##### Table of Contents



UNITED
    STATES SECURITIES AND EXCHANGE COMMISSIONWashington, D.C.
    20549
  Form 10-K
  ANNUAL
    REPORT
    PURSUANT TO SECTIONS 13 OR 15(d)
    OF THE SECURITIES EXCHANGE ACT OF 1934
  (Mark One)þ

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
    SECURITIES EXCHANGE ACT OF 1934For the fiscal year ended
    December 31, 2006ORo

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
    SECURITIES EXCHANGE ACT OF 1934For the transition period
    from          to   Commission file number
    000-17157
 Novellus Systems,
    Inc.
 (Exact name of Registrant as
    specified in its charter)
  California

77-0024666(State or other jurisdiction
    of
    incorporation of organization)

(I.R.S. Employer
    Identification Number)   4000
    North First Street, San Jose, California 95134 (Address
    of principal executive offices including Zip
    code)
  (408) 943-9700 (Registrants
    telephone number, including area code)
  Securities
    registered pursuant to Section 12(b) of the Act
  Title of Each Class

Name of Each Exchange on Which RegisteredCommon Stock, no par value

The NASDAQ Stock Market LLC   Securities registered pursuant to Section 12(g) of the
    Act:
    None
  þ o
  o þ
  þ o
  Regulation S-K Form 10-K Form 10-K. þ
  Rule 12b-2
 þ o o
  Rule 12b-2 o þ
      DOCUMENTS
    INCORPORATED BY REFERENCE
  Form 10-K Form 10-K.




---



##### 



NOVELLUS
    SYSTEMS, INC.
  2006
    ANNUAL REPORT ON
    FORM 10-K
  TABLE OF
    CONTENTS
  
  PagePART IItem 1:


Business


2Item 1A:


Risk
    Factors


10Item 1B:


Unresolved Staff
    Comments


18Item 2:


Properties


18Item 3:


Legal
    Proceedings


19Item 4:


Submission of
    Matters to a Vote of Security Holders


20PART IIItem 5:


Market for
    Registrants Common Equity, Related Shareholder Matters and
    Issuer Purchases of Equity Securities


20Item 6:


Selected Financial
    Data


23Item 7:


Managements
    Discussion and Analysis of Financial Condition and Results of
    Operations


25Item 7A:


Quantitative and
    Qualitative Disclosures about Market Risk


40Item 8:


Financial
    Statements and Supplementary Data


43Item 9:


Changes in and
    Disagreements with Accountants on Accounting and Financial
    Disclosure


80Item 9A:


Controls and
    Procedures


80Item 9B:


Other
    Information


83PART IIIItem 10:


Directors,
    Executive Officers and Corporate Governance


83Item 11:


Executive
    Compensation


83Item 12:


Security Ownership
    of Certain Beneficial Owners and Management and Related
    Shareholder Matters


83Item 13:


Certain
    Relationships and Related Transactions, and Director
    Independence


84Item 14:


Principal
    Accountant Fees and Services


84PART IVItem 15:


Exhibits and
    Financial Statement Schedules


84Signatures


87EXHIBIT 10.23EXHIBIT 10.24EXHIBIT 10.25EXHIBIT 10.26EXHIBIT 21.1EXHIBIT 23.1EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32.1EXHIBIT 32.2




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##### Table of Contents



PART I  Form 10-K.
  Item 1.
    Business  The
    Company
      tm 200-year-old
  (408) 943-9700.
  www.novellus.com. Form 10-K, Form 10-Q, Form 8-K,
 2




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##### Table of Contents



Form 10-K
  Semiconductor
    Industry Background
             3




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##### Table of Contents



Semiconductor
    Business Strategy
    Emphasize High-Productivity Systems
  Be Recognized for our Technology in our Served Available
    Markets
  Focus on Reducing Customer Costs
  Broaden our Interconnect Offerings
  Differentiate our Service
  Expand Operational and Customer Support Presence in
    Asia
  Leverage our Low-Cost Manufacturing Structure
  Semiconductor
    Manufacturing Products
  Deposition
    Technologies
    ® ®
 4




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##### Table of Contents



®
  CVD
    Products
    HDP
    CVD Products
  Concept Two
    SPEED®
  Concept Three SPEED
  SPEED NExT
  W-CVD
    Products
  Concept Two
    ALTUS®
  Concept Three ALTUS
  ALTUS tm
  PECVD
    Products
  Concept Two
    SEQUEL®
    Express ® micron-and-smaller
  VECTOR®  nanometer-and-smaller
  SOLA ®
 5




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##### Table of Contents



sub-90
  PVD
    Products
    INOVA® ®
  INOVA®
    xT
  INOVA®
    NExT tm
  ECD
    Products
    SABRE®
  SABRE xT
  SABRE
    NExT tm
  SABRE
    Extreme tm
  Surface
    Preparation Technologies
    GAMMA tm 2100
 6




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##### Table of Contents



GAMMA®
    2130
  GAMMA®
    Express
  CMP
    Technologies
    MOMENTUM tm through-the-pad
  XCEDA tm through-the-pad
  Industrial
    Applications Group
    Marketing,
    Sales and Service
     7




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Customers
      Backlog
    Research
    and Development
        Manufacturing
   8




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Competition
      Patents
    and Proprietary Rights
     9




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##### Table of Contents



Employees
      Environmental
    Matters
    Item 1A.
    Risk
    Factors  Form 10-K
  Rapid
    technological change in the semiconductor industry requires
    substantial research and development expenditures and
    responsiveness to customer needs.
   10




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##### Table of Contents



Cyclical
    downturns in the semiconductor industry negatively impact demand
    for our equipment.
  and/or
  The
    competitive and capital-intensive nature of the semiconductor
    industry increases the difficulty of maintaining gross margin
    and maintaining and capturing market share.
   11




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We are
    exposed to risks associated with outsourcing activities, which
    could result in supply shortages that could affect our ability
    to meet customer demands.
    and/or
  The
    loss of key employees could harm our business and
    operations.
    We
    face risks related to concentration of net sales.
   12




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##### Table of Contents



We are
    exposed to the risks of global operations.
    
    Tariffs and other trade barriers;
    Challenges in staffing and managing foreign operations and
    providing prompt and effective field support to our customers
    outside of the United States;
    Difficulties in managing foreign distributors;
    Potentially adverse tax consequences, including withholding tax
    rules that may limit the repatriation of our earnings, and
    higher effective income tax rates in foreign countries where we
    conduct business;
    Governmental controls, either by the United States or other
    countries, that restrict our business overseas or the import or
    export of semiconductor products, or increase the cost of our
    operations;
    Longer payment cycles and difficulties in collecting accounts
    receivable outside of the United States;
    Inadequate protection or enforcement of our intellectual
    property and other legal rights in foreign jurisdictions;
    Global or regional economic downturns;
    Geo-political instability, natural disasters, acts of war or
    terrorism; and
    We enter into forward foreign exchange contracts to hedge
    against the short-term impact of currency fluctuations,
    specifically transactions denominated in Japanese yen, however,
    there is no assurance that our hedging program will be
    effective. Exchange rate volatility may also increase the cost
    of our exported products for international customers and inhibit
    demand.    We
    face risks related to intellectual property.
     13




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##### Table of Contents



Changes
    in tax rates or liabilities could negatively impact our future
    results.
    
    Changes in the regulatory environment;
    Changes in accounting and tax standards or practices; and
    Overall business conditions in the semiconductor equipment
    industry.  We are
    subject to litigation proceedings that could adversely affect
    our business.
  Intellectual
    Property Litigation
    Derivative
    Litigation
   14




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Other
    Litigation
    We are
    exposed to risks associated with our diversification
    strategy.
    We are
    exposed to risks associated with our investment
    activities.
  start-up
 15




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Corporate
    governance and financial reporting requirements have led and may
    continue to lead to increased costs and may make it more
    difficult to attract qualified executive officers and
    directors.
    We are
    exposed to risks related to our indemnification of third
    parties.
    We
    face risks related to changes in accounting standards for stock
    option plans.
    If our
    outside audit firm does not maintain its independence, we may be
    unable to meet our regulatory reporting
    obligations.
   16




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We
    face risks associated with acquisitions.
  and/or
  
    Difficulties in integrating the operations, technologies,
    products and personnel of acquired companies;
    Lack of synergies or the inability to realize expected synergies
    and cost-savings;
    Revenue and expense levels of acquired entities differing from
    those anticipated at the time of the acquisitions;
    Difficulties in managing geographically dispersed operations;
    The potential loss of key employees, customers and strategic
    partners of acquired companies;
    Claims by terminated employees, shareholders of acquired
    companies or other third parties related to the transaction;
    The issuance of dilutive securities, assumption or incurrence of
    additional debt obligations or expenses, or use of substantial
    portions of our cash;
    Diversion of managements attention from normal daily
    operations of the business; and
    The impairment of acquired intangible assets as a result of
    technological advancements, or
    worse-than-expected
    performance of acquired companies.    Our
    quarterly operating results and stock price are
    unpredictable.
    
    Building our systems according to forecast, instead of limited
    backlog information, which hinders our ability to plan
    production and inventory levels;
    Unpredictability of demand for and variability of mix of our
    products in our forecast, which can cause unexpected positive or
    negative inventory adjustments in a particular period;
    Variability in manufacturing yields;
    Failure to receive anticipated orders in time to permit shipment
    during the quarter;
    Timing and cancellation of customer orders and shipments,
    including deferring orders of our existing products due to new
    product announcements by us
    and/or our
    competitors;
    Changing demand for and sales of lower-margin products relative
    to higher-margin products;
    Competitive pricing pressures;
    The effect of revenue recognized upon acceptance with little or
    no associated costs; and
    Fluctuation in warranty costs.  Compliance
    with current and future environmental regulations may be
    costly.
   17




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##### Table of Contents



Item 1B.
    Unresolved
    Staff Comments    Item 2.
    Properties    # of




Operating





SquareBuildings


Location

Segment

Use

Ownership

Footage7


San Jose, CA

Semiconductor Group

Corporate Headquarters,
    Manufacturing, Research and Development, Engineering,
    Applications Demonstration Lab, Customer Support, Administration
    and Warehousing

Owned


491,0004


Tualatin, OR

Semiconductor Group

Manufacturing, Research and
    Development, Engineering, Customer Support, Administration and
    Warehousing

Owned


442,0001


Phoenix, AZ

Semiconductor Group

Manufacturing, Research and
    Development, Engineering, Customer Support, Administration and
    Warehousing

Leased


40,0001


Des Plaines, IL

Industrial Applications Group

Manufacturing, Research and
    Development, Engineering, Customer Support, Administration and
    Warehousing

Owned


41,0001


Plainville, MA

Industrial Applications Group

Research and Development,
    Engineering, Customer Support, and Warehousing

Owned


25,0001


Leicestershire, UK

Industrial Applications Group

Manufacturing, Customer Support,
    Administration and Warehousing

Owned


9,000 18




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##### Table of Contents



# of




Operating





SquareBuildings


Location

Segment

Use

Ownership

Footage1


Rendsburg, Germany

Industrial Applications Group

Manufacturing, Research and
    Development, Engineering, Customer Support, Administration and
    Warehousing

Owned


189,0001


Hauterive, Switzerland

Industrial Applications Group

Manufacturing, Research and
    Development, Customer Support and Administration

Owned


128,0001


La Chaux-de-Fonds,
    Switzerland

Industrial Applications Group

Manufacturing

Leased


13,000Total

Owned


1,325,000


Sq. Ft.Leased


53,000


Sq. Ft.           Item 3.
    Legal
    Proceedings  Linear
    Technology Corporation
    Derivative
    Litigation
  Joshua
    Teitelbaum, in the right of and for the benefit of Novellus
    Systems, Inc., v. Richard S. Hill, Jeffrey C. Benzing, D.
    James Guzy, Tom Long, Robert H. Smith, Neil R. Bonke, Youssef A.
    El-Mansy, J. David Litster, Yoshio Nishi, Glen G. Possley, Ann
    D. Rhoads, William R. Spivey and Delbert A. Whitaker, as
    defendants, and the Company as a Nominal Defendant
 19




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##### Table of Contents



Alaska Electrical Pension
    Fund, on behalf of Novellus Systems, Inc., v. Richard S.
    Hill, Jeffrey C. Benzing, William H. Kurtz, Neil R. Bonke,
    Youssef A. El-Mansy, J. David Litster, Yoshio Nishi, Glen G.
    Possley, Ann D. Rhoads, William R. Spivey and Delbert Whitaker,
    as defendants, and the Company as a Nominal Defendant
    Other
    Litigation
      Item 4.
    Submission
    of Matters to a Vote of Security Holders   PART II  Item 5.
    Market
    for Registrants Common Equity, Related Shareholder Matters
    and Issuer Purchases of Equity Securities  Stock
    Information
    2006High


LowFirst Quarter

$
30.62


$
23.85Second Quarter


26.57



22.28Third Quarter


28.91



22.55Fourth Quarter


35.00



26.13   20




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##### Table of Contents



2005High


LowFirst Quarter

$
30.18


$
24.66Second Quarter


27.33



23.43Third Quarter


29.13



24.57Fourth Quarter


26.02



21.36        21




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##### Table of Contents



5-year
  COMPARISON
    OF 5 YEAR CUMULATIVE TOTAL RETURN*
    Among Novellus Systems, Inc., The S & P 500 Index
    And The RDG Technology Composite Index
  
  *
    
    $100 invested on
    12/31/01 in
    stock or index-including reinvestment of dividends. Fiscal year
    ending December 31.  ©
  December 31,2001


2002


2003


2004


2005


2006Novellus Systems, Inc.

$
100.00


$
71.18


$
106.59


$
70.70


$
61.14


$
87.25S & P 500

$
100.00


$
77.90


$
100.24


$
111.15


$
116.61


$
135.03RDG Technology Composite

$
100.00


$
62.44


$
92.49


$
95.27


$
97.49


$
106.14      22




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##### Table of Contents



Item 6.
    Selected
    Financial Data    Selected
    Consolidated Financial Data
    Years Ended December 31,2006


2005


2004


2003


2002(In thousands, except per share data)Consolidated Statements of
    Operations Data:Net sales

$
1,658,516


$
1,340,471


$
1,357,288


$
925,070


$
839,958Gross profit


824,349
(1,2)


599,126
(4,5)


665,130
(6)


380,000
(8)


378,523Income (loss) before cumulative
    effect of change in accounting principle


189,068



110,107



156,690



(5,034
)


22,920Cumulative effect of change in
    accounting principle


948
(2)










(62,780
)(9)


Net income (loss)

$
190,016
(1,2,3)

$
110,107
(5)

$
156,690
(7)

$
(67,814
)(8)

$
22,920
(10,11)Per common share:Income (loss) before cumulative
    effect of change in accounting principleBasic

$
1.51


$
0.80


$
1.07


$
(0.03
)

$
0.16Diluted

$
1.49


$
0.80


$
1.06


$
(0.03
)

$
0.15Cumulative effect of change in
    accounting principle, net of taxBasic

$
0.01


$



$



$
(0.42
)

$
Diluted

$
0.01


$



$



$
(0.42
)

$
Net income (loss)Basic

$
1.52


$
0.80


$
1.07


$
(0.45
)

$
0.16Diluted

$
1.50
(1)

$
0.80


$
1.06


$
(0.45
)

$
0.15Shares used in basic per share
    calculations


125,286



137,447



145,956



150,680



144,371Shares used in diluted per share
    calculations


126,483



138,423



147,937



150,680



148,748   23




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##### Table of Contents



December 31,

2006


2005


2004


2003


2002Consolidated Balance Sheet
    Data:Cash, cash equivalents and
    short-term investments

$
853,328


$
654,983


$
592,187


$
1,009,312


$
1,023,454Working capital

$
1,143,924


$
1,019,168


$
1,045,294


$
1,350,906


$
1,252,324Total assets

$
2,362,492


$
2,290,249


$
2,401,832


$
2,338,900


$
2,493,994Long-term debt

$
127,862


$
124,858


$
161,103


$



$
Shareholders equity

$
1,834,705


$
1,779,283


$
1,861,834


$
2,071,860


$
2,055,688     (1)
    
    On January 1, 2006, we adopted SFAS 151, which
    increased gross profit by approximately $2.5 million. This
    resulted in an increase to net income of $1.5 million, net
    of tax, or $0.01 per diluted share for fiscal year 2006
    (see Recent Accounting Pronouncements of Item 7).(2)
    
    The fiscal year 2006 results include a $0.9 million, net of
    tax, benefit from the cumulative effect of a change in
    accounting principle due to the adoption of SFAS 123R (see
    Recent Accounting Pronouncements of Item 7). Stock-based
    compensation recorded in cost of sales, SG&A and R&D
    expenses increased by $0.7 million, $20.2 million and
    $9.9 million, respectively, from amounts recorded in 2005,
    primarily as a result of adopting SFAS 123R.(3)
    
    The fiscal year 2006 results include a pre-tax net restructuring
    charge of $10.7 million, a pre-tax charge of
    $3.3 million for a legal settlement and a tax charge of
    $46.1 million related to the implementation of a new global
    business structure. The tax charge was partially offset by an
    $8.5 million tax benefit attributable to the settlement of
    an IRS audit.(4)
    
    In 2005, we recorded a credit to cost of sales of approximately
    $15.1 million related to the sale of inventories previously
    written down.(5)
    
    In 2005, we recorded net restructuring and other charges of
    $9.2 million and inventory write-downs due to restructuring
    of $5.3 million.(6)
    
    In 2004, we recorded a credit to cost of sales of approximately
    $9.0 million related to the sale of inventories previously
    written down.(7)
    
    In 2004, we recorded net restructuring and other charges of
    $1.5 million, acquired in-process research and development
    write-offs of $6.1 million, net recovery from legal
    settlements of $2.6 million and the reversal of previously
    accrued royalty payments of $8.1 million.(8)
    
    We recorded $59.8 million of pre-tax charges for the year
    ended December 31, 2003 as a result of a restructuring plan
    to align our cost structure with business conditions. The
    charges consisted of an inventory write-down of
    $44.0 million (included in gross profit), asset write-offs
    of $7.9 million, facilities charges of $4.1 million,
    and severance of $3.8 million. In addition, we recorded a
    charge for litigation settlements of $2.7 million.(9)
    
    As a result of the early adoption of Financial Accounting
    Standards Board Interpretation No. 46, Consolidation
    of Variable Interest Entities, an Interpretation of ARB
    No. 51, we recorded a non-cash charge of
    $62.8 million, net of tax, for the year ended
    December 31, 2003, as a cumulative effect of a change in
    accounting principle from the consolidation of properties
    previously accounted for as synthetic leases.(10)
    
    We adopted Statement of Financial Accounting Standards
    No. 142, Goodwill and Other Intangible Assets
    (SFAS 142), in the first quarter of 2002. As a result of
    its adoption, we no longer amortize goodwill, which resulted in
    an increase in net income of $3.6 million for the year
    ended December 31, 2002.(11)
    
    We recorded $32.5 million of pre-tax charges for the year
    ended December 31, 2002 associated with restructuring and
    severance activities of $6.5 million, write-off of debt
    issuance costs of $17.0 million, and an acquired in-process
    research and development charge relating to the acquisition of
    SpeedFam-IPEC of $9.0 million. Additionally, we recorded a
    pre-tax benefit of $12.3 million for the year ended 24




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December 31, 2002 associated with the recovery of a
    previously written-off receivable of $7.7 million and a
    gain on the sale of an equity investment of $4.6 million.  Item 7.
    Managements
    Discussion and Analysis of Financial Condition and Results of
    Operations  Cautionary
    Note Regarding Forward-Looking Statements
  Form 10-K Form 10-K,
  Form 10-K
  
    Statements about the growth of the semiconductor industry;
    market size, share and demand (particularly demand for corporate
    and consumer electronic devices); product performance; our
    expectations, objectives, anticipations, intentions and
    strategies regarding the future; expected operating results,
    revenues and earnings; and current and potential litigation,
    which statements are subject to various uncertainties,
    including, without limitation, those discussed in
    Item 1A. Risk Factors;
    The statements under the heading Item 1.
    Business  Semiconductor Industry Background
    regarding our beliefs that (1) unit demand for
    semiconductor devices will continue to increase; (2) there
    is a trend toward increasing density of the integrated circuit;
    (3) there is a trend toward copper conductive material and
    away from aluminum wiring; (4) there is a trend toward
    low-k dielectric insulators and away from traditional silicon
    oxide insulating films; and (5) there is a trend toward
    larger wafer sizes, which statements are subject to various
    risks and uncertainties, including, without limitation, periodic
    downturns in the semiconductor industry; slowdowns in the rate
    of capital investment by semiconductor manufacturers; the
    inaccuracy of our expectations regarding the future direction of
    the semiconductor industry; and our inability to develop,
    improve and market products that respond to industry trends;
    The statements under the heading Item 1.
    Business  Semiconductor Business Strategy,
    concerning (1) our focus on reducing customer costs;
    (2) our intent to broaden our interconnect offerings;
    (3) our strategy to expand our market presence in, and our
    belief in future growth potential of, Asia; and (4) our
    plan to leverage our low cost manufacturing structure, which
    statements are subject to various risks and uncertainties,
    including, without limitation, shifts in demand from expensive,
    high-performance products to lower priced, conventional
    products, resulting in reduced profit for semiconductor
    manufacturers; increases in the costs of material, labor or
    conducting a global business, or inability to enhance our
    systems productivity, which may preclude us from
    containing costs to customers; the current and other periodic
    downturns in the semiconductor industry and the global or
    domestic economy; political or economic instability in Asia, and
    fluctuations in interest and foreign currency exchange rates;
    The statements under the heading Item 1.
    Business  Semiconductor Manufacturing Products
    of our beliefs in the performance and effectiveness of our
    products, including that we have an important advantage in
    extending copper/low-k processes to advanced semiconductor
    devices based on our understanding of interactions between
    planarization, deposition and surface preparation, which
    statements are subject to various risks and uncertainties,
    including, among others, the inaccuracy of our assessment of our
    products capabilities; technical difficulties which
    preclude our products from performing as expected;
    competitors greater financial, marketing, technical,
    customer service or other resources, broader product lines, and
    larger 25




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##### Table of Contents



and more established sales organizations and customer bases;
    future competition from new market entrants; competitors
    design and performance product improvements that may offer
    superior price or performance features over our products;
    difficulties integrating, developing and commercializing
    SpeedFam-IPEC CMP systems; and difficulties in selecting,
    developing, manufacturing and marketing our new products or
    enhancing our existing products;  
    The statements under the heading Item 1.
    Business  Marketing, Sales and Service of our
    beliefs that (1) our strategy of supporting our installed
    base through customer support and R&D groups has accelerated
    penetration of certain key accounts and (2) our marketing
    efforts are enhanced by the technical expertise of our R&D
    personnel, which statements are subject to certain risks and
    uncertainties, including, without limitation, that during
    periods of rapid growth, we may not be able to hire, assimilate
    and retain a sufficient number of qualified customer support and
    R&D personnel;
    The statement under the heading Item 1.
    Business  Research and Development regarding
    our belief that research and development expenditures will
    continue to represent a substantial percentage of sales, which
    statement is subject to certain risks and uncertainties,
    including, among others, that we may be unable to allocate
    substantial resources to research and development;
    The statements under the heading Item 1.
    Business  Manufacturing regarding (1) our
    belief that our outsourcing strategy enables us to minimize our
    fixed costs and capital expenditures while also providing the
    flexibility to increase capacity as needed and allows us to
    focus on product differentiation through system design and
    quality control; (2) our efforts to reduce our dependence
    on limited suppliers for certain key parts, which statements are
    subject to various risks and uncertainties, including, without
    limitation, the possible occurrence of a disruption or
    termination of certain limited source suppliers; a prolonged
    inability to obtain certain components imperative to our
    operations; our failure to work efficiently with suppliers; and
    our inability to establish relationships with alternative
    suppliers of key parts;
    The statement under the heading Item 1.
    Business  Competition regarding our belief as
    to our ability to compete favorably in our market segments,
    which statement is subject to various risks and uncertainties,
    including, among others, the greater financial, marketing,
    technical or other resources, broader product lines, greater
    customer service capabilities and larger and more established
    sales organizations and customer bases that some of our
    competitors possess; future competition from new market entrants
    from overseas and domestic sources; our competitors
    improvement of the design and performance of their products that
    may offer superior price or performance features as compared to
    our products; and our success in selecting, developing,
    manufacturing and marketing our new products or enhancing our
    existing products;
    The statements under the heading Item 1.
    Business  Patents and Proprietary Rights
    regarding our intentions (1) to vigorously protect our
    intellectual property rights; and our beliefs (2) that the
    outcomes of current litigation will not have a material impact
    on our business, financial condition or results of operations;
    and (3) that in the future, litigation may be necessary to
    enforce patents issued to us, to protect trade secrets or
    know-how owned by us or to defend us against claimed
    infringement of the rights of others and to determine the scope
    and validity of the intellectual property rights of others,
    which statements are subject to various risks and uncertainties,
    including, without limitation, the possibility that patents will
    not be issued from any of our pending applications or that
    claims allowed from existing or pending patents will not be
    sufficiently broad to protect our technology; the fact that
    litigation could result in substantial cost and diversion of our
    effort and the fact that adverse litigation determinations could
    result in a loss of our intellectual property rights, subject us
    to significant liabilities to third parties, require us to seek
    licenses from third parties or prevent us from manufacturing or
    selling our products;
    The statement under the heading Item 1.
    Business  Environmental Matters that federal,
    state and local provisions regulating discharge of materials
    into the environment and remedial agreements or other
    environmental actions are not expected to have a material effect
    on our capital expenditures, financial condition, results of
    operations or competitive position, which statement is subject
    to certain risks and uncertainties, including, among others,
    that we have inaccurately assessed the environmental impact of
    our activities or the compliance requirements of environmental
    provisions and agreements; 26




---



##### Table of Contents




    The statements under the headings Item 3. Legal
    Proceedings of our belief that the ultimate disposition of
    the Linear Technology Corporation, the derivative litigation
    actions and other litigation matters will not have a material
    adverse effect on the impact on our business, financial
    conditions or the overall trend in our results from operations,
    which statements are subject to various risks and uncertainties,
    including, without limitation, inherent uncertainty surrounding
    the litigation process and our inability to accurately predict
    the determination of complex issues of fact and law;
    The statement in Item 7. Managements Discussion
    and Analysis of Financial Condition and Results of
    Operations  Overview of Our Business and
    Industry that our close relationships with our customers
    and substantial investments in research and development position
    us for future growth, which statement is subject to numerous
    risks and uncertainties, including, without limitation, our
    inability to maintain our customer accounts, realize marketable
    products from our investments or attain market acceptance for
    new product introductions;
    The statements under the heading Item 7.
    Managements Discussion and Analysis of Financial Condition
    and Results of Operations  Net Sales and Research and
    Development (R&D) of our strategies, beliefs, plans,
    expectations and anticipations including, without limitation,
    (1) expansion of our market presence in Asia;
    (2) continuation of our R&D commitment to improvement
    of new products and enhancement of our current product lines;
    (3) significant investment in R&D in order to remain
    competitive, which statements are subject to numerous risks and
    uncertainties, including, without limitation, risks and
    uncertainties associated with international operations,
    including economic downturns, trade balance issues, political
    instability, banking issues, fluctuations in interest and
    foreign currency exchange rates in Asia; technical and
    operational difficulties with our products that result in
    continued increases in warranty costs; and our inability to
    allocate substantial resources to R&D programs;
    The statements under the heading Item 7.
    Managements Discussion and Analysis of Financial Condition
    and Results of Operations  Restructuring and
    Other Changes regarding our expectation that we can
    decrease expenses in 2007 as a result of the restructuring plans
    and our belief that we can sell certain owned facilities in
    San Jose, California within one year, which statements are
    subject to certain risks and uncertainties including, our
    inability to decrease depreciation expenses related to assets
    written off in 2006, as well as our inability to sell the
    San Jose, California facilities due to fluctuations in the
    real-estate market and lack of demand for such facilities;
    The statement under the heading Item 7.
    Managements Discussion and Analysis of Financial Condition
    and Results of Operations  Income Taxes
    regarding our expectation to achieve a lower tax rate as a
    result of the global structure, which statement is subject to
    certain risks and uncertainties including our inability to
    achieve a tax benefit from foreign losses;
    The statements under the heading Item 7.
    Managements Discussion and Analysis of Financial Condition
    and Critical Accounting Policies regarding the calculation
    of allowances, reserves, and other estimates that are based on
    historical experience, and various other assumptions that are
    believed to be reasonable under the circumstances, the results
    of which form the basis for making judgments about the carrying
    values of assets and liabilities that are not readily apparent
    from other sources, and the significant judgments of management
    that underlie the preparation of our consolidated financial
    statements including, without limitation, (1) realization
    of the majority of deferred tax assets due to anticipated future
    income; (2) the positive or negative impact on gross profit
    of possible revisions to estimated warranty liability; and
    (3) the lack of speculative risk in connection with our
    forward foreign exchange contracts, which statements are subject
    to certain risks and uncertainties, including, among others, the
    inaccuracy of our calculations, estimates, assumptions and
    judgments, regarding critical accounting policies; that actual
    and future product failure rates, material usage, installation
    costs, customer reserves or other estimates may differ from our
    historical experience, requiring revisions to our estimated
    doubtful account allowances, additional inventory write-downs,
    restructuring charges, litigation, warranty, and other reserves;
    the insufficiency of anticipated future income, whether due to a
    downturn in the semiconductor industry or increases in expenses;
    and the accuracy of our estimates and beliefs regarding warranty
    liability and foreign exchange contracts; 27




---



##### Table of Contents




    The statement in Item 7. Managements Discussion
    and Analysis of Financial Condition and Results of
    Operations  Off-Balance Sheet Arrangements that
    it is not probable that we will be required to pay any amounts
    under standby letters of credit arrangements or guarantee
    arrangements on behalf of our consolidated subsidiaries, which
    statement is subject to certain risks and uncertainties,
    including, without limitation, the inaccuracy of our assessment
    of our obligations under credit and guarantee arrangements;
    The statement in Item 7. Managements Discussion
    and Analysis of Financial Condition and Results of
    Operations  Purchase Commitments that we made
    adequate provision for potential exposure related to inventory
    on order which may go unused, which statement is subject to
    certain risks and uncertainties, including, without limitation,
    an unanticipated decline in demand that would increase our
    inventory-related exposure;
    The statement under the heading Item 7A. Quantitative
    and Qualitative Disclosures About Market Risk 
    Interest Rate Risk that we believe that an immediate
    change to interest rates to variable short-term borrowings will
    not have a material effect on our results, which statement is
    subject to certain risks and uncertainties, including, without
    limitation, that we have inaccurately assessed our future
    borrowing needs;
    The statement in Item 8. Financial Statements and
    Supplementary Data  Notes to Consolidated Financial
    Statements  Note 2. Significant Accounting
    Policies  Concentration and Other Risks
    regarding our expectation that sales of our products to a few
    customers will account for a high percent of our total system
    sales in the foreseeable future, which statement is subject to
    certain risks and uncertainties, including, without limitation,
    our inability to retain current customers due to unforeseeable
    market changes;
    Our statement in Item 8. Financial Statements and
    Supplementary Data  Notes to Consolidated Financial
    Statements  Note 5. Goodwill and Other
    Intangible Assets of our future estimated amortization
    expense for the identifiable intangible assets, which statement
    is subject to certain risks and uncertainties, including,
    without limitation, the accuracy of our accounting judgments and
    estimates underlying the amortization expense amount;
    Our statements in Item 8. Financial Statements and
    Supplementary Data  Notes to Consolidated Financial
    Statements  Note 14. Stock-Based Compensation
    and Employee Benefit Plans regarding estimates for
    evaluating the fair value of options granted on or after
    January 1, 2006, on a straight line basis, our calculations
    as to the expected term of options granted and the volatility of
    stock options at the date of grant using a combination of
    historical and implied volatilities related to SFAS 123R
    and SAB 107, and our expectation that the
    $49.3 million of total unrecognized compensation cost
    related to unvested stock options as of December 31, 2006
    will be recognized over a weighted-average period of
    2.7 years; which statements are subject to certain risk and
    uncertainties, including without limitation uncertainties
    related to historical data and market volatility, our inability
    to accurately estimate the fair market value of the options
    granted over time and our inability to calculate the period over
    which we can recognize the unrecognized compensation costs
    related to unvested stock options.  Introduction
    
    Overview of Our Business and Industry;
    Results of Operations;
    Critical Accounting Policies;
    Liquidity and Capital Resources;
    Off-Balance Sheet Arrangements;
    Contractual Obligations; 28




---



##### Table of Contents




    Related Parties; and
    Recent Accounting Pronouncements.  Overview
    of Our Business and Industry
    200-year-old
   29




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##### Table of Contents



Quarterly Financial DataFirst


Second


Third


Fourth


Year EndedQuarter


Quarter


Quarter


Quarter


December 31,2006:Net sales

$
365,906


$
410,073


$
444,032


$
438,505


$
1,658,516Gross profit

$
167,540


$
204,764


$
226,525


$
225,520


$
824,349Income before cumulative effect of
    a change in accounting principle

$
23,769


$
52,705


$
70,020


$
42,574


$
189,068Net income

$
24,717


$
52,705


$
70,020


$
42,574


$
190,016Diluted net income per share
    before cumulative effect of a change in accounting principle

$
0.18


$
0.42


$
0.57


$
0.34


$
1.49Diluted net income per share

$
0.19


$
0.42


$
0.57


$
0.34


$
1.50Net orders

$
416,770


$
457,545


$
470,322


$
441,620


$
1,786,2572005:Net sales

$
339,740


$
329,585


$
338,878


$
332,268


$
1,340,471Gross profit

$
153,869


$
157,562


$
147,194


$
140,501


$
599,126Net income

$
30,471


$
33,231


$
23,415


$
22,990


$
110,107Diluted net income per share

$
0.22


$
0.24


$
0.17


$
0.17


$
0.80Net orders

$
301,594


$
309,214


$
286,929


$
351,018


$
1,248,7552004:Net sales

$
262,862


$
338,219


$
415,935


$
340,272


$
1,357,288Gross profit

$
124,605


$
169,680


$
201,111


$
169,734


$
665,130Net income

$
16,681


$
37,811


$
64,662


$
37,536


$
156,690Diluted net income per share

$
0.11


$
0.25


$
0.45


$
0.27


$
1.06Net orders

$
346,793


$
397,598


$
422,692


$
331,347


$
1,498,430      30




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##### Table of Contents



Results
    of Operations
  Net
    Sales
  Years Ended December 31,


% Change


% Change2006


2005


2004


in 2006


in 2005(Dollars in thousands)Net sales

$
1,658,516


$
1,340,471


$
1,357,288



24
%


(1
)%International net sales %


72
%


73
%


77
%       Years Ended December 31,2006


2005


2004North America


28%



27%



23%Europe


9%



11%



9%Asia


63%



62%



68%    31




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##### Table of Contents



Gross
    Profit
  Years Ended December 31,


% Change


% Change2006


2005


2004


in 2006


in 2005(Dollars in thousands)Gross profit

$
824,349


$
599,126


$
665,130



38
%


(10
)%% of net sales


50
%


45
%


49
%         Selling,
    General and Administrative (SG&A)
  Years Ended December 31,


% Change


% Change2006


2005


2004


in 2006


in 2005(Dollars in thousands)SG&A expense

$
261,389


$
206,939


$
194,652



26
%


6
%% of net sales


16
%


15
%


14
%        32




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##### Table of Contents



Research
    and Development (R&D)
  Years Ended December 31,


% Change


% Change2006


2005


2004


in 2006


in 2005(Dollars in thousands)R&D expense

$
244,201


$
247,315


$
252,083



(1
)%


(2
)%% of net sales


15
%


18
%


19
%       Acquired
    In-Process Research and Development (IPR&D)
  Years Ended December 31,2006


2005


2004(Dollars in thousands)IPR&D expense

$



$



$
6,124% of net sales


0
%


0
%


less than 1
%     Legal
    Settlement
  Years Ended December 31,2006


2005


2004(Dollars in thousands)Legal settlement

$
3,250


$



$
5,400% of net sales


less than 1
%


0
%


less than 1
%     Restructuring
    and Other Charges
  Years Ended December 31,2006


2005


2004(Dollars in thousands)Restructuring and other charges

$
10,735


$
9,175


$
1,484% of net sales


1
%


1
%


less than 1
%    33




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##### Table of Contents



Interest
    and Other Income, net
  Years Ended December 31,


% Change


% Change2006


2005


2004


in 2006


in 2005(Dollars in thousands)Interest and other income, net

$
34,145


$
22,916


$
17,804



49
%


29
%% of net sales


2
%


2
%


1
%       Income
    Taxes
  non-U.S. customers.
 34




---



##### Table of Contents



Critical
    Accounting Policies
    Revenue
    Recognition
    00-21,
   35




---



##### Table of Contents



Inventory
    Valuation
  work-in-process,
  Goodwill
    and Other Intangible Assets
      Deferred
    Tax Assets
    Warranty
    Obligations
    Restructuring
    and Impairment Charges
   36




---



##### Table of Contents



No. 95-3,
  Hedge
    Accounting for Derivatives
    Stock-Based
    Compensation Expense
    Litigation
    Liquidity
    and Capital Resources
     37




---



##### Table of Contents



Off-Balance
    Sheet Arrangements
  Standby
    Letters of Credit
   38




---



##### Table of Contents



Guarantee
    Arrangements
  line-of-credit
  Contractual
    Obligations
      Years Ending December 31,


Sublease


Net2007


2008


2009


2010


2011


Thereafter


Income


Total(In thousands)Non-cancelable operating leases

$
8,936


$
8,382


$
7,957


$
7,827


$
7,693


$
24,875


$
(24,185
)

$
41,485     Years Ending December 31,2008


2009


2010


2011


Thereafter(In thousands)Long-term debt obligations

$
38


$
126,627


$
38


$
38


$
1,121     Purchase
    Commitments
    Recent
    Accounting Pronouncements
   39




---



##### Table of Contents



No. 06-2, 06-2), 06-2 06-2
        Item 7A.
    Quantitative
    and Qualitative Disclosures about Market Risk  Interest
    Rate Risk
     40




---



##### Table of Contents



Periods of MaturityLess than


1 to 3


3 to 5


5 to 10


Over 10


20061 Year


Years


Years


Years


Years


Total(In thousands)Assets:Cash and cash equivalents

$
58,463


$



$



$



$



$
58,463Average interest rate


5.30
%


















5.30
%Short-term investments

$
199,980


$
49,016


$
4,845


$
12,875


$
522,998


$
789,714Average interest rate


4.89
%


5.06
%


5.82
%


5.71
%


5.76
%


5.51
%Restricted cash and cash
    equivalents

$
143,769


$



$



$



$



$
143,769Average interest rate


5.33
%


















5.33
%Liabilities:Short-term borrowings

$
19,480


$



$



$



$



$
19,480Average interest rate


2.34
%


















2.34
%Long-term borrowings

$



$
126,665


$
76


$
190


$
931


$
127,862Average interest rate






3.83
%


4.00
%


4.00
%


4.00
%


3.83
%   Periods of MaturityLess than


1 to 3


3 to 5


5 to 10


Over 10


20051 Year


Years


Years


Years


Years


Total(In thousands)Assets:Cash and cash equivalents

$
40,403


$



$



$



$



$
40,403Average interest rate


3.77
%


















3.77
%Short-term investments

$
173,708


$
140,448


$
10,940


$
10,685


$
273,056


$
608,837Average interest rate


3.65
%


4.35
%


4.99
%


5.18
%


4.98
%


4.46
%Restricted cash and cash
    equivalents

$
140,212


$



$



$



$



$
140,212Average interest rate


4.28
%


















4.28
%Liabilities:Short-term borrowings

$
15,744


$



$



$



$



$
15,744Average interest rate


0.83
%


















0.83
%Long-term borrowings

$



$
115


$
123,750


$
229


$
764


$
124,858Average interest rate






4.00
%


2.63
%


4.00
%


4.00
%


2.65
%    41




---



##### Table of Contents



Foreign
    Currency Risk
    December 31, 2006Notional


Average


Estimated Fair(Buy) Sell


Contract Rate


Value-Gain (Loss)(In thousands, except for average contract rate)Foreign currency forward exchange
    contracts:Japanese yen

$
142,963



106.23


$
3,047Swiss franc


1,966



1.21



0Singapore dollar


(6,443
)


1.53



1Other


(7
)






(16
)$
138,479






$
3,032   December 31, 2005Notional


Average


Estimated Fair(Buy) Sell


Contract Rate


Value-Gain (Loss)(In thousands, except for average contract rate)Foreign currency forward exchange
    contracts:Japanese yen

$
156,555



105.81


$
13,267British pound


(5,026
)


0.60



1Euro


(15,974
)


0.84



(184
)Swiss franc


1,395



1.31



(3
)Sinapore dollar


(13,753
)


1.66



(15
)Taiwanese dollar


657



33.06



1Chinese renminbi


(2,040
)


8.03



(11
)Malaysian ringget


(2,341
)


3.77



(7
)Korean won


(12,304
)


1,012.10



(7
)$
107,169






$
13,042  42




---



##### Table of Contents



Item 8.
    Financial
    Statements and Supplementary Data  NOVELLUS
    SYSTEMS, INC.
  CONSOLIDATED
    STATEMENTS OF OPERATIONS
  Years Ended December 31,2006


2005


2004(In thousands, except per share data)Net sales

$
1,658,516


$
1,340,471


$
1,357,288Cost of sales


834,167



741,345



692,158Gross profit


824,349



599,126



665,130Operating expenses:Selling, general and administrative


261,389



206,939



194,652Research and development


244,201



247,315



252,083Acquired in-process research and
    development










6,124Legal settlement


3,250







5,400Restructuring and other charges


10,735



9,175



1,484Total operating expenses


519,575



463,429



459,743Operating income


304,774



135,697



205,387Interest income


27,782



20,738



11,578Interest expense


(4,290
)


(3,510
)


(2,133
)Other income, net


10,653



5,688



8,359Interest and other income, net


34,145



22,916



17,804Income before provision for income
    taxes and cumulative effect of a change in accounting principle


338,919



158,613



223,191Provision for income taxes


149,851



48,506



66,501Income before cumulative effect of
    a change in accounting principle


189,068



110,107



156,690Cumulative effect of a change in
    accounting principle, net of tax of $594


948







Net income

$
190,016


$
110,107


$
156,690Net income per share:Basic:Income before cumulative effect of
    a change in accounting principle

$
1.51


$
0.80


$
1.07Cumulative effect of a change in
    accounting principle


0.01







Basic net income per share

$
1.52


$
0.80


$
1.07Diluted:Income before cumulative effect of
    a change in accounting principle

$
1.49


$
0.80


$
1.06Cumulative effect of a change in
    accounting principle


0.01







Diluted net income per share

$
1.50


$
0.80


$
1.06Shares used in basic per share
    calculations


125,286



137,447



145,956Shares used in diluted per share
    calculations


126,483



138,423



147,937    43




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  CONSOLIDATED
    BALANCE SHEETS
  December 31,2006


2005(In thousands)ASSETSCurrent assets:Cash and cash equivalents

$
58,463


$
40,403Short-term investments


794,865



614,580Accounts receivable, net of
    allowance for doubtful accounts of $1,753 in 2006 and $987 in
    2005


310,888



391,791Inventories


198,571



193,787Deferred tax assets, net


102,266



88,563Assets held for sale


21,966



Prepaid and other current assets


18,274



34,388Total current assets


1,505,293



1,363,512Property and equipment, net


364,599



423,749Restricted cash and cash
    equivalents


143,769



140,212Goodwill


225,431



255,584Intangibles and other assets


123,400



107,192Total assets

$
2,362,492


$
2,290,249LIABILITIES AND
    SHAREHOLDERS EQUITYCurrent liabilities:Accounts payable

$
76,406


$
83,710Accrued payroll and related
    expenses


81,836



57,450Accrued warranty


55,349



54,553Other accrued liabilities


48,068



58,271Income taxes payable


38,879



5,898Deferred profit


41,351



68,718Current obligations under lines of
    credit


19,480



15,744Total current liabilities


361,369



344,344Long-term debt


127,862



124,858Other non-current liabilities


38,556



41,764Total liabilities


527,787



510,966Commitments and contingencies
    (Notes 10 and 11)Shareholders equity:Preferred stock, no par value;
    authorized shares  10,000; issued and outstanding
    shares  none






Common stock, no par value;
    authorized shares  240,000; issued and outstanding
    shares  125,452 in 2006 and 132,820 in 2005


1,393,914



1,418,747Deferred stock compensation






(24,942
)Retained earnings


438,196



388,015Accumulated other comprehensive
    income (loss)


2,595



(2,537
)Total shareholders equity


1,834,705



1,779,283Total liabilities and
    shareholders equity

$
2,362,492


$
2,290,249    44




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  CONSOLIDATED
    STATEMENTS OF CASH FLOWS
  Years Ended December 31,2006


2005


2004(In thousands)Cash flows from operating
    activities:Net income

$
190,016


$
110,107


$
156,690Adjustments to reconcile net income
    to net cash provided by operating activities:Gain on sale of equity investments










(303
)Loss on disposal of fixed assets


1,699



2,182



1,650Non-cash portion of restructuring
    and other charges


10,199



14,337



(7,779
)Depreciation and amortization


69,729



82,776



89,244Deferred income taxes


20,790



22,858



39,025Stock-based compensation


34,941



4,209



4,093Acquired in-process research and
    development










6,124Tax benefit from stock-based
    compensation


29,656



4,132



Excess tax benefit from stock-based
    compensation


(15,612
)






Cumulative effect of a change in
    accounting principle


(1,542
)






Changes in operating assets and
    liabilities:Accounts receivable, net


82,539



(6,167
)


(146,073
)Inventories


(12,174
)


52,884



(46,072
)Prepaid and other assets


27,085



(10,421
)


(5,703
)Accounts payable


(7,764
)


1,580



10,916Accrued payroll and related expenses


27,306



(3,541
)


31,350Accrued warranty


501



8,795



14,718Other liabilities


(18,259
)


(2,011
)


3,415Income taxes payable


35,595



(5,945
)


3,747Deferred profit


(27,552
)


(2,219
)


24,160Net cash provided by operating
    activities


447,153



273,556



179,202Cash flows from investing
    activities:Proceeds from sales of short-term
    investments


672,263



329,434



629,378Proceeds from maturities of
    short-term investments


197,464



395,806



246,799Purchases of short-term investments


(1,045,876
)


(853,334
)


(849,558
)Capital expenditures


(39,384
)


(44,744
)


(31,732
)Proceeds from sale of property and
    equipment


2,235



2,676



Decrease (increase) in other assets


(16,603
)


3,003



(11,226
)Decrease (increase) in restricted
    cash and cash equivalents


(3,557
)


36,496



(173,847
)Purchase of Voumard Machine, Co.
    SA, net of cash acquired


(765
)


(5,384
)


Purchase of Peter Wolters AG, net
    of cash acquired










(142,916
)Net cash used in investing
    activities


(234,223
)


(136,047
)


(333,102
)Cash flows from financing
    activities:Proceeds from employee stock
    compensation plans


42,383



29,864



38,706Proceeds (repayments) from lines of
    credit, net


4,193



12,726



(10,044
)Proceeds from long-term debt










153,115Payments on long-term debt


(10,194
)


(19,902
)


(10,362
)Repurchases of common stock


(249,864
)


(226,652
)


(410,188
)Excess tax benefit from stock-based
    compensation


15,612







Net cash used in financing
    activities


(197,870
)


(203,964
)


(238,773
)Effects of exchange rate changes on
    cash and cash equivalents


3,000



741



1,612Net change in cash and cash
    equivalents


18,060



(65,714
)


(391,061
)Cash and cash equivalents at
    beginning of period


40,403



106,117



497,178Cash and cash equivalents at end of
    period

$
58,463


$
40,403


$
106,117Supplemental disclosures:Cash paid during the year for:Interest

$
3,850


$
4,136


$
1,425Income taxes, net

$
65,238


$
14,263


$
23,908    45




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  CONSOLIDATED
    STATEMENTS OF SHAREHOLDERS EQUITY
  AccumulatedOtherComprehensive


TotalCommon Stock


Deferred


Retained


Income


ShareholdersShares


Amount


Compensation


Earnings


(Loss)


Equity(In thousands)Balance at December 31, 2003


152,899


$
1,574,239


$
(8,313
)

$
501,362


$
4,572


$
2,071,860Components of comprehensive income:Net income














156,690







156,690Net change in unrealized loss on
    marketable securities


















(571
)


(571
)Less: reclassification adjustment
    for gain on sale of marketable securities


















(303
)


(303
)Foreign currency translation
    adjustments, net of tax of $4,194


















1,547



1,547Comprehensive income






















157,363Issuance of common stock under
    employee compensation plans, net


1,731



38,847







(141
)






38,706Issuance of restricted common
    stock, net


450



12,939



(12,939
)










Amortization of deferred
    compensation










4,093











4,093Repurchases of common stock


(14,774
)


(152,196
)






(257,992
)






(410,188
)Balance at December 31, 2004


140,306



1,473,829



(17,159
)


399,919



5,245



1,861,834Components of comprehensive income:Net income














110,107







110,107Net change in unrealized loss on
    marketable securities


















(903
)


(903
)Foreign currency translation
    adjustments, net of tax of $(2,495)


















(6,879
)


(6,879
)Comprehensive income






















102,325Issuance of common stock under
    employee compensation plans, net


1,901



33,658







(223
)






33,435Income tax benefits realized from
    activity in employee stock plans






4,132















4,132Issuance of restricted common
    stock, net


538



11,992



(11,992
)










Amortization of deferred
    compensation










4,209











4,209Repurchases of common stock


(9,925
)


(104,864
)






(121,788
)






(226,652
)Balance at December 31, 2005


132,820



1,418,747



(24,942
)


388,015



(2,537
)


1,779,283Components of comprehensive income:Net income














190,016







190,016Net change in unrealized loss on
    marketable securities


















2,114



2,114Foreign currency translation
    adjustments, net of tax of $123


















4,225



4,225Net change in unrealized loss on
    derivative instruments


















(329
)


(329
)Net change in unrealized loss on
    pension, net of tax of $369


















(878
)


(878
)Comprehensive income






















195,148Reclassification of deferred
    compensation balance to common stock






(24,942
)


24,942











Issuance of common stock under
    employee compensation plans, net


2,985



46,560







(238
)






46,322Income tax benefits realized from
    activity in employee stock plans






29,656















29,656Stock based compensation






34,160















34,160Repurchases of common stock


(10,353
)


(110,267
)






(139,597
)






(249,864
)Balance at December 31, 2006


125,452


$
1,393,914


$



$
438,196


$
2,595


$
1,834,705    46




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL STATEMENTS
  Note 1.  Description
    of the Business
        Note 2.  Significant
    Accounting Policies
  Principles
    of Consolidation and Basis of Presentation
      Earnings
    per Share
     47




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
      Years Ended December 31,2006


2005


2004(In thousands, except per share amounts)Numerator:Net income

$
190,016


$
110,107


$
156,690Denominator:Basic weighted-average shares
    outstanding


125,286



137,447



145,956Employee stock options and other


1,197



976



1,981Diluted weighted-average shares
    outstanding


126,483



138,423



147,937Basic net income per share

$
1.52


$
0.80


$
1.07Diluted net income per share

$
1.50


$
0.80


$
1.06     Revenue
    Recognition
    00-21,
   48




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     Cash,
    Cash Equivalents and Short-Term Investments
  available-for-sale
  Restricted
    Cash and Cash Equivalents
    Allowance
    for Doubtful Accounts
    Inventories
    and Inventory Valuation
  (first-in, work-in-process,
  Deferred
    Tax Assets
   49




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
   Property
    and Equipment
    Machinery and equipment

3  10 yearsFurniture and fixtures

5  10 yearsBuildings

30  40 yearsBuilding improvements

Shorter of useful life or
    remaining lease term   Goodwill
    and Other Intangible Assets
    Warranty
    Restructuring
    and Impairment Charges
      Contingencies
    and Litigation
   50




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
   Foreign
    Currency Translation
  non-U.S. functional
  Derivatives
    Cash Flow
    Hedging
      OCI(In thousands)Balance as of January 1, 2006

$
Net change on cash flow hedges


(2,135
)Reclassification to cost of sales


1,806Balance as of December 31,
    2006

$
(329
)     Net
    Investment Hedging
   51




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
   Non-Designated
    Hedges
    Shipping
    and Handling Costs
    Advertising
    Expenses
    Concentrations
    and Other Risks
          Recent
    Accounting Pronouncements
   52




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
      No. 06-2, 06-2), 06-2 06-2
       53




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
   Note 3.  Financial
    Instruments
  Short-term
    investments
    December 31, 2006Gross


GrossUnrealized


Unrealized


Estimated FairCost


Gains


Losses


Value(In thousands)Municipal securities

$
246,019


$
9


$
(676
)

$
245,352Tax-exempt auction rate notes


529,521











529,521Other


13,950



891







14,841Total

$
789,490


$
900


$
(676
)

$
789,714   December 31, 2005Gross


GrossUnrealized


Unrealized


Estimated FairCost


Gains


Losses


Value(In thousands)U.S. Government agencies

$
5,000


$



$
(20
)

$
4,980Municipal securities


344,932



2



(1,924
)


343,010Tax-exempt auction rate notes


252,730











252,730Other


8,065



52







8,117Total

$
610,727


$
54


$
(1,944
)

$
608,837       December 31, 2006

Amount(In thousands)Due in less than one year

$
343,749Due in 1 to 3 years


49,016Due in 3 to 5 years


4,845Due in 5 to 10 years


12,875Due in greater than 10 years


522,998Total

$
933,483    54




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     In Loss Position for Less


In Loss Position forThan 12 Months


12 Months or Greater


TotalFair


Unrealized


Fair


Unrealized


Fair


UnrealizedValue


Losses


Value


Losses


Value


Losses(In thousands)Municipal securities

$
42,958


$
(37
)

$
127,783


$
(639
)

$
170,741


$
(676
)     Fair
    Value of Other Financial Instruments
    December 31,2006


2005Carrying


Estimated Fair


Carrying


Estimated FairValue


Value


Value


Value(In thousands)Restricted cash & cash
    equivalents  non- current

$
143,769


$
143,769


$
140,212


$
140,212Current obligations under lines of
    credit

$
19,480


$
19,480


$
15,744


$
15,744Long-term debt

$
127,862


$
127,862


$
124,858


$
124,858     Financial
    Instruments with Off-Balance Sheet Risk
    December 31,2006


2005Notional


Carrying


Estimated


Notional


Carrying


EstimatedAmount


Amount


Fair Value


Amount


Amount


Fair Value(In thousands)Sell (buy) foreign currencies

$
138,479


$
3,032


$
3,032


$
107,169


$
13,042


$
13,042    55




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
   Note 4.
    Balance
    Sheet Details  Inventories
  December 31,2006


2005(In thousands)Purchased and spare parts

$
152,727


$
152,763Work-in-process


30,524



27,110Finished goods


15,320



13,914Total inventories

$
198,571


$
193,787   Property
    and equipment, net
  December 31,2006


2005(In thousands)Machinery and equipment

$
608,690


$
577,157Buildings and land


192,568



243,055Building improvements


79,133



75,681Furniture and fixtures


22,517



22,634902,908



918,527Less accumulated depreciation


(538,309
)


(494,778
)Total property and equipment

$
364,599


$
423,749     Accrued
    warranty
    December 31,2006


2005


2004(In thousands)Balance, beginning of period

$
54,553


$
45,526


$
28,805Warranties issued


84,860



79,146



77,267Settlements


(82,799
)


(84,632
)


(66,698
)Balance acquired at acquisition






610



2,367Changes in liability for
    pre-existing warranties, including expirations


(1,265
)


13,903



3,785Balance, end of period

$
55,349


$
54,553


$
45,526  56




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
  Note 5.  Goodwill
    and Other Intangible Assets
  Goodwill
    Years Ended2006


2005(In thousands)Balance, beginning of period

$
255,584


$
278,972SpeedFam-IPEC adjustment


(41,606
)


(11,566
)Peter Wolters AG adjustment






1,945Foreign currency translation


11,453



(13,767
)Balance, end of period

$
225,431


$
255,584       Intangible
    Assets
    WeightedAverageAmortization





AccumulatedDecember 31, 2006

Period


Gross


Amortization


Net(Years)





(In thousands)Patents and other intangibles


10.8


$
20,707


$
(2,164
)

$
18,543Developed technology


6.0



28,995



(16,555
)


12,440Trademark


10.0



6,663



(1,666
)


4,997Total


8.2


$
56,365


$
(20,385
)

$
35,980   WeightedAverageAmortization





AccumulatedDecember 31, 2005

Period


Gross


Amortization


Net(Years)





(In thousands)Patents and other intangibles


6.3


$
4,362


$
(1,324
)

$
3,038Developed technology


6.0



28,042



(11,422
)


16,620Trademark


10.0



6,065



(903
)


5,162Total


6.7


$
38,469


$
(13,649
)

$
24,820  57




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
    Note 6.  Business
    Combinations
  Voumard
    Machine Co. SA
        (In thousands)Cash consideration

$
7,134Transaction costs


486Total purchase price

$
7,620Assets acquired

$
18,548Liabilities assumed


(8,131
)Total net assets acquired

$
10,417Gain

$
2,797   Peter
    Wolters AG
     58




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     (In thousands)Cash consideration

$
149,512Transaction costs


2,100Total purchase price

$
151,612Cash and cash equivalents

$
8,696Current assets


37,377Property, plant and equipment


19,492Acquired intangibles


122,321Other assets


23Current liabilities


(28,928
)Long-term debt


(967
)Other long-term liabilities


(6,402
)Total net assets acquired

$
151,612       Note 7.  Restructuring
    and Other Charges
   59




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     Facility


Asset





Restructuring


InventoryExit Costs


Impairments


Severance


Total


Write-Down(In thousands)Balance at December 31, 2003

$
50,513


$



$
592


$
51,105


$
Restructuring charges






1,220



1,187



2,407



Non-cash adjustment






(1,057
)






(1,057
)


Cash payments


(7,909
)






(1,619
)


(9,528
)


Adjustment of prior restructuring
    cost


(923
)










(923
)


Balance at December 31, 2004


41,681



163



160



42,004



Restructuring charges






14,172



838



15,010



5,250Non-cash adjustment






(14,265
)






(14,265
)


(5,250
)Cash payments


(8,607
)


(70
)


(135
)


(8,812
)


Adjustment of prior restructuring
    cost


(5,835
)










(5,835
)


Balance at December 31, 2005


27,239







863



28,102



Restructuring charges


6,235



10,199



51



16,485



Non-cash adjustment


1,161



(10,199
)






(9,038
)


Cash payments


(11,607
)






(544
)


(12,151
)


Adjustment of prior restructuring
    cost


(5,525
)






(225
)


(5,750
)


Balance at December 31, 2006

$
17,503


$



$
145


$
17,648


$
   Facilities
    Exit Costs and Asset Impairment
        Inventory
    Write-downs
   60




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
   Note 8.
    Borrowing
    Arrangements  Current
    Obligations Under Lines of Credit
    Long-Term
    Debt
              Years Ending December 31,2008


2009


2010


2011


Thereafter(In thousands)Long-term debt obligations

$
38


$
126,627


$
38


$
38


$
1,121  61




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
  Note 9.  Other
    Income, net
    Years Ended December 31,2006


2005


2004(In thousands)Litigation proceeds

$



$



$
8,000Other income


4,820



810



2,160Other expense


(1,772
)


(578
)


(761
)Foreign currency gain (loss), net


4,808



5,456



(1,040
)Gain on acquisition of Voumard


2,797







Total other income, net

$
10,653


$
5,688


$
8,359   Note 10.
    Commitments
    and Guarantees  Standby
    Letters of Credit
    Guarantee
    Arrangements
  line-of-credit
  Lease
    Commitments
      Years Ending December 31,


Sublease


Net2007


2008


2009


2010


2011


Thereafter


Income


Total(In thousands)Non-cancelable operating leases

$
8,936


$
8,382


$
7,957


$
7,827


$
7,693


$
24,875


$
(24,185
)

$
41,485   Purchase
    Commitments
   62




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
    Note 11.
    Litigation  Linear
    Technology Corporation
    Derivative
    Litigation
  Joshua
    Teitelbaum, in the right of and for the benefit of Novellus
    Systems, Inc., v. Richard S. Hill, Jeffrey C. Benzing, D.
    James Guzy, Tom Long, Robert H. Smith, Neil R. Bonke, Youssef A.
    El-Mansy, J. David Litster, Yoshio Nishi, Glen G. Possley, Ann
    D. Rhoads, William R. Spivey and Delbert A. Whitaker, as
    defendants, and the Company as a Nominal Defendant Alaska
    Electrical Pension Fund, on behalf of Novellus Systems,
    Inc., v. Richard S. Hill, Jeffrey C. Benzing, William H.
    Kurtz, Neil R. Bonke, Youssef A. El-Mansy, J. David Litster,
    Yoshio Nishi, Glen G. Possley, Ann D. Rhoads, William R. Spivey
    and Delbert Whitaker, as defendants, and the Company as a
    Nominal Defendant
   63




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
    Other
    Litigation
      Note 12.
    Income
    Taxes    Years Ended December 31,2006


2005


2004(In thousands)FederalCurrent

$
48,101


$
6


$
13,611Deferred


45,090



21,851



29,06793,191



21,857



42,678StateCurrent


8,446



442



1,036Deferred


4,431



8,737



7,43812,877



9,179



8,474ForeignCurrent


19,662



17,211



15,349Deferred


(5,215
)


(3,873
)


14,447



13,338



15,349Employee stock plan activity
    allocated to shareholders equity


29,336



4,132



Total provision for income taxes

$
149,851


$
48,506


$
66,501     Years Ended December 31,2006


2005


2004(In thousands)Domestic

$
433,658


$
126,099


$
188,938Foreign


(94,739
)


32,514



34,253Total

$
338,919


$
158,613


$
223,191    64




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     December 31,2006


2005(In thousands)Deferred tax assets:Reserves and accruals

$
86,933


$
79,986Capitalized in-process research
    and development


31,344



36,893Deferred profit


25,369



33,632Net operating loss carryforwards


41,216



43,923Credits


14,570



50,662Other


11,493



14,494Total deferred tax assets


210,925



259,590Valuation allowance


(3,770
)


(67,999
)Deferred tax assets, net of
    valuation allowance


207,155



191,591Deferred tax liabilities:Depreciation


(69,148
)


(72,031
)Acquisition related items


(8,023
)


(8,091
)Total net deferred tax assets

$
129,984


$
111,469        65




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     Years Ended December 31,2006


2005


2004(In thousands)Expected provision at 35%

$
118,622


$
55,515


$
78,117State tax, net of federal benefit


8,374



5,966



5,508Tax-exempt interest


(6,988
)


(5,885
)


(2,459
)Research and development credits


(1,886
)


(1,913
)


(1,309
)Domestic manufacturing/export
    sales incentive


(9,723
)


(2,971
)


(9,781
)Foreign income/losses taxed at
    different rates


46,106







Adjustments of tax accounts


(8,529
)






Valuation allowance decrease










(8,827
)Write-off of acquired IPR&D










2,143Other


3,875



(2,206
)


3,109Total provision for income taxes

$
149,851


$
48,506


$
66,501     Note 13.
    Shareholders
    Equity  Other
    Comprehensive Income (Loss)
    December 31,2006


2005(In thousands)Foreign currency translation
    adjustments, net of tax of $(1,575) and $(1,698) in 2006 and
    2005, respectively

$
3,578


$
(647
)Unrealized gain (loss) on
    short-term investments


224



(1,890
)Unrealized loss on derivative
    instruments


(329
)


Unrealized loss on minimum pension
    liability adjustment, net of tax of $369


(878
)


Accumulated other comprehensive
    income (loss)

$
2,595


$
(2,537
)   Common
    Stock Repurchase Program
   66




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##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
    Note 14.
    Stock-Based
    Compensation and Employee Benefit Plans  Stock-Based
    Compensation
       67




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     Years Ended December 31,2006


2005


2004(In thousands)(1)


(2)


(3)Cost of sales

$
1,425


$
736


$
724Selling, general and administrative


22,337



2,168



2,132Research and development


11,179



1,305



1,283Stock-based compensation expense
    before income taxes


34,941



4,209



4,139Income tax benefit


(11,531
)


(1,620
)


(1,233
)Total stock-based compensation
    expense after income taxes

$
23,410


$
2,589


$
2,906     (1)
    
    Amounts include amortization expense related to stock options of
    $25.1 million, employee stock purchase plan of
    $2.4 million, and restricted stock awards of
    $7.5 million for the year ended December 31, 2006.(2)
    
    Amounts include amortization expense related to restricted stock
    awards of $4.2 million for the year ended December 31,
    2005.(3)
    
    Amounts include amortization expense related to restricted stock
    awards of $4.1 million for the year ended December 31,
    2004.   68




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##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     Year Ended December 31, 2006SFAS 123(R)


AsAdjustments


Reported(In thousands, except per share amounts)Consolidated Statement of
    Operations:Operating income

$
(26,765
)

$
304,774Income before provision for income
    taxes and cumulative effect of a change in accounting principle


(26,765
)


338,919Income before cumulative effect of
    a change in accounting principle


(17,933
)


189,068Net income


(16,985
)


190,016Net income per share:Basic:Income before cumulative effect of
    a change in accounting principle

$
(0.15
)

$
1.51Cumulative effect of a change in
    accounting principle


0.01



0.01Basic net income per share

$
(0.14
)

$
1.52Diluted:Income before cumulative effect of
    a change in accounting principle

$
(0.14
)

$
1.49Cumulative effect of a change in
    accounting principle


0.01



0.01Diluted net income per share

$
(0.13
)

$
1.50Consolidated Statement of Cash
    Flows:Net cash provided by operating
    activities

$
(15,612
)

$
447,153Net cash used in financing
    activities

$
15,612


$
(197,870
)      69




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##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     Years Ended December 31,2005


2004(In thousands, except per share amounts)Net income as reported

$
110,107


$
156,690Add:Intrinsic value method expense
    included in reported net income, net of related tax effects


2,589



2,906Less:Fair value method expense, net of
    related tax effects


(49,145
)


(49,086
)Pro-forma net income

$
63,551


$
110,510Pro-forma basic net income per
    share

$
0.46


$
0.76Pro-forma diluted net income per
    share

$
0.46


$
0.75Basic net income per share as
    reported

$
0.80


$
1.07Diluted net income per share as
    reported

$
0.80


$
1.06   Valuation
    and Other Assumptions for Stock Options
  Valuation and Amortization Method.
  Expected Term.
  Expected Volatility.
  Risk-Free Interest Rate.
  Dividends.
 70




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##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
   Forfeitures.
    2006


2005


2004Risk-free interest rate


4.7
%


4.1
%


2.7
%Expected volatility


49
%


54
%


74
%Expected term


4.4 years



3.9 years



3.6 yearsExpected dividends


None



None



None     Stock
    Options
    Weighted-AverageRemainingNumber of


Weighted-Average


Contractual


AggregateShares


Exercise Price


Term (in Years)


Intrinsic Value(In thousands)








(In thousands)Outstanding at December 31,
    2003


25,298


$
32.80



7.47


$
255,444Grants


5,339



29.02Exercises


(1,292
)


20.13Forfeitures or expirations


(2,640
)


36.06Outstanding at December 31,
    2004


26,705


$
32.40



7.11


$
40,601Grants


2,911



24.99Exercises


(1,327
)


16.21Forfeitures or expirations


(4,152
)


35.96Outstanding at December 31,
    2005


24,137


$
31.79



6.67


$
13,383Grants


2,855



31.39Exercises


(1,603
)


22.41Forfeitures or expirations


(2,490
)


34.00Outstanding at December 31,
    2006


22,899


$
32.16



6.23


$
102,527Vested and expected to vest at
    December 31, 2006


21,937


$
32.29



6.10


$
97,403Exercisable at December 31,
    2006


16,995


$
33.39



5.24


$
68,343    71




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
        Restricted
    Stock Awards
    Weighted-AverageNumber of


Grant DateShares


Fair Value(In thousands)Unvested restricted stock at
    December 31, 2003


249


$
35.22Granted


511



30.69Vested


(10
)


36.50Forfeited


(62
)


36.39Unvested restricted stock at
    December 31, 2004


688


$
31.73Granted


655



24.21Vested


(29
)


24.90Forfeited


(117
)


32.04Unvested restricted stock at
    December 31, 2005


1,197


$
27.57Granted


832



32.14Vested


(77
)


30.39Forfeited


(108
)


27.12Unvested restricted stock at
    December 31, 2006


1,844


$
29.56    72




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##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
   ESPP
    2006


2005


2004Risk-free interest rate


5.0
%


3.3
%


1.6
%Expected volatility


33
%


32
%


43
%Expected term


6 months



6 months



6 monthsExpected dividends


None



None



None     Employee
    Savings and Retirement Plan
    Deferred
    Compensation Plan
    Profit
    Sharing Plans
    Defined
    Benefit Pension Plans
   73




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##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
    Postretirement
    Healthcare Plan
    Note 15.
    Operating
    Segments      IndustrialSemiconductor


ApplicationsGroup


Group


Total(In thousands)2006Sales to unaffiliated customers

$
1,547,540


$
110,976


$
1,658,516Total net sales

$
1,547,540


$
110,976


$
1,658,516Operating income

$
296,281


$
8,493


$
304,774Long-lived assets

$
345,403


$
19,196


$
364,599All other identifiable assets


1,807,248



190,645



1,997,893Total assets

$
2,152,651


$
209,841


$
2,362,492   74




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##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
  IndustrialSemiconductor


ApplicationsGroup


Group


Total(In thousands)2005Sales to unaffiliated customers

$
1,236,515


$
103,956


$
1,340,471Total net sales

$
1,236,515


$
103,956


$
1,340,471Operating income

$
122,231


$
13,466


$
135,697Long-lived assets

$
406,786


$
16,963


$
423,749All other identifiable assets


1,689,160



177,340



1,866,500Total assets

$
2,095,946


$
194,303


$
2,290,249   IndustrialSemiconductor


ApplicationsGroup


Group


Total(In thousands)2004Sales to unaffiliated customers

$
1,299,918


$
57,370


$
1,357,288Total net sales

$
1,299,918


$
57,370


$
1,357,288Operating income

$
204,569


$
818


$
205,387Long-lived assets

$
456,023


$
20,469


$
476,492All other identifiable assets


1,721,646



203,694



1,925,340Total assets

$
2,177,669


$
224,163


$
2,401,832      75




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##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
     North America


Europe


Asia


Elimination


Consolidated(In thousands)2006Sales to unaffiliated customers

$
1,245,003


$
97,834


$
315,679


$



$
1,658,516Transfers between geographic
    locations


312,230



27,902



53,753



(393,885
)

$
Total net sales

$
1,557,233


$
125,736


$
369,432


$
(393,885
)

$
1,658,516Operating income (loss)

$
394,414


$
11,461


$
(101,101
)

$



$
304,774Long-lived assets

$
344,868


$
16,951


$
2,780


$



$
364,599All other identifiable assets


1,711,893



188,202



97,798







1,997,893Total assets

$
2,056,761


$
205,153


$
100,578


$



$
2,362,492   North America


Europe


Asia


Elimination


Consolidated(In thousands)2005Sales to unaffiliated customers

$
986,409


$
92,307


$
261,755


$



$
1,340,471Transfers between geographic
    locations


157,659



27,035



42,814



(227,508
)

$
Total net sales

$
1,144,068


$
119,342


$
304,569


$
(227,508
)

$
1,340,471Operating income

$
99,961


$
16,148


$
19,588


$



$
135,697Long-lived assets

$
406,570


$
14,542


$
2,637


$



$
423,749All other identifiable assets


1,481,647



170,640



214,213







1,866,500Total assets

$
1,888,217


$
185,182


$
216,850


$



$
2,290,249   North America


Europe


Asia


Elimination


Consolidated(In thousands)2004Sales to unaffiliated customers

$
1,051,553


$
47,661


$
258,074


$



$
1,357,288Transfers between geographic
    locations


134,013



24,369



36,966



(195,348
)


Total net sales

$
1,185,566


$
72,030


$
295,040


$
(195,348
)

$
1,357,288Operating income

$
164,106


$
4,060


$
37,221


$



$
205,387Long-lived assets

$
455,218


$
18,794


$
2,480


$



$
476,492All other identifiable assets


1,561,672



195,957



167,711







1,925,340Total assets

$
2,016,890


$
214,751


$
170,191


$



$
2,401,832  76




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
    Note 16.
    Related
    Party Transactions            Note 17.
    Quarterly
    Financial Data (Unaudited)  Quarter EndedApril 1,


July 1,


September 30,


December 31,2006


2006


2006


2006(1)(In thousands, except per share amounts)Net sales

$
365,906


$
410,073


$
444,032


$
438,505Gross profit

$
167,540


$
204,764


$
226,525


$
225,520Net income

$
24,717


$
52,705


$
70,020


$
42,574Basic net income per share

$
0.19


$
0.42


$
0.57


$
0.35Diluted net income per share

$
0.19


$
0.42


$
0.57


$
0.34Shares used in basic per share
    calculations


131,102



125,124



122,150



122,766Shares used in diluted per share
    calculations


132,264



125,910



123,357



124,447   77




---



##### Table of Contents



NOVELLUS
    SYSTEMS, INC.
  NOTES TO
    CONSOLIDATED FINANCIAL
    STATEMENTS  (Continued)
  Quarter EndedApril 2,


July 2,


October 1,


December 31,2005


2005


2005


2005(In thousands, except per share amounts)Net sales

$
339,740


$
329,585


$
338,878


$
332,268Gross profit

$
153,869


$
157,562


$
147,194


$
140,501Net income

$
30,471


$
33,231


$
23,415


$
22,990Basic and diluted net income per
    share

$
0.22


$
0.24


$
0.17


$
0.17Shares used in basic per share
    calculations


139,890



138,068



137,848



133,980Shares used in diluted per share
    calculations


141,099



138,944



138,895



134,752     (1)
    
    A tax charge of $46.1 million related to the implementation
    of our new global business structure was recorded in the fourth
    quarter of 2006. 78




---



##### Table of Contents



REPORT OF
    INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
                   79




---



##### Table of Contents



Item 9.
    Changes
    in and Disagreements with Accountants on Accounting and
    Financial Disclosure    Item 9A.
    Controls
    and Procedures  Form 10-K Rule 13a-14 Form 10-K Form 10-K
  Evaluation
    of Disclosure Controls and Procedures
  Form 10-K. Form 10-K,
  Form 10-K. Form 10-Q Form 10-K.
  Form 10-K,
  Management
    Report on Internal Control over Financial Reporting
  Rules 13a-15(f) 15d-15(f). Internal Control 
    Integrated Framework
 80




---



##### Table of Contents



81




---



##### Table of Contents



Report of
    Independent Registered Public Accounting Firm on Internal
    Control Over
    Financial Reporting
                    82




---



##### Table of Contents



Limitations
    on Effectiveness of Controls
    Item 9B.
    Other
    Information   PART III  Item 10.
    Directors,
    Executive Officers and Corporate Governance    Item 11.
    Executive
    Compensation    Item 12.
    Security
    Ownership of Certain Beneficial Owners and Management and
    Related Shareholder Matters   83




---



##### Table of Contents



Item 13.
    Certain
    Relationships and Related Transactions, and Director
    Independence    Item 14.
    Principal
    Accountant Fees and Services   PART IV  Item 15.
    Exhibits
    and Financial Statement Schedules    Financial Statements and Reports of Independent
    Registered Public Accounting Firm
    Financial Statement Schedules
  Form 10-K
      Exhibits (numbered in accordance with
    Item 601 of
    Regulation S-K)
  3
.1(1)

Amended and Restated Articles of
    Incorporation of Novellus.3
.2(2)

Amended and Restated Bylaws of
    Novellus.10
.1(3)

Assignment and Assumption of
    Lessees Interest in Lease (Units 8 and 9, Palo Alto)
    and Covenants, Conditions and Restrictions on Leasehold
    Interests (Units 1-12, Palo Alto) by and between Varian
    Associates, Inc. and Novellus dated May 7, 1997.10
.2(4)

Environmental Agreement by and
    between Varian Associates, Inc. and Novellus dated May 7,
    1997.*10
.3(5)

Novellus 1992 Stock Option
    Plan, together with forms of agreements thereunder.*10
.4(6)

Amended and Restated 1992 Employee
    Stock Purchase Plan, as amended.*10
.5(7)

Form of Directors and Officers
    Indemnification Agreement.*10
.6(8)

GaSonics International Corporation
    1994 Stock Option/Stock Issuance plan, together with forms of
    agreements thereunder, as assumed by Novellus.*10
.7(9)

Gamma Precision Technology, Inc.
    1998 Stock Option Plan, together with forms of agreements
    thereunder, as assumed by Novellus.*10
.8(10)

GaSonics International Corporation
    Supplemental Stock Option Plan, as assumed by Novellus.10
.9(11)

Light Industrial Lease between
    Teachers Insurance and Annuity Association of America and
    GaSonics, Inc. for office space at 2730 Junction Avenue,
    San Jose, California.*10
.10(12)

Novellus 2001 Stock Incentive
    Plan, as amended, together with forms of agreement thereunder. 84




---



##### Table of Contents



*10
.11(13)

SpeedFam-IPEC, Inc. Amended and
    Restated 1995 Stock Plan, as assumed by Novellus.*10
.12(14)

SpeedFam-IPEC, Inc. 2001
    Nonstatutory Stock Option Plan, together with forms of
    agreements thereunder, as assumed by Novellus.*10
.13(15)

Integrated Process Equipment
    Corporation 1992 Stock Option Plan, as assumed by Novellus.10
.14(16)

Lease Agreement between Seldin
    Properties and Integrated Process Equipment Corp. dated
    December 26, 1996.10
.15(17)

Lease Guaranty between Novellus
    and Phoenix Industrial Investment Partners, L.P. dated
    January 21, 2003.*10
.16(18)

Restricted Stock Purchase
    Agreement between Novellus and Richard S. Hill dated
    December 13, 2002.10
.17(19)

Credit Agreement between Johanna
    34 Vermogensverwaltungs GmbH, Novellus Systems BV, Novellus
    Systems, Inc. and JPMorgan Chase Bank, as Administrative Agent
    dated June 25, 2004.10
.18(20)

Guarantee and Collateral Agreement
    made by Novellus Systems, Inc. in favor of JPMorgan Chase Bank,
    as Administrative Agent dated June 25, 2004.10
.19(21)

Binding Memorandum of
    Understanding between Novellus, and Applied Materials, Inc.,
    effective as of September 3, 2004. Portions of this exhibit
    have been omitted pursuant to a request for confidential
    treatment.*10
.20(22)

Amended and Restated Employment
    Agreement between Novellus and Richard S. Hill effective as of
    March 11, 2005.10
.21(23)

Form of Non-Employee Director
    Restricted Stock Bonus Agreement, as amended.10
.22(24)

Form of Resale Restriction
    Agreement.10
.23

Credit Agreement among Novellus
    Systems, Inc., as Borrower, Bank of America, N.A., as
    Administrative Agent and Swing Line Lender, Deutche Bank AG New
    York Branch, as Syndication Agent, ABN Amro Bank, N.V. and
    Mizuho Corporate Bank Ltd, as Co-Documentation Agents, and the
    other lenders thereto, Banc of America Securities, LLC and
    Deutche Bank Securities, Inc, as Joint Lead Arrangers and Joint
    Book Managers, dated as of December 26, 2006.*10
.24

Offer Letter of Employment to
    William H. Kurtz dated August 24, 2005.*10
.25

Executive Employment Agreement
    between Novellus Systems, Inc. and Dr. Thomas Caulfield
    dated October 12, 2005.*10
.26

Offer Letter of Employment to
    Ginetto Addiego dated February 2, 2005.21
.1

Subsidiaries of Novellus.23
.1

Consent of Independent Registered
    Public Accounting Firm.24
.1

Power of Attorney (see
    page 87).31
.1

Certification of Richard S. Hill,
    Chairman of the Board of Directors and Chief Executive Officer
    of Novellus Systems, Inc. dated February 26, 2007 in
    accordance with
    Rules 13a-14(a)
    and
    15d-14(a) of
    the Securities Exchange Act, as amended, as adopted pursuant to
    Section 302 of the Sarbanes-Oxley Act of 2002.31
.2

Certification of William H. Kurtz,
    Executive Vice President and Chief Financial Officer of Novellus
    Systems, Inc. dated February 26, 2007 in accordance with
    Rules 13a-14(a)
    and
    15d-14(a) of
    the Securities Exchange Act, as amended, as adopted pursuant to
    Section 302 of the Sarbanes-Oxley Act of 2002.32
.1

Certification of Richard S. Hill,
    Chairman of the Board of Directors and Chief Executive Officer
    of Novellus Systems, Inc. dated February 26, 2007 in
    accordance with 18 U.S.C. 1350, as adopted pursuant to
    Section 906 of the Sarbanes-Oxley Act of 2002.32
.2

Certification of William H. Kurtz,
    Executive Vice President and Chief Financial Officer of Novellus
    Systems, Inc. dated February 26, 2007 in accordance with
    18 U.S.C. 1350, as adopted pursuant to Section 906 of
    the Sarbanes-Oxley Act of 2002.     (1)
    
    Incorporated by reference to the exhibit with the corresponding
    exhibit number in Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 30, 2000. 85




---



##### Table of Contents



(2)
    
    Incorporated by reference to Exhibit 3.2 to Novellus
    Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 12, 2004.(3)
    
    Incorporated by reference to Exhibit 2.3 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    July 7, 1997.(4)
    
    Incorporated by reference to Exhibit 2.6 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    July 7, 1997.(5)
    
    Incorporated by reference to Exhibit 10.30 filed with
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    February 26, 1993.(6)
    
    Incorporated by reference to Exhibit 10.2 filed with
    Novellus Report on
    Form 8-K
    filed with the Securities and Exchange Commission on May 5,
    2005.(7)
    
    Incorporated by reference to Exhibit 10.1 filed with
    Novellus Report on
    Form 10-Q
    filed with the Securities and Exchange Commission on
    August 13, 2002.(8)
    
    Incorporated by reference to Exhibit 10.31 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 23, 2001.(9)
    
    Incorporated by reference to Exhibit 10.32 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 23, 2001.(10)
    
    Incorporated by reference to Exhibit 10.33 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 23, 2001.(11)
    
    Incorporated by reference to Exhibit 10.34 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 23, 2001.(12)
    
    Incorporated by reference to Exhibit 10.1 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on May 5,
    2005.(13)
    
    Incorporated by reference to Exhibit 10.30 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(14)
    
    Incorporated by reference to Exhibit 10.31 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(15)
    
    Incorporated by reference to Exhibit 10.32 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(16)
    
    Incorporated by reference to Exhibit 10.35 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(17)
    
    Incorporated by reference to Exhibit 10.39 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(18)
    
    Incorporated by reference to Exhibit 10.41 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 12, 2004.(19)
    
    Incorporated by reference to Exhibit 10.1 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    July 12, 2004.(20)
    
    Incorporated by reference to Exhibit 10.2 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    July 12, 2004.(21)
    
    Incorporated by reference to Exhibit 99.1 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    September 24, 2004.(22)
    
    Incorporated by reference to Exhibit 10.30 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 15, 2005.(23)
    
    Incorporated by reference to Exhibit 10.3 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on May 5,
    2005.(24)
    
    Incorporated by reference to Exhibit 10.34 to
    Novellus Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    November 15, 2005.*
    
    Management contracts or compensatory plans or arrangements. 86




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##### Table of Contents



SIGNATURES  Form 10-K
    By:
    /s/  Richard
    S. Hill   Chairman of the Board of Directors and
 Chief Executive Officer
  POWER OF
    ATTORNEY
  attorneys-in-fact, Form 10-K attorneys-in-fact,
  Form 10-K
  Signature

Title

Date/s/  Richard
    S. HillRichard
    S. Hill

Chairman of the Board of Directors
    and Chief Executive Officer 
    (Principal Executive Officer)

February 26, 2007/s/  William
    H. KurtzWilliam
    H. Kurtz

Executive Vice President and
    Chief Financial Officer and
    Interim Corporate Controller
    (Principal Financial Officer and
    Principal Accounting Officer)

February 26, 2007/s/  Neil
    R. BonkeNeil
    R. Bonke

Director

February 26, 2007/s/  Youssef
    A. El-MansyYoussef
    A. El-Mansy

Director

February 26, 2007/s/  J.
    David LitsterJ.
    David Litster

Director

February 26, 2007/s/  Yoshio
    NishiYoshio
    Nishi

Director

February 26, 2007/s/  Glen
    G. PossleyGlen
    G. Possley

Director

February 26, 2007 87




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##### Table of Contents



Signature

Title

Date/s/  Ann
    D. RhoadsAnn
    D. Rhoads

Director

February 26, 2007/s/  William
    R. SpiveyWilliam
    R. Spivey

Director

February 26, 2007/s/  Delbert
    A. WhitakerDelbert
    A. Whitaker

Director

February 26, 2007  88




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##### Table of Contents



SCHEDULE II
  VALUATION
    AND QUALIFYING ACCOUNTS
 December 31,
    2006, 2005 and 2004
  Balance atBeginning of








Balance atYear


Additions


Deductions


End of Year(In thousands)Allowance for doubtful accounts(1)2006

$
987


$
1,119


$
(353
)

$
1,7532005

$
8,247


$
243


$
(7,503
)

$
9872004

$
7,655


$
546


$
46


$
8,247Valuation allowance for deferred
    tax assets(2)2006

$
67,999


$



$
(64,229
)

$
3,7702005

$
80,281


$
2,267


$
(14,549
)

$
67,9992004

$
76,510


$
14,193


$
(10,422
)

$
80,281     (1)
    
    Deductions represent uncollectible accounts written off, net of
    recoveries and other adjustments. For 2005, deductions include a
    decrease in estimated allowance of $6.1 million during the
    second quarter.(2)
    
    In 2006, the valuation allowance for deferred taxes decreased by
    approximately $64.2 million. The primary components of this
    decrease were the utilization of approximately
    $22.0 million of tax credits, which was credited to equity,
    and the reassessment of the realizability of approximately
    $39.2 million of acquired deferred tax assets of
    SpeedFam-IPEC, which was credited to goodwill. Additions include
    $0.5 million and $14.2 million of adjustments to
    goodwill, equity or other balance sheet accounts in the years
    ended December 31, 2005 and 2004, respectively. There were
    no additions in the year ended December 31, 2006. 89




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##### Table of Contents



EXHIBIT INDEX
  3
.1(1)

Amended and Restated Articles of
    Incorporation of Novellus.3
.2(2)

Amended and Restated Bylaws of
    Novellus.10
.1(3)

Assignment and Assumption of
    Lessees Interest in Lease (Units 8 and 9, Palo Alto)
    and Covenants, Conditions and Restrictions on Leasehold
    Interests (Units 1-12, Palo Alto) by and between Varian
    Associates, Inc. and Novellus dated May 7, 1997.10
.2(4)

Environmental Agreement by and
    between Varian Associates, Inc. and Novellus dated May 7,
    1997.*10
.3(5)

Novellus 1992 Stock Option
    Plan, together with forms of agreements thereunder.*10
.4(6)

Amended and Restated 1992 Employee
    Stock Purchase Plan, as amended.*10
.5(7)

Form of Directors and Officers
    Indemnification Agreement.*10
.6(8)

GaSonics International Corporation
    1994 Stock Option/Stock Issuance plan, together with forms of
    agreements thereunder, as assumed by Novellus.*10
.7(9)

Gamma Precision Technology, Inc.
    1998 Stock Option Plan, together with forms of agreements
    thereunder, as assumed by Novellus.*10
.8(10)

GaSonics International Corporation
    Supplemental Stock Option Plan, as assumed by Novellus.10
.9(11)

Light Industrial Lease between
    Teachers Insurance and Annuity Association of America and
    GaSonics, Inc. for office space at 2730 Junction Avenue,
    San Jose, California.*10
.10(12)

Novellus 2001 Stock Incentive
    Plan, as amended, together with forms of agreement thereunder.*10
.11(13)

SpeedFam-IPEC, Inc. Amended and
    Restated 1995 Stock Plan, as assumed by Novellus.*10
.12(14)

SpeedFam-IPEC, Inc. 2001
    Nonstatutory Stock Option Plan, together with forms of
    agreements thereunder, as assumed by Novellus.*10
.13(15)

Integrated Process Equipment
    Corporation 1992 Stock Option Plan, as assumed by Novellus.10
.14(16)

Lease Agreement between Seldin
    Properties and Integrated Process Equipment Corp. dated
    December 26, 1996.10
.15(17)

Lease Guaranty between Novellus
    and Phoenix Industrial Investment Partners, L.P. dated
    January 21, 2003.*10
.16(18)

Restricted Stock Purchase
    Agreement between Novellus and Richard S. Hill dated
    December 13, 2002.10
.17(19)

Credit Agreement between Johanna
    34 Vermogensverwaltungs GmbH, Novellus Systems BV, Novellus
    Systems, Inc. and JPMorgan Chase Bank, as Administrative Agent
    dated June 25, 2004.10
.18(20)

Guarantee and Collateral Agreement
    made by Novellus Systems, Inc. in favor of JPMorgan Chase Bank,
    as Administrative Agent dated June 25, 2004.10
.19(21)

Binding Memorandum of
    Understanding between Novellus, and Applied Materials, Inc.,
    effective as of September 3, 2004. Portions of this exhibit
    have been omitted pursuant to a request for confidential
    treatment.*10
.20(22)

Amended and Restated Employment
    Agreement between Novellus and Richard S. Hill effective as of
    March 11, 2005.10
.21(23)

Form of Non-Employee Director
    Restricted Stock Bonus Agreement, as amended.10
.22(24)

Form of Resale Restriction
    Agreement.10
.23

Credit Agreement among Novellus
    Systems, Inc., as Borrower, Bank of America, N.A., as
    Administrative Agent and Swing Line Lender, Deutche Bank AG New
    York Branch, as Syndication Agent, ABN Amro Bank, N.V. and
    Mizuho Corporate Bank Ltd, as
    Co-Documentation
    Agents, and the other lenders thereto, Banc of America
    Securities, LLC and Deutche Bank Securities, Inc, as Joint Lead
    Arrangers and Joint Book Managers, dated as of December 26,
    2006.*10
.24

Offer Letter of Employment to
    William H. Kurtz dated August 24, 2005.*10
.25

Executive Employment Agreement
    between Novellus Systems, Inc. and Dr. Thomas Caulfield
    dated October 12, 2005.*10
.26

Offer Letter of Employment to
    Ginetto Addiego dated February 2, 2005.21
.1

Subsidiaries of Novellus.23
.1

Consent of Independent Registered
    Public Accounting Firm.24
.1

Power of Attorney (see
    page 87).




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##### Table of Contents



31
.1

Certification of Richard S. Hill,
    Chairman of the Board of Directors and Chief Executive Officer
    of Novellus Systems, Inc. dated February 26, 2007 in
    accordance with
    Rules 13a-14(a)
    and
    15d-14(a) of
    the Securities Exchange Act, as amended, as adopted pursuant to
    Section 302 of the Sarbanes-Oxley Act of 2002.31
.2

Certification of William H. Kurtz,
    Executive Vice President and Chief Financial Officer of Novellus
    Systems, Inc. dated February 26, 2007 in accordance with
    Rules 13a-14(a)
    and
    15d-14(a) of
    the Securities Exchange Act, as amended, as adopted pursuant to
    Section 302 of the Sarbanes-Oxley Act of 2002.32
.1

Certification of Richard S. Hill,
    Chairman of the Board of Directors and Chief Executive Officer
    of Novellus Systems, Inc. dated February 26, 2007 in
    accordance with 18 U.S.C. 1350, as adopted pursuant to
    Section 906 of the Sarbanes-Oxley Act of 2002.32
.2

Certification of William H. Kurtz,
    Executive Vice President and Chief Financial Officer of Novellus
    Systems, Inc. dated February 26, 2007 in accordance with
    18 U.S.C. 1350, as adopted pursuant to Section 906 of
    the Sarbanes-Oxley Act of 2002.     (1)
    
    Incorporated by reference to the exhibit with the corresponding
    exhibit number in Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 30, 2000.(2)
    
    Incorporated by reference to Exhibit 3.2 to Novellus
    Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 12, 2004.(3)
    
    Incorporated by reference to Exhibit 2.3 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    July 7, 1997.(4)
    
    Incorporated by reference to Exhibit 2.6 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    July 7, 1997.(5)
    
    Incorporated by reference to Exhibit 10.30 filed with
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    February 26, 1993.(6)
    
    Incorporated by reference to Exhibit 10.2 filed with
    Novellus Report on
    Form 8-K
    filed with the Securities and Exchange Commission on May 5,
    2005.(7)
    
    Incorporated by reference to Exhibit 10.1 filed with
    Novellus Report on
    Form 10-Q
    filed with the Securities and Exchange Commission on
    August 13, 2002.(8)
    
    Incorporated by reference to Exhibit 10.31 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 23, 2001.(9)
    
    Incorporated by reference to Exhibit 10.32 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 23, 2001.(10)
    
    Incorporated by reference to Exhibit 10.33 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 23, 2001.(11)
    
    Incorporated by reference to Exhibit 10.34 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 23, 2001.(12)
    
    Incorporated by reference to Exhibit 10.1 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on May 5,
    2005.(13)
    
    Incorporated by reference to Exhibit 10.30 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(14)
    
    Incorporated by reference to Exhibit 10.31 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(15)
    
    Incorporated by reference to Exhibit 10.32 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(16)
    
    Incorporated by reference to Exhibit 10.35 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(17)
    
    Incorporated by reference to Exhibit 10.39 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 5, 2003.(18)
    
    Incorporated by reference to Exhibit 10.41 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 12, 2004.




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##### Table of Contents



(19)
    
    Incorporated by reference to Exhibit 10.1 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    July 12, 2004.(20)
    
    Incorporated by reference to Exhibit 10.2 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    July 12, 2004.(21)
    
    Incorporated by reference to Exhibit 99.1 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    September 24, 2004.(22)
    
    Incorporated by reference to Exhibit 10.30 to
    Novellus Report on
    Form 10-K
    filed with the Securities and Exchange Commission on
    March 15, 2005.(23)
    
    Incorporated by reference to Exhibit 10.3 to Novellus
    Report on
    Form 8-K
    filed with the Securities and Exchange Commission on May 5,
    2005.(24)
    
    Incorporated by reference to Exhibit 10.34 to
    Novellus Report on
    Form 8-K
    filed with the Securities and Exchange Commission on
    November 15, 2005.*
    
    Management contracts or compensatory plans or arrangements.