “*The Meaning of Present Fairly in Conformity with Generally AcceptedAccounting Principles*.” The Company is currently evaluating theimpact SFAS 162 will have on its consolidated financial statements.

 

In April 2008,the FASB issued FASB Staff Position (“FSP”) SFAS No. 142-3, “*Determination of the Useful Life of Intangible Assets*,”(“FSP FAS 142-3”). FSP FAS 142-3 amends the list of factors an entity shouldconsider in developing renewal or extension assumptions used in determining theuseful life of recognized intangible assets under SFAS No. 142, “*Goodwill and Other Intangible Assets*,” (“SFAS142”). The intent of FSP FAS 142-3 is to improve the consistency between theuseful life of a recognized intangible asset under SFAS 142 and the period ofexpected cash flows used to measure the fair value of the asset under SFAS No. 141,“*Business Combinations*.” FSP FAS142-3 is effective for fiscal years beginning after December 15, 2008 andinterim periods within those fiscal years. The Company is currently evaluatingthe impact FSP FAS 142-3 will have on its consolidated financial statements.

 

In March 2008, theFASB issued SFAS No. 161, “*Disclosuresabout Derivative Instruments and Hedging Activities,*” (“SFAS 161”)which changes the disclosure requirements for derivative instruments andhedging activities. SFAS 161 requires enhanced disclosures about (a) howand why an entity uses derivative instruments, (b) how derivativeinstruments and related hedged items are accounted for under SFAS No. 133,“*Accounting for*

 

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**QUICKLOGIC CORPORATION**

**NOTES TOCONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

*DerivativeInstruments and Hedging Activities”*and its related interpretations, and (c) howderivative instruments and related hedged items affect an entity’s financialposition, financial performance, and cash flows. SFAS 161 is effective forfiscal years and interim periods beginning after November 15, 2008. TheCompany is currently evaluating the effects that SFAS 161 will have on itsconsolidated financial statements disclosures.

 

In December 2007,the FASB issued SFAS No. 141(R), *“BusinessCombinations,”* (“SFAS 141(R)”). SFAS 141(R) establishes principlesand requirements for how an acquirer recognizes and measures in its financialstatements the identifiable assets acquired, the liabilities assumed,contractual contingencies and contingent consideration at their fair value onthe acquisition date, any controlling interest in the acquiree and the goodwillacquired. SFAS 141(R) also establishes disclosure requirements to enablethe evaluation of the nature and financial effects of the business combination.SFAS 141(R) is effective for fiscal years beginning after December 15,2008. The Company does not expect the adoption of SFAS 141(R) to have asignificant impact on its consolidated financial statements.

 

In December 2007,the FASB issued SFAS No. 160, “*NoncontrollingInterests in Consolidated Financial Statements,”*(“SFAS 160”), whichestablishes accounting and reporting standards that require: (1) theownership interests in subsidiaries held by parties other than the parent, andincome attributable to those parties, be clearly identified and distinguishedin the parent’s consolidated financial statements; and (2) when asubsidiary is deconsolidated, any retained noncontrolling equity investment inthe former subsidiary be initially measured at fair value. SFAS 160 is anamendment of Accounting Research Bulletin No. 51, “*Consolidated Financial Statements*” andrelated interpretations. SFAS 160 is effective for fiscal years beginning on orafter December 15, 2008. The Company does not expect the adoption of SFAS160 to have a significant impact on its consolidated financial statements.

 

**Note 3—Net Loss Per Share**

 

Basic net loss per share is computed by dividing netloss available to common stockholders by the weighted average number of commonshares outstanding during the period. Diluted net loss per share was computedusing the weighted average number of common shares outstanding during theperiod plus potentially dilutive common shares outstanding during the periodunder the treasury stock method. In computing diluted net loss per share, theaverage stock price for the period is used in determining the number of sharesassumed to be purchased from the exercise of stock options.

 

Forthe second quarter and first half of 2008 and 2007, 8.2 million and 6.9 millionshares, respectively, associated with stock-based awards outstanding and theestimated number of shares to be purchased under the offering period of theESPP were not included in the calculation of diluted net loss per share, asthey were considered antidilutive due to the net loss the Company experiencedduring this period.

 

**Note 4—Investment in TowerSemiconductor Ltd.**

 

On December 12,2000, the Company entered into several agreements with Tower, as amended, underwhich the Company agreed to make a strategic investment in Tower of up to$25 million as part of Tower’s plan to build and equip a new waferfabrication facility. During 2001 and 2002, the Company paid a total of$21.3 million to Tower to fulfill its investment requirements under theagreement. In partial consideration for the investment, the Company received1,757,368 Tower ordinary shares with an original cost of $16.6 million.The Company sold a portion of the Tower ordinary shares in fiscal 2003.

 

During the second quarterof 2008, the Company wrote down the value of its investment in Tower shares by$417,000 due to an “other than temporary” decline in market value, resulting ina carrying value of $0.86 per share for the period ended June 29, 2008.This determination included factors such as market value and the period of timethat the market value had been below the carrying value of the shares. TheCompany also wrote down the Tower shares in periods prior to 2006 as a resultof “other than temporary” declines in their market value. Pursuant to SFAS 157,the fair value of the Company’s marketable securities as of June 29, 2008was determined based on “Level 1” inputs as described in Note 8. As of June 29,2008, the Company held 1,344,543 available-for-sale Tower ordinary shares. TheCompany plans to continue to hold 450,000 of the Tower ordinary shares in orderto receive preferred product pricing under the agreements with Tower and hasrecorded these shares as a long-term investment on the balance sheets. Theremaining 894,543 shares are classified as a short-term investment on thebalance sheets.

 

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**QUICKLOGIC CORPORATION**

**NOTES TOCONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

The Company also received$4.7 million in prepaid wafer credits in partial consideration for theinvestment. As of June 29, 2008, the prepaid wafer credits balance was$1.1 million. Tower has guaranteed the Company capacity at Tower throughat least 2010. These credits are recorded within long-term other assets on thebalance sheets and can be applied toward wafer purchases from Tower at 15% ofthe value of purchases made through 2010. During the second quarter of 2008,the Company assessed the value of its Tower wafer credits and incurred along-lived asset impairment of $1.3 million. See Note 12.

 

**Note 5—Balance Sheet Components**

 
| ** **                                | ** ** | **June 29,  2008** | ** ** | **December 30,  2007** | ** ** |
|-------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| ** **                                |       | **(in  thousands)**     |       |
| Inventories:                              |       |                    |       |                        |       |
| Raw materials                             |       | $                       | 99         |                        | $          | 199 |   |
| Work-in-process                           |       | 2,501                   |       | 4,714                       |       |
| Finished goods                            |       | 391                     |       | 857                         |       |
|                                      |       | $                       | 2,991      |                        | $          | 5,770 |   |
|                                      |       |                    |       |                        |       |
| Other current assets:                     |       |                    |       |                        |       |
| Prepaid expenses                          |       | $                       | 1,105      |                        | $          | 1,371 |   |
| Other                                     |       | 215                     |       | 236                         |       |
|                                      |       | $                       | 1,320      |                        | $          | 1,607 |   |
|                                      |       |                    |       |                        |       |
| Property and equipment:                   |       |                    |       |                        |       |
| Equipment                                 |       | $                       | 14,920     |                        | $          | 14,979 |   |
| Software                                  |       | 8,689                   |       | 9,303                       |       |
| Furniture and fixtures                    |       | 840                     |       | 823                         |       |
| Leasehold improvements                    |       | 800                     |       | 803                         |       |
|                                      |       | 25,249                  |       | 25,908                      |       |
| Accumulated depreciation and amortization |       | (20,849                 | )          | (20,031                     | )          |
|                                      |       | $                       | 4,400      |                        | $          | 5,877 |   |
|                                      |       |                    |       |                        |       |
| Other assets:                             |       |                    |       |                        |       |
| Prepaid wafer credits                     |       | $                       | 1,057      |                        | $          | 2,551 |   |
| Other                                     |       | 95                      |       | 194                         |       |
|                                      |       | $                       | 1,152      |                        | $          | 2,745 |   |
|                                      |       |                    |       |                        |       |
| Accrued liabilities:                      |       |                    |       |                        |       |
| Employee related accruals                 |       | $                       | 1,655      |                        | $          | 1,452 |   |
| Other                                     |       | 564                     |       | 776                         |       |
|                                      |       | $                       | 2,219      |                        | $          | 2,228 |   |

 

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**QUICKLOGIC CORPORATION**

**NOTES TOCONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

**Note 6—Obligations**

** **
| ** **                                            | ** ** | **June 29,  2008** | ** ** | **December 30,  2007** | ** ** |
|-------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| ** **                                            | ** ** | **(in thousands)** | ** ** |
|                                                  |       |                    |       |                        |       |
| Debt and capital lease obligations:                   |       |                    |       |                        |       |
| Notes payable to bank                                 |       | $                       | 2,514      |                        | $          | 3,278 |   |
| Capital leases                                        |       | 1,263                   |       | 1,746                       |       |
|                                                  |       | 3,777                   |       | 5,024                       |       |
| Current portion of debt and capital lease obligations |       | (2,284                  | )          | (2,497                      | )          |
|                                                  |       | $                       | 1,493      |                        | $          | 2,527 |   |

 

*Revolving Line of Credit and NotesPayable to Bank*

 

Effective June 2006, the Company entered into aSecond Amended and Restated Loan and Security Agreement with Silicon ValleyBank. Terms of the agreement included a $5.0 million revolving line ofcredit that was available through June 2008 and an additional$2.0 million of borrowing capacity under the equipment line of credit thatwas available to be drawn against through June 2007. Advances under theequipment line of credit must be repaid in either 30 or 36 equal monthlyinstallments, depending upon the nature of the items financed. The agreementwas amended in June 2007 to include an additional $2.5 million ofborrowing capacity under the equipment line of credit that was available to bedrawn against through June 2008 and provides that future advances underthe equipment line of credit be repaid in 36 equal monthly installments. Theagreement was amended in June 2008 to extend the available draw date forboth the revolving line of credit and equipment line of credit and to waive thetangible net worth covenant through July 31, 2008. The agreement wasamended in July 2008 to further extend the available draw date and waivethe tangible net worth covenant through August 31, 2008.  See Note 18. Upon each draw the Company canelect an interest rate that is fixed at the U.S. treasury yield to maturityplus four percent or that floats at the prime rate plus one percent. Terms ofthe various advances under the agreement are as follows (in thousands):

 
| ** **                | ** ** | **Original  Balance** | ** ** | **Balance at  June 29,  2008** | ** ** | **Available  Credit** | ** ** | **Interest Rate**                 | ** ** | **Maturity Date**                                        | ** ** |
|---------------------------|------------|-----------------------|------------|------------------------------------------|------------|-----------------------|------------|----------------------------------------|------------|---------------------------------------------------------------|------------|
| Revolving Line of Credit: |       |                  |       |                                     |       |                  |       |                                   |       |                                                          |       |
| Non-formula advances      |       | n/a                   |       | $                                        | —     |                  | $          | 5,000                                  |       | Greater  of Prime   + 0.50% or   8.50%                        |       | August 31,  2008 |   |
| Equipment Line of Credit: |       |                  |       |                                     |       |                  |       |                                   |       |                                                          |       |
| Notes payable             |       | 932                   |       | 220                                      |       | n/a                   |       | Prime  + 1.75%                         |       | Multiple  draws   maturing on or before   April 2009     |       |
| Notes payable             |       | 1,558                 |       | 635                                      |       | n/a                   |       | Prime  + 1.00%                         |       | Multiple  draws   maturing on or before   September 2009 |       |
| Notes payable             |       | 442                   |       | 282                                      |       | n/a                   |       | Prime  + 1.00%                         |       | Multiple  draws   maturing on or before   May 2010       |       |
| Notes payable             |       | 1,630                 |       | 1,377                                    |       | n/a                   |       | 7.25%                                  |       | Multiple  draws 

maturing  on or before   December 2010 |       |
| Notes payable             |       | n/a                   |       | —                                   |       | 870                   |       | Prime  + 1.00%   or Treasury   + 4.00% |       | 36  months from   date of advance                             |       |
| Total                     |       |                  |       | $                                        | 2,514      |                  |       |                                   |       |                                                          |       |   |
|                           |            |                       |            |                                          |            |                       |            |                                        |            |                                                               |            |  |  |

 

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**QUICKLOGIC CORPORATION**

**NOTES TOCONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

The bank has a firstpriority security interest in substantially all of the Company’s tangible andintangible assets to secure any outstanding amounts under the agreement. Underthe terms of the agreement, except as noted above, the Company must maintain aminimum tangible net worth and adjusted quick ratio. The agreement also hascertain restrictions including, among others, on the incurrence of otherindebtedness, the maintenance of depository accounts, the disposition ofassets, mergers, acquisitions, investments, the granting of liens and thepayment of dividends. The Company was in compliance with the financialcovenants of the agreement as of the end of the current reporting period.

 

At June 29, 2008,the prime rate under the credit facility was 5.00%. As of June 29, 2008and December 30, 2007, $1.1 million and $1.8 million, respectively, ofamounts outstanding under the equipment line of credit were classified aslong-term obligations.

 

*Capital Leases*

 

In December 2007, the Company leased designsoftware and related maintenance under a two year capital lease at an imputedinterest rate of 7.1% per annum. Terms of the agreement require the Company tomake quarterly payments of approximately $190,000 through November 2009.The Company recorded a capital asset of $1.2 million, prepaid maintenanceof $256,000 and a capital lease obligation of $1.4 million. In the secondquarter of 2008, the Company decided to outsource its silicon designimplementation activity. As a result of the decision, the Company determinedthat a portion of the capital asset was unutilized. As a result, the Companyrecorded a long-lived asset impairment of $468,000 for the unutilized portion.See Note 12. As of June 29, 2008, $1.1 million was outstanding under thecapital lease, $382,000 of which was classified as a long-term obligation.

 

In the fourth quarter of2006, the Company entered into a capital lease obligation in the amount of$77,000 to finance design software. The capital lease obligation has an imputedinterest rate of 9.25% per annum and is being repaid in annual amounts of$28,000 through January 2009. As of June 29, 2008, $49,000 wasoutstanding under the capital lease, zero of which was classified as along-term obligation.

 

In January 2006, theCompany leased design software tools and related maintenance under a three yearcapital lease at an imputed interest rate of 9.0% per annum. Terms of theagreement require the Company to make semi-annual payments of approximately$148,000 through July 2008. The Company recorded a capital asset of$633,000, prepaid maintenance of $158,000 and a capital lease obligation of$791,000. As of June 29, 2008, $141,000 was outstanding under the capitallease, zero of which was classified as a long-term obligation.

 

**Note 7—Deferred Royalty Revenue**

 

In October 2000, theCompany entered into a technology license and wafer supply agreement withAeroflex Incorporated (“Aeroflex”). Under the terms of the agreement, theCompany received $750,000 of prepaid royalties. In addition, Aeroflex receivesa prepaid royalty credit for a portion of the amounts paid for wafers purchasedfrom the Company under the agreement. Prepaid royalties are recognized asrevenue when Aeroflex reports the sale of products incorporating the licensedtechnology. As of June 29, 2008 and December 30, 2007, the Companyhad classified as a current liability approximately $221,000 and $431,000,respectively, of deferred royalty revenue under this agreement. The Companyrecognized $260,000 and $220,000 of royalty revenue under the agreement in thefirst half of 2008 and 2007, respectively.

 

**Note 8—Fair Value Measurements**

 

In September 2006,the FASB issued SFAS 157. SFAS 157 establishes a framework for measuring fairvalue and expands disclosures about fair value measurements. The changes tocurrent practice resulting from the application of SFAS 157 relate to thedefinition of fair value, the methods used to measure fair value and expandeddisclosures about fair value measurements. In February 2008, the FASBissued FSP FAS No. 157-1, “*Applicationof FASB Statement No. 157 to FASB Statement No. 13 and Its RelatedInterpretive Accounting Pronouncements That Address Leasing Transactions,”*(“FSP FAS 157-1”) and FASB FSP FAS No. 157-2, “*Effective Date of FASB Statement No.157,”*(“FSP FAS 157-2”).FSP FAS 157-1 removes leasing from the scope of SFAS 157. FSP FAS 157-2 delaysthe effective date of SFAS 157 from 2008 to 2009 for all nonfinancial assetsand nonfinancial liabilities, except those that are recognized or disclosed atfair value in the consolidated financial statements on a recurring basis.  SFAS 157 is effective for fiscal yearsbeginning after November 15, 2007 and interim periods 

 

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**QUICKLOGIC CORPORATION**

**NOTES TOCONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

within those fiscal yearsfor financial assets and liabilities, as well as for any other assets andliabilities that are carried at fair value on a recurring basis in theconsolidated financial statements.

 

Effective December 31,2007, the Company adopted the provisions of SFAS 157 as amended by FSP FAS157-1 and FSP FAS 157-2. The adoption of this standard in fiscal 2008 waslimited to financial assets and liabilities. The adoption of SFAS 157 did nothave a material effect on the Company’s financial condition or results of operations.  The Company is in the process of evaluatingthe impact of this standard with respect to the Company’s nonfinancial assetsand liabilities and the effect it will have on its consolidated financialstatements.

 

SFAS157 specifies a hierarchy of valuation techniques based upon whether the inputsto those valuation techniques reflect assumptions other market participantswould use based upon market data obtained from independent sources (observableinputs) or reflect the company’s own assumption of market participant valuation(unobservable inputs). The fair value hierarchy consists of the following threelevels:

 

·                  *Level 1* – Inputs are quoted prices in activemarkets for identical assets or liabilities.

 

·                  *Level 2* – Inputs are quoted prices for similarassets or liabilities in an active market, quoted prices for identical orsimilar assets or liabilities in markets that are not active, inputs other thanquoted prices that are observable and market-corroborated inputs which arederived principally from or corroborated by observable market data.

 

·                  *Level 3* – Inputs are derived from valuationtechniques in which one or more significant inputs or value drivers areunobservable.

 

The following tablepresents the Company’s financial assets that are measured at fair value on arecurring basis as of the end of the second quarter of 2008 consistent with thefair value hierarchy provisions of SFAS 157 (in thousands):

 
| ** **                             | ** ** | **Total** | ** ** | **Level 1** | ** ** | **Level 2** | ** ** | **Level 3** | ** ** |
|----------------------------------------|------------|-----------|------------|------------------|------------|------------------|------------|------------------|------------|
| Assets:                                |       |      |       |             |       |             |       |             |       |
| Cash equivalents                       |       | $         | 16,667     |             | $          | 16,667           |       | $                | —     |   | $ | — |   |
| Investment in Tower Semiconductor Ltd. |       | 1,156     |       | 1,156            |       | —           |       | —           |       |
| Total assets                           |       | $         | 17,823     |             | $          | 17,823           |       | $                | —     |   | $ | — |   |

 

As of the end of thesecond quarter of 2008, the Company did not have any financial liabilities thatare subject to the provision of SFAS 157.

 

In February 2007,the FASB issued SFAS 159. SFAS 159 permits companies to choose to measurecertain financial instruments and certain other items at fair value. Thestandard requires that unrealized gains and losses on items for which the fairvalue option has been elected be reported in earnings. SFAS 159 is effectivefor fiscal years beginning after November 15, 2007, although earlieradoption is permitted. Effective December 31, 2007, the Company adoptedthe provisions of SFAS 159.  The adoptionof SFAS 159 did not have an effect on the Company’s financial condition orresults of operations as it did not elect the fair value option.

 

**Note 9—Employee Stock Plans**

 

*1989 Stock Option Plan*

 

The 1989 Stock OptionPlan (the “1989 Plan”) provided for the issuance of incentive and nonqualifiedoptions for the purchase of up to 4.6 million shares of common stock. Optionsgranted under the 1989 Plan have a term of up to ten years, and typicallyvest at a rate of 25% of the total grant per year over a four year period. In September 1999,the Company adopted the 1999 Stock Plan and no further stock option grants weremade under the 1989 Plan.

 

*1999 Stock Plan*

 

The 1999 Stock Plan (the “1999Plan”) was adopted by the Board of Directors in August 1999 and wasapproved by the Company’s stockholders in September 1999. As of June 29,2008, approximately 16.1 million shares were reserved for issuance under the 1999Plan. In addition, each January an annual increase is added to the

 

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**QUICKLOGIC CORPORATION**

**NOTES TOCONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

1999 Plan equal to thelesser of (i) 5,000,000 shares, (ii) 5% of the Company’s outstandingshares on such date, or (iii) a lesser amount determined by the Board ofDirectors. Equity awards that are cancelled, forfeited or repurchased under the1989 Plan also become available for grant under the 1999 Plan. Equityawards granted under the 1999 Plan have a term of up to ten years.Options typically vest at a rate of 25% one year after the vesting commencementdate, and one forty-eighth for each month of service thereafter. The Companyhas implemented a different vesting schedule in the past and may implementdifferent vesting schedules in the future with respect to any new equityawards.

 

*Employee Stock Purchase Plan*

 

The 1999 Employee StockPurchase Plan (“ESPP”) was adopted by the Board of Directors in August 1999and was approved by the Company’s stockholders in September 1999. As of June 29,2008, approximately 6.0 million shares were reserved for issuance underthe ESPP. In addition, each August an annual increase is added to the ESPPequal to the lesser of (i) 1,500,000 shares, (ii) 4% of the Company’soutstanding shares on such date, or (iii) a lesser amount determined bythe Board of Directors.

 

The ESPP, as amended,provides for six month offering periods. Participants purchase shares throughpayroll deductions of up to 20% of an employee’s total compensation (maximum of20,000 shares per offering period). The amended ESPP permits the Board ofDirectors to determine, prior to each offering period, whether participantspurchase shares at: (i) 85% of the fair market value of the common stockat the end of the offering period; or (ii) 85% of the lower of the fairmarket value of the common stock at the beginning or the end of an offeringperiod. The Board of Directors has determined that, until further notice,future offering periods will be made at 85% of the lower of the fair marketvalue of the common stock at the beginning or the end of an offering period.

 

**Note 10—Stock-Based Compensation**

 

The impact of SFAS 123(R) on the Company’sconsolidated financial statements for the second quarter and first half of 2008and 2007 was as follows (in thousands):

 
| ** **                          | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                          | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
| Cost of revenue                     |       | $                                | 106        |                           | $          | 54 |   | $ | 171 |   | $ | 109 |   |
| Research and development            |       | 196                              |       | 94                             |       | 354 |   | 179 |   |
| Selling, general and administrative |       | 615                              |       | 280                            |       | 1,057 |   | 521 |   |
| Total costs and expenses            |       | $                                | 917        |                           | $          | 428 |   | $ | 1,582 |   | $ | 809 |   |

 

Theamount of stock-based compensation included in inventories as of June 29,2008 and December 30, 2007 was not material.

 

*Valuation Assumptions*

 

SFAS 123(R) requirescompanies to estimate the fair value of stock-based compensation awards. Thefair value of stock-based compensation awards is measured at the grant date andre-measured upon modification, as appropriate. The Company uses theBlack-Scholes option pricing model to estimate the fair value of employee stockoptions and rights to purchase shares under the Company’s ESPP, consistent withthe provisions of SFAS 123(R). Using Black-Scholes requires the Company todevelop highly subjective assumptions including the expected term of awards,expected volatility of its stock, expected risk-free interest rate and expecteddividend rate over the term of the award. The Company’s expected term of awardsassumption is based primarily on its historical experience with similar grants.The Company’s expected stock price volatility assumption for both stock optionsand ESPP shares is based on the historical volatility of the Company’s stock,using the daily average of the opening and closing prices and measured usinghistorical data appropriate for the expected life. The risk-free interest rateassumption approximates the risk-free interest rate of a Treasury ConstantMaturity bond with a maturity approximately equal to the expected term of thestock option or ESPP shares. This fair value is expensed over the requisiteservice period of the award. The fair value of restricted stock awards (“RSAs”)and restricted stock units (“RSUs”) is based on the closing price of theCompany’s common stock on the date of grant. Equity compensation awards whichvest with 

 

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** **

**QUICKLOGIC CORPORATION**

**NOTES TOCONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

service are expensedusing the straight-line attribution method over the requisite service period.RSU awards which are expected to vest based on the achievement of a performancegoal are expensed over the estimated vesting period.

 

In addition to theassumptions used in Black-Scholes, SFAS 123(R) requires that the Companyrecognize expense for awards ultimately expected to vest; therefore we arerequired to develop an estimate of the number of awards expected to beforfeited prior to vesting (“forfeiture rate”). The forfeiture rate isestimated based on historical pre-vest cancellation experience and is appliedto all share-based awards.

 

The following weighted average assumptions areincluded in the estimated fair value calculations for stock option grants:

 
| ** **              | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **              | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
|                    |       |                             |       |                           |       |   |   |   |   |
| Expected term (years)   |       | 6.28                             |       | 5.10                           |       | 5.65 |   | 5.10 |   |
| Risk-free interest rate |       | 3.16                             | %          | 4.71                           | %          | 2.91 | % | 4.70 | % |
| Expected volatility     |       | 55.95                            | %          | 80.00                          | %          | 52.77 | % | 80.00 | % |
| Expected dividend       |       | —                           |       | —                         |       | — |   | — |   |

 

The methodologies for determining the above valueswere as follows:

 

·                  *Expected term:*The expected term represents the periodthat the Company’s stock-based awards are expected to be outstanding and isestimated based on historical experience.

 

·                  *Risk-free interestrate:*Therisk-free interest rate assumption is based upon the risk-free rate of aTreasury Constant Maturity bond with a maturity appropriate for the expectedterm of the Company’s employee stock options.

 

·                  *Expected volatility:*The Company determines expectedvolatility based on historical volatility of the Company’s common stock.

 

·                  *Expected dividend:*The expected dividend assumption is basedon the Company’s intent not to issue a dividend under its dividend policy.

 

Theweighted average estimated fair value for options granted during second quarterof 2008 and 2007 was $1.39 and $1.86 per option, respectively. The weightedaverage estimated fair value for option granted during the first half of 2008and 2007 was $1.40 and $1.92 per option, respectively. As of the end of thesecond quarter of 2008, the fair value of unvested stock options, net ofexpected forfeitures, was approximately $3.9 million. This unrecognizedstock-based compensation expense is expected to be recorded over a weightedaverage period of approximately 2.8 years.

 

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**QUICKLOGIC CORPORATION**

**NOTES TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS —(Continued)**

 

*Stock-Based Compensation AwardActivity*

 

The following table summarizes the shares availablefor grant under the 1989 Plan and the 1999 Plan for the first half of 2008:

 
| ** **                                  | ** ** | **Shares  Available for Grant** | ** ** |
|---------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                  | ** ** | **(in thousands)**                   | ** ** |
| Balance at December 30, 2007           |       | 6,588                                     |       |
| Authorized                                  |       | 1,470                                     |       |
| Options granted                             |       | (238                                      | )          |
| Options forfeited or expired                |       | 442                                       |       |
| RSAs granted                                |       | (8                                        | )          |
| RSUs granted                                |       | (337                                      | )          |
| RSUs withheld for employee tax withholdings |       | 109                                       |       |
| RSUs forfeited or expired                   |       | 251                                       |       |
| Balance at June 29, 2008               |       | 8,277                                     |       |

 

*StockOptions*

 

The following table summarizes stock optionsoutstanding and stock option activity under the 1989 Plan and the 1999 Plan,and the related weighted average exercise price, for the first half of 2008:

 
| ** **                                        | ** ** | **Number of Shares** | ** ** | **Weighted  Average Exercise  Price** | ** ** | **Weighted  Average  Remaining Term** | ** ** | **Aggregate  Intrinsic Value** | ** ** |
|---------------------------------------------------|------------|--------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------|------------|
| ** **                                        | ** ** | **(in thousands)**        | ** ** | ** **                                 | ** ** | **(in years)**                        | ** ** | **(in thousands)**             | ** ** |
| Balance outstanding at December 30, 2007     |       | 7,594                          |       | $                                          | 4.72       |                                       |       |                                |       |   |
| Granted                                           |       | 238                            |       | 2.77                                       |       |                                       |       |                                |       |
| Forfeited or expired                              |       | (442                           | )          | 4.12                                       |       |                                       |       |                                |       |
| Exercised                                         |       | (50                            | )          | 1.78                                       |       |                                       |       |                                |       |
| Balance outstanding at June 29, 2008         |       | 7,340                          |       | $                                          | 4.71       |                                       | 5.20       |                                | $          | 45 |   |
| Exercisable at June 29, 2008                 |       | 5,262                          |       | $                                          | 5.18       |                                       | 3.86       |                                | $          | 45 |   |
| Vested and expected to vest at June 29, 2008 |       | 6,811                          |       | $                                          | 4.80       |                                       | 4.94       |                                | $          | 45 |   |

 

The aggregate intrinsicvalue in the table above represents the total pretax intrinsic value, based onthe Company’s closing stock price of $1.73 as of the end of the Company’scurrent reporting period, which would have been received by the option holdershad all option holders exercised their options as of that date.

 

The total intrinsic valueof options exercised during the second quarter of 2008 and 2007 was $20,000 and$100,000, respectively. The total intrinsic value of options exercised duringthe first half of 2008 and 2007 was $30,000 and $290,000, respectively.

 

*Restricted Stock Awards andRestricted Stock Units*

 

The Company began issuingRSAs and RSUs in 2007. RSAs entitle the holder to purchase shares of commonstock at par value during a short period of time, and purchased shares are heldin escrow until they vest. RSUs entitle the holder to receive, at no cost, onecommon share for each restricted stock unit as it vests. During the secondquarter of 2008, the Company granted fully vested RSUs in lieu of cashcompensation. Total stock-based compensation related to RSUs was $570,000 forthe second quarter of 2008. The Company issued net shares for these vestedawards, withholding shares in settlement of employee tax withholdingobligations. A summary of the Company’s RSA and RSU activity and relatedinformation for the first half of 2008 follows:

 

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**QUICKLOGIC CORPORATION**

**NOTES TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS —(Continued)**

 
| ** **                                                    | ** ** | **RSAs and RSUs Outstanding** | ** ** |
|---------------------------------------------------------------|------------|----------------------------------------------|------------|
| ** **                                                    | ** ** | **Number of Shares**               | ** ** | **Weighted Average  Grant Date Fair Value** | ** ** |
| ** **                                                    | ** ** | **(in thousands)**                      | ** ** | ** ** | ** ** |
| Nonvested at December 30, 2007                           |       | 937                                          |       | $ | 3.60 |   |
| Granted, net of shares withheld for employee tax withholdings |       | 236                                          |       | 2.15 |   |
| Vested                                                        |       | (186                                         | )          | 2.01 |   |
| Forfeited                                                     |       | (251                                         | )          | 3.60 |   |
| Nonvested at June 29, 2008                               |       | 736                                          |       | $ | 3.55 |   |

 

As of the end of thesecond quarter of 2008, the unrecognized stock-based compensation expenserelated to outstanding performance based RSUs, which are not currently expectedto vest, was $2.6 million. The Company will recognize this expense to theextent it determines these performance based RSUs are likely to vest.

 

*Employee Stock Purchase Plan*

 

The offering periodending May 14, 2007 commenced on January 24, 2007, once the Companyhad completed its stock option review and was current with its filings asrequired by the SEC and Nasdaq. Offering periods beginning May 15, 2007 orlater are standard six month offering periods. Employees participating in theseoffering periods purchase common stock at 85% of the lower of the fair marketvalue of the common stock at the beginning or the end of the offering period.

 

The weighted averageestimated fair value, as defined by SFAS 123(R), of rights issued pursuant tothe Company’s ESPP during the second quarter of 2008 and 2007 was $0.53 and$0.90 per right, respectively. The weighted average estimated fair value ofrights issued during the first half of 2008 and 2007 was $0.53 and $0.88 per right,respectively. For the first half of 2008, 139,000 shares of common stock werepurchased under the ESPP.

 

The following weightedaverage assumptions are included in the estimated fair value calculations forrights to purchase stock under the ESPP as of the grant date:

 
| ** **              | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **              | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
|                    |       |                             |       |                           |       |   |   |   |   |
| Expected term (months)  |       | 6.00                             |       | 6.00                           |       | 6.00 |   | 5.10 |   |
| Risk-free interest rate |       | 3.56                             | %          | 5.00                           | %          | 3.56 | % | 5.00 | % |
| Expected volatility     |       | 49.57                            | %          | 55.00                          | %          | 49.57 | % | 55.00 | % |
| Expected dividend       |       | —                           |       | —                         |       | — |   | — |   |

 

The methodologies for determining the above valueswere as follows:

 

·      *Expected term:*The expected term represents the lengthof the purchase period contained in the ESPP.

 

·      *Risk-free interestrate:*Therisk-free interest rate assumption is based upon the risk-free rate of aTreasury Constant Maturity bond with a maturity appropriate for the term of thepurchase period.

 

·      *Expected volatility:*The Company determines expected volatilitybased on historical volatility of the Company’s common stock for the term ofthe purchase period.

 

·      *Expected dividend:*The expected dividend assumption is basedon the Company’s intent not to issue a dividend under its dividend policy.

 

As of the end of thesecond quarter of 2008, the unrecognized stock-based compensation expenserelating to the Company’s ESPP was $40,000 and is expected to be recognizedover a weighted average period of approximately 4.5 months.

 

**Note 11—Income Taxes**

 

In thesecond quarter of 2008 and 2007, the Company’s income tax expense was zero and$27,000, respectively. The 2007 expense consisted primarily of income taxes onforeign operations. In the first half of 2008 

 

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**QUICKLOGIC CORPORATION**

**NOTES TO CONDENSED UNAUDITEDCONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

and 2007, the Companyrecorded income tax expense of $34,000 and $42,000, respectively, whichconsisted primarily of income taxes on foreign operations.

 

Due tothe uncertainties surrounding the realization of the deferred tax assetsresulting from the Company’s accumulated deficit and net tax losses in previousyears, the Company has provided a full valuation allowance against theassociated deferred tax assets. The Company will continue to assess therealizability of the deferred tax assets in future periods.

 

The Company hadapproximately $64,000 and $78,000 of unrecognized tax benefits at June 29,2008 and December 30, 2007, respectively. The total amount of unrecognizedtax benefits that would affect our effective tax rate, if recognized, is$64,000 as of June 29, 2008. The Company recognizes interest and penaltiesrelated to uncertain tax positions in income tax expense. As of June 29,2008, the Company had approximately $7,000 of accrued interest and penaltiesrelated to uncertain tax positions.

 

The Company is no longersubject to U.S. federal, state and non-U.S. income tax audits by taxingauthorities for fiscal years through 1992. The Company estimates that anyunrecognized tax benefit will not change significantly within the next twelvemonths.

 

**Note 12—Long-Lived AssetImpairment**

 

The Company reviews therecoverability of its long-lived assets annually and when events or changes incircumstances occur that indicate that the carrying value of the asset or assetgroup may not be recoverable. The assessment of possible impairment is based onthe Company’s ability to recover the carrying value of the asset or asset groupfrom expected future pre-tax cash flows, undiscounted and without interestcharges, of the related operations. If these cash flows are less than thecarrying value of such asset, an impairment loss is recognized for thedifference between estimated fair value and carrying value. The measurement ofimpairment requires management to estimate future cash flows and the fair valueof long-lived assets.

 

During the second quarterof 2008, the Company recorded $2.0 million of long-lived asset impairmentcharges to cost of revenue for Tower prepaid wafer credits and certain assetsused in production and to operating expenses for EDA software licenses.

 

The Company evaluated therevenue potential of its products based on its discussions with customers,review of actual sales levels and analysis of current and future designopportunities. Based on this evaluation, the Company determined that the futurerevenue outlook for products fabricated at Tower was lower than previouslyexpected. Accordingly, the Company performed an impairment analysis on theprepaid wafer credits associated with these products. Factors considered inthis analysis included the Company’s sales forecast of products to be manufacturedat Tower, the timing and quantity of planned wafer purchases and generaleconomic conditions. A preliminary assessment, based on undiscounted cashflows, indicated that these assets were impaired. In order to determine thefair value of these assets, which are non-transferrable, the Company performeda probability-weighted assessment of expected wafer credit utilization andrelated cash flows, discounted using a risk-free interest rate. Based on thisassessment, the Company recorded a long-lived asset impairment charge of $1.3million to cost of revenue during the second quarter of 2008. This $1.3 millionimpairment charge was reflected on the Company’s balance sheets as a reductionin the carrying value of the long-lived assets.

 

The Company determinedthat equipment used in the production of a particular silicon device wasimpaired based on sales expectations for this device. As a result, the Companyrecorded a long-lived asset impairment charge of $199,000 to cost of revenuefor these assets, and reduced the carrying value of the associated assetsduring the second quarter of 2008.

 

During the second quarterof 2008 the Company decided to outsource its silicon design implementationactivity while retaining core competencies in-house. See Note 14. As a resultof this decision, the Company determined that it had unutilized EDA licenses,recorded a long-lived asset impairment charge of $468,000 within operatingexpenses and reduced the carrying value of the related assets as ofJune 29, 2008.

 

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**QUICKLOGIC CORPORATION**

**NOTES TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS —(Continued)**

 

**Note 13—Information ConcerningProduct Lines, Geographic Information and Revenue Concentration**

 

TheCompany identifies its business segments based on business activities,management responsibility and geographic location. For all periods presented,the Company operated in a single business segment.

 

The following is a breakdown of revenue by productline (in thousands):

 
| ** **                    | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                    | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
| *Revenue by product line(1):* |       |                             |       |                           |       |   |   |   |   |
| New products                  |       | $                                | 2,564      |                           | $          | 611 |   | $ | 5,162 |   | $ | 1,217 |   |
| Mature products               |       | 4,591                            |       | 4,376                          |       | 8,915 |   | 7,882 |   |
| End-of-life products          |       | 1,588                            |       | 3,418                          |       | 5,689 |   | 5,548 |   |
| Total revenue                 |       | $                                | 8,743      |                           | $          | 8,405 |   | $ | 19,766 |   | $ | 14,647 |   |

 

----

(1)    For all periods presented: New productsinclude ArcticLink, PolarPro, EclipseTM II and QuickPCI® II products;mature products include pASIC® 3, QuickRAM®, Eclipse,QuickDSP and QuickFC products, as well as royalty revenue, programming hardwareand design software; end-of-life products include pASIC 1, pASIC 2,V3, QuickMIPS and QuickPCI products.

 

The following is a breakdown of revenue by shipmentdestination (in thousands):

 
| ** **              | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **              | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
| *Revenue by geography:* |       |                             |       |                           |       |   |   |   |   |
| United States           |       | $                                | 3,148      |                           | $          | 3,808 |   | $ | 7,691 |   | $ | 6,898 |   |
| Europe                  |       | 1,376                            |       | 1,709                          |       | 3,145 |   | 2,546 |   |
| Taiwan                  |       | 1,917                            |       | 301                            |       | 3,976 |   | 589 |   |
| Japan                   |       | 684                              |       | 748                            |       | 1,558 |   | 1,358 |   |
| China                   |       | 940                              |       | 470                            |       | 2,176 |   | 801 |   |
| Rest of North America   |       | 172                              |       | 1,265                          |       | 557 |   | 2,252 |   |
| Rest of Asia Pacific    |       | 506                              |       | 104                            |       | 663 |   | 203 |   |
| Total revenue           |       | $                                | 8,743      |                           | $          | 8,405 |   | $ | 19,766 |   | $ | 14,647 |   |

 

The following distributors and customers accounted for10% or more of the Company’s revenue for the periods presented:

 
| ** **                        | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                        | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
| Distributor “A”         |       | 11                               | %          | 20                             | %          | 14 | % | 20 | % |
| Distributor “B”         |       | *                                |       | 18                             | %          | 13 | % | 18 | % |
| Customer “A” – OEM |       | 21                               | %          | *                              |       | 19 | % | * |   |
| Customer “B” – OEM |       | 17                               | %          | 11                             | %          | 12 | % | 12 | % |
| Customer “C” – OEM |       | *                                |       | 12                             | %          | * |   | 12 | % |

 

----

*Represents less than 10% of revenue for the period presented.

 

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**QUICKLOGIC CORPORATION**

**NOTES TO CONDENSED UNAUDITEDCONSOLIDATED FINANCIAL STATEMENTS — (Continued)**

 

The following distributors and customers accounted for10% or more of the Company’s accounts receivable as of the dates presented:

 
| ** **                        | ** ** | **June 29,  2008** | ** ** | **December 30,  2007** | ** ** |
|-----------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| Distributor “A”         |       | 15                      | %          | 31                          | %          |
| Distributor “C”         |       | 14                      | %          | *                           |       |
| Customer “A” – OEM |       | 14                      | %          | 22                          | %          |
| Customer “D” – OEM |       | 11                      | %          | *                           |       |
| Customer “E” – OEM |       | 10                      | %          | *                           |       |

 

----

*Represents less than 10% of accounts receivable as of the date presented.

 

As of June 29,2008, less than 10% of the Company’s long-lived assets, including property andequipment and other assets, were located outside the United States.

 

**Note 14—Restructuring Charges**

 

In April 2008, the Company decided to outsourcecertain development functions that were previously performed in-house. TheCompany has retained its core competencies and does not expect this change tohave a material impact on its product introduction schedules for 2008. Thisreorganization resulted in a headcount reduction of approximately 13% ofemployees worldwide.  On June 3,2008, the Company announced the completion of its CSSP focused operational realignmentwhich included a 17% reduction in headcount worldwide, resulting in a totalreduction in worldwide headcount of approximately 30%. The purpose of theoperational realignment is to lower fixed costs in order to conserve cash, toreduce the Company’s break-even revenue level and enable a quicker return toprofitability, to provide optimal profitability scaling with revenue growth andto provide greater headroom for discretionary costs to enable new productrevenue growth. In connection with this decision, the Company recorded a$452,000 restructuring charge for employee severance benefits. As of June 29,2008, the Company has paid in cash $150,000 of these benefits, has $302,000 ofrestructuring costs recorded as other liabilities on the balance sheet andanticipates that final payments will be made by the end of fiscal 2008.

 

**Note 15—Commitments andContingencies**

 

Certain of the Company’s wafer manufacturers requirethe Company to forecast wafer starts several months in advance. The Company iscommitted to take delivery of and pay for a portion of forecasted wafervolume. As of June 29, 2008 and December 30, 2007, the Companyhad $1.6 million and $4.3 million, respectively, of outstandingcommitments for the purchase of wafer inventory.

 

Our principal administrative, sales, marketing, research anddevelopment and final testing facility is located in a building ofapproximately 42,600 square feet in Sunnyvale, California. This facility isleased through March 2009 with an option to renew. We have sub-letapproximately 8,000 square feet of this facility through March 2009. Ourresearch and development facility in Toronto, Canada, consisting ofapproximately 8,400 square feet, is leased through February 2010. We leasea 4,500 square foot facility in Bangalore, India for the purpose of softwaredevelopment. This facility is leased through November 2009. We also leaseoffice space in Hong Kong, China; Taipei, Taiwan; and London, England. Webelieve that our existing facilities are adequate for our current needs. Totalrent expense, net of sublease income, for the second quarter of 2008 and 2007was approximately $180,000 and $215,000, respectively, and rent expense for thefirst half of 2008 and 2007 was approximately $360,000 and $440,000,respectively.

 

**Note 16—Litigation**

 

On October 26, 2001,a putative securities class action was filed in the U.S. District Court for theSouthern District of New York against certain investment banks that underwroteQuickLogic’s initial public offering, QuickLogic and some of QuickLogic’sofficers and directors. The complaint alleges excessive and undisclosedcommissions in connection with the allocation of shares of common stock inQuickLogic’s initial and secondary public offerings and artificially highprices through “tie-in” arrangements which required the underwriters’ customersto buy shares in the aftermarket at pre-determined prices in violation of thefederal securities laws. 

 

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**QUICKLOGIC CORPORATION**

**NOTES TO CONDENSED UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS —(Continued)**

 

Plaintiffs seek anunspecified amount of damages on behalf of persons who purchased QuickLogic’sstock pursuant to the registration statements between October 14, 1999 andDecember 6, 2000. Various plaintiffs have filed similar actions assertingvirtually identical allegations against over 300 other public companies, theirunderwriters, and their officers and directors arising out of each company’spublic offering. These actions, including the action against QuickLogic, havebeen coordinated for pretrial purposes and captioned *In re Initial Public Offering Securities Litigation, 21 MC 92*.In June 2004, a stipulation of settlement and release of claims againstthe issuer defendants, including QuickLogic, was submitted to the court forapproval. On August 31, 2005, the court preliminarily approved thesettlement. In December 2006, the appellate court overturned thecertification of classes in the six test cases that were selected by theunderwriter defendants and plaintiffs in the coordinated proceedings. Becauseclass certification was a condition of the settlement, it was unlikely that thesettlement would receive final Court approval. On June 25, 2007, the Courtentered an order terminating the proposed settlement based upon a stipulationamong the parties to the settlement. Plaintiffs have filed amended masterallegations and amended complaints and moved for class certification in the sixtest cases, which the defendants in those cases have opposed. On March 26,2008, the Court denied the defendants’ motion to dismiss the amendedcomplaints. If a settlement does not occur and litigation against QuickLogiccontinues, the Company intends to defend the case vigorously.

 

No estimate can be madeof the possible loss or possible range of loss associated with the resolutionof these contingencies and, accordingly, the Company has not recorded aliability.

 

From time to time, theCompany is involved in legal actions arising in the ordinary course ofbusiness, including but not limited to intellectual property infringement andcollection matters. Absolute assurance cannot be given that third partyassertions will be resolved without costly litigation in a manner that is notadverse to the Company’s financial position, results of operations or cashflows or without requiring royalty or other payments in the future which mayadversely impact gross profit.

 

**Note 17—Shelf RegistrationStatement**

 

On July 12,2005, the Company filed a shelf registration statement on Form S-3, whichwas declared effective on July 26, 2005 by the SEC. Under the shelfregistration statement, the Company has the ability to raise up to $30.0million, in one or more transactions, by selling common stock, preferred stock,depositary shares, or warrants. The Company has not raised any funds inconnection with this filing. Under the Securities Offering Reform of 2005, theCompany may offer and sell securities registered under this shelf registrationstatement through November 30, 2008.

 

**Note 18—Subsequent Events**

 

The Company’s loanagreement with Silicon Valley Bank was amended on July 31, 2008 to extendthe available draw date for both the revolving line of credit and equipmentline of credit and to waive the tangible net worth covenant through August 31,2008. The Company is in the process of amending its credit agreement withSilicon Valley Bank.

 

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**Item2.****   ****Management’s Discussionand Analysis of Financial Condition and Results of Operations**

 

*Thefollowing Management’s Discussion and Analysis of Financial Condition andResults of Operations, as well as information contained in “Risk Factors” in Part II,Item 1A and elsewhere in this Quarterly Report on Form 10-Q, contains “forward-lookingstatements” within the meaning of Section 27A of the Securities Act of1933, as amended, and Section 21E of the Securities Exchange Act of 1934,as amended. We intend that these forward-looking statements be subject to thesafe harbors created by those provisions. Forward-looking statements aregenerally written in the future tense and/or are preceded by words such as “will,”“may,” “should,” “forecast,” “could,” “expect,” “suggest,” “believe,” “anticipate,”“intend,” “plan,” or other similar words. Forward-looking statements includestatements regarding (1) the conversion of our design opportunities intorevenue, (2) our revenue levels, including the commercial success of ourCustomer Specific Standard Products, or**CSSPs, and newproducts, and the effect of our end-of-life products, (3) ourliquidity, (4) our gross profit and factors that affect gross profit,(5) our level of operating expenses, (6) our research and developmentefforts, (7) our partners and suppliers and (8) industry trends. Thefollowing discussion should be read in conjunction with the attached condensedunaudited consolidated financial statements and notes thereto, and with ouraudited consolidated financial statements and notes thereto for the fiscal yearended December 30, 2007, found in our Annual Report on Form 10-Kfiled with the Securities and Exchange Commission, or SEC, on March 11,2008 and with our condensed unaudited consolidated financial statements andnotes thereto for the quarter ended March 30, 2008 found in our QuarterlyReport on Form 10-Q filed with the SEC on May 8, 2008.*

 

*Theforward-looking statements contained in this Quarterly Report involve a numberof risks and uncertainties, many of which are outside of our control. Factorsthat could cause actual results to differ materially from projected resultsinclude, but are not limited to, risks associated with (1) the conversionof CSSP design opportunities into revenue, (2) the commercial andtechnical success of our CSSPs and new products such as ArcticLinkTM andPolarPro®, (3) the liquidity required to support our future operating andcapital requirements, (4) our successful introduction of products andCSSPs incorporating emerging technologies or standards, (5) limitedvisibility into demand for our products including demand from significantcustomers or for new products, (6) our ability to accurately estimatequarterly revenue and (7) our dependence upon single suppliers to fabricateand assemble our products. Although we believe that the assumptions underlyingthe forward-looking statements contained in this Quarterly Report arereasonable, any of the assumptions could be inaccurate, and therefore there canbe no assurance that such statements will be accurate. The risks, uncertaintiesand assumptions referred to above that could cause our results to differmaterially from the results expressed or implied by such forward-lookingstatements include, but are not limited to, those discussed under the heading “RiskFactors” in Part II, Item 1A hereto and the risks, uncertainties andassumptions discussed from time to time in our other public filings and publicannouncements. All forward-looking statements included in this document are basedon information available to us as of the date hereof. In light of thesignificant uncertainties inherent in the forward-looking statements includedherein, the inclusion of such information should not be regarded as arepresentation by us or any other person that the results or conditionsdescribed in such statements or our objectives and plans will be achieved.Furthermore, past performance in operations and share price is not necessarilyindicative of future performance. We disclaim any intention or obligation toupdate or revise any forward-looking statements, whether as a result of newinformation, future events or otherwise.*

 

**Overview**

 

We are a fablesssemiconductor company that operates in a single industry segment where wedesign, market and support CSSPs, Field Programmable Gate Arrays, or FPGAs,application solutions, associated design software and programming hardware. Ournew product family includes ArcticLink, PolarPro, EclipseTM II and QuickPCI® II;our mature product family includes pASIC® 3, QuickRAM®, Eclipse, QuickDSP andQuickFC, as well as royalty revenue, programming hardware and design software;our end-of-life product family includes pASIC 1, pASIC 2, V3, QuickMIPS andQuickPCI. We develop CSSPs using our ArcticLink and PolarPro solutionplatforms.

 

Customer SpecificStandard Products, or CSSPs, are customer specific complete solutions thatinclude our silicon solution platform, proven system blocks, custom logic andsoftware drivers. Our ArcticLink and PolarPro solution platforms are standardsilicon products and must be programmed to be effective in a system. Our provensystem blocks range from intellectual property, or IP, which improves videoimages to IP which implements commonly used mobile system interfaces, such assecure digital input output, or SDIO, or universal serial bus 2.0 on-the-go, orUSB 2.0 OTG. We provide complete solutions by selecting the appropriatesolution platform and proven system blocks, providing custom logic, integratinglogic, programming the device and providing software drivers required for thecustomers’ application.

 

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**Item 2.****   ****Management’s Discussion and Analysisof Financial Condition and Results of Operations — (Continued)**

 

CSSPs, which we pioneeredand introduced in the first quarter of 2007, are developed for specific lowpower application markets that have similar differentiated IP, intelligent dataprocessing or connectivity requirements. Target customers value CSSPs for theability to provide a range of products from a single platform and theflexibility to address specific product requirements. Market leading companiesseek to develop product platforms from which several products can beintroduced. For example, multimedia phone companies may plan to introduceproducts offering mobile TV, WiMAX, Bluetooth 2.1 and USB 2.0 OTG. Thesecustomers value our ability to provide a range of products from a singleplatform design by incorporating different features in the programmable fabricof our solution platforms. Other customers value the flexibility ofprogrammable fabric to address specific product requirements. By providingcustomized solutions for these customers we increase their ability to meet thetime-to-market and time-in-market pressures associated with their markets.

 

In addition to CSSPs, wesell products to industrial, military and other customers who do their ownselection and integration of IP cores and add software drivers to theirapplication. We market FPGAs, IP cores and software drivers to these customers,who value the low power consumption, reduced development risk through the useof proven IP cores, fast time-to-market, high IP security, instant-on andreliability of our devices.

 

This range of offeringsallows customers to acquire a solution tailored for their needs. Mobile productoriginal equipment manufacturers, or OEMs, and original design manufacturers,or ODMs, tend to prefer a complete solution, and purchase CSSPs. Othercustomers with proprietary IP requirements choose to purchase our FPGAs orArcticLink solution platforms and utilize our IP cores as appropriate. Whethera customer uses our CSSPs as a complete solution, or proven IP cores with ourFPGAs, we believe our solutions and products enable system manufacturers toimprove their time-to-market, lower total system power consumption, reducetheir development risk and total cost of ownership, and add features orperformance to their embedded applications.

 

Our CSSPs and the rest ofour product offerings are based on our patented ViaLink® metal-to-metalprogrammable technology. ViaLink is the foundation of our competitive advantagein providing energy efficient devices and solutions that deliver the highperformance, high reliability, IP security and instant-on features that ourcustomers value. In 1991, we introduced our first FPGA products based upon ourViaLink technology. Our ViaLink technology allows us to create devices smallerthan competitors’ products on comparable technology, thereby minimizing siliconarea and cost. In addition, our ViaLink technology has lower electricalresistance and capacitance than other programmable technologies and thereforesupports higher signal speed and low power consumption. Our architecture usesour ViaLink technology to maximize interconnects at every routing wireintersection, which allows more paths between logic cells. As a result, systemdesigners are able to use our devices with smaller gate counts to implementtheir designs than if they had used competing FPGAs. The abundance ofinterconnect resources also provides an efficient connection between theApplication Specific Standard Product, or ASSP, and the FPGA portions of CSSPs.

 

We believe that theunderlying attributes of our ViaLink technology, including low powerconsumption, high reliability, design security and design efficiency, enable usto deliver differentiated silicon solutions to our customers.

 

Our CSSPs provide:

 

·                  *Complete FlexibleSolutions*– wepartner with customers to bring their differentiated products to market quicklyand to adapt these products to meet changing market conditions;

 

·                  *Platform DesignCapability*– wepartner with customers to develop a range of solutions from a single hardwareplatform, enabling these manufacturers to bring several products to marketquickly and cost effectively through the use of our programmable fabric;

 

·                  *Reduced Design Expenseand Risk*– weprovide proven system blocks addressing a range of video, network, storage andcustom logic requirements, along with software drivers, thereby reducing thetime and cost of product development;

 

·                  *Small Form Factor*– we manufacture single chip solutions inpackages as small as 5x5 millimeters, or even in known good die configuration;

 

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**Item 2.****   ****Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — (Continued)**

 

·                  *Energy Efficiency*– our ViaLink technology is the lowestpower consumption full featured programmable logic technology on the markettoday, allowing the time-to-market and time-in-market advantages ofprogrammable logic for differentiated mobile products;

 

·                  *Low Total Cost ofOwnership*– CSSPsreduce time-to-market and lower the risk and expense associated with newproduct development. In platform designs these savings are leveraged overseveral products. The flexible nature of CSSPs enables new features in existingdesigns, which can be used to extend time-in-market and delay the cost of newproduct development. In addition, CSSPs often reduce bill of materials, or BOM,costs by combining the function of several ASSPs into one cost effectivedevice; a simplified BOM also leads to lower printed circuit board, or PCB,costs;

 

·                  *Instant-on*– our products are live at power upbecause ViaLink based products require no configuration bit stream;

 

·                  *High Reliability*– ViaLink based products do not rely on aSRAM cell that is susceptible to alpha particles, or brownouts, to define andmaintain their functionality; and

 

·                  *Unmatched IP Security*– our ViaLink technology makes itvirtually impossible to clone or reverse engineer designs implemented in ourprogrammable fabric.

 

We offer a range of CSSPsbuilt on our PolarPro and ArcticLink solutions platforms. Our PolarProarchitecture provides low power consumption and a cost effective device forpure digital applications. CSSPs developed using our PolarPro solutionimplement proven system blocks and custom logic in programmable fabric. Basedon our engineering analysis of portable media player applications, we believedesigners using PolarPro can extend battery life by as much as four times ascompared to a standard product implementation, setting a new standard for lowpower consumption through the use of programmable logic.

 

We started shipping CSSPsbased on our ArcticLink architecture in 2007. ArcticLink solution platformscombine mixed signal physical layers, hard-wired logic and programmable fabricon one device. Mixed signal capability supports the trend toward serialconnectivity in mobile applications, where designers benefit from lower pincounts, simplified PCB layout, lower cost PCB interconnect and reduced signalnoise. Adding hard-wired IP enables us to deliver more logic per die area,while the programmable fabric allows us to provide CSSPs that can be rapidlycustomized to differentiate products, add features and reduce systemdevelopment costs. Market leading companies seek to develop product platformsfrom which several products can be introduced. This combination of mixed signalphysical layer, hard-wired logic and programmable fabric enables us to deliverlow cost, small form factor solutions that can be customized for particularcustomer or market requirements.

 

We are marketing CSSPs to OEMs and ODMs offeringdifferentiated mobile products. Our target mobile markets include:

 

·                  *Cellular*– including multimedia and smartphones;

 

·                  *Consumer Electronics*– including personal media players, orPMPs, personal navigation devices, or PNDs, and wireless hard disk drives orwireless storage devices; and

 

·                  *Computing*– including ultra mobile PCs, or UMPCs,mobile internet devices, or MIDS, industrial personal digital assistants, orPDAs, handheld point-of-sales, or POS, terminals and broadband data cards.

 

Examples of how existing and potential customersbenefit from CSSPs are:

 

·                  *Multimedia Phones*– we have been marketing our recentlyannounced Visual Enhancement Engine, or VEETM, a proven system block built uponan IP core we licensed, to enable improved video image, color, contrast andresolution with longer battery life;

 

·                  *Smartphones*– where our solutions enable thesimultaneous display of video on the handset and an external display;

 

·                  *Personal NavigationDevices*– whereour solutions allow the incorporation of the latest storage technology, managedNAND, and access to the latest high capacity SD cards and SDIO basedperipherals;

 

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**Item 2.****   ****Management’s Discussion and Analysisof Financial Condition and Results of Operations — (Continued)**

 

·                  *Portable Media Players* – where our solutions allow a processorto access and efficiently control a micro hard disk drive;

 

·                  *Wireless Hard DiskDrives*– whereour solutions allow for the intelligent transfer of data, which improves thedata transfer rate, virtually eliminates the CPU cycles associated with datatransfer and improves battery life;

 

·                  *Handheld POS Terminals*– where our solutions enable high speedconnectivity to Wi-Fi and BlueTooth chipsets as well as storage connectivity;and

 

·                  *Cellular Data Cards*– where our solutions provide the lowestpower interface between a cellular radio and a laptop card slot.

 

Our new products are alsobeing designed into applications in our traditional markets, such as datacommunications, instrumentation and test and military-aerospace, wherecustomers value the low power consumption, instant-on, IP security, reliabilityand fast time-to-market of our products.

 

In addition to workingdirectly with our customers, we partner with other technology companies to developadditional intellectual property, reference platforms and system software toprovide application solutions. We partner with companies that are experts incertain technologies. For instance, we licensed elements of our VEE technologyfrom Apical Limited, a U.K. company that markets enhanced video imagecapability to companies such as Nikon, Olympus and Sony Ericsson. We also workwith processor manufacturers, such as Marvell Technology Group Ltd. and AnalogDevices, Inc., and companies that supply storage, networking or graphicscomponents for embedded systems. The depth of these relationships variesdepending on the partner and the dynamics of the end market being targeted, butis typically a co-marketing program that includes joint account calls, promotionalactivities and/or engineering collaboration, such as reference designs.

 

Wesell programmed and unprogrammed products through distributors and directly toOEMs. We recognize revenue at the time of shipment of products directly tosystem manufacturers. However, we sell a significant portion of our productsthrough distributors who earn a negotiated margin on the sale of our products.We defer recognition of income from sales of unprogrammed products todistributors, other than end-of-life products, until after they have sold ourproducts to systems manufacturers. We recognize revenue on programmed productsand certain unprogrammed products, for which the price is fixed or determinableand there are no return privileges, at the time of shipment to our distributors.During the first half of 2008 and 2007, approximately 73% and 60%,respectively, of the units shipped to our distributors were programmed by usand, accordingly, are not returnable. The percentage of sales derived throughdistributors was 46% and 60% during the first half of 2008 and 2007,respectively.

 

Twodistributors, Avnet, Inc. and Future Electronics, accounted for 14% and13% of revenue in the first half of 2008. These distributors accounted for 20%and 18% of revenue in the first half of 2007. We anticipate that a limitednumber of distributors will continue to account for a significant portion ofour revenue and that individual distributors could account for a larger portionof our revenue.

 

Ourinternational sales were 61% and 53% of our revenue in the first half of 2008and 2007, respectively. We expect that revenue from sales to internationalcustomers will continue to represent a significant portion of our revenue. Allof our sales originate in the United States and are denominated in U.S.dollars.

 

We outsource the wafermanufacturing, assembly and testing of all of our products. We currently relyupon Taiwan Semiconductor Manufacturing Company Ltd., or TSMC, Tower, KawasakiMicroelectronics, Inc. and Samsung Semiconductor, Inc. to manufactureour products, and we rely upon Amkor Technology, Inc. and Unisem (M) Berhadto assemble, test and program our products. Our wafer suppliers’ lead times areoften as long as three months and sometimes longer. In addition, Tower requiresus to provide them with a monthly wafer start forecast. Under the terms of ouragreement with Tower, our ability to increase or decrease our wafer forecast islimited and we are committed to take delivery of and pay for a minimum portionof the forecasted wafer volume. Our long manufacturing cycle times are at oddswith our customers’ desire for short delivery lead times and, as a result, wetypically purchase wafers based on our internal forecasts of customer demand.

 

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**Item 2.****   ****Management’s Discussion and Analysisof Financial Condition and Results of Operations — (Continued)**

 

**Results of Operations**

 

The following table sets forth the percentage ofrevenue for certain items in our statements of operations for the periodsindicated:

 
| ** **                          | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                          | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
| Revenue                             |       | 100.0                            | %          | 100.0                          | %          | 100.0 | % | 100.0 | % |
| Cost of revenue (1)                 |       | 45.5                             |       | 47.3                           |       | 46.7 |   | 64.0 |   |
| Long-lived asset impairment         |       | 17.7                             |       | —                         |       | 7.8 |   | — |   |
| Gross profit                        |       | 36.8                             |       | 52.7                           |       | 45.5 |   | 36.0 |   |
| Operating expenses:                 |       |                             |       |                           |       |   |   |   |   |
| Research and development            |       | 29.8                             |       | 27.8                           |       | 27.5 |   | 31.6 |   |
| Selling, general and administrative |       | 45.4                             |       | 52.2                           |       | 42.0 |   | 61.3 |   |
| Long-lived asset impairment         |       | 5.4                              |       | —                         |       | 2.4 |   | — |   |
| Restructuring costs                 |       | 5.2                              |       | —                         |       | 2.3 |   | — |   |
| Loss from operations                |       | (49.0                            | )          | (27.3                          | )          | (28.7 | ) | (56.9 | ) |
| Write-down of marketable securities |       | (4.7                             | )          | —                         |       | (2.1 | ) | — |   |
| Interest expense                    |       | (0.8                             | )          | (0.9                           | )          | (0.7 | ) | (1.1 | ) |
| Interest income and other, net      |       | 0.3                              |       | 3.8                            |       | 0.7 |   | 3.9 |   |
| Loss before income taxes            |       | (54.2                            | )          | (24.4                          | )          | (30.8 | ) | (54.1 | ) |
| Provision for income taxes          |       | —                           |       | 0.3                            |       | 0.2 |   | 0.3 |   |
| Net loss                            |       | (54.2                            | )%         | (24.7                          | )%         | (31.0 | )% | (54.4 | )% |

 
| ** **                                         | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                         | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007**     | ** ** | **June 29, 2008** | ** ** | **July 1, 2007** | ** ** |
| *Revenue by product line (2) (in thousands):* |       |                             |       |                           |       |   |   |   |   |
| New products                                       |       | $                                | 2,564      |                           | $          | 611 |   | $ | 5,162 |   | $ | 1,217 |   |
| Mature products                                    |       | 4,591                            |       | 4,376                          |       | 8,915 |   | 7,882 |   |
| End-of-life products                               |       | 1,588                            |       | 3,418                          |       | 5,689 |   | 5,548 |   |
| Total revenue                                      |       | $                                | 8,743      |                           | $          | 8,405 |   | $ | 19,766 |   | $ | 14,647 |   |

 

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(1) Thesecond quarter of 2008 and 2007 includes $172,000 and $759,000 of costs for thewrite-down of inventories and related charges, which represents 2.0% and 9.0%of revenue, respectively. The first half of 2008 and 2007 includes $1.1 millionand $3.2 million of costs for the write-down of inventories and relatedcharges, which represents 5.7% and 22.0% of revenue, respectively.

 

(2) Forall periods presented:  New productsinclude ArcticLink, PolarPro, Eclipse II and QuickPCI II products; matureproducts include pASIC 3, QuickRAM, Eclipse, QuickDSP and QuickFC products, aswell as royalty revenue, programming hardware and design software; end-of-lifeproducts include pASIC 1, pASIC 2, V3, QuickMIPS and QuickPCIproducts.

 

**ThreeMonths Ended June 29, 2008 and July 1, 2007**

 

*Revenue.*  Our revenue for the second quarter of 2008was $8.7 million, representing an increase of approximately $340,000, or4.0%, from revenue of $8.4 million in the second quarter of 2007. Theincrease in revenue was primarily due to an increase in new and mature productrevenue, partially offset by a decline in end-of-life product revenue. Our newproduct revenue increased by $2.0 million, primarily due to higher demand inAsia from a PND manufacturer purchasing CSSPs based on our PolarPro solutionplatform. This customer contributed $1.9 million of revenue in the secondquarter of 2008 and minimal revenue in the second quarter of 2007. Our matureproduct revenue increased by approximately $220,000 primarily due to anincrease in pASIC 3 product revenue. One international OEM customer, purchasingprimarily our pASIC 3 devices, accounted for 17% and 11% percent of revenue inthe second quarter of 2008 and 2007, respectively. Our end-of-life productrevenue decreased by $1.8 million, primarily due to a $1.3 million decrease indemand for V3 products and a $430,000 decrease in demand for pASIC 1 and pASIC2 products.

 

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**Item 2.    Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — (Continued)**

 

Our revenue for thesecond quarter of 2008 was 20.7% lower sequentially, decreasing byapproximately $2.3 million to $8.7 million from $11.0 million in thefirst quarter of 2008. This sequential revenue decline was primarily due to a$2.5 million decline in demand for end-of-life products, partially offset by anincrease in demand for mature products. End-of-life product revenue declinedprimarily due to the timing of end-of-life demand and included a $2.0 milliondecrease in QuickPCI product revenue and a $520,000 decrease in pASIC 1 and pASIC2 product revenue. Our mature product revenue increased by approximately$270,000 primarily due to increased demand for pASIC 3 and QuickRAM products.

 

Our current expectationis that revenue will decline sequentially in the third quarter of 2008 due tofurther declines in demand for end-of-life products and lower demand from a PNDOEM purchasing new products. We first sold prototype quantities to this PNDmanufacturer in the second quarter of 2007; at that time this customer plannedto redesign two of their models to use a different embedded processor. As aresult of this redesign, demand for new products is expected to declinesequentially in the third quarter of 2008. We have ongoing revenue with thiscustomer in other PND models and continue to win new designs with thiscustomer. We believe that our ability to maintain or grow our total revenueafter the third quarter will primarily depend on our ability to grow our newproduct revenue, especially revenue from CSSPs designed using our ArcticLinkand PolarPro solution platforms and the development of additional new productsand CSSPs. If new product revenue does not grow to offset expected declines inour end-of-life and mature product revenue, our profitability and financialcondition will be affected.

 

We continue to seek toexpand our revenue, including the pursuit of high volume sales opportunities inthe consumer market segment, by providing CSSPs incorporating intellectualproperty such as VEE and boot from managed NAND, or industry standard interfacessuch as USB 2.0 OTG, SDIO and integrated drive electronics, or IDE. Ourindustry is characterized by intense price competition and by lower margins asorder volumes increase. While winning large volume sales opportunities willincrease our revenue, we believe these opportunities may decrease our grossprofit as a percentage of revenue.

 

*GrossProfit*.  Grossprofit was $3.2 million and $4.4 million in the second quarter of 2008 and2007, respectively, which represented 36.8% and 52.7% of revenue for thoseperiods. The $1.2 million decline in gross profit was primarily due to a$1.5 million long-lived asset impairment charge associated with the write-downof prepaid wafer credits and certain assets used in production. Changes inproduct mix and cost also lowered gross profit by $760,000. These amounts werepartially offset by higher revenue which contributed $270,000 of additionalgross profit, lower unabsorbed overhead of approximately $460,000 and adecrease in the write-down of inventories and related charges of $410,000.During the second quarter of 2008, the Company recorded inventory relatedcharges totaling $172,000, or 2.0% of revenue, primarily for excess quantitiesdue to a reduction in expected demand for inventories on hand, and cost ofrevenue was reduced by $150,000, or 1.7% of revenue, through the sale ofinventories that were previously written down.

 

*Researchand Development Expense.*  Research and development expense was $2.6 million and$2.3 million in the second quarter of 2008 and 2007, respectively, whichrepresented 29.8% and 27.8% of revenue for those periods. The increase ofapproximately $270,000 was primarily due to higher project specific expenses.We believe that investments in product and intellectual property developmentare essential for us to remain competitive in the markets we serve. We expectthat our development efforts will allow us to expand our product and solutionofferings, increase our revenue and provide additional value to our customersand stockholders.

 

In thesecond quarter of 2008, we established a plan to outsource certain developmentfunctions that were previously performed in-house. The change of certaindevelopment activities to an on-demand, outsourced model from an in-house,fixed cost model was implemented by the second quarter of 2008. As a result ofthis decision, our research and development staffing in Toronto, Canada wasreduced. We also reduced other development expenses in the quarter as werealigned resources throughout the Company with our expected revenue outlook.We retained our core competencies and do not expect this change to have amaterial adverse impact on our product introduction schedules for 2008. Webelieve this realignment of resources will lower our development expense perproject, lower fixed costs, reduce our cash consumption and lower ourbreak-even revenue level, enable a more rapid return to profitability andprofit scalability, and allow room for discretionary spending in response tomarket demands.

 

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**Item 2.    Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — (Continued)**

 

*Selling, General and Administrative Expense.*  Selling, general andadministrative expense was $4.0 million and $4.4 million for thesecond quarter of 2008 and 2007, respectively, which represented 45.4% and52.2% of revenue for those periods. The decrease of approximately $420,000 inselling, general and administrative expense was primarily due to a $210,000decrease in outside service expenses such as recruiting and temporary help, a$110,000 decrease in bad debt expense and lower occupancy and travel costs.

 

*Long-LivedAsset Impairment.*  Inthe second quarter of 2008, we recorded a $468,000 long-lived asset impairmentcharge as a result of our decision to outsource design implementation activity,which resulted in unutilized EDA software licenses.

 

*RestructuringCosts.*  Inthe second quarter of 2008, we reduced our worldwide headcount by approximately30% in order to: lower fixed cost; enable a lower break-even revenue level andoptimal profitability scaling with revenue growth; provide greater headroom fordiscretionary costs, resulting in the agility to pursue new product marketopportunities; conserve cash by reducing operating expenses; and enable aquicker return to profitability. In connection with this decision, we recordeda $452,000 restructuring charge for employee severance benefits; these benefitsare expected to be paid by the end of fiscal 2008.

 

*Write-downof Marketable Securities.*  In the second quarter of 2008, we determined that ourinvestment in Tower had suffered a decline in value that was “other thantemporary.” This determination included factors such as market value and theperiod of time that the market value has been below the carrying value.Accordingly, we recorded a write-down of $417,000 in the second quarter of 2008based on the quoted market price of the stock on the last day of the reportingperiod. As a result of this write-down, the carrying value of the Towerordinary shares was $0.86 per share as of the end of the second quarter of2008.

 

*Interest Expense.*  Interest expense of $72,000in the second quarter of 2008 was flat compared with $72,000 in the secondquarter of 2007.

 

*InterestIncome and Other, Net.*  Interest income and other, net decreased to $30,000 ofincome for the second quarter of 2008 as compared to $317,000 of income for thesecond quarter of 2007. The $287,000 decrease in interest income and other, netis primarily due to decreased interest income received as a result of loweraverage cash balances and interest rates and a gain on sale of test equipmentrecorded in the prior year.

 

*Provisionfor Income Taxes.*  Forthe second quarter of 2008 and 2007, we incurred a net loss of$4.7 million and $2.1 million, respectively. We recorded a provisionfor income taxes of zero and $27,000 for the second quarter of 2008 and 2007,respectively. The provision for income taxes for the second quarter of 2007consisted primarily of income taxes on foreign operations. Our ability toutilize our income tax loss carryforwards in future periods is uncertain and,accordingly, we recorded a full valuation allowance against the related taxbenefit. We will continue to assess the realizability of deferred tax assets infuture periods.

 

*Stock-BasedCompensation.*  Forthe second quarter of 2008 and 2007, stock-based compensation totaled $917,000and $428,000, respectively, and was included in the statements of operations asfollows (in thousands):

 
| ** **                          | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------|------------|----------------------------------|------------|
| ** **                          | ** ** | **June 29, 2008**      | ** ** | **July 1, 2007** | ** ** |
|                                |       |                             |       |   |   |
| Cost of revenue                     |       | $                                | 106        |   | $ | 54 |   |
| Research and development            |       | 196                              |       | 94 |   |
| Selling, general and administrative |       | 615                              |       | 280 |   |
| Total                               |       | $                                | 917        |   | $ | 428 |   |

 

The amount of stock-basedcompensation included in inventories at the end of the second quarter of 2008and 2007 was not material.

 

The increase instock-based compensation was primarily due to the issuance of fully vested RSUsin lieu of cash compensation in the second quarter of 2008. Total stock-basedcompensation related to fully vested RSUs was $570,000 for the second quarterof 2008.

 

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**Item 2.    Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — (Continued)**

 

**SixMonths Ended June 29, 2008 and July 1, 2007**

 

*Revenue.*  Our revenue for the first half of 2008 was$19.8 million, representing an increase of $5.1 million, or 34.9%,from revenue of $14.6 million in the first half of 2007. Revenue from newproducts, mature products and end-of-life products each increased compared tothe first half of 2007. Our new product revenue increased by $3.9 million,primarily due to higher demand in Asia from a PND manufacturer that purchasesCSSPs based on our PolarPro solution platform. Our mature product revenueincreased by $1.0 million primarily as a result of higher demand for pASIC 3devices. Our end-of-life product revenue increased by approximately $140,000primarily due to changes in demand for end-of-life products. Revenue fromQuickPCI and QuickMIPS products increased by $1.9 million and $410,000,respectively, and was partially offset by $1.9 million of lower V3 productrevenue and $300,000 of lower pASIC 1 and pASIC 2 product revenue.

 

*GrossProfit*.  Grossprofit was $9.0 million and $5.3 million in the first half of 2008 and 2007,respectively, which represented 45.5% and 36.0% of revenue for those periods.The $3.7 million increase in gross profit was primarily due to higherrevenue and change in product mix and cost, which contributed $2.5 million, adecrease in the write-down of inventories and related charges of $1.9 millionand lower unabsorbed overhead of approximately $1.0 million due to higherproduction volumes, partially offset by a $1.5 million long-lived assetimpairment charge associated with the write-down of prepaid wafer credits andcertain assets used in production. During the first half of 2008, the Companyrecorded inventory related charges totaling $1.1 million, or 5.7% of revenue,primarily for excess quantities due to a reduction in expected demand forinventories on hand, and cost of revenue was reduced by $380,000, or 1.9% ofrevenue, through the sale of inventories that were previously written down.

 

*Researchand Development Expense.*  Research and development expense was $5.4 million and$4.6 million in the first half of 2008 and 2007, respectively, whichrepresented 27.5% and 31.6% of revenue for those periods. The increase ofapproximately $800,000 was primarily due to higher project specific expenses of$450,000 and $280,000 of higher expenses due to the allocation of resources todevelopment activities. We believe that investments in product and  intellectual property development areessential for us to remain competitive in the markets we serve. We expect thatour development efforts will allow us to expand our product and solutionofferings, increase our revenue and provide additional value to our customersand stockholders.

 

*Selling, General and Administrative Expense.*  Selling, general andadministrative expense was $8.3 million and $9.0 million for thefirst half of 2008 and 2007, respectively, which represented 42.0% and 61.3% ofrevenue for those periods. The $690,000 decrease in selling, general andadministrative expense was primarily due to a $480,000 reduction in outsideservice expenses such as legal and recruiting costs and lower travel and occupancycosts.

 

*Long-LivedAsset Impairment.*  Inthe second quarter of 2008, we recorded a $468,000 long-lived asset impairmentcharge as a result of our decision to outsource design implementation activity,which resulted in unutilized EDA software licenses.

 

*RestructuringCosts.*  Inthe second quarter of 2008, we reduced our worldwide headcount by approximately30% in order to: lower fixed costs; enable a lower break-even revenue level andoptimal profitability scaling with revenue growth; provide greater headroom fordiscretionary costs, resulting in the agility to pursue new product marketopportunities; conserve cash by reducing operating expenses; and enable aquicker return to profitability. In connection with this decision, we recordeda $452,000 restructuring charge for employee severance benefits; these benefitsare expected to be paid by the end of fiscal 2008.

 

*Write-downof Marketable Securities.*  In the second quarter of 2008, we determined that ourinvestment in Tower had suffered a decline in value that was “other thantemporary.” This determination included factors such as market value and theperiod of time that the market value has been below the carrying value.Accordingly, we recorded a write-down of $417,000 in the second quarter of 2008based on the quoted market price of the stock on the last day of the reportingperiod. As a result of this write-down, the carrying value of the Towerordinary shares was $0.86 per share as of the end of the second quarter of2008.

 

*InterestExpense.*  Interestexpense decreased to $143,000 for the first half of 2008 as compared to$157,000 for the first half of 2007. This $14,000 decline was primarilydue to lower interest rates.

 

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**Item 2.    Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — (Continued)**

 

*InterestIncome and Other, Net.*  Interest income and other, net decreased to $134,000 ofincome for the first half of 2008 as compared to $563,000 of income for thefirst half of 2007. The $429,000 decrease in interest income and other, net isprimarily due to decreased interest income received as a result of loweraverage cash balances and lower interest rates.

 

*Provisionfor Income Taxes.*  Forthe first half of 2008 and 2007, we incurred a net loss of $6.1 millionand $8.0 million, respectively. We recorded a provision for income taxes of$34,000 and $42,000 for the first half of 2008 and 2007, respectively, whichconsisted primarily of income taxes on foreign operations. Our ability toutilize our income tax loss carryforwards in future periods is uncertain and,accordingly, we recorded a full valuation allowance against the related taxbenefit. We will continue to assess the realizability of deferred tax assets infuture periods.

 

*Stock-BasedCompensation.*  Forthe first half of 2008 and 2007, stock-based compensation totaled $1.6 millionand $809,000, respectively, and was included in the statements of operations asfollows (in thousands):

 
| ** **                          | ** ** | **Six Months Ended** | ** ** |
|-------------------------------------|------------|--------------------------------|------------|
| ** **                          | ** ** | **June 29, 2008**    | ** ** | **July 1, 2007** | ** ** |
|                                |       |                           |       |   |   |
| Cost of revenue                     |       | $                              | 171        |   | $ | 109 |   |
| Research and development            |       | 354                            |       | 179 |   |
| Selling, general and administrative |       | 1,057                          |       | 521 |   |
| Total                               |       | $                              | 1,582      |   | $ | 809 |   |

 

The increase instock-based compensation was primarily due to the issuance of fully vested RSUsin lieu of cash compensation in the second quarter of 2008. Total stock-basedcompensation related to fully vested RSUs was $570,000 for the first half of2008.

 

##### **Liquidity and Capital Resources**

#####  

We have financed ouroperating losses and capital investments through sales of common stock, privateequity investments, capital and operating leases, bank lines of credit and cashflow from operations. As of June 29, 2008, our principal sources ofliquidity consisted of our cash and cash equivalents of $19.0 million,available credit under our revolving line of credit with Silicon Valley Bank ofapproximately $5.0 million, available credit under our equipment line ofcredit of approximately $870,000, and our investment in Tower with a marketvalue of approximately $1.2 million. We intend to hold 450,000 shares in Tower,valued at $387,000 as of the end of the second quarter of 2008, in order toobtain preferred wafer pricing from Tower. Pursuant to SFAS 157, the fair valueof our cash equivalents and marketable securities as of June 29, 2008 wasdetermined based on “Level 1” inputs as described in Note 8 to our consolidatedfinancial statements.

 

As of June 29, 2008,our interest-bearing debt consisted of $2.5 million outstanding fromSilicon Valley Bank and $1.3 million outstanding under capital leases. Ouraccumulated deficit was $144.8 million as of June 29, 2008. Capitalexpenditures, which are largely driven by the development of new products andmanufacturing activity, could be up to $1.5 million in the next twelvemonths.

 

In June 2006, weentered into a Second Amended and Restated Loan and Security Agreement withSilicon Valley Bank. Terms of the agreement included a $5.0 million revolvingline of credit that was available through June 2008 and an additional $2.0million of borrowing capacity under an equipment line of credit that wasavailable to be drawn against through June 2007. Advances under theequipment line of credit are repaid in either 30 or 36 equal monthlyinstallments, depending upon the nature of the items financed. The agreementwas amended in June 2007 to include an additional $2.5 million ofborrowing capacity under the equipment line of credit that was available to bedrawn against through June 2008. The agreement was amended in June 2008to extend the available draw date for both the revolving line of credit andequipment line of credit and to waive the tangible net worth covenant through July 31,2008. The agreement was amended in July 2008 to further extend theavailable draw date and waive the tangible net worth covenant through August 31,2008.  See Note 18 to our consolidatedfinancial statements. Future advances against the equipment line of credit willbe repaid in 36 equal monthly installments. As of June 29, 2008, we had nobalances outstanding under the 

 

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**Item 2.    Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — (Continued)**

 

revolving line of credit,$2.5 million outstanding under the current and previous equipment lines ofcredit and $870,000 available to be drawn against future equipment purchases.The bank has a first priority security interest on substantially all of ourtangible and intangible assets to secure any outstanding amounts under theagreement. Under the terms of the agreement, except as noted above, we mustmaintain a minimum tangible net worth and an adjusted quick ratio. Theagreement also has certain restrictions including, among others, the incurrenceof other indebtedness, the maintenance of depository accounts, the dispositionof assets, mergers, acquisitions, the granting of liens and the payment ofdividends. We were in compliance with all loan covenants as of the end of thecurrent reporting period.

 

*Net cash from operating activities*

 

Net cash used foroperating activities was $367,000 in the first half of 2008. The Company’s netloss of $6.1 million, excluding non-cash charges of $6.5 million, provided$408,000 of cash flow. This was reduced by $775,000 for changes in workingcapital accounts. The non-cash charges included $2.0 million of long-livedasset impairment, stock-based compensation of $1.6 million, depreciation andamortization of $1.2 million, write-down of inventories of $1.1 million,write-down of marketable securities of $417,000 and decrease in wafer creditsof $148,000.  Changes in working capitalaccounts used cash  as a result of a decreasein accounts payable of $2.7 million due to timing of expenditures and purchasesof inventories and a decrease in deferred income and royalty revenue of$210,000. These cash uses were partially offset by a decrease in inventories of$1.7 million, decrease in other assets of $305,000 and a decrease in accountsreceivable of $208,000.

 

Netcash used for operating activities was $4.3 million in the first half of2007. The cash used for operating activities resulted primarily from a net lossof $8.0 million, which included $6.1 million of non-cash charges.These non-cash charges included the write-down of inventories of $3.2 million,depreciation and amortization of $1.6 million, stock-based compensation of$809,000, decrease in wafer credits of $454,000 and bad debt reserves of$153,000. In addition, changes in working capital accounts used cash in theamount of $2.5 million primarily as a result of a $2.6 million decrease inaccounts payable due to timing of expenditures and purchases of inventories, a$254,000 decrease in accrued liabilities and a $108,000 decrease in deferredincome and royalty due primarily to royalty revenue recognized under theAeroflex agreement. These uses of cash were partially offset by a $245,000decrease in prepaid expenses and a $220,000 decrease in inventories.

 

*Net cash from investing activities*

 

Net cash used forinvesting activities for the first half of 2008 and 2007 was $363,000 and$450,000, respectively, as a result of capital expenditures made primarily toacquire equipment and software used in the development and production of ourproducts and solutions.

 

*Net cash from financing activities*

 

Netcash used for financing activities was $1.1 million for the first half of 2008,resulting from scheduled payments of $1.2 million under the terms of our debtand capital lease obligations, partially offset by $109,000 in proceeds relatedto the issuance of common shares to employees under our equity plans.

 

Netcash used for financing activities was $9,000 for the first half of 2007,resulting from scheduled payments of $1.2 million under the terms of our debtand capital lease obligations, partially offset by $772,000 in proceeds relatedto the issuance of common shares to employees under our equity plans and$442,000 in proceeds from borrowings under our equipment line of credit.

 

We require substantialcash to fund our business, particularly to finance our operations, to acquireproperty and equipment, for the repayment of debt and for working capitalrequirements. Our future liquidity will depend on many factors such as these,as well as our level of revenue and gross profit, market acceptance of ourexisting and new products, the decline in revenue under end-of-life programs,wafer purchase commitments, the amount and timing of research and developmentexpenditures, the timing of new product introductions, production volumes, thequality of our products, sales and marketing efforts, the capital preservationand liquidity of our investment portfolio, our ability to obtain debt financingand to remain in compliance with the terms of our credit facilities, our abilityto raise funds from the sale of Tower shares and equity in the Company, theexercise of employee stock options and participation in our employee stockpurchase plan, and other factors related to the uncertainties of the 

 

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**Item 2.    Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — (Continued)**

 

industry and globaleconomics. However, we believe that our existing cash resources will besufficient to fund operations, capital expenditures of up to $1.5 million,and provide adequate working capital for at least the next twelve months. Asour liquidity is affected by many factors as mentioned above and as discussedin our “Risk Factors” section, there can be no assurance that we will not seekadditional capital during the next twelve months or that such capital will beavailable on terms acceptable to us.

 

**Contractual Obligations andCommercial Commitments**

 

The following table summarizes our contractualobligations and commercial commitments as of June 29, 2008 and the effectsuch obligations and commitments are expected to have on our liquidity and cashflows in future fiscal periods (in thousands):

 
| ** **                                                   | ** ** | **Payments Due by Period** | ** ** |
|--------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                   | ** ** | **Total**                                 | ** ** | **Less than   1 Year** | ** ** | **1-3  Years** | ** ** | **More than   3 Years** | ** ** |
|                                                         |       |                                      |       |   |   |   |   |   |   |
| *Contractual cash obligations:*                              |       |                                      |       |   |   |   |   |   |   |
| Operating leases                                             |       | $                                         | 746        |   | $ | 655 |   | $ | 91 |   | $ | — |   |
| Wafer purchases (1)                                          |       | 1,593                                     |       | 1,593 |   | — |   | — |   |
| Other purchase commitments                                   |       | 1,638                                     |       | 1,638 |   | — |   | — |   |
| *Total contractual cash obligations*                         |       | 3,977                                     |       | 3,886 |   | 91 |   | — |   |
|                                                         |       |                                      |       |   |   |   |   |   |   |
| *Other commercial commitments*(2)*:*                         |       |                                      |       |   |   |   |   |   |   |
| Notes payable to bank                                        |       | 2,514                                     |       | 1,404 |   | 1,110 |   | — |   |
| Capital lease obligations                                    |       | 1,263                                     |       | 880 |   | 383 |   | — |   |
| *Total commercial commitments*                               |       | 3,777                                     |       | 2,284 |   | 1,493 |   | — |   |
| Total contractual obligations and commercial commitments (3) |       | $                                         | 7,754      |   | $ | 6,170 |   | $ | 1,584 |   | $ | — |   |

 

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(1)    Certain of our wafer manufacturers require us toforecast wafer starts several months in advance. We are committed to takedelivery of and pay for a portion of forecasted wafer volume. Wafer purchasecommitments of $1.6 million include both firm purchase commitments and aportion of our forecasted wafer starts as of June 29, 2008.

 

(2)    Other commercial commitments are included asliabilities on our balance sheet as of June 29, 2008.

 

(3)    Does not include unrecognized tax benefits of $64,000as of June 29, 2008.

 

**Off-Balance Sheet Arrangements**

 

We do not maintain anyoff-balance sheet partnerships, arrangements or other relationships withunconsolidated entities or others, often referred to as structured finance orspecial purpose entities, which are established for the purpose of facilitatingoff-balance sheet arrangements or other contractually narrow or limitedpurposes.

 

**Recently Issued AccountingPronouncements**

 

In May 2008,the Financial Accounting Standards Board, or FASB, issued Statement ofFinancial Accounting Standards, or SFAS, No. 162, “*The Hierarchy of Generally Accepted AccountingPrinciples*,” or SFAS 162. This standard reorganizes the GAAPhierarchy in order to improve financial reporting by providing a consistentframework for determining what accounting principles should be used when preparingU.S. GAAP financial statements. SFAS 162 shall be effective 60 days after theSEC’s approval of the Public Company Accounting Oversight Board’s amendments toInterim Auditing Standard, AU Section 411, “*The Meaning of Present Fairly in Conformity with Generally AcceptedAccounting Principles*.” We are currently evaluating the impact thisSFAS 162 will have on our consolidated financial statements.

 

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**Item 2.    Management’s Discussion and Analysis ofFinancial Condition and Results of Operations — (Continued)**

 

In April 2008,the FASB issued FASB Staff Position, or FSP, SFAS No. 142-3, “*Determination of the Useful Life of Intangible Assets*,”or FSP FAS 142-3. FSP FAS 142-3 amends the list of factors an entity shouldconsider in developing renewal or extension assumptions used in determining theuseful life of recognized intangible assets under SFAS No. 142, “*Goodwill and Other Intangible Assets*,” orSFAS 142. The intent of FSP FAS 142-3 is to improve the consistency between theuseful life of a recognized intangible asset under SFAS 142 and the period ofexpected cash flows used to measure the fair value of the asset under SFAS No. 141,“*Business Combinations*.” FSP FAS142-3 is effective for fiscal years beginning after December 15, 2008 andinterim periods within those fiscal years. We are currently evaluating theimpact FSP FAS 142-3 will have on our consolidated financial statements.

 

In March 2008, theFASB issued SFAS No. 161, “*Disclosuresabout Derivative Instruments and Hedging Activities*,” or SFAS 161,which changes the disclosure requirements for derivative instruments andhedging activities. SFAS 161 requires enhanced disclosures about (a) howand why an entity uses derivative instruments, (b) how derivativeinstruments and related hedged items are accounted for under SFAS No. 133,“*Accounting for Derivative Instruments andHedging Activities*” and its related interpretations, and (c) howderivative instruments and related hedged items affect an entity’s financialposition, financial performance, and cash flows. SFAS 161 is effective forfiscal years and interim periods beginning after November 15, 2008. We arecurrently evaluating the effects that SFAS 161 will have on our consolidatedfinancial statement disclosures.

 

In December 2007,the FASB issued SFAS No. 141(R), *“BusinessCombinations,”* or SFAS 141(R). SFAS 141(R) establishesprinciples and requirements for how an acquirer recognizes and measures in itsfinancial statements the identifiable assets acquired, the liabilities assumed,contractual contingencies and contingent consideration at their fair value onthe acquisition date, any controlling interest in the acquiree and the goodwillacquired. SFAS 141(R) also establishes disclosure requirements to enablethe evaluation of the nature and financial effects of the business combination.SFAS 141(R) is effective for fiscal years beginning after December 15,2008. We do not expect the adoption of SFAS 141(R) to have a significantimpact on our consolidated financial statements.

 

In December 2007,the FASB issued SFAS No. 160, “*NoncontrollingInterests in Consolidated Financial Statements,”* or SFAS 160, which establishes accounting andreporting standards that require: (1) the ownership interests insubsidiaries held by parties other than the parent, and income attributable tothose parties, be clearly identified and distinguished in the parent’sconsolidated financial statements; and (2) when a subsidiary isdeconsolidated, any retained noncontrolling equity investment in the formersubsidiary be initially measured at fair value. SFAS 160 is an amendment ofAccounting Research Bulletin No. 51, “*ConsolidatedFinancial Statements*” and related interpretations. SFAS 160 iseffective for fiscal years beginning on or after December 15, 2008. We donot expect the adoption of SFAS 160 to have a significant impact on ourconsolidated financial statements.

 

**Critical Accounting Policies andEstimates**

 

Themethods, estimates and judgments we use in applying our most criticalaccounting policies have a significant impact on the results we report in ourconsolidated financial statements. The SEC has defined critical accountingpolicies as those that are most important to the portrayal of our financialcondition and results of operations and require us to make our most difficultand subjective judgments, often as a result of the need to make estimatesof matters that are inherently uncertain. Based on this definition, ourcritical policies include revenue recognition including sales returns andallowances, valuation of inventories including identification of excessquantities, market value and product obsolescence, allowance for doubtfulaccounts, valuation of investments, valuation of long-lived assets, measurementof stock-based compensation, accounting for income taxes, fair valuemeasurements of financial assets and liabilities, and estimating accrued liabilities.We believe that we apply judgments and estimates in a consistent manner andthat such consistent application results in consolidated financial statementsand accompanying notes that fairly represent all periods presented. However,any factual errors or errors in these judgments and estimates may have amaterial impact on our statements of operations and financial condition. For adiscussion of critical accounting policies and estimates, please seeItem 7 in our Annual Report on Form 10-K for the fiscal year ended December 30,2007 filed with the SEC on March 11, 2008.

 

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**Item 3. Quantitative and QualitativeDisclosures about Market Risk**

 

**Interest Rate Risk**

 

Our exposure to marketrate risk for changes in interest rates relates primarily to our investmentportfolio and variable rate debt. We do not use derivative financialinstruments to manage our interest rate risk. We are adverse to principal lossand ensure the safety and preservation of invested funds by limiting default,market risk and reinvestment risk. Our investment portfolio is generallycomprised of investments that meet high credit quality standards and haveactive secondary and resale markets. At June 29, 2008, our portfolio ofinvestments was classified as “Level 1” under SFAS 157 (see Note 8 to ourconsolidated financial statements). Since these securities are subject tointerest rate risk, they could decline in value if interest rates fluctuate orif the liquidity of the investment portfolio were to change. Due to the shortduration and conservative nature of our investment portfolio, we do notanticipate any material loss with respect to our investment portfolio. A 10%move in interest rates as of June 29, 2008 would have an immaterial effecton our financial position, results of operations and cash flows.

 

**Foreign Currency Exchange Rate Risk**

 

All of our sales and costof manufacturing are transacted in U.S. dollars. We conduct a portion of ourresearch and development activities in Canada and India and have sales andmarketing offices in several locations outside of the United States. We use theU.S. dollar as our functional currency. Most of the costs incurred at theseinternational locations are in local currency. If these local currenciesstrengthen against the U.S. dollar, our payroll and other local expenses willbe higher than we currently anticipate. Since our sales are transacted in U.S.dollars, this negative impact on expenses would not be offset by any positiveeffect on revenue. Operating expenses denominated in foreign currencies wereapproximately 26% and 23% of total operating expenses for the first half 2008and 2007, respectively. A majority of these foreign expenses were incurred inCanada. A currency exchange rate fluctuation of 10% would have caused ouroperating expenses to change by approximately $430,000 in the first half of2008.

 

**Equity Price Risk**

 

Our exposure to equityprice risk for changes in market value relates primarily to our investment inTower Semiconductor Ltd., or Tower. Tower’s ordinary shares trade on the NasdaqGlobal Market under the symbol “TSEM”. At June 29, 2008, our Towerinvestment was classified as “Level 1” under SFAS 157 (see Note 8 to ourconsolidated financial statements). Since these securities are publicly tradedon the open market, they are subject to market fluctuations. Temporary marketfluctuations are reflected by increasing or decreasing the presented value ofthe related securities and recording “accumulated other comprehensive income(loss)” in the equity section of the balance sheet. An “other than temporary”decline in market value is reflected by decreasing the carrying value of therelated securities and recording a charge to operating expenses in the incomestatement. We wrote down the value of the Tower shares due to an “other thantemporary” decline in their market value by $417,000 in the second quarter of2008 and by $13.7 million between 2001 and 2005. The determination that thedecline in market value was “other than temporary” included factors such as thethen current market value and the period of time that the market value had beenbelow the carrying value in each of the respective periods. A market valuefluctuation of 10% would have a $120,000 impact on the write-down of marketablesecurities as of June 29, 2008.

 

**Item 4. Controls and Procedures**

 

**Evaluation of Disclosure Controls andProcedures**

 

We maintain disclosurecontrols and procedures designed to ensure that information required to bedisclosed in the reports we file or submit pursuant to the Securities andExchange Act of 1934, as amended,  isrecorded, processed, summarized and reported within the time periods specifiedin the rules and forms of the Securities and Exchange Commission, and thatsuch information is accumulated and communicated to our management, includingour Chief Executive Officer and Chief Financial Officer, as appropriate, toallow timely decisions regarding required disclosure.

 

Management, with theparticipation of the Chief Executive Officer and Chief Financial Officer, hasperformed an evaluation of our disclosure controls and procedures. Basedon this evaluation, our Chief Executive Officer and Chief Financial Officerhave concluded that, as of June 29, 2008, our disclosure controls andprocedures were effective.

 

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**Changes in Internal Control OverFinancial Reporting**

 

There were no changes in our internal control overfinancial reporting that occurred during the period covered by this QuarterlyReport on Form 10-Q that have materially affected, or are reasonablylikely to materially affect, our internal control over financial reporting.

 

**Part II. Other Information**

 

**Item 1. Legal Proceedings**

 

On October 26, 2001, a putative securities classaction was filed in the U.S. District Court for the Southern District of NewYork against certain investment banks that underwrote QuickLogic’s initialpublic offering, QuickLogic and some of QuickLogic’s officers and directors.The complaint alleges excessive and undisclosed commissions in connection withthe allocation of shares of common stock in QuickLogic’s initial and secondarypublic offerings and artificially high prices through “tie-in” arrangementswhich required the underwriters’ customers to buy shares in the aftermarket atpre-determined prices in violation of the federal securities laws. Plaintiffsseek an unspecified amount of damages on behalf of persons who purchasedQuickLogic’s stock pursuant to the registration statements between October 14,1999 and December 6, 2000. Various plaintiffs have filed similar actionsasserting virtually identical allegations against over 300 other publiccompanies, their underwriters, and their officers and directors arising out ofeach company’s public offering. These actions, including the action againstQuickLogic, have been coordinated for pretrial purposes and captioned *In re Initial Public Offering Securities Litigation,21 MC 92*. In June 2004, a stipulation of settlement and releaseof claims against the issuer defendants, including QuickLogic, was submitted tothe court for approval. On August 31, 2005, the court preliminarilyapproved the settlement. In December 2006, the appellate court overturnedthe certification of classes in the six test cases that were selected by theunderwriter defendants and plaintiffs in the coordinated proceedings. Becauseclass certification was a condition of the settlement, it was unlikely that thesettlement would receive final Court approval. On June 25, 2007, the Courtentered an order terminating the proposed settlement based upon a stipulationamong the parties to the settlement. Plaintiffs have filed amended masterallegations and amended complaints and moved for class certification in the sixtest cases, which the defendants in those cases have opposed. On March 26,2008, the Court denied the defendants’ motion to dismiss the amendedcomplaints. If a settlement does not occur and litigation against QuickLogiccontinues, the Company intends to defend the case vigorously.

 

No estimate can be madeof the possible loss or possible range of loss associated with the resolutionof these contingencies and, accordingly, the Company has not recorded aliability.

 

From time to time, theCompany is involved in legal actions arising in the ordinary course ofbusiness, including but not limited to intellectual property infringement andcollection matters. Absolute assurance cannot be given that third partyassertions will be resolved without costly litigation in a manner that is notadverse to the Company’s financial position, results of operations or cashflows or without requiring royalty or other payments in the future which mayadversely impact gross profit.

 

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**Item 1A.Risk Factors**

 

This description includesany material changes to and supersedes the description of the risk factorsassociated with our business previously disclosed in Item 1A of our 2007 AnnualReport on Form 10-K filed with the SEC on March 11, 2008 and ourquarterly report on Form 10-Q for the period ended March 30, 2008,filed with the SEC on May 8, 2008. Because of the following risk factors,as well as other variables affecting our operating results, past financialperformance may not be a reliable indicator of future performance, andhistorical trends should not be used to anticipate results or trends in futureperiods.

 

**RiskFactors**

 

# *Our CSSP design opportunities maynot result in the revenue we expect*

#  

# We are transitioning to becoming a supplier of CSSPsthat addresses the mobile market from being a broad-based supplier of FPGAdevices. We have developed a significant pipeline of design opportunities forCSSPs in our target markets, and are focused on converting these designopportunities into revenue. Revenue contributions from new mobile products willbe important over the next two to four quarters to offset the expected declinesin other areas of our business. Mobile product life cycles are short, and wemust replace revenue lost at the end of these product life cycles with salesfrom new design wins.**Inaddition, we currently expect a decline in revenue from our end-of-lifeproducts as well as revenue from our mature products due to the stage of ourcustomers’ product life cycles.

#  

Thegeneration of revenue from mobile market design opportunities is influenced bya number of factors, such as our ability to supply solutions that meetcustomers’ cost targets and performance requirements, the value and price ofour solutions relative to competing solutions, our customers’ decisions whetherto produce in volume the products utilizing our solution, the timing of ourcustomers’ product introduction dates, the market success of our customers’products and general economic conditions. If these design opportunities resultin revenue that is later or significantly lower than we expect, our results ofoperations and financial condition will be adversely affected.

 

# *If we fail to successfully develop,introduce and sell CSSPs and new products, we may be unable to competeeffectively in the future*

#  

We have focused thedevelopment and marketing of our CSSPs to address the needs of OEMs and ODMsthat offer differentiated mobile products such as personal navigation devices,multimedia phones, portable media players, data cards and wireless hard diskdrives. These are new customers and markets for us and we currently have asmall customer base for CSSPs. While we believe that this business will providelong-term revenue growth for our Company, there is no assurance when this willoccur.

 

The market for thesemobile devices is highly competitive and dynamic, with short end market productlife cycles and rapid obsolescence of existing products. To competesuccessfully, we must obtain access to advanced fabrication capacity anddedicate significant resources to specify, design, develop, manufacture andsell new or enhanced CSSPs that provide increasingly higher levels ofperformance, low power consumption, new features, reliability and/or costsavings to our customers. Due to the short product life cycle of these devicesour revenue is subject to fluctuation in a short period of time and our abilityto grow our business depends on accelerating our design win activity. We oftenmake significant investments long before we generate revenue, if any, fromthese efforts. These markets typically have higher volumes and greater pricepressure than our traditional business; we quote opportunities in anticipationof future cost reductions and may aggressively price products to gain marketshare. In order to react quickly to opportunities or to obtain favorable waferprices, we make significant investments in and commitments to purchaseinventories and capital equipment before we have firm commitments fromcustomers. Our gross margin and valuation of inventories may be affected bythese strategies if, for instance, we generate significant revenue before we areable to reduce our costs or if an opportunity priced to gain market sharebecomes significant to our quarterly revenue.

 

 The growth of our CSSP business needs to bestrong enough to offset revenue declines in other areas of our business. Wehave announced an end-of-life for several products, due primarily to certainsuppliers’ decisions to stop manufacturing these products. End-of-life productscontributed $5.7 million, or 29% of revenue, in the first half of 2008 and $5.5million, or 38% of revenue, in the first half of 2007. We currently do notexpect these devices to contribute significant revenue after the third quarterof 2008. Because the product life cycle of mobile products is 

 

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short, we must replacerevenue at the end of a product life cycle with sales from new designopportunities. In addition, sales of our mature product family could decline ifcompetitors replace us in these design opportunities. While we expect revenueand gross profit growth from CSSPs will offset the expected decline in revenueand gross profit from our end-of-life products, our mature products and theeffect of short mobile product life cycles, there is no assurance when thiswill occur. In order to grow our revenue from its current level, we aredependent upon increased revenue from our existing products, especially CSSPsbased on our ArcticLink and PolarPro solution platforms, and the development ofadditional new products and solutions.

 

If we are unable todesign, produce and sell new CSSPs that meet design specifications, addresscustomer requirements and generate sufficient revenue and gross profit; ifmarket demand for our CSSPs and other products fails to materialize; if we areunable to obtain adequate capacity on a timely basis; if we are unable todevelop CSSPs or solutions in a timely manner; or if our customers do notsuccessfully introduce products incorporating our devices, our revenue andgross margin will be materially harmed, our liquidity and cash flows will bematerially affected, we may be required to write-off related inventories andlong-lived assets or there may be other adverse effects on our business or theprice of our common stock.

 

# *We may not have the liquidity tosupport our future operations and capital requirements*

#  

At June 29, 2008,our cash and cash equivalents balance was $19.0 million and ourinterest-bearing debt consisted of $2.5 million outstanding from SiliconValley Bank and $1.3 million outstanding under capital leases. In June 2008,we amended our credit facility with Silicon Valley Bank and at June 29,2008, we had $5.0 million available to borrow under our revolving creditfacility and $870,000 available to borrow under our equipment line of creditunder the amended agreement.

 

At June 29, 2008, weheld 1,344,543 Tower ordinary shares, valued at approximately $1.2 millionbased upon the market closing price of $0.86 per share at the end of thereporting period. Our ability to continue to obtain preferred pricing fromTower is tied to our ownership of at least 450,000 of these Tower shares.

 

While our primaryinvestment object is the preservation of cash and our portfolio is comprised ofsecurities with active secondary and resale markets, any investment is subjectto a degree of interest rate and liquidity risk. Capital expenditures, whichare largely driven by development activities and the introduction and initialmanufacturing of new products, could total $1.5 million in the next twelvemonths. At the end of the second quarter of 2008, we had commitments topurchase $1.6 million of wafer inventory.

 

As a result of potentialinvestments, expected revenue and operating expense levels, changes in workingcapital and interest and debt payments, we will need to generate significantlyhigher revenue and gross profit, especially from our ArcticLink and PolarProsolution platforms and products currently under development, to generate positivecash flow. In addition, our new products have been generating lower grossmargin as a percentage of revenue than the rest of our historical business dueto the competitive and cost-sensitive markets that we have targeted and thelarger order quantities associated with these applications. Our currentexpectation is that revenue will decline sequentially in the third quarter of2008 due largely to a decline in demand for end-of-life products and due to adecline in demand from one new product customer. Based on our currentexpectations for revenue, gross profit and expense levels, we have sufficientliquidity for the next twelve months. Whether we can achieve cash flow levelssufficient to support our operations cannot be accurately predicted. Unless suchcash flow levels are achieved and our investment portfolio remains liquid andits capital is preserved, we may have to borrow additional funds or sell debtor equity securities, or some combination thereof, to provide funding for ouroperations. If adequate funds are not available when needed, our financialcondition and operating results would be materially and adversely affected andwe may not be able to operate our business without significant changes in ouroperations, or at all.

 

# *We will be unable to competeeffectively if we fail to anticipate product opportunities based upon emergingtechnologies and standards or fail to develop products and solutions thatincorporate these technologies and standards in a timely manner*

#  

We spend significant timeand money to design and develop silicon solution platforms such as ArcticLinkand PolarPro and proven system blocks, such as our VEE technology, USB and IDE,or emerging technologies, such as low power programmable logic, advancedprocess technology or small form factor packaging. We intend to 

 

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develop additionalproducts and solutions and to adopt new technologies in the future. If systemmanufacturers adopt alternative standards or technologies, if an industrystandard or emerging technology that we have targeted fails to achieve broadmarket acceptance, if customers choose low power offerings from ourcompetitors, or if we are unable to bring the technologies or solutions tomarket in a timely and effective manner, we may be unable to generatesignificant revenue from our research and development efforts. As a result, ourbusiness would be materially harmed and we may be required to write-off relatedinventories and long-lived assets.

 

# *We have a limited number ofsignificant customers and limited visibility into the long-term demand for ourproducts from these customers*

#  

A few end customers canrepresent a significant portion of our total revenue in a given reportingperiod and the likelihood of this occurring will increase in the future as wetarget market leading manufacturers of high volume mobile applications. As inthe past, future demand from these customers may fluctuate significantly fromquarter to quarter. These customers typically order products with shortrequested delivery lead times, and do not provide a commitment to purchaseproduct past the period covered by purchase orders, which may be rescheduled orcancelled. In addition, our manufacturing lead times are longer than thedelivery lead times requested by these customers, and we make significantpurchases of inventory and capital expenditures in anticipation of futuredemand. If revenue from any significant customer were to decline substantially,we may be unable to offset this decline with increased revenue and gross marginfrom other customers and we may purchase excess inventories. These factorscould severely harm our business.

 

In addition, we may makea significant investment in long-lived assets for the production of ourproducts based upon historical and expected demand. If demand for our productsor gross margin generated from our products does not meet our expectations orif we are unable to collect amounts due from significant customers, we may berequired to write-off inventories, provide for uncollectible accountsreceivable or incur charges against long-lived assets, which would materiallyharm our business.

 

# *We may be unable to accuratelyestimate quarterly revenue, which could adversely affect the trading price ofour stock*

#  

We offer our customers ashort delivery lead time and a majority of our shipments during a quarter areordered by customers in that quarter. As a result, we often have low visibilityto the current quarter’s revenue and our revenue levels can changesignificantly in a short period of time. Furthermore, our ability to respond toincreased demand is limited to inventories on hand or on order, the capacityavailable at our contract manufacturers and our capacity to program products tocustomer specifications. In addition, a significant portion of our revenue isdeferred until our distributors ship unprogrammed parts to end customers sincethe price is not fixed or determinable until that time. Therefore, we arehighly dependent on the accuracy and timeliness of resale and inventory reportsfrom our distributors. Inaccurate distributor resale or inventory reports, aswell as unanticipated changes in distributor levels of inventory, couldcontribute to our difficulty in predicting and reporting our quarterly revenueand results of operations. If we fail to accurately estimate customer demand,record revenue, or if our available capacity is less than needed to meetcustomer demand, our results of operations could be harmed and our stock pricecould materially fluctuate.

 

# *We depend upon third parties tofabricate, assemble, test and program our products, and they may discontinuemanufacturing our products, fail to give our products priority, be unable tosuccessfully manufacture our products to meet performance, volume or costtargets, or inaccurately report inventories to us*

#  

We contract with thirdparties to fabricate, assemble, test and program our devices. Our devices aregenerally fabricated, assembled and programmed by single suppliers, and theloss of a supplier, transfer of manufacturing to a new location, expiration ofa supply agreement or the inability of our suppliers to manufacture ourproducts to meet volume, performance and cost targets could have a materialadverse effect on our business. We sell programmers to customers that aresupplied by a single source. Programming capacity at our subcontractors is alsodependent on our investment in sufficient programming hardware to meetfluctuating demand. Our relationship with our suppliers could change as aresult of a merger or acquisition. If for any reason these suppliers or anyother vendor becomes unable or unwilling to continue to provide services of acceptablequality, at acceptable costs and in a timely manner, our ability to operate ourbusiness or deliver our products to our customers could be severely impaired.We would have to identify and qualify substitute suppliers, which could be timeconsuming, difficult and result in unforeseen 

 

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operational problems, orwe could announce an end-of-life program for these products. Alternatesuppliers might not be available to fabricate, assemble, test and program ourdevices or, if available, might be unwilling or unable to offer services onacceptable terms. We have announced an end-of-life for several products, dueprimarily to certain suppliers’ decisions to stop manufacturing these products.End-of-life products contributed $1.6 million, or 18% of revenue, in the secondquarter of 2008. We currently do not expect these devices to contributesignificant revenue after the third quarter of 2008.

 

In addition, ifcompetition for wafer manufacturing capacity increases, if we need to migrateto more advanced wafer manufacturing technology, or if competition for assemblyservices increases, we may be required to pay or invest significant amounts tosecure access to this capacity. For example, between 2001 and 2002 we invested$21.3 million in equity and prepaid wafer credits to obtain guaranteed waferfabrication capacity at Tower Semiconductor. The number of companies thatprovide these services is limited and some of them have limited operatinghistories and financial resources. In the event our current suppliers refuse orare unable to continue to provide these services to us, or if we are unable tosecure sufficient capacity from our current suppliers on commerciallyreasonable terms, we may be unable to procure services from alternate suppliersin a timely manner, if at all. Moreover, our reliance on a limited number ofsuppliers subjects us to reduced control over delivery schedules, qualityassurance and costs. This lack of control may cause unforeseen productshortages or may increase our cost to manufacture and test our products, whichwould adversely affect our operating results and cash flows.

 

We record a majority ofour inventory transactions based on information from our subcontractors. If wedo not receive prompt and accurate information from our suppliers, we couldmisstate our inventories, incorrectly record gross profit, be unable to meetour delivery commitments to customers or commit to manufacturing inventoriesthat are not required to meet customer delivery commitments, which couldmaterially harm our business.

 

# *Our future results depend on ourrelationship with Tower*

#  

We have invested approximately$21.3 million in Tower. In return for our investment, we received equity,prepaid wafer credits, preferred wafer pricing and committed productioncapacity in Tower’s foundry facility. We believe that Tower’s long-termoperation of this fabrication facility depends on its ability to attractsufficient customer demand, to obtain additional financing, to increasecapacity, to obtain the release of grants and approvals for changes in grantprograms from the Israeli government’s Investment Center and its ability toremain in compliance with the terms of its grant and credit agreements. Thecurrent political uncertainty and security situation in the Middle East whereTower’s fabrication facility is located, the cyclical nature of the market forfoundry manufacturing services, Tower’s financial condition, or other factorsmay adversely impact Tower’s business prospects and may discourage futureinvestments in Tower from outside sources. If Tower is unable to obtainadequate financing and increase production output in a timely manner, the valueof our investment in Tower may decline significantly or possibly becomeworthless, our wafer credit from Tower may decline in value or possibly becomeworthless, and we would have to identify and qualify a substitute supplier tomanufacture our products. This could require significant development time,cause product shipment delays, impair long-lived assets and the value of ourwafer credits, damage our liquidity and severely harm our business. Inaddition, Tower is the sole manufacturer of our new products and other newproducts currently under development.

 

The value of ourinvestment in Tower and its corresponding wafer credits may also be adverselyaffected by a deterioration of conditions in the market for foundry manufacturingservices, the market for semiconductor products and Tower’s ability to remainin compliance with Nasdaq listing standards. If Tower does not remain incompliance with Nasdaq listing standards, the liquidity of our investment maybe adversely affected. We wrote down the Tower shares due to an “other thantemporary” decline in their market value by $417,000 in the second quarter of2008 and $13.7 million between fiscal 2001 and 2005. Additionally, wedetermined that the fair value of our wafer credits was deemed to be impaired,and recorded a $1.3 million charge during the second quarter of 2008. At theend of the second quarter of 2008, the value of our Tower investment was $1.2million and the value of our wafer credits recorded on our balance sheet was$1.1 million.

 

# *Our customers may cancel or changetheir product plans after we have expended substantial time and resources inthe design of their products*

#  

Our customers oftenevaluate our products for six months or more before designing them into theirsystems, and they may not commence volume shipments for up to an additional sixto twelve months, if at all. During this 

 

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lengthy sales cycle, ourpotential customers may cancel or change their product plans. Customers mayalso discontinue products incorporating our devices at any time or they maychoose to replace our products with lower cost semiconductors. In addition, weare working with leading customers in our target markets to define our futureproducts. If customers cancel, reduce or delay product orders from us or choosenot to release products that incorporate our devices after we have spentsubstantial time and resources developing products or assisting customers withtheir product design, our revenue levels may be less than anticipated and ourbusiness could be materially harmed.

 

# *If we fail to adequately forecastdemand for our products, we may incur product shortages or excess productinventories*

#  

Our agreements withcertain suppliers require us to provide forecasts of our anticipatedmanufacturing orders, and place binding manufacturing commitments in advance ofreceiving purchase orders from our customers. We are limited in our ability toincrease or decrease our forecasts under such agreements. Other manufacturerssupply us product on a purchase order basis. The allocation of capacity isdetermined solely by our suppliers over which we have no direct control.Additionally, we may place orders with our suppliers in advance of customerorders to allow us to quickly respond to changing customer demand or to obtainfavorable product costs. Furthermore, we provide our suppliers with equipmentwhich is used to program our products to customer specifications. Theprogramming equipment is manufactured to our specifications and has significantorder lead times. These factors may result in product shortages or excessproduct inventories. Obtaining additional supply in the face of product,programming equipment or capacity shortages may be costly, or not possible,especially in the short term since most of our products and programmingequipment are supplied by a single supplier. In the first half of 2008, wewrote down approximately $1.1 million of inventories due primarily to changesin forecasted demand. Our failure to adequately forecast demand for ourproducts could materially harm our business.

 

Our distributors orcustomers may cancel purchase orders at any time with little or no penalty.Contractually, our distributors are generally permitted to return unprogrammedproducts worth up to 10%, by value, of the products they purchase from us. Ifour distributors or customers cancel or defer significant purchase orders orreturn our products, our accounts receivable collections would decrease andinventories would increase, which would materially harm our business.

 

# *We are expending substantial timeand effort to develop solutions with partners that depend on the availabilityand success of technology owned by the partner*

#  

Our approach todeveloping solutions for potential customers involves: (1) embeddedprocessors developed by companies such as Marvell Semiconductor, Inc. andAnalog Devices, Inc.; (2) peripheral devices developed by otherparties such as micro hard disk drives, Wi-Fi devices and NAND flash memory; (3) proprietaryintellectual property such as key elements of our VEE technology; and (4) specificindustry standards such as USB 2.0 OTG, Serial Digital High Capacity, or SDHC,IDE and SDIO. We have entered into informal partnerships with other partiesthat involve the development of solutions that interface with their devices orstandards. These informal partnerships also may involve joint marketingcampaigns and sales calls. If our solutions are not incorporated into customerproducts, if our partners discontinue production of or develop and integrate acompeting solution into their product offerings, or if the informal partnershipsdo not grow as expected or if they are significantly reduced or terminated byacquisition or other means, our revenue and gross margin will be materiallyharmed and we may be required to write-off related inventories and long-livedassets.

 

# *We may be unable to successfullygrow our business if we fail to compete effectively with others to attract andretain key personnel*

#  

We believe our futuresuccess depends upon our ability to attract and retain highly competentpersonnel. Our employees are at-will and not subject to employment contracts.Hiring and retaining qualified sales, technical and financial personnel isdifficult due to the limited number of qualified professionals, economicconditions and the size of our company. Competition for these types ofemployees is intense. In addition, new hires frequently require extensivetraining before they achieve desired levels of productivity. Failure toattract, hire, train and retain personnel could materially harm our business.

 

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# *Fluctuations in our manufacturingprocesses, yields and quality, especially for new products, may increase ourcosts*

#  

Difficulties encounteredduring the complex semiconductor manufacturing process can render a substantialpercentage of semiconductor devices nonfunctional. New manufacturing techniquesor fluctuations in the manufacturing process may change the performance distributionand yield of our products. We have, in the past, experienced manufacturing runsthat have contained substantially reduced or no functioning devices, or thatgenerated devices with below normal performance characteristics. Our relianceon third party suppliers may extend the period of time required to analyze andcorrect these problems. Once corrected, our customers may be required toredesign or requalify their products. As a result, we may incur substantiallyhigher manufacturing costs, shortages of inventories or reduced customerdemand.

 

Yield fluctuationsfrequently occur in connection with the manufacture of newly introducedproducts, with changes in product architecture, with manufacturing at newfacilities, on new fabrication processes or in conjunction with new backendmanufacturing processes. Newly introduced solutions and products, such as ourCSSPs and ArcticLink and PolarPro solution platforms, are often more complexand more difficult to produce, increasing the risk of manufacturing relateddefects. New manufacturing facilities or processes are often more complex andtake a period of time to achieve expected quality levels and manufacturingefficiencies. While we test our products, including our software developmenttools, they may still contain errors or defects that are found after we havecommenced commercial production. Undetected errors or defects may also resultfrom new manufacturing processes or when new intellectual property isincorporated into our products. If our products or software development toolscontain undetected or unresolved defects, we may lose market share, experiencedelays in or loss of market acceptance, reserve or scrap inventories or berequired to issue a product recall. In addition, we would be at risk of productliability litigation if defects in our products were discovered. Although weattempt to limit our liability to end users through disclaimers of special,consequential and indirect damages and similar provisions, we cannot assure youthat such limitations of liability will be legally enforceable.

 

# *We have a history of losses andcannot assure you that we will again be profitable in the future*

#  

We incurred significantlosses in 2007, 2006 and certain years prior to 2005. Our accumulated deficitas of June 29, 2008 was $144.8 million. Although we recorded netincome of $2.4 million in 2005, we recorded a net loss of$6.1 million in the first half of 2008, and we may not return toprofitability in any future periods.

 

# *Ourfuture operating results are likely to fluctuate and therefore may fail to meetexpectations, which could cause our stock price to decline*

#  

Our operating resultshave varied widely in the past and are likely to do so in the future. Inaddition, our past operating results may not be an indicator of futureoperating results. Our future operating results will depend on many factors andmay fail to meet our expectations for a number of reasons, including those setforth in these risk factors. Any failure to meet expectations could cause ourstock price to significantly fluctuate or decline.

 

Factors that could cause our operating results tofluctuate include:

 

·                  the effect of end-of-life programs;

 

·                  a significant change in sales to, or thecollectability of accounts receivable from, our largest customers;

 

·                  successful development and marketacceptance of our products and solutions;

 

·                  our ability to accurately forecastproduct volumes and mix, and to respond to rapid changes in customer demand;

 

·                  changes in sales volume or expected salesvolume, product mix, average selling prices or production variances that affectgross profit;

 

·                  our ability to adjust our productfeatures, manufacturing capacity and costs in response to economic andcompetitive pressures;

 

·                  our reliance on subcontract manufacturersfor product capacity, yield and quality;

 

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·                  our competitors’ product portfolio andproduct pricing policies;

 

·                  timely implementation of efficientmanufacturing technologies;

 

·                  errors in applying or changes inaccounting and corporate governance rules;

 

·                  the issuance of equity compensationawards or changes in the terms of our stock plan or employee stock purchaseplan;

 

·                  mergers or acquisitions;

 

·                  the impact of import and export laws andregulations;

 

·                  the cyclical nature of the semiconductorindustry and general economic, market, political and social conditions in thecountries where we sell our products and the related effect on our customers,distributors and suppliers;

 

·                  our ability to obtain capital, debtfinancing and insurance on commercially reasonable terms; and

 

·                  the impact of restructuring activities.

 

During the second quarterwe realigned our resources to be consistent with our CSSP business model andincurred restructuring costs. The intent of the realignment is to lower ourfixed costs, reduce spending, provide a faster return to profitability, enableus to scale profits with revenue growth and provide the room to makediscretionary expenditures in response to market opportunities. The realignmentincludes outsourcing some development functions to lower our per projectdevelopment expense. The restructuring costs adversely affected our secondquarter financial performance. The restructuring costs we recorded in thesecond quarter of 2008 are only an estimate of charges and actual amounts maydiffer. While we believe the realignment enables us to accomplish our businessobjectives, the realignment could be disruptive to our business and causeactual results to differ from our expected results.

 

We may encounter periodsof industry wide semiconductor oversupply, resulting in pricing pressure, aswell as undersupply, resulting in a risk that we could be unable to fulfill ourcustomers’ requirements. The semiconductor industry has historically beencharacterized by wide fluctuations in the demand for, and supply of, itsproducts. These fluctuations have resulted in circumstances when supply of anddemand for semiconductors have been widely out of balance. An industry widesemiconductor oversupply could result in severe downward pricing pressure fromcustomers. In a market with undersupply of manufacturing capacity, we wouldhave to compete with larger foundry and assembly customers for limitedmanufacturing resources. In such an environment, we may be unable to have ourproducts manufactured in a timely manner, at a cost that generates adequategross profit or in sufficient quantities. Since we outsource all of ourmanufacturing and generally have a single source of wafer supply, test,assembly and programming for our products, we are particularly vulnerable tosuch supply shortages and capacity limitations. As a result, we may be unableto fulfill orders and may lose customers. Any future industry wide oversupplyor undersupply of semiconductors could materially harm our business.

 

Although certain of thesefactors are out of our immediate control, unless we can anticipate and be preparedwith contingency plans that respond to these factors, our business may bematerially harmed.

 

# *Problems associated withinternational business operations could affect our ability to manufacture andsell our products*

#  

Most of our products aremanufactured outside of the United States at manufacturing facilities operatedby our suppliers in Taiwan, South Korea, the Philippines, China and Israel. Weexpect to manufacture a majority of our new products and the products that wecurrently have under development in Israel and to assemble these products inSouth Korea or China. As a result, these manufacturing operations and newproduct introductions are subject to risks of political instability, includingthe risk of conflict between Taiwan and the People’s Republic of China, betweenSouth Korea and North Korea, and conflicts involving Israel.

 

A significant portion ofour total revenue comes from sales to customers located outside the UnitedStates. We anticipate that sales to customers located outside the United Stateswill continue to represent a significant portion of our total revenue in futureperiods. In addition, most of our domestic customers sell their productsoutside 

 

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of North America, therebyindirectly exposing us to risks associated with foreign commerce and economicinstability. In addition to overseas sales offices, we have significant researchand development activities in Canada and India. Accordingly, our operations andrevenue are subject to a number of risks associated with foreign commerce,including the following:

 

·                  managing foreign distributors andsuppliers;

 

·                  collecting amounts due;

 

·                  staffing and managing foreign offices;

 

·                  political and economic instability;

 

·                  foreign currency exchange fluctuations;

 

·                  changes in tax laws, import and exportregulations, tariffs and freight rates;

 

·                  timing and availability of exportlicenses;

 

·                  supplying products that meet localenvironmental regulations; and

 

·                  inadequate protection of intellectualproperty rights.

 

In the past, we havedenominated sales of our products to foreign countries exclusively in U.S.dollars. As a result, any increase in the value of the U.S. dollar relative tothe local currency of a foreign country will increase the price of our productsin that country so that our products become relatively more expensive tocustomers in their local currency. As a result, sales of our products in thatforeign country may decline. If the local currency of a foreign country inwhich we conduct business strengthens against the U.S. dollar, our payroll andother local expenses will be higher, and since sales are transacted in U.S.dollars, would not be offset by any increase in revenue. To the extent any suchrisks materialize, our business could be materially harmed.

 

In addition, we incurcosts in foreign countries that may be difficult to reduce quickly because ofemployee related laws and practices in those foreign countries.

 

# *Our CSSPs face competition fromsuppliers of ASSPs such as Cypress Semiconductor, suppliers of integratedapplication processors such as Qualcomm, and suppliers of ASICs such as LSILogic*

#  

We face competition fromcompanies that offer ASSPs, such as Cypress Semiconductor and OxfordSemiconductor. While it is difficult to provide a unique solution through theuse of ASSPs, they generally are cost effective standard products and haveshort lead times. In certain design opportunities, ASSPs can be combined toachieve system design objectives. Manufacturers of integrated applicationprocessors, such as Qualcomm, often integrate new features when they introducenew products. A system designer could elect the use of an integrated processorthat includes the features offered in our CSSPs. Companies such as LSI Logicsupply Application Specific Integrated Circuits, or ASICs, which may bepurchased for a lower price at higher volumes and typically have greater logiccapacity, additional features and higher performance than our products. Ourinability to successfully compete in any of the following areas couldmaterially harm our business:

 

·                  the development of new products, CSSPsand advanced manufacturing technologies;

 

·                  the quality, power characteristics,performance characteristics, price and availability of devices, programminghardware and software development tools;

 

·                  the ability to engage with companies thatprovide synergistic products and services;

 

·                  the incorporation of industry standardsin our products and solutions;

 

·                  the diversity of product offeringsavailable to customers; or

 

·                  the quality and cost effectiveness ofdesign, development, manufacturing and marketing efforts.

 

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# *Many system manufacturers may be unwilling to switch to ourproducts because of their familiarity with the products offered by our directcompetitors, such as Xilinx, Inc. and Altera Corporation, which competewith us in the sale of FPGAs*

#  

Companiesthat compete with our mature product family and end-of-life product family, andcertain new product opportunities, include suppliers of complex programmablelogic devices and field programmable gate arrays, such as Xilinx, Inc.,Altera Corporation, Actel Corporation and Lattice Semiconductor Corporation.Xilinx and Altera together have a majority share of the programmable logicmarket. Many system manufacturers may be unwilling or unable to switch to ourproducts due to their familiarity with competitors’ products or otherinhibiting factors.

 

Thesemiconductor industry is intensely competitive and characterized by:

 

·                  erosionof selling prices over product lives;

 

·                  rapidtechnological change;

 

·                  shortproduct life cycles; and

 

·                  strongdomestic and foreign competition.

 

Ifwe are not able to compete successfully in this environment, our business willbe materially harmed.

 

Manyof the companies that compete with CSSPs and our new product, mature andend-of-life families have substantially greater financial, technical,manufacturing, marketing, sales, distribution, name recognition and otherresources than we do. In addition, many of our competitors have wellestablished relationships with our current and potential customers and haveextensive knowledge of system applications. In the past, we have lost potentialcustomers to competitors for various reasons, including, but not limited to,re-programmability and lower price.

 

# *We depend upon third party distributors and independentsales representatives to market and sell our products, and they may discontinuesale of our products, fail to give our products priority or be unable tosuccessfully market, sell and support our products*

#  

Wecontract with third party distributors and independent sales representatives tomarket and sell a significant portion of our products. We typically have only afew distributors and a single representative serving each geographic marketand, in the future, we may have a single distributor covering a geographicmarket. Although we have contracts with our distributors and representatives,our agreements with them may be terminated on short notice by either party and,if terminated, we may be unable to recruit additional or replacementdistributors or representatives. As a result, our future performance willdepend in part on our ability to retain our existing distributors andrepresentatives and to attract new distributors and representatives that willbe able to effectively market, sell and support our products and solutions. Theloss of one or more of our principal distributors or representatives, or ourinability to attract new distributors or representatives, could materially harmour business.

 

Manyof our distributors and representatives, including our principal distributorsand representatives, market and sell products for other companies. Many ofthese products may compete directly or indirectly with our products andsolutions. Also, we generally are not one of the principal suppliers ofproducts to our distributors or representatives. If our distributors orrepresentatives give higher priority or greater attention to the products ofother companies, including products that compete with our products andsolutions, our business would be materially harmed.

 

Individualdistributors and OEMs often represent a significant portion of our accountsreceivable. If we are unable to collect funds due from these distributors andcustomers, due for instance to their financial health or the liquidity of theirinvestments, our financial results may be materially harmed.

 

# *We may be unable to adequately protect our intellectualproperty rights and may face significant expenses as a result of futurelitigation*

#  

Protectionof intellectual property rights is crucial to our business, since that is howwe keep others from copying the innovations that are central to our existingand future products. From time to time, we receive letters

 

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allegingpatent infringement or inviting us to license other parties’ patents. Weevaluate these requests on a case-by-case basis. These situations may lead tolitigation if we reject the offer to obtain the license.

 

Inthe past, we have been involved in litigation relating to our allegedinfringement of third party patents or other intellectual property rights. Thistype of litigation is expensive and consumes large amounts of management timeand attention. Additionally, matters that we initially consider not material toour business could become costly. In addition, if the letters we sometimesreceive alleging patent infringement or other similar matters result inlitigation that we lose, a court could order us to pay substantial damagesand/or royalties, and prohibit us from making, using, selling or importingessential technologies. For these and other reasons, this type of litigationcould materially harm our business.

 

Althoughwe may seek to obtain a license under a third party’s intellectual propertyrights in order to bring an end to certain claims or actions asserted againstus, we may not be able to obtain such a license on reasonable terms, or at all.We have entered into technology license agreements with third parties whichgive those parties the right to use patents and other technology developed byus and which give us the right to use patents and other technology developed bythem. We anticipate that we will continue to enter into these kinds oflicensing arrangements in the future; however, it is possible that desirablelicenses will not be available to us on commercially reasonable terms. If welose existing licenses to key technology, or are unable to enter into newlicenses that we deem important, our business could be materially harmed.

 

Becauseit is critical to our success that we continue to prevent competitors fromcopying our innovations, we intend to continue to seek patent and trade secretprotection for our products. The process of seeking patent protection can belong and expensive, and we cannot be certain that any currently pending orfuture applications will actually result in issued patents or that, even ifpatents are issued, they will be of sufficient scope or strength to providemeaningful protection or any commercial advantage to us. Furthermore, othersmay develop technologies that are similar or superior to our technology ordesign around the patents we own. We also rely on trade secret protection forour technology, in part through confidentiality agreements with our employees,consultants and other third parties. However, these parties may breach theseagreements and we may not have adequate remedies for any breach. In any case,others may come to know about or determine our trade secrets through a varietyof methods. In addition, the laws of certain territories in which we develop,manufacture or sell our products may not protect our intellectual propertyrights to the same extent as the laws of the United States.

 

# *We may engage in manufacturing, distribution or technologyagreements that involve numerous risks, including the use of cash, diversion ofresources and significant write-offs*

#  

Wehave entered into and, in the future, intend to enter into agreements thatinvolve numerous risks, including the use of significant amounts of our cash;diversion of resources from other development projects or market opportunities;our ability to incorporate licensed technology in our products and solutions;our ability to introduce related products in a cost effective and timelymanner; our ability to collect amounts due under these contracts; and marketacceptance of related products and solutions. If we fail to recover the cost ofthese or other assets from the cash flow generated by the related products, ourassets will become impaired and our financial results would be harmed.

 

# *Our business is subject to the risks of earthquakes, othercatastrophic events and business interruptions for which we may maintainlimited insurance*

#  

Ouroperations and the operations of our suppliers are vulnerable to interruptionby fire, earthquake, power loss, flood, terrorist acts and other catastrophicevents beyond our control. In particular, our headquarters are located nearearthquake fault lines in the San Francisco Bay Area. In addition, we rely onsole suppliers to manufacture our products and would not be able to qualify analternate supplier of our products for several quarters. Our suppliers oftenhold significant quantities of our inventories which, in the event of adisaster, could be destroyed. In addition, our business processes and systemsare vulnerable to computer viruses, break-ins and similar disruptions fromunauthorized tampering. Any catastrophic event, such as an earthquake or othernatural disaster, the failure of our computer systems, war or acts ofterrorism, could significantly impair our ability to maintain our records, payour suppliers, or design, manufacture or ship our products. The occurrence ofany of these events could also affect our customers, distributors and suppliersand produce similar disruptive effects upon their business. If there is an

 

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earthquakeor other catastrophic event near our headquarters, our customers’ facilities, ourdistributors’ facilities or our suppliers’ facilities, our business could beseriously harmed.

 

Wedo not have a detailed disaster recovery plan. In addition, we do not maintainsufficient business interruption and other insurance policies to compensate usfor all losses that may occur. Any losses or damages incurred by us as a resultof a catastrophic event or any other significant uninsured loss could have amaterial adverse effect on our business.

 

# *Our principal stockholders have significant voting power andmay vote for actions that may not be in the best interests of our otherstockholders*

#  

Ourofficers, directors and principal stockholders together control a significantportion of our outstanding common stock. As a result, these stockholders, if theyact together, will be able to significantly influence our operations, affairsand all matters requiring stockholder approval, including the election ofdirectors and approval of significant corporate transactions. Thisconcentration of ownership may have the effect of delaying or preventing achange in control and might affect the market price of our common stock. Thisconcentration of ownership may not be in the best interest of our otherstockholders.

#  

# *Our Shareholder Rights Plan, Certificate of Incorporation,Bylaws and Delaware law contain provisions that could discourage a takeoverthat is beneficial to stockholders*

#  

OurShareholder Rights Plan as well as provisions of our Certificate ofIncorporation, our Bylaws and Delaware law could make it difficult for a thirdparty to acquire us, even if doing so would be beneficial to our stockholders.

 

# *The market price of our common stock may fluctuatesignificantly and could lead to securities litigation*

#  

Stockprices for many companies in the technology and emerging growth sectors haveexperienced wide fluctuations that have often been unrelated to the operatingperformance of such companies. Our stock is thinly traded and the decisions bysignificant shareholders to acquire or dispose of our stock can have a materialimpact on our stock price. In the past, securities class action litigation hasoften been brought against a company following periods of volatility in themarket price of its securities. In the future, we may be the subject of similarlitigation. Securities litigation could result in substantial costs and divertmanagement’s attention.

 

# *Changes to existing accounting pronouncements or taxation rules orpractices may cause adverse revenue fluctuations, affect our reported financialresults or how we conduct our business*

#  

Generallyaccepted accounting principles are promulgated by, and are subject to theinterpretation of the FASB and the SEC. New accounting pronouncements ortaxation rules and varying interpretations of accounting pronouncements ortaxation practices have occurred and may occur in the future. Any futurechanges in accounting pronouncements or taxation rules or practices mayhave a significant effect on how we report our results and may even affect ourreporting of transactions completed before the change is effective. Inaddition, a review of existing or prior accounting practices may result in achange in previously reported amounts. This change to existing rules, futurechanges, if any, or the questioning of current practices may adversely affectour reported financial results, our ability to remain listed on the NasdaqGlobal Market, or the way we conduct our business and subject us to regulatoryinquiries or litigation.

 

*Compliance with regulations related to corporate governanceand public disclosure may result in additional expenses*

 

Federalsecurities laws, rules and regulations, as well as Nasdaq rules andregulations, require companies to maintain extensive corporate governancemeasures, impose comprehensive reporting and disclosure requirements, setstrict independence and financial expertise standards for audit and othercommittee members and impose civil and criminal penalties for companies andtheir chief executive officers, chief financial officers and directors forsecurities law violations. These laws, rules and regulations haveincreased and will continue to increase the scope, complexity and cost of ourcorporate governance, reporting and disclosure practices, which could harm ourresults of operations and divert management’s attention from businessoperations. We are committed to maintaining high standards of corporategovernance and public disclosure. If our efforts to comply with new or changedlaws,

 

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regulationsand standards differ from the activities intended by regulatory or governingbodies due to ambiguities related to practice, our reputation may be harmed andthe market price of our common stock could be affected.

 

# *While we believe that we currently have adequate internalcontrol procedures in place, we are still exposed to potential risks fromlegislation requiring companies to evaluate controls under Section 404 ofthe Sarbanes-Oxley Act of 2002*

#  

Ourmanagement is responsible for establishing and maintaining adequate internalcontrol over financial reporting. Internal control over financial reportingcannot provide absolute assurance of achieving financial reporting objectivesbecause of its inherent limitations. Internal control over financial reportingis a process that involves human diligence and compliance and is subject tolapses in judgment and breakdowns resulting from human failures. Internal controlover financial reporting also can be circumvented by collusion or impropermanagement override. Because of such limitations, there is a risk that materialmisstatements may not be prevented or detected on a timely basis by internalcontrol over financial reporting. However, these inherent limitations are knownfeatures of the financial reporting process. Therefore, it is possible todesign into the process safeguards to reduce, though not eliminate, this risk.

 

Wehave evaluated our internal control systems in order to allow management toreport on our internal control over financial reporting, as required by Section 404of the Sarbanes-Oxley Act. We performed the system and process evaluation andtesting required in an effort to comply with the management certification of Section 404.While we believe that our internal control procedures are adequate and weintend to continue to fully comply with the requirements relating to internalcontrol and all other aspects of Section 404, our controls necessary forcontinued compliance with the Sarbanes-Oxley Act may not operate effectively atall times and may result in a material control disclosure. The identificationof a material weakness in internal control over financial reporting, if any,could indicate a lack of proper controls to generate accurate consolidatedfinancial statements. Furthermore, we cannot be certain as to the outcome offuture evaluations, testing and remediation actions or the impact of the sameon our operations. If we are not able to remain in compliance with therequirements of Section 404, we might be subject to sanctions orinvestigation by regulatory authorities, such as the SEC or the Nasdaq GlobalMarket. Any such action could adversely affect our financial results and themarket price of our common stock.

 

# *We have implemented import and export control procedures tocomply with United States regulations but we are still exposed to potentialrisks from import and export activity*

#  

Ourproducts, solutions, technology and software are subject to import and exportcontrol laws and regulations which, in some instances, may impose restrictionson business activities, or otherwise require licenses or other authorizationsfrom agencies such as the U.S. Department of State, U.S. Department of Commerceand U.S. Department of the Treasury. These restrictions may impact deliveriesto customers or limit development and manufacturing alternatives. We haveimport and export licensing and compliance procedures in place for purposes ofconducting our business consistent with U.S. and applicable international lawsand regulations, and we periodically review these procedures to maintaincompliance with the requirements relating to import and export regulations. Ifwe are not able to remain in compliance with import and export regulations, wemight be subject to investigation, sanctions or penalties by regulatoryauthorities. Such penalties can include civil, criminal or administrativeremedies such as loss of export privileges. We cannot be certain as to theoutcome of an evaluation, investigation, inquiry or other action or the impactof these items on our operations. Any such action could adversely affect ourfinancial results and the market price of our common stock.

 

# *The Company, our directors and management have in the pastbeen named parties to lawsuits and may be subject to future litigation, whichcould result in an unfavorable outcome and have a material adverse effect onour business, financial condition, results of operations, cash flows and the tradingprice for our securities*

#  

TheCompany and certain of our directors and officers are named in a lawsuitrelating to the initial public offering laddering litigation. We may become thesubject of other private or government actions in the future. Litigation may betime consuming, expensive and disruptive to normal business operations and theoutcome of litigation is difficult to predict. Any expenses associated withlitigation or the outcome relating to any such actions could have a materialadverse effect on our business, financial condition, results of operations,cash flows and the trading price for our securities.

 

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

 

TheAnnual Meeting of Stockholders of QuickLogic was held on April 22,2008.  The following matters were voted upon at the meeting:

 

(i)                          The following nominees were elected to holdoffice as a Class III director until 2011:

 
| **Nominee**        | ** ** | **Votes For** | ** ** | **Votes Withheld** | ** ** |
|--------------------|------------|--------------------|------------|-------------------------|------------|
| E. Thomas  Hart    |       | 26,054,425         |       | 421,278                 |       |
| Christine  Russell |       | 25,965,151         |       | 510,552                 |       |
| Hide L.  Tanigami  |       | 25,585,276         |       | 890,427                 |       |

 

MichaelJ. Callahan, Arturo Krueger and Gary H. Tauss will continue to serve asdirectors. Additionally on April 22, 2008, the Board of Directors, uponrecommendation by the Nominating and Corporate Governance Committee, appointedMichael R. Farese to serve as a Class I director of the Company and memberof the Nominating and Corporate Governance Committee.

 

(ii)                       The ratification of PricewaterhouseCoopersLLP as the independent registered public accounting firm of QuickLogic for thefiscal year ending December 28, 2008.

 
| Votes For     |   | 26,329,936 |   |
|---------------|--------|------------|--------|
| Votes Against |   | 53,098     |   |
| Abstentions   |   | 92,668     |   |

 

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**Item 6. Exhibits**

 

a.     Exhibits

 

Thefollowing Exhibits are filed with this report:

 
| **Exhibit********Number** | ** ** | **Description** |
|---------------------------|------------|-----------------|
|                      |       |            |
|                      | 3.1(1)     |            | Amended  and Restated Certificate of Incorporation of Registrant. |
|                      | 3.2(2)     |            | Bylaws  of Registrant. |
|                      | 10.19      |            | Second  Amendment to Second Amended and Restated Loan and Security Agreement between  Silicon Valley Bank and the registrant effective June 27, 2008. |
|                      | 10.20      |            | Third  Amendment to Second Amended and Restated Loan and Security Agreement between  Silicon Valley Bank and the registrant effective July 31, 2008. |
|                      | 31.1       |            | CEO  Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|                      | 31.2       |            | CFO  Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|                      | 32         |            | CEO  and CFO Certifications pursuant to 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |

 

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(1)         Incorporated by reference to the Company’s Registration Statement on Form S-1declared effective October 14, 1999 (Commission File No. 333-28833).

(2)         Incorporated by reference to the Company’s Current Report on Form 8-K(Item 5.03) filed May 2, 2005.

 

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**Signatures**

 

Pursuantto the requirements of the Securities Exchange Act, as amended, the registranthas duly caused this report to be signed on its behalf by the undersignedthereunto duly authorized.

 
|                       | **QUICKLOGIC CORPORATION**                                         |
|----------------------------|--------------------------------------------------------------------|
|                       |                                                               |
|                       | /s/ CARL M. MILLS                                                  |
| Date:  August 7, 2008 | Carl M. Mills                                                      |
| * *                   | *Vice President, Finance and Chief Financial Officer*              |
| * *                   | *(as Principal Accounting and Financial Officer and  on behalf of* |
| * *                   | *Registrant)*                                                      |

 

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**EXHIBIT INDEX**

 
| **Exhibit********Number** | ** ** | **Description** |
|---------------------------|------------|-----------------|
|                      |       |            |
|                      | 3.1(1)     |            | Amended  and Restated Certificate of Incorporation of Registrant. |
|                      | 3.2(2)     |            | Bylaws  of Registrant. |
|                      | 10.19      |            | Second  Amendment to Second Amended and Restated Loan and Security Agreement between  Silicon Valley Bank and the registrant effective June 27, 2008. |
|                      | 10.20      |            | Third  Amendment to Second Amended and Restated Loan and Security Agreement between  Silicon Valley Bank and the registrant effective July 31, 2008. |
|                      | 31.1       |            | CEO  Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|                      | 31.2       |            | CFO  Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|                      | 32         |            | CEO  and CFO Certifications pursuant to 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |

 

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(1)         Incorporated by reference to the Company’s Registration Statement on Form S-1declared effective October 14, 1999 (Commission File No. 333-28833).

(2)         Incorporated by reference to the Company’s Current Report on Form 8-K(Item 5.03) filed May 2, 2005.

 

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