Zoran (ZRAN) 10-Q 2008 Q3 Quarterly report

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

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

For the Quarterly Period Ended September 30, 2008

OR

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

For the transition period from                        to                        

Commission File No. 0-27246

ZORAN CORPORATION

(Exact name of registrant as specified in its charter)

Delaware	94-2794449
(State or other jurisdiction	(I.R.S. Employer
of incorporation or organization)	Identification Number)

1390 Kifer Road

Sunnyvale, California 94086

(Address of principal executive offices, including zip code)

(408) 523-6500

(Registrant’s telephone number, including area code)

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

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

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

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

As of November 5, 2008, there were outstanding 51,167,158 shares of the registrant’s Common Stock, par value $0.001 per share.

ZORAN CORPORATION AND SUBSIDIARIES

FORM 10-Q

INDEX

For the Quarter Ended September 30, 2008

		Page
	PART I. FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited):
	Condensed Consolidated Balance Sheets as of September 30, 2008 and December 31, 2007	3
	Condensed Consolidated Statements of Operations for the Three Months and Nine Months Ended September 30, 2008 and 2007	4
	Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2008 and 2007	5
	Notes to Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	19
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	26
Item 4.	Controls and Procedures	27
	PART II. OTHER INFORMATION
Item 1.	Legal Proceedings	28
Item 1A.	Risk Factors	28
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	41
Item 6.	Exhibits	41
Signatures		42

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PART I. FINANCIAL INFORMATION

Item 1.  Financial Statements

ZORAN CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

(unaudited)

	September 30,  2008			December 31,  2007
ASSETS
Current assets:
Cash and cash equivalents	$	98,132		$	97,377
Short-term investments	206,002			222,432
Accounts receivable, net	54,245			58,220
Inventories	49,320			48,992
Prepaid expenses and other current assets	30,949			25,189
Total current assets	438,648			452,210
Property and equipment, net	17,006			17,636
Deferred income taxes	45,439			43,218
Other assets and long-term investments	83,490			112,632
Goodwill	4,197			168,691
Intangible assets, net	1,178			25,945
Total assets	$	589,958		$	820,332
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	33,894		$	67,836
Accrued expenses and other current liabilities	41,977			43,968
Total current liabilities	75,871			111,804
Other long-term liabilities	25,030			20,756
Contingencies (Note 12)
Stockholders’ equity:
Common stock, $0.001 par value; 105,000,000 shares authorized at September 30, 2008 and December 31, 2007; 50,715,036 shares issued and outstanding as of September 30, 2008; and 51,407,860 shares issued and outstanding as of December 31, 2007	51			51
Additional paid-in capital	851,447			847,597
Accumulated other comprehensive income (loss)	(6,052		)	995
Accumulated deficit	(356,389		)	(160,871		)
Total stockholders’ equity	489,057			687,772
Total liabilities and stockholders’ equity	$	589,958		$	820,332

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

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ZORAN CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

(unaudited)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2008			2007			2008			2007
Revenues:
Hardware product revenues	$	112,112		$	129,820		$	320,015		$	331,510
Software and other revenues	14,022			16,606			43,835			46,478
Total revenues	126,134			146,426			363,850			377,988
Costs and expenses:
Cost of hardware product revenues	66,446			69,876			192,595			174,252
Research and development	28,922			28,063			87,606			83,027
Selling, general and administrative	23,653			28,043			73,552			85,050
Amortization of intangible assets	4,494			9,648			22,987			33,986
Impairment of goodwill and intangible assets	167,579			—			167,579			—
In-process research and development	—			—			22,383			—
Total costs and expenses	291,094			135,630			566,702			376,315
Operating income (loss)	(164,960		)	10,796			(202,852		)	1,673
Interest income	3,032			4,287			10,808			11,735
Other income (expense), net	(12		)	(241		)	(1,144		)	398
Income (loss) before income taxes	(161,940		)	14,842			(193,188		)	13,806
Provision (benefit) for income taxes	(7,720		)	1,700			2,330			6,350
Net income (loss)	$	(154,220	)	$	13,142		$	(195,518	)	$	7,456
Basic net income (loss) per share	$	(3.01	)	$	0.26		$	(3.80	)	$	0.15
Diluted net income (loss) per share	$	(3.01	)	$	0.26		$	(3.80	)	$	0.15
Shares used to compute basic net income (loss) per share	51,231			49,863			51,464			49,633
Shares used to compute diluted net income (loss) per share	51,231			51,284			51,464			50,861

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

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ZORAN CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

	Nine Months Ended September 30,
	2008			2007
Cash flows from operating activities:
Net income (loss)	$	(195,518	)	$	7,456
Adjustments to reconcile net income (loss) to net cash provided by operations:
Depreciation	6,040			5,932
Amortization of intangible assets	22,987			33,986
Stock-based compensation expense	9,989			10,599
Impairment of goodwill and intangible assets	167,579			—
In-process research and development	22,383			—
Deferred income taxes	1,244			—
Gain on sale of short-term investments	(115		)	(796		)
Changes in assets and liabilities, net of acquisition:
Accounts receivable	3,975			(17,830		)
Inventories	(328		)	11,443
Prepaid expenses and other current assets and other assets	2,710			(7,756		)
Accounts payable	(34,185		)	6,285
Accrued expenses and other current liabilities and long-term liabilities	(6,303		)	14,304
Net cash provided by operating activities	458			63,623
Cash flows from investing activities:
Purchases of property and equipment	(4,909		)	(7,473		)
Purchases of investments	(129,032		)	(317,700		)
Sales and maturities of investments	162,803			258,073
Acquisition of Let It Wave, net of cash acquired of $1,261	(22,767		)	—
Net cash provided by (used in) investing activities	6,095			(67,100		)
Cash flows from financing activities:
Proceeds from issuance of common stock	4,214			5,963
Repurchase of common stock	(10,012		)	—
Net cash provided by (used in) financing activities	(5,798		)	5,963
Net increase in cash and cash equivalents	755			2,486
Cash and cash equivalents at beginning of period	97,377			100,034
Cash and cash equivalents at end of period	$	98,132		$	102,520

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

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ZORAN CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

1.Basis of Presentation

The accompanying unaudited condensed consolidated financial statements of Zoran Corporation and its subsidiaries (“Zoran” or “Company”) have been prepared in conformity with accounting principles generally accepted in the United States of America.  However, certain information or footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).  In the opinion of management, the condensed consolidated financial statements reflect all necessary adjustments, consisting only of normal recurring adjustments, for a fair statement of the consolidated financial position, operating results and cash flows for the periods presented.  The results of operations for the interim periods presented are not necessarily indicative of the results that may be expected for the full fiscal year or in any future period.  This Quarterly Report on Form 10-Q should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 2007, included in the Company’s 2007 Annual Report on Form 10-K filed with the SEC.

Revenues

On January 25, 2006, the Company entered into an agreement with MediaTek to settle patent litigation between the companies. In consideration for licenses granted by Zoran, MediaTek agreed to pay Zoran $55.0 million, of which $44.0 million was paid in February 2006 and $11.0 million was paid in April 2006.  These two payments, net of amounts attributable to a holder of rights under patents involved in the litigation, and amounts payable as legal fees, were recognized as license revenues related to litigation settlement. MediaTek was required to pay quarterly royalties totaling $30.0 million over a 30-month period that commenced on the date of the agreement based on future sales of covered MediaTek products.  These royalty payments, net of amounts payable by Zoran to a holder of rights under patents involved in the litigation, and amounts payable as legal fees, are recognized as software and other revenues as they are received.

2.Stock-based Compensation

Stock Option Plans

As of September 30, 2008, the Company had outstanding options for the purchase of 8,816,109 shares of common stock held by employees and directors under the Company’s 2005 Equity Incentive Plan (the “2005 Plan”), 2005 Outside Directors Equity Plan, 2000 Nonstatutory Stock Option Plan, 1995 Outside Directors Stock Option Plan, 1993 Stock Option Plan and other various plans the Company assumed as a result of acquisitions.  As of September 30, 2008, an aggregate of 3,697,701 shares remained available for future grants and awards.  Options and stock appreciation rights granted under the 2005 Plan must have exercise prices per share not less than the fair market value of Zoran common stock on the date of grant and may not be repriced without stockholder approval.  Such awards will vest and become exercisable upon conditions established by the Compensation Committee and may not have a term exceeding 10 years.

The following table summarizes stock-based compensation expense related to employee stock options, employee stock purchases and restricted stock unit grants for the three and nine month periods ended September 30, 2008 and 2007 as recorded in accordance with SFAS 123(R) (revised 2004), Share-Based Payment (“SFAS 123(R)”) (in thousands):

	Three Months Ended  September 30,				Nine Months Ended  September 30,
	2008		2007		2008		2007
Cost of hardware product revenues	$	113	$	133	$	313	$	309
Research and development	1,163		1,318		3,627		3,481
Selling, general and administrative	2,129		2,116		6,049		6,809
Total costs and expenses	$	3,405	$	3,567	$	9,989	$	10,599

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The income tax benefit for share-based compensation expense was $335,000 and $1,164,000 for the three and nine month periods ended September 30, 2008.  The Company recognized no tax benefit during the three and nine month periods ended September 30, 2007 due to the Company’s full valuation on its deferred tax assets, which was released in December 2007.

Valuation Assumptions

The Company estimates the fair value of stock options using the Black-Scholes valuation model with the following assumptions:

	Stock Option Plans
	Three Months Ended  September 30,				Nine Months Ended  September 30,
	2008		2007		2008		2007
Average expected term (years)	5.6		5.4		5.5		5.5
Expected volatility	52	%	60	%	54	%	60	%
Risk-free interest rate	3.1	%	4.5	%	3.0	%	4.7	%
Dividend yield	0	%	0	%	0	%	0	%

	Employee Stock Purchase Plans
	Three Months Ended  September 30,				Nine Months Ended  September 30,
	2008		2007		2008		2007
Average expected term (years)	1.25		1.27		1.32		1.28
Expected volatility	53	%	46	%	53	%	47	%
Risk-free interest rate	1.8	%	4.9	%	2.8	%	4.8	%
Dividend yield	0	%	0	%	0	%	0	%

Expected Term:  The expected term represents the period that the Company’s stock-based awards are expected to be outstanding and was determined based on the Company’s historical experience with similar awards, giving consideration to the contractual terms of the stock-based awards and vesting schedules.

Expected Volatility:  The Company uses historical volatility in deriving its volatility assumption.  Management believes that historical volatility appropriately reflects the market’s expectations of future volatility.

Risk-Free Interest Rate:  Management bases its assumptions regarding the risk-free interest rate on U.S. Treasury zero-coupon issues with an equivalent remaining term.

Expected Dividend: The Company has not paid and does not anticipate paying any dividends in the near future.

Stock Option Activity

The following is a summary of stock option activities:

	Shares Underlying  Outstanding Options		Weighted Average  Exercise Price
Outstanding at January 1, 2008	7,703,071		$	17.92
Granted	1,504,680		$	14.02
Exercised	(113,017	)	$	7.50
Canceled	(278,625	)	$	17.71
Outstanding at September 30, 2008	8,816,109		$	17.40

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Significant option groups outstanding as of September 30, 2008 and the related weighted average exercise price and contractual life information, are as follows:

	Options Outstanding						Options Exercisable
Exercise Prices	Shares  Underlying  Options at  September  30, 2008	Weighted  Average  Remaining  Contractual Life  (Years)	Weighted  Average  Exercise  Price		Aggregate  Intrinsic  Value (‘000)		Shares  Underlying  Options at  September 30,  2008	Weighted  Average  Remaining  Contractual Life  (Years)	Weighted  Average  Exercise  Price		Aggregate  Intrinsic  Value (‘000)
$  0.00 to $  9.99	322,384	4.57	$	7.08	$	420	289,134	4.05	$	6.93	$	420
$10.00 to $11.99	889,543	5.49	$	10.56	—		889,543	5.49	$	10.56	—
$12.00 to $14.99	2,690,323	7.36	$	13.78	—		1,168,104	4.66	$	13.37	—
$15.00 to $19.99	2,582,138	6.58	$	18.20	—		1,859,598	5.83	$	17.66	—
$20.00 to $25.99	1,952,470	5.42	$	23.97	—		1,770,048	5.08	$	23.97	—
$26.00 to $46.53	379,251	1.97	$	28.60	—		377,524	1.95	$	28.61	—
Total	8,816,109	6.18	$	17.40	$	420	6,353,951	5.05	$	17.80	$	420

Of the 8,816,109 stock options outstanding as of September 30, 2008, the Company estimates that 8,517,000 will fully vest over the remaining contractual term.  As of September 30, 2008, these options had a weighted average remaining contractual life of 6.07 years, a weighted average exercise price of $17.45 and aggregate intrinsic value of $420,000.

The weighted average grant date fair value of options, as determined under SFAS No. 123(R), granted during the three and nine month periods ended September 30, 2008 was $4.22 and $7.23 per share, respectively.  The weighted average grant date fair value of options, as determined under SFAS No. 123(R), granted during the three and nine month periods ended September 30, 2007 was $12.20 and $11.54 per share, respectively.

The aggregate intrinsic value in the table above represents the total pretax intrinsic value, based on the Company’s closing stock price of $8.16 as of September 30, 2008, which would have been received by the option holders had all option holders exercised their options as of that date.  The total number of shares of common stock underlying in-the-money options exercisable as of September 30, 2008 was 207,000.  The total intrinsic value of options exercised during the three and nine month periods ended September 30, 2008 was $137,000 and $569,000 respectively.  There was no excess tax benefit realized by the Company in 2008 and 2007 for option exercises due to the availability of non stock related net operating loss carry forwards which fully offset our taxable income.

As of September 30, 2008, the Company had $20,587,000 of unrecognized stock-based compensation cost related to stock options after estimated forfeitures, which are expected to be recognized over the weighted average remaining term of 2.75 years.  The Company settles employee stock option exercises with newly issued common shares.

Restricted Shares and Restricted Stock Units

Restricted shares and restricted stock units are granted under the 2005 Plan.  As of September 30, 2008, we had $199,000 of unrecognized stock-based compensation cost related to restricted shares and restricted stock units, which are expected to be recognized over the weighted average remaining term of 2.51 years.

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The following is a summary of restricted shares and restricted stock units activities:

	Outstanding Restricted Shares And Stock Units		Weighted- Average Grant- Date Fair Value
Balances, December 31, 2007	77,345		$	18.53
Granted	19,400		$	8.29
Released/vested	(56,650	)	$	19.81
Forfeited	(612	)	$	21.56
Balances, September 30, 2008	39,483		$	11.62

Employee Stock Purchase Plan

The Company’s 1995 Employee Stock Purchase Plan (“ESPP”) was adopted by the Company’s Board of Directors in October 1995 and approved by its stockholders in December 1995.  The ESPP enables employees to purchase shares through payroll deductions at approximately 85% of the lesser of the fair value of common stock at the beginning of a 24-month offering period or the end of each six-month segment within such offering period.  The ESPP is intended to qualify as an “employee stock purchase plan” under Section 423 of the U.S. Internal Revenue Code.  There were no purchases during the quarter ended September 30, 2008.  As of September 30, 2008, 1,825,874 shares were reserved and available for issuance under the ESPP.

Stock Repurchase Program

In March 2008, the Company’s Board of Directors authorized a stock repurchase program under which the Company may repurchase up to $100.0 million of outstanding Zoran common stock.  The Company repurchased 1,163,569 shares for $10.0 million under this program during the three and nine months ended September 30, 2008.  As of September 30, 2008, the authorized amount that remains available under the Company’s stock repurchase program was $90.0 million.

The Company retires all shares repurchased under the stock repurchase program.  The purchase price for the repurchased shares of the Company’s stock repurchased is reflected as a reduction of common stock and additional paid-in capital.

3.Comprehensive Income (Loss)

The following table presents the calculation of comprehensive income (loss) as required by SFAS 130 “Reporting Comprehensive Income.”  The components of comprehensive income (loss), net of tax, are as follows (in thousands):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2008			2007			2008			2007
Net income (loss)	$	(154,220	)	$	13,142		$	(195,518	)	$	7,456
Change in unrealized gain (loss) on investments, net of tax	(5,147		)	(200		)	(7,047		)	(2,549		)
Total comprehensive income (loss)	$	(159,367	)	$	12,942		$	(202,565	)	$	4,907

The accumulated other comprehensive income (loss) consists of unrealized gain (loss), net of tax, on marketable securities.

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4.Marketable Securities

The Company’s portfolio of marketable securities as of September 30, 2008 was as follows (in thousands):

	Cost			Unrealized Gains		Unrealized Losses			Estimated Fair Value
Corporate notes and bonds	$	159,082		$	175	$	(8,288	)	$	150,969
Auction rate securities	57,775			—		—			57,775
U.S. government and agency securities	39,399			10		(105		)	39,304
Foreign and municipal bonds	13,484			41		(442		)	13,083
Certificates of deposit	1,997			9		(3		)	2,003
Total fixed income securities	271,737			235		(8,838		)	263,134
Publicly traded equity securities	1,393			—		(750		)	643
	273,130			235		(9,588		)	263,777
Less: Auction rate securities included in other assets and long- term investments	(57,775		)	—		—			(57,775		)
Total short-term investments	$	215,355		$	235	$	(9,588	)	$	206,002

The Company’s portfolio of marketable securities as of December 31, 2007 was as follows (in thousands):

	Cost			Unrealized Gains		Unrealized Losses			Estimated Fair Value
Corporate notes and bonds	$	162,339		$	580	$	(305	)	$	162,614
Auction rate securities	85,350			—		—			85,350
U.S. government and agency securities	36,290			206		—			36,496
Foreign and municipal bonds	17,421			55		(1		)	17,475
Certificates of deposit	3,994			4		(1		)	3,997
Total fixed income securities	305,394			845		(307		)	305,932
Publicly traded equity securities	1,393			457		—			1,850
	306,787			1,302		(307		)	307,782
Less: Auction rate securities included in other assets and long- term investments	(85,350		)	—		—			(85,350		)
Total short-term investments	$	221,437		$	1,302	$	(307	)	$	222,432

The following table summarizes the maturities of the Company’s fixed income securities as of September 30, 2008 (in thousands):

	Cost		Estimated Fair Value
Less than 1 year	$	89,503	$	86,175
Due in 1 to 2 years	85,230		81,810
Due in 2 to 5 years	39,229		37,374
Greater than 5 years*	57,775		57,775
Total fixed income securities	$	271,737	$	263,134

*Comprised of auction rate securities which have reset dates of 90 days or less but final expiration dates over 5 years.  These securities are included in other assets and long-term investments as of September 30, 2008.  In October 2008, the Company accepted an offer (the “UBS Offer”) from UBS AG (“UBS”), one of its investment providers.  As a UBS client who holds Auction Rate Securities (“ARS”), the Company will receive ARS Rights, which entitle the Company to sell ARS to UBS affiliates during the period from June 30, 2010 to July 2, 2012 for a price equal to par value.  In exchange for the issuance of the ARS Rights, the UBS affiliates have the discretionary right to sell the Company’s eligible ARS on the Company’s behalf, without prior notification, at any time during a two-year period

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beginning June 30, 2010.  The Company also received communications from Wachovia Securities indicating that Wachovia will soon offer to purchase, no later than June 30, 2009, ARS held by the Company at par value. The Company currently holds $37.4 million of ARS with UBS and $20.4 million of ARS with Wachovia.

5.Fair Value

Effective January 1, 2008, the Company adopted SFAS No. 157, “Fair Value Measurements” (“SFAS 157”).  In February 2008, the FASB issued FASB Staff Position No. FAS 157-2, “Effective Date of FASB Statement No. 157,” which provides a one year deferral of the effective date of SFAS 157 for non-financial assets and non-financial liabilities, except those that are recognized or disclosed in the financial statements at fair value at least annually.  Therefore, the Company has adopted the provisions of SFAS 157 with respect to its financial assets and liabilities only.  SFAS 157 defines fair value, establishes a framework for measuring fair value under generally accepted accounting principles and enhances disclosures about fair value measurements.  Fair value is defined under SFAS 157 as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.  Valuation techniques used to measure fair value under SFAS 157 must maximize the use of observable inputs and minimize the use of unobservable inputs.  The standard describes a fair value hierarchy based on three levels of inputs that may be used to measure fair value, of which the first two are considered observable and the last unobservable:

·Level 1 - Quoted prices in active markets for identical assets or liabilities.

·Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

·Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

The adoption of this statement did not have a material impact on the Company’s consolidated results of operations and financial condition.  In October 2008 the FASB Issued FASB Staff Position No. FAS 157-3, “Determining the Fair Value of a Financial Asset When the Market for that Asset is Not Active” (“FSP 157-3”), to clarify the application of the provisions of SFAS 157 in an inactive market and how an entity would determine fair value in an inactive market.  FSP 157-3 is effective immediately and applies to the Company’s current quarter financial statements.  The application of the provision of FSP 157-3 did not impact the Company’s results of operations or financial condition as of and for the periods ended September 30, 2008.

Effective January 1, 2008, the Company adopted SFAS No. 159 “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”).  SFAS 159 allows an entity the irrevocable option to elect fair value for the initial and subsequent measurement for specified financial assets and liabilities on a contract-by-contract basis.  The Company did not elect to adopt the fair value option under this Statement.

In accordance with SFAS 157, the following table represents the Company’s fair value hierarchy for its financial assets (cash equivalents and investments) measured at fair value on a recurring basis as of September 30, 2008 (in thousands):

	Level 1		Level 2		Level 3		Total
Corporate notes and bonds	$	—	$	150,969	$	—	$	150,969
Auction rate securities	—		—		57,775		57,775
U.S. government and agency securities	—		39,304		—		39,304
Foreign and municipal bonds	—		13,083		—		13,083
Certificates of deposit	—		2,003		—		2,003
Total fixed income securities	—		205,359		57,775		263,134
Publicly traded equity securities	643		—		—		643
Total	$	643	$	205,359	$	57,775	$	263,777

The Company’s Level 3 investments as of September 30, 2008 include high-grade auction rate securities primarily consisting of government guaranteed student loans.  Auction rate securities are securities that are structured with short-term interest rates which periodically reset through auctions, typically within every 90 days.  At the end of each reset period, investors can sell or continue to

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hold the securities at par. During the current year, some of the auction rate securities were sold and others failed to auction successfully due to market supply exceeding market demand.  In the event of a failed auction, the notes continue to bear interest at a predetermined maximum rate based on the credit rating of notes as determined by one or more nationally recognized statistical rating organizations.  The funds associated with failed auctions will not be accessible until a successful auction occurs, a buyer is found outside of the auction process, the issuers redeem the securities or the underlying securities have matured.  As a result, the Company has classified all auction rate securities as long-term assets at cost in the condensed consolidated balance sheets.  In October 2008, the Company accepted an offer (the “UBS Offer”) from UBS AG (“UBS”), one of its investment providers.  As a UBS client who holds Auction Rate Securities (“ARS”), the Company will receive ARS Rights, which entitle the Company to sell ARS to UBS affiliates during the period from June 30, 2010 to July 2, 2012 for a price equal to par value.  In exchange for the issuance of the ARS Rights, the UBS affiliates have the discretionary right to sell the Company’s eligible ARS on the Company’s behalf, without prior notification, at any time during a two-year period beginning June 30, 2010.  The Company also received communications from Wachovia Securities indicating that Wachovia will soon offer to purchase, no later than June 30, 2009, ARS held by the Company at par value. The Company currently holds $37.4 million of ARS with UBS and $20.4 million of ARS with Wachovia.

Due to the current economic environment in which there is a lack of market activity for auction rate securities, the Company has been unable to obtain quoted prices or market prices for identical assets as of the measurement date resulting in significant unobservable inputs used in determining the fair value.  The Company estimated the fair value of these auction rate securities using the income approach based on the following: (i) the underlying structure and contractual provisions of each security; (ii) the present value of future principal and interest payments discounted at rates considered to reflect current market conditions; and (iii) consideration of the probabilities of default, auction failure, or repurchase at par for each period.  These estimated fair values could change significantly based on future market conditions, which could result in recognizing an other-than-temporary impairment loss.

The fair value indicated by this approach yielded a value that approximated the par value of the respective securities.

The reconciliation of beginning and ending balances for auction rate securities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) during the period was as follows (in thousands):

	Fair Value Measurements using Significant Unobservable Inputs (Level 3)
	Auction rate securities
Balance at January 1, 2008	$	—
Total gains or losses (realized/unrealized)
Included in earnings	—
Included in other comprehensive income	—
Purchases, sales, issuances, and settlements	—
Transfers in and/or out of Level 3	62,775
Balance at March 31, 2008	62,775
Total gains or losses (realized/unrealized)
Included in earnings	—
Included in other comprehensive income	—
Purchases, sales, issuances, and settlements	(5,000		)
Transfers in and/or out of Level 3	—
Balance at June 30, 2008	57,775
Total gains or losses (realized/unrealized)	—
Included in earnings	—
Included in other comprehensive income	—
Purchases, sales, issuances, and settlements	—
Transfers in and/or out of Level 3	—
Balance at September 30, 2008	$	57,775

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6.Inventories

Inventories are stated at the lower of cost (first in, first out) or market and consisted of the following (in thousands):

	September 30,		December 31,
	2008		2007
Purchased parts and work in process	$	25,831	$	28,498
Finished goods	23,489		20,494
	$	49,320	$	48,992

7.Goodwill and Other Intangible Assets

The Company conducted its annual impairment test of goodwill as of September 30, 2008 in accordance with Statement of Financial Accounting Standard 142 (“SFAS 142”), “Goodwill and Other Intangible Assets” and SFAS 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”  Impairment is tested at the reporting unit level which is one level below the reportable segments.  Potential goodwill impairment is measured based upon a two-step process.  In the first step, the Company compares the fair value of a reporting unit with its carrying amount including goodwill.  If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is considered not impaired, thus the second step of the impairment test is unnecessary.  If the carrying amount of a reporting unit exceeds its fair value, the second step of the goodwill impairment test is performed to measure the amount of an impairment loss.

As a result of this test, the Company determined that the carrying amounts of its Consumer segment reporting units exceeded their fair values and recorded a goodwill impairment charge of approximately $164.5 million and an impairment charge for other intangibles of $3.1 million in the current quarter.  The impairment charge was primarily due to a decrease in valuation based on a decline in the Company’s business forecasts as a result of the current economic downturn as well as a decline in the Company’s stock value over the last several months due to the current global financial crisis.  The fair values of reporting units were estimated using the expected present value of future cash flows.  The total of all reporting fair values was also compared to the Company’s market capitalization plus a control premium for reasonableness.

Components of Acquired Intangible Assets (in thousands):

		September 30, 2008							December 31, 2007
	Life (Years)	Gross Carrying Amount		Accumulated Amortization and Impairment			Net Balance		Gross Carrying Amount		Accumulated Amortization			Net Balance
Amortized intangible assets:
Purchased technology	2-3	$	195,505	$	(195,505	)	$	—	$	195,505	$	(175,451	)	$	20,054
Patents	3-5	40,265		(40,265		)	—		40,265		(36,961		)	3,304
Customer base	3-5	13,860		(13,860		)	—		13,860		(12,043		)	1,817
Tradename and others	3-5	4,655		(3,477		)	1,178		3,350		(2,580		)	770
Total		$	254,285	$	(253,107	)	$	1,178	$	252,980	$	(227,035	)	$	25,945

Estimated future intangible amortization expense, based on current balances, as of September 30, 2008 is as follows (in thousands):

Remaining three months of 2008	$	109
Year ending December 31, 2009	435
Year ending December 31, 2010	435
Year ending December 31, 2011	199
	$	1,178

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Changes in the carrying amount of goodwill for the three and nine month periods ended September 30, 2008 are as follows (in thousands):

	Amount
Balance at December 31, 2007	$	168,691
Impairment of goodwill	(164,494		)
Balance at September 30, 2008	$	4,197

Goodwill by reportable segment was as follows (in thousands):

	September 30,		December 31,
	2008		2007
Consumer	$	—	$	164,494
Imaging	4,197		4,197
	$	4,197	$	168,691

8.Income Taxes

The Company follows the liability method of accounting for income taxes, which requires recognition of deferred tax liabilities and assets for the expected future tax consequence of temporary differences between the financial statement carrying amounts and the tax basis of assets and liabilities.  Realization of deferred tax assets is based on the Company’s ability to generate sufficient future taxable income.  As of December 31, 2007, historical operating income and projected future profits represented sufficient positive evidence that the Company’s deferred tax assets will more likely than not be realized and, accordingly, the valuation allowance was released.

The Company’s effective tax rate is highly dependent upon the geographic distribution of our worldwide earnings or losses, the tax regulations and tax holiday benefits in certain jurisdictions, and the effectiveness of our tax planning strategies.  The provision for income taxes for the three and nine month periods ended September 30, 2008 reflects the estimated annual tax rate applied to the year to date net earnings after the exclusion of a material foreign jurisdiction where the Company is unable to accurately project earnings for future periods.  A separate tax calculation was done for that jurisdiction, which was included in the total provision for income taxes.  In addition, due to a statute of limitations lapse the Company released approximately $1.0 million of its FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes (“FIN 48”) reserve and a provision to return adjustment of $1.0 million that were fully recognized in the period they occurred.  The Company’s Israel based subsidiary is an “Approved Enterprise” under Israeli law, which provides a ten-year tax holiday for income attributable to a portion of the Company’s operations in Israel.  The benefits from this tax holiday expire at various times beginning in 2008.

On January 1, 2007, the Company adopted FIN 48.  Under FIN 48, the impact of an uncertain income tax position on income tax expense must be recognized at the amount that is more-likely-than-not of being sustained.  As of December 31, 2007, the Company had $26.5 million of unrecognized tax benefits which have not materially changed during the current period.  The application of income tax law is inherently complex.  Laws and regulations in this area are voluminous and are often ambiguous and the Company is required to make many subjective assumptions and judgments regarding its income tax exposures.  In addition, interpretations of and guidance surrounding income tax laws and regulations are subject to change over time.  Any changes in our subjective assumptions and judgments could materially affect amounts recognized in the consolidated balance sheets and statements of income.  The Company’s ongoing tax audit in Israel may result in a positive or negative adjustment to the Company’s unrecognized tax benefits within the next 12 months.

The “Emergency Economic Stabilization Act of 2008,” which contains the “Tax Extenders and Alternative Minimum Tax Relief Act of 2008”, was signed into law on October 3, 2008.  Under the Act, the research credit was retroactively extended for amounts paid or incurred after December 31, 2007 and before January 1, 2010.  The effects of the change in the tax law will be recognized in our fourth quarter, which is the quarter in which the law was enacted.  The Company is currently in the process of analyzing the impact of the new law.

9.Segment Reporting

The Company’s products are based on highly integrated application-specific integrated circuits, or ASICs, and system-on-a-chip, or SOC, solutions.  The Company also licenses certain software and other intellectual property.  The Company has two reportable segments – Consumer group and Imaging group.

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The Consumer group provides products for use in DVD players, recordable DVD players, standard and high definition digital television products, digital camera products and multimedia mobile phone products.  The Imaging group provides products used in digital copiers, laser and inkjet printers as well as multifunction peripherals.

Information about reported segment income or loss is as follows for the three and nine month periods ended September 30, 2008 and 2007 (in thousands):

	Three Months Ended September 30,				Nine Months Ended September 30,
	2008		2007		2008			2007
Net revenues:
Consumer	$	109,368	$	120,957	$	306,562		$	309,690
Imaging	16,766		25,469		57,288			68,298
	$	126,134	$	146,426	$	363,850		$	377,988
Operating expenses:
Consumer	$	106,896	$	108,561	$	312,369		$	293,077
Imaging	12,125		17,421		41,384			49,252
	$	119,021	$	125,982	$	353,753		$	342,329
Contribution margin:
Consumer	$	2,472	$	12,396	$	(5,807	)	$	16,613
Imaging	4,641		8,048		15,904			19,046
	$	7,113	$	20,444	$	10,097		$	35,659

 A reconciliation of the totals reported for the operating segments to the applicable line items in the condensed consolidated financial statements for the three and nine month periods ended September 30, 2008 and 2007 is as follows (in thousands):

	Three Months Ended September 30,					Nine Months Ended September 30,
	2008			2007		2008			2007
Contribution margin from operating segments	$	7,113		$	20,444	$	10,097		$	35,659
Amortization of intangible assets	4,494			9,648		22,987			33,986
Impairment of goodwill and intangible assets	167,579			—		167,579			—
In-process research and development	—			—		22,383			—
Total operating income (loss)	$	(164,960	)	$	10,796	$	(202,852	)	$	1,673

Zoran maintains operations in Canada, China, France, Germany, India, Israel, Japan, Korea, Taiwan, the United Kingdom and United States.  Activities in Israel and the United States consist of corporate administration, product development, logistics and worldwide sales management.  Other foreign operations consist of sales, product development and technical support.

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The geographic distribution of total revenues based upon customer location for the three and nine month periods ended September 30, 2008 and 2007 was as follows (in thousands):

	Three Months Ended September 30,				Nine Months Ended September 30,
	2008		2007		2008		2007
Revenue from unaffiliated customers originating from:
China	$	57,754	$	64,463	$	152,259	$	146,842
Japan	17,861		22,260		58,102		69,165
Korea	8,106		5,600		38,935		15,599
Taiwan	32,643		36,336		79,792		97,988
United States	5,860		10,133		22,510		24,703
Other	3,910		7,634		12,252		23,691
Total revenues	$	126,134	$	146,426	$	363,850	$	377,988

For the three months ended September 30, 2008, two customers accounted for 16% and 11% of total revenues, respectively.  For the same period in 2007, one customer accounted for 11% of total revenues.  For the nine months ended September 30, 2008, three customers accounted for 13%, 10% and 10% of total revenues, respectively.  For the same period in 2007, one customer accounted for 13% of total revenues.

As of September 30, 2008, one customer accounted for approximately 22% of total net accounts receivable and as of December 31, 2007 three customers accounted for approximately 11%, 11% and 10% of the net accounts receivable balance, respectively.

10.Acquisition

Let It Wave

On June 12, 2008, the Company completed the acquisition of Let It Wave, a fabless development-stage semiconductor company based in Paris, France. Under the terms of the acquisition agreement, the Company acquired Let It Wave in an all-cash transaction valued at $24.0 million, including approximately $650,000 of transaction costs.  The Company also agreed to make contingent payments up to $4.5 million in additional consideration, contingent upon completion of certain milestones, a portion of which is subject to continuous employment and will be expensed as incurred.

This acquisition’s primary purpose was to obtain Let It Wave’s in-process development of a video frame rate conversion and image enhancement product for flat panel televisions and other consumer electronics.  By acquiring Let It Wave, the Company intends to deliver high performance image processing that enables artifact-free true-Motion Compensated Frame Rate Conversion (MCFRC) for flat panel televisions and other video consumer electronics products.  Let It Wave is at least six months from completing the development of its MCFRC product and currently has no other products, revenues or a customer base.  Upon completion of a finished product, the Company expects to market this technology for 120Hz LCD televisions within the Consumer group.

The Company accounted for this transaction as an asset acquisition in accordance with Statement of Financial Accounting Standard 142 (“SFAS 142”), “Goodwill and Other Intangible Assets” and Emerging Issues Task Force No. 98-3 (“EITF 98-3”), “Determining Whether a Nonmonetary Transaction Involves Receipt of Productive Assets or of a Business.”  The results of operations of Let It Wave have been included in the condensed consolidated financial statements from the date of acquisition.

Allocation of the purchase price is as follows (in thousands):

In-process research and development	$	22,383
Assembled workforce	1,305
Net assets acquired	340
	$	24,028

Net assets acquired were recorded at net book value, which approximates their fair values.  The purchase price in excess of the fair values of net assets acquired was allocated to in-process research and development and assembled workforce based on the relative fair values.

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The in-process research and development has not yet reached technological feasibility and has no alternative future use.  Accordingly the amount allocated to in-process research and development was immediately expensed upon the acquisition date.  The value of in-process research and development was determined using the multi-period excess earnings method by estimating the expected net cash flows from the projects once commercially viable, discounting the net cash flows back to their present value using a discount rate of 15%.  This rate was based on the industry segment for the technology, nature of the products to be developed, relative risk of successful development, time-value of money, length of time to complete the project and overall maturity and history of the development team.  Revenues for the incremental core technology are expected to commence in 2009.  Revenue projections were based on estimates of market size and growth, expected trends in technology and the expected timing of new product introductions.  As of September 30, 2008, there have been no material variations from the underlying assumptions that were used in the original computation of the value of the acquired entity.

11.Net Income (Loss) Per Share

Basic net income (loss) per share is calculated by dividing net income (loss) available to common stockholders by the weighted average number of common shares outstanding during the period.  Diluted net income (loss) per share is calculated by using the weighted average number of common shares outstanding during the period increased to include the number of additional shares of common stock that would have been outstanding if the dilutive potential shares of common stock had been issued.

The following table provides a reconciliation of the components of the basic and diluted net income (loss) per share computations (in thousands, except per share data):

	Three Months Ended September 30,					Nine Months Ended September 30,
	2008			2007		2008			2007
Net income (loss)	$	(154,220	)	$	13,142	$	(195,518	)	$	7,456
Weighted average shares outstanding	51,231			49,863		51,464			49,633
Effect of dilutive options, restricted shares, and restricted stock units	—			1,421		—			1,228
Dilutive weighted average shares	51,231			51,284		51,464			50,861
Net income (loss) per share:
Basic	$	(3.01	)	$	0.26	$	(3.80	)	$	0.15
Diluted	$	(3.01	)	$	0.26	$	(3.80	)	$	0.15

For the three month periods ended September 30, 2008 and 2007, outstanding options, restricted shares and restricted stock units totaling 8.6 million and 3.7 million shares, respectively, were excluded from the computation of diluted net income (loss) per share as the inclusion of such shares would have had an anti-dilutive effect.

For the nine month periods ended September 30, 2008 and 2007, outstanding options and restricted stock units totaling 6.8 million and 3.8 million shares, respectively, were excluded from the computation of diluted net income (loss) per share as the inclusion of such shares would have had an anti-dilutive effect.

12.Contingencies

Matters Related to Historical Stock Option Practices.  After September 30, 2008, the following shareholder derivative actions purporting to assert claims on behalf of and in the name of the Company against various of the Company’s current and former directors and officers relating to the Company’s historical accounting for stock options were dismissed.

Pfeiffer v. Zoran Corporation et al; Gerald del Rosario v. Aharon et al.  On September 7 and September 26, 2006, purported shareholder derivative actions were filed by Milton Pfeiffer and Gerald Del Rosario against Zoran as a nominal defendant and

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certain of its officers and directors in the United States District Court, Northern District of California, alleging, among other things, violations of federal securities laws and breaches of fiduciary duties.  On December 8, 2006, the Court issued an order consolidating the two actions and selecting del Rosario as lead plaintiff. On September 15, 2008, the court entered a final judgment approving the parties’ settlement of the consolidated derivative action and dismissing the action with prejudice, which became effective 30 days thereafter.  Terms of the settlement included payments to the Company from its insurance carrier and certain option holders, cancelation or repricing of certain options, and a payment of legal fees to the plaintiff’s attorney.

Barone v. Gerzberg et al.; Durco v. Gerzberg et al.  On October 23, 2006, two purported shareholder derivative actions were filed by Moshe Barone and John Durco against Zoran as a nominal defendant and certain of its current and former officers and directors in the California Superior Court of Santa Clara County, alleging, among other things, violations of state securities laws and breaches of fiduciary duty.  On January 24, 2007 the Court consolidated the Barone and Durco actions, appointed Messrs. Barone and Durco as co-lead plaintiffs and approved their selection of counsel for the consolidated derivative action.  The co-lead plaintiffs filed a consolidated amended complaint on March 26, 2007.  On September 15, 2007 the Court issued an order staying all proceedings until further order of the Court.  On October 27, 2008, that Court entered an order dismissing the action.

Zoran Corporation v. DTS, Inc.  On October 8, 2008, the Company filed a complaint against DTS, Inc. in the U.S. District Court for the Northern District of California, alleging violations of Section 2 of the Sherman Act and patent misuse.  The complaint alleges that DTS wrongfully acquired and maintained monopoly power in the relevant markets in the manner in which it caused its patented high-definition audio decompression technology to be adopted as part of the Blu-ray Disc standard.  The complaint further alleges that having wrongfully acquired monopoly power in the relevant market, DTS has refused to license its technology to the Company and others on fair, reasonable and nondiscriminatory terms as required by its membership in the Blu-ray Disc Association.  The complaint seeks treble damages, in an amount to be determined, an order enjoining DTS from monopolizing and attempting to monopolize the United States markets for Blu-ray Disc technology and an order declaring that DTS’s relevant patents are unenforceable by reason of misuse.  Also on October 8, 2008, the Company filed a notice of arbitration with the International Center for Dispute Resolution under the Blu-ray Disc Association By-laws making similar allegations and seeking an order granting the Company a license to DTS’s Blu-ray technology and requiring DTS to provide the Company with necessary DTS Blu-ray materials or their equivalent and a finding that DTS materially breached the Blu-ray Disc Association By-Laws.  On October 29, 2008, in response to the Company’s complaint, DTS filed a motion seeking an order referring the Company’s claims to arbitration and dismissing the complaint in its entirety or, in the alternative, staying the District Court action pending the outcome of the arbitration.  A hearing on the motion to dismiss is scheduled for December 19, 2008.  DTS has publicly indicated that it also intends to assert counterclaims against the Company.  The Company expects that such counterclaims will involve an unrelated dispute wherein DTS has claimed that the Company breached a license agreement that it entered into with DTS in 1998.  To date, DTS has not filed a response to the Company’s arbitration demand.  The Company intends to vigorously pursue all rights and remedies it may have against DTS and defend any allegations that DTS may make by way of counterclaim.

Indemnification Obligations.  Subject to certain limitations, the Company is obligated to indemnify its current and former directors, officers and employees in connection with the investigation of the Company’s historical stock option practices and related government inquiries and litigation.  These obligations arise under the terms of the Company’s certificate of incorporation, its bylaws, applicable contracts, and Delaware and California law.  The obligation to indemnify generally means that the Company is required to pay or reimburse the individuals’ reasonable legal expenses and possibly damages and other liabilities incurred in connection with these matters.  The Company is currently paying or reimbursing legal expenses being incurred in connection with these matters by a number of its current and former directors, officers and employees.

Other Legal Matters.  The Company is named from time to time as a party to lawsuits in the normal course of its business. Litigation in general, and intellectual property and securities litigation in particular, can be expensive and disruptive to normal business operations.  Moreover, the results of legal proceedings are difficult to predict.

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

This report includes a number of forward-looking statements which reflect the Company’s current views with respect to future events and financial performance. These forward-looking statements are subject to certain risks and uncertainties, including those discussed in “Part II, Item 1A. Risk Factors” below. In this report, the words “anticipates,” “believes,” “expects,” “intends,” “future” and similar expressions identify forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof.

Overview

Our products consist of integrated circuits and related products used in digital versatile disc players, or DVDs, movie and home theater systems, digital cameras and video editing systems.  We also provide integrated circuits, software and platforms for standard and high definition digital television applications that enable the delivery and display of digital video content through a set-top box or television, demodulator IC technology for the global high definition television market.  We also provide digital imaging products consisting of semiconductor hardware and software that enable users to print, scan, process and transmit documents to computer peripherals that perform printing functions.  We also provide high performance, low-power application processors, technology and products for the multimedia mobile telephone market.

Revenues

We derive most of our revenues from the sale of our integrated circuit and system-on-a-chip products.  Historically, average selling prices in the semiconductor industry in general, and for our products in particular, have decreased over the life of a particular product.  Average selling prices for our products have fluctuated substantially from period to period, primarily as a result of changes in our customer mix of original equipment manufacturer, or OEM, sales versus sales to resellers and the transition from low-volume to high-volume production.  In the past, we have periodically reduced the prices of some of our products in order to better penetrate the consumer market.  We believe that, as our product lines continue to mature and competitive markets evolve, we are likely to experience further declines in the average selling prices of our products, although we cannot predict the timing and amount of such future changes with any certainty.

We also derive revenues from licensing our software and other intellectual property.  Licensing revenues include one-time license fees and royalties based on the number of units distributed by the licensee.  Quarterly licensing revenue can be significantly affected by the timing of a small number of licensing transactions, each accounting for substantial revenues.  Accordingly, licensing revenues have fluctuated, and will continue to fluctuate, on a quarterly basis.  In addition, we have historically generated a portion of our total revenues from development contracts, primarily with key customers, although development revenue has declined substantially as a percentage of total revenues over the past several years.  These development contracts have provided us with partial funding for the development of some of our products.  These development contracts provide for license and milestone payments which are recorded as development revenue.  We classify all development costs, including costs related to these development contracts, as research and development expenses.  We retain ownership of the intellectual property developed by us under these development contracts.  While we intend to continue to enter into development contracts with certain strategic partners, we expect development revenue to continue to decline as a percentage of total revenues.

We recognize software license revenues in accordance with the provisions of Statement of Position (SOP) 97-2, Software Revenue Recognition, as amended by SOP 98-9, Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions. Our software license agreements typically include obligations to provide maintenance and other support over a fixed term and allow for renewal of maintenance services on an annual basis. We determine the fair value of our maintenance obligations with reference to substantive renewal rates within the agreement or objective evidence of fair value as required under SOP 97-2. We recognize maintenance and support revenue ratably over the term of the arrangement.  We also receive royalty revenues based on per unit shipments of products that include our software, which we recognize upon receipt of a royalty report from the customer, typically one quarter in arrears.

Cost of Hardware Product Revenues

Our cost of hardware product revenues consists primarily of fabrication costs, assembly and test costs, and the cost of materials and overhead from operations.  If we are unable to reduce our cost of hardware product revenues to offset anticipated decreases in average selling prices, our product gross margins will decrease.  We expect both product and customer mix to continue to fluctuate in future periods, causing fluctuations in margins.

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Research and Development

Our research and development expenses consist of salaries and related costs of employees engaged in ongoing research, design and development activities and costs of engineering materials and supplies.  We believe that significant investments in research and development are required for us to remain competitive, and we expect to continue to devote significant resources to product development, although such expenses as a percentage of total revenues may fluctuate.

Selling, General and Administrative

Our selling, general and administrative expenses consist primarily of employee-related expenses, sales commissions, product promotion and other professional services.  We expect that selling, general and administrative expenses will continue to increase to support our anticipated growth.

Income Taxes

Our effective tax rate is highly dependent upon the geographic distribution of our worldwide earnings or losses.  During the third quarter we determined that for a material foreign jurisdiction we are unable to reliably predict the expected annual earnings, and we removed this jurisdiction from our effective tax rate calculation.  We calculated tax separately for that jurisdiction and included it in the total provision for income taxes.

Our Israel based subsidiary is an “Approved Enterprise” under Israeli law, which provides a ten-year tax holiday for income attributable to a portion of our operations in Israel.  Our U.S. federal net operating losses expire at various times between 2017 and 2024, and the benefits from our subsidiary’s Approved Enterprise status expire at various times beginning in 2008.

We are currently under a tax audit in Israel for tax years 2003 through 2005.  We believe that we have adequately provided for any potential assessments associated with this audit.  It is possible that the amount of our liability for unrecognized income tax benefits may change within the next 12 months.  In addition, our income tax expense could be affected as other events occur, income tax audits conclude or statutes of limitations expire.  We cannot estimate at this time the range of possible changes in our tax expense.

Acquisitions

Let It Wave

On June 12, 2008, we completed the acquisition of Let It Wave, a fabless development-stage semiconductor company based in Paris, France. Under the terms of the acquisition agreement, we acquired Let It Wave in an all cash transaction valued at $24.0 million including approximately $650,000 of transaction costs.  We also agreed to make contingent payments of up to $4.5 million in additional consideration, contingent upon completion of certain milestones, a portion of which is subject to continuous employment and will be expensed as incurred.  We recorded an in-process research and development expense of $22.4 million in connection with the acquisition.

We accounted for this transaction as an asset acquisition in accordance with Statement of Financial Accounting Standard 142 (“SFAS 142”), “Goodwill and Other Intangible Assets” and Emerging Issues Task Force No. 98-3 (“EITF 98-3”), “Determining Whether a Nonmonetary Transaction Involves Receipt of Productive Assets or of a Business.”

Following the completion of the acquisition, the results of operations of Let It Wave have been included in our condensed consolidated financial statements.  Accordingly, our results of operations for the three and nine month periods ended September 30, 2008 include Let It Wave’s operations from the acquisition date.

Segments

Our products are based on highly integrated application-specific integrated circuits, or ASICs, and system-on-a-chip, or SOC, solutions.  We also license certain software and other intellectual property.  We operate in two operating segments — Consumer group and Imaging group.  The Consumer group provides products for use in DVD players, recordable DVD players, standard and high definition digital television products, digital camera products and multimedia mobile phone products.  The Imaging group provides products used in digital copiers, laser and inkjet printers as well as multifunction peripherals.

Critical Accounting Policies and Estimates

This discussion and analysis of our financial condition and results of operations is based upon our unaudited condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our critical accounting policies and estimates. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for our judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates. Our critical accounting policies and estimates are discussed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2007 with the exception of the additional policies discussed below.

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Fair value measurements

Effective January 1, 2008, we adopted SFAS No. 157, “Fair Value Measurements” (“SFAS 157”).  In February 2008, the FASB issued FASB Staff Position No. FAS 157-2, “Effective Date of FASB Statement No. 157,” which provides a one year deferral of the effective date of SFAS 157 for non-financial assets and non-financial liabilities, except those that are recognized or disclosed in the financial statements at fair value at least annually. Therefore, we have adopted the provisions of SFAS 157 with respect to its financial assets and liabilities only.  SFAS 157 defines fair value, establishes a framework for measuring fair value under generally accepted accounting principles and enhances disclosures about fair value measurements. Fair value is defined under SFAS 157 as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value under SFAS 157 must maximize the use of observable inputs and minimize the use of unobservable inputs. The standard describes a fair value hierarchy based on three levels of inputs, that may be used to measure fair value, of which the first two are considered observable and the last unobservable:

·Level 1 - Quoted prices in active markets for identical assets or liabilities.

·Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

·Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

The adoption of this statement did not have a material impact on our consolidated results of operations and financial condition.  In October 2008 the FASB Issued FASB Staff Position No. FAS157-3, “Determining the Fair Value of a Financial Asset When the Market for that Asset is Not Active” (“FSP 157-3”), to clarify the application of the provisions of SFAS 157 in inactive market and how an entity would determine fair value in an inactive market.  FSP 157-3 is effective immediately and applies to the Company’s current quarter financial statements.  The application of the provision of FSP 157-3 did not affect the Company’s results of operations or financial condition as of and for the periods ended September 30, 2008.

Our Level 3 investments as of September 30, 2008 include high-grade auction rate securities primarily consisting of government guaranteed student loans.  Auction rate securities are securities that are structured with short-term interest rates which periodically reset through auctions, typically within every 90 days.  At the end of each reset period, investors can sell or continue to hold the securities at par. During the current quarter, some of the auction rate securities were sold and others failed to auction successfully due to market supply exceeding market demand.  In the event of a failed auction, the notes continue to bear interest at a predetermined maximum rate based on the credit rating of notes as determined by one or more nationally recognized statistical rating organizations. The funds associated with failed auctions will not be accessible until a successful auction occurs, a buyer is found outside of the auction process, the issuers redeem the securities or the underlying securities have matured.  As a result, we have classified all auction rate securities as long-term assets in the condensed consolidated balance sheets.  In October 2008, we accepted an offer (the “UBS Offer”) from UBS AG (“UBS”), one of our investment providers.  As a UBS client who holds Auction Rate Securities (“ARS”), we will receive ARS Rights, which will entitle us to sell ARS to UBS affiliates during the period from June 30, 2010 to July 2, 2012 for a price equal to par value.  In exchange for the issuance of the ARS Rights, the UBS affiliates will have the discretionary right to sell our eligible ARS on our behalf, without prior notification, at any time during a two-year period beginning June 30, 2010.  We also received communications from Wachovia Securities indicating that they will soon offer to purchase, no later than June 30, 2009, at par value ARS held by us.  We currently hold $37.4 million of auction rate securities with UBS and $20.4 million of auction rate securities with Wachovia.

Due to the current economic environment in which there is a lack of market activity for auction rate securities, we have been unable to obtain quoted prices or market prices for identical assets as of the measurement date resulting in significant unobservable inputs used in determining the fair value.  We estimated the fair value of these auction rate securities using the income approach based on the following: (i) the underlying structure and contractual provisions of each security; (ii) the present value of future principal and interest payments discounted at rates considered to reflect current market conditions; and (iii) consideration of the probabilities of default, auction failure, or repurchase at par for each period. These estimated fair values could change significantly based on future market conditions, which could result in recognizing an other-than-temporary impairment loss.

The fair value indicated by this approach yielded a value that approximated the par value of the respective securities.

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Valuation of Goodwill

We conducted our annual impairment test of goodwill as of September 30, 2008 in accordance with Statement of Financial Accounting Standard 142 (“SFAS 142”), “Goodwill and Other Intangible Assets” and SFAS 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”  Impairment is tested at the reporting unit level which is one level below the reportable segments.  Potential goodwill impairment is measured based upon a two-step process.  In the first step, we compare the fair value of a reporting unit with its carrying amount including goodwill.  If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is considered not impaired, thus the second step of the impairment test is unnecessary.  If the carrying amount of a reporting unit exceeds its fair value, the second step of the goodwill impairment test is performed to measure the amount of an impairment loss.

As a result of this test, we determined that the carrying amounts of our Consumer segment reporting units exceeded their fair values and recorded a goodwill impairment charge of approximately $164.5 million and an impairment charge for other intangibles of $3.1 million in the current quarter.  The impairment charge was primarily due to a decrease in valuation based on a decline in our business forecasts as a result of the current economic downturn as well as a decline in our stock value over the last several months due to the current global financial crisis.  The fair values of reporting units were estimated using the expected present value of future cash flows.  The total of all reporting fair values was also compared to our market capitalization plus a control premium for reasonableness.

Results of Operations

The following table summarizes selected consolidated statement of operations data and changes from the period to period

  (dollars in thousands, except for percentages):

	Three Months EndedSeptember 30,						Change
	2008			2007			$			%
Revenues:
Hardware product revenues	$	112,112		$	129,820		$	(17,708	)	(13.6	)%
Software and other revenues	14,022			16,606			(2,584		)	(15.6	)%
Total revenues	126,134			146,426			(20,292		)	(13.9	)%
Cost and expenses:
Cost of hardware product revenues	66,446			69,876			(3,430		)	(4.9	)%
Research and development	28,922			28,063			859			3.1	%
Selling, general and administrative	23,653			28,043			(4,390		)	(15.7	)%
Amortization of intangible assets	4,494			9,648			(5,154		)	(53.4	)%
Impairment of goodwill and intangible assets	167,579			—			167,579				*
Total costs and expenses	291,094			135,630			155,464				*
Operating income (loss)	(164,960		)	10,796			(175,756		)		*
Interest and other income (expense), net	3,020			4,046			(1,026		)	(25.4	)%
Provision (benefit) for income taxes	(7,720		)	1,700			(9,420		)		*
Net income (loss)	$	(154,220	)	$	13,142		$	(167,362	)		*
Supplemental Operating Data:
Cost of hardware product as % of hardware product revenues	59.3		%	53.8		%

*      not meaningful

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	Nine Months Ended September 30,						Change
	2008			2007			$			%
Revenues:
Hardware product revenues	$	320,015		$	331,510		$	(11,495	)	(3.5	)%
Software and other revenues	43,835			46,478			(2,643		)	(5.7	)%
Total revenues	363,850			377,988			(14,138		)	(3.7	)%
Cost and expenses:
Cost of hardware product revenues	192,595			174,252			18,343			10.5	%
Research and development	87,606			83,027			4,579			5.5	%
Selling, general and administrative	73,552			85,050			(11,498		)	(13.5	)%
Amortization of intangible assets	22,987			33,986			(10,999		)	(32.4	)%
Impairment of goodwill and intangible assets	167,579			—			167,579				*
In-process research and development	22,383			—			22,383				*
Total costs and expenses	566,702			376,315			190,387				*
Operating income (loss)	(202,852		)	1,673			(204,525		)		*
Interest and other income (expense), net	9,664			12,133			(2,469		)	(20.3	)%
Provision (benefit) for income taxes	2,330			6,350			(4,020		)	(63.3	)%
Net income (loss)	$	(195,518	)	$	7,456		$	(202,974	)		*
Supplemental Operating Data:
Cost of hardware product as % of hardware product revenues	60.2		%	52.6		%

*      not meaningful

Revenues

Total revenues were $126.1 million for the three months ended September 30, 2008 compared to $146.4 million for the three months ended September 30, 2007.  Consumer segment revenues decreased by $11.6 million while Imaging segment revenues decreased $8.7 million.  Within the Consumer segment, revenues for DVD and Mobile products were down by $28.9 million and $2.7 million, respectively. Partially offsetting the decrease in DVD and Mobile products’ revenue was an increase in DTV products revenue of $20.0 million. The decrease in Imaging segment revenues was due to a reduction in Imaging hardware product revenues of $6.4 million and a decrease in Imaging software and other revenues of $2.3 million.  We believe that the recent worldwide economic downturn has adversely affected the markets that our customers serve, and we expect this impact may continue to reduce sales of our products until the economy begins to recover.

Total revenues were $363.8 million for the nine months ended September 30, 2008 compared to $378.0 million for the nine months ended September 30, 2007.  Consumer segment revenues decreased by $3.2 million while Imaging segment revenues decreased $11.0 million.  The decrease in Consumer segment revenues was primarily a result of decreases in revenues for DVD products of $50.8 million and Mobile products of $2.6 million which was partially offset by an increase in revenues for DTV products of $50.2 million.  The decrease in Imaging segment revenues was primarily due to a reduction in Imaging hardware product revenues of $9.3 million and a decrease in software and other revenues of $1.7 million.

Hardware product revenues for the three months ended September 30, 2008 were $112.1 million compared to $129.8 million for the comparable period of the prior year.  Hardware product revenues decreased $11.3 million in the Consumer segment and $6.4 million in the Imaging segment.  Within the Consumer segment, hardware product revenues for DVD and Mobile products decreased by $29.0 million and $2.7 million respectively. DVD hardware product revenues were down due to decreased unit shipments while Mobile hardware product revenues were primarily down due to lower average selling prices. Partially offsetting the decreases in hardware product revenues for DVD and Mobile products was an increase of $20.4 million for DTV products principally due to increased unit shipments. The decrease in Imaging hardware product revenues was mainly due to lower unit shipments.

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Hardware product revenues for the nine months ended September 30, 2008 were $320.0 million compared to $331.5 million for the comparable period of the prior year.  Hardware product revenues decreased $2.2 million in the Consumer segment and $9.3 million in the Imaging segment.  Within the Consumer segment, hardware product revenues for DVD and Mobile products decreased by $50.4 million and $2.6 million, respectively. The decrease in hardware product revenues for DVD products was primarily due to lower unit shipments while the decrease in Mobile products was mainly due to lower average selling prices. Partially offsetting the reduced hardware product revenues for DVD and Mobile products was an increase of $50.8 million for DTV products due primarily to increased unit shipments.  The decrease in Imaging hardware product revenues was primarily due to reduced unit shipments.

Software and other revenues were $14.0 million and $43.8 million for the three and nine month periods ended September 30, 2008, respectively, compared to $16.6 million and $46.5 million for the three and nine month periods ended September 30, 2007, respectively.  The changes in software and other revenues were primarily due to decrease in royalty revenues from customers in the Imaging segment due to decrease in unit shipments of products that include our software and the timing of new agreements.

Cost of Hardware Product Revenues

The increase in hardware product costs as a percentage of hardware product revenues for the three and nine month periods ended September 30, 2008, compared to the same period in 2007, was primarily a result of product mix — products with a higher percent of cost per revenue represented a greater proportion of products sold.  In the first half of 2008, we experienced initial cost challenges related to ramp in volume of new products.  Since then we have seen and we expect to continue to see improvements in the cost structure associated with these new products. Cost of hardware product revenues as a percentage of product revenue was also impacted by declines in average selling prices, particularly for our Mobile and DVD products.

Research and Development

Research and development expenses increased by $0.9 million and $4.6 million for the three and nine month periods ended September 30, 2008, respectively, compared to the same periods in 2007.  Research and development expenses tend to fluctuate based on the timing of major engineering-related expenses, such as tape-outs as well as continued investments in research and development across both of our segments.

Selling, General and Administrative

Selling, general and administrative expenses decreased by $4.4 million and $11.5 million for the three and nine month periods ended September 30, 2008, respectively, compared to the same periods in 2007.  These decreases were primarily attributed to decreases in legal and accounting expenses which were high in 2007 as a result of our review of historical stock option granting practices.  In addition, stock-based compensation expenses were lower for the three and nine month periods ended September 30, 2008 compared to the same periods in 2007.

Amortization of Intangible Assets

During the three and nine month periods ended September 30, 2008, we incurred charges of $4.5 and $23.0 million, respectively, related to the amortization of intangible assets compared to $9.6 million and $34.0 million of such charges for the three and nine month periods ended September 30, 2007, respectively.  At September 30, 2008, we had approximately $1.2 million in net intangible assets acquired through the Let It Wave acquisition, which we will continue to amortize on a straight line basis through 2011.

Impairment of Goodwill and Intangible Assets

During the current quarter, as a result of our annual impairment test, we determined that the carrying amount of certain reporting units exceeded their fair value resulting in an impairment charge of $164.5 million related to goodwill recorded in our Consumer business segment and $3.1 million related to intangible assets in our Consumer business segment.

In-Process Research and Development

During the nine months ended September 30, 2008, the Company recorded an in-process research and development expense of $22.4 million as part of the June 2008 acquisition of Let It Wave.  There were no charges recorded for in-process research and development during 2007.

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Interest and Other Income (Expense)

Interest and other income (expense) was $3.0 and $9.7 million for the three and nine month periods ended September 30, 2008, respectively, compared to $4.0 million and $12.1 million for the same periods of 2007, respectively.  Interest income was $3.0 million and $10.8 million for the three and nine month periods ended September 30, 2008, respectively, compared to $4.3 million and $11.7 million for the same period of 2007.  The decrease in interest income for the three and nine month periods ended September 30, 2008 was primarily due to lower average interest earned on our cash and short term investment balances due to declines in the interest rate.  The changes in other income (expense) for the three and nine month periods ended September 30, 2008 were primarily due to foreign currency remeasurement losses as a result of the decline in the value of the U.S. dollar in comparison to currencies in countries in which we operate and fluctuations in realized gains due to timing of sale of investments.

Provision (Benefit) for Income Taxes

We recorded a tax benefit of $7.7 million and a provision of $2.3 million for the three and nine month periods ended September 30, 2008, respectively, compared to a tax provision of $1.7 million and $6.4 million for the three and nine month periods ended September 30, 2007, respectively.  The provision (benefit) for the three and nine month periods ended September 30, 2008 reflects the estimated annual tax rate applied to the year to date pre tax loss, adjusted for certain discrete items that are fully recognized in the period they occur.  During the third quarter we determined that for a material foreign jurisdiction we are unable to reliably predict the expected annual earnings, and we removed this jurisdiction from our effective tax rate calculation.  We calculated tax separately for that jurisdiction and included it in the total provision for income taxes.

The income tax provision (benefit) for these periods was affected by the geographic distribution of our worldwide earnings and losses, the impact of recording a valuation allowance and the release of the valuation allowance at December 31, 2007, non-deductible expenses such as SFAS 123R stock-based compensation expense, as well as the accrual of liabilities associated with unrecognized tax benefits.  Our Israel based subsidiary is an “Approved Enterprise” under Israeli law, which provides a ten-year tax holiday for income attributable to a portion of our operations in Israel.  In addition, due to a statute of limitations lapse there was a release of approximately $1.0 million of our FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes (“FIN 48”) reserve and a provision to return adjustment of $1.0 million that were fully recognized in the period they occurred.

Liquidity and Capital Resources

At September 30, 2008, we had $98.1 million of cash and cash equivalents, $206.0 million of short term investments and $57.8 million of long term investments.  At September 30, 2008, we had $362.8 million of working capital.

Cash provided by operating activities was $0.5 million during the first nine months of 2008.  While we recorded a net loss of $195.6 million, this loss included non-cash items such as impairment of goodwill and intangible assets of $167.6 million, amortization of $23.0 million, depreciation of $6.0 million, in-process research and development expense of $22.4 million and stock-based compensation expense of $10.0 million.  Cash provided by operations was primarily due to decreases in accounts receivable, prepaid expenses and other current assets and other assets by $6.7 million due to the timing of collections and payments. These changes were partially offset by a decrease in accounts payable, accrued expenses and other liabilities totaling $40.5 million due to timing of payments.

Cash provided by investing activities was $6.1 million during the nine months ended September 30, 2008 principally reflecting the proceeds from sales and maturities of investments, net of purchases, of $33.8 million.  This was partially offset by $22.8 million used for the acquisition of Let It Wave and $4.9 million used for purchases of property and equipment.

Cash used in financing activities during the nine months ended September 30, 2008 was $5.8 million primarily for repurchase of common stock of $10.0 million under our Stock Repurchase Program.  This was partially offset by $4.2 million of proceeds received from issuances of common stock through exercises of stock options and proceeds from the sale of stock under our employee stock purchase plan.

Our operating activities generated cash of $63.6 million during the first nine months of 2007, primarily due to net income of $7.5 million adjusted for non-cash items such as amortization of $34.0 million, depreciation of $5.9 million and stock- based compensation expense of $10.6 million.  Cash provided by operations also increased due to a $6.3 million increase in accounts payable; $14.3 million increase in accrued expenses and other liabilities and other long term liabilities due to timing of payments and a $11.4 million decrease in inventory as a result of an increase in shipments.  These increases were partially offset by an increase in accounts receivable by $17.8 million due to increase in revenues that occurred late in the quarter and an increase in prepaid expenses and other current assets by $7.8 million.

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Cash used in investing activities was $67.1 million during the nine months ended September 30, 2007, principally reflecting the net purchase of investments of $59.6 million.  In addition we spent $7.5 million for the purchases of property and equipment.

Cash provided by financing activities during the nine months ended September 30, 2007 was $6.0 million and consisted of proceeds received from issuances of common stock through exercises of employee stock options.

At September 30, 2008, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.  Accordingly, we are not exposed to the type of financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.

We believe that our current balances of cash, cash equivalents and short-term investments, and anticipated cash flow from operations, will satisfy our anticipated working capital and capital expenditure requirements at least through the next 12 months.  We intend to hold our auction rate securities for the foreseeable future and have classified them as a long-term asset and do not expect this to have an impact on our liquidity.  Nonetheless, our future capital requirements may vary materially from those now planned and will depend on many factors including, but not limited to:

·the levels at which we maintain inventories and accounts receivable;

·the market acceptance of our products;

·the levels of promotion and advertising required to launch our new products or to enter markets and attain a competitive position in the marketplace;

·our business, product, capital expenditure and research and development plans and technology roadmap;

·volume pricing concessions;

·capital improvements to new and existing facilities;

·technological advances;

·the response of competitors to our products; and

·our relationships with our suppliers and customers.

In addition, we may require an increase in the level of working capital to accommodate planned growth, hiring and infrastructure needs.  Additional capital may also be required for additional acquisitions of businesses, products or technologies.

To the extent that our existing resources and cash generated from operations are insufficient to fund our future activities, we may need to raise additional funds through public or private financings or borrowings.  If additional funds are raised through the issuance of debt securities, these securities could have rights, preferences and privileges senior to holders of common stock, and the terms of this debt could impose restrictions on our operations.  The sale of additional equity or convertible debt securities could result in additional dilution to our stockholders.  We cannot be certain that additional financing will be available in amounts or on terms acceptable to us, if at all.  If we are unable to obtain this additional financing, we may be required to reduce the scope of our planned product development and sales and marketing efforts, which could harm our business, financial condition and operating results.

Item 3.  Quantitative and Qualitative Disclosures About Market Risk

We are exposed to financial market risks, including changes in interest rates and foreign currency exchange rates.

Interest Rate Risk

We invest in a variety of financial instruments, consisting principally of investments in commercial paper, money market funds, auction rate securities and highly liquid debt securities of corporations, municipalities and the United States government and its agencies. These investments are denominated in United States dollars. We do not maintain derivative financial instruments. We place our investments in instruments that meet high credit quality standards, as specified in our investment policy guidelines.

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We account for our investment instruments in accordance with SFAS 115, Accounting for Certain Investments in Debt and Equity Securities. All of the cash equivalents and marketable securities are treated as “available-for-sale” under SFAS 115. Investments in both fixed rate and floating rate interest earning instruments carry a degree of interest rate risk. Fixed rate securities may have their market value adversely impacted due to a rise in interest rates, while floating rate securities may produce less income than expected if interest rates fall. Due in part to these factors, our future investment income may fall short of expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our debt securities as “available-for-sale” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or declines in fair value are determined to be other than temporary.  These securities are reported at fair value with the related unrealized gains and losses included in accumulated other comprehensive income, a component of stockholders’ equity, net of tax.  In October 2008, we accepted an offer (the “UBS Offer”) from UBS AG (“UBS”), one of our investment providers.  As a UBS client who holds Auction Rate Securities (“ARS”), we will receive ARS Rights, which will entitle us to sell ARS to UBS affiliates during the period from June 30, 2010 to July 2, 2012 for a price equal to par value.  In exchange for the issuance of the ARS Rights, the UBS affiliates will have the discretionary right to sell our eligible ARS on our behalf, without prior notification, at any time during a two-year period beginning June 30, 2010.  We also received communications from Wachovia Securities indicating that they will soon offer to purchase, no later than June 30, 2009, at par value ARS held by us.  We currently hold $37.4 million of auction rate securities with UBS and $20.4 million of auction rate securities with Wachovia.

Due mainly to the short-term nature of the major portion of our investment portfolio, the fair value of our investment portfolio or related income would not be significantly impacted by either a 10% increase or decrease in interest rates.

Exchange Rate Risk

We consider our direct exposure to foreign exchange rate fluctuations to be minimal.  Currently, sales and arrangements with third-party manufacturers provide for pricing and payment in United States dollars, and, therefore, are not subject to exchange rate fluctuations. Increases in the value of the United States’ dollar relative to other currencies would make our products more expensive, which could negatively impact our ability to compete.  Conversely, decreases in the value of the United States’ dollar relative to other currencies could result in our suppliers raising their prices in order to continue doing business with us.

A portion of the cost of our operations, relating mainly to our personnel and facilities in Israel, Asia and Europe, are transacted in foreign currencies.  To date, we have not engaged in any currency hedging activities, although we may do so in the future. Significant fluctuations in currency exchange rates could impact our business in the future.

Item 4. Controls and Procedures

Disclosure Controls and Procedures. Under the supervision and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, we evaluated the effectiveness of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this quarterly report.

Changes to Internal Control Over Financial Reporting.  There were no changes in our internal control over financial reporting during the quarter ended September 30, 2008 that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

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PART II. OTHER INFORMATION

Item 1. Legal Proceedings

The discussion in Part I, Item 1, Note 12, “Contingencies” is incorporated herein by reference.  

Item 1A.   Risk Factors

Our future business, operating results and financial condition are subject to various risks and uncertainties, including those described below.

Our annual revenues and operating results fluctuate due to a variety of factors, which may result in volatility or a decline in the prices of our common stock.

Our historical operating results have varied significantly from period to period due to a number of factors, including:

fluctuation in demand for our products including reduced demand resulting from an economic slowdown;

the timing of new product introductions or enhancements by us and our competitors;

the level of market acceptance of new and enhanced versions of our products and our customers’ products;

the timing or cancellation of large customer orders;

the length and variability of the sales cycle for our products;

pricing policy changes by us and by our competitors and suppliers;

the cyclical nature of the semiconductor industry;

the availability of development funding and the timing of development revenue;

changes in the mix of products sold;

seasonality in demand for our products;

increased competition in product lines, and competitive pricing pressures; and

the evolving and unpredictable nature of the markets for products incorporating our integrated circuits and embedded software.

We expect that our operating results will continue to fluctuate in the future as a result of these factors and a variety of other factors, including:

the cost and availability of adequate foundry capacity;

fluctuations in manufacturing yields;

changes in or the emergence of new industry standards;

failure to anticipate changing customer product requirements;

the loss or gain of important customers;

product obsolescence; and

the amount of research and development expenses associated with new product introductions.

Our operating results could also be harmed by:

economic conditions generally or in various geographic areas where we or our customers do business;

financial instability as a result of problems with mortgage-related securities, liquidity of financial institutions, and credit market problems;

terrorism and international conflicts or other crises;

other conditions affecting the timing of customer orders;

changes in governmental regulations that could affect our products;

a downturn in the markets for our customers’ products, particularly the consumer electronics market;

disruption in commercial activities associated with heightened security concerns affecting international travel and commerce;

reduced demand for consumer electronic products due to an economic slowdown;

28

an inability to hold our auction rate securities for a sufficient time to allow the market activity to recover;

tightened immigration controls that may adversely affect the residence status of key non-U.S. managers and technical employees in our U.S. facilities or our ability to hire new non-U.S. employees in such facilities; or

potential expansion of armed conflict in the Middle East which could adversely affect our operations in Israel.

These factors are difficult or impossible to forecast. We place orders with independent foundries several months in advance of the scheduled delivery date, often in advance of receiving non-cancelable orders from our customers. This limits our ability to react to fluctuations in demand for their products. If anticipated shipments in any quarter are canceled or do not occur as quickly as expected, or if we fail to foresee a technology change that could render a product obsolete, expense and inventory levels could be disproportionately high. If anticipated license revenues in any quarter are canceled or do not occur, gross margins may be reduced.

A significant portion of our expenses are relatively fixed, and the timing of increases in expenses is based in large part on our forecast of future revenues. As a result, if revenues do not meet our expectations, we may be unable to quickly adjust expenses to levels appropriate to actual revenues, which could harm our operating results.

Our customers experience fluctuating product cycles and seasonality, which causes their sales to fluctuate.

Because the markets that our customers serve are characterized by numerous new product introductions and rapid product enhancements, our operating results may vary significantly from quarter to quarter. During the final production of a mature product, our customers typically exhaust their existing inventories of our products. Consequently, orders for our products may decline in those circumstances, even if the products are incorporated into both mature products and replacement products. A delay in a customer’s transition to commercial production of a replacement product would delay our ability to recover the lost sales from the discontinuation of the related mature product. Our customers also experience significant seasonality in the sales of their consumer products, which affects their orders of our products. Typically, the second half of the calendar year represents a disproportionate percentage of sales for our customers due to the holiday shopping period for consumer electronics products, and therefore, a disproportionate percentage of our sales. We expect these seasonal sales fluctuations to continue for the foreseeable future and an economic slowdown could increase the seasonal decline in sales that we typically see in the first half of the calendar year.

Our ability to match production mix with the product mix needed to fill current orders and orders to be delivered in the given quarter may affect our ability to meet that quarter’s revenue forecast. In addition, when responding to customers’ requests for shorter shipment lead times, we manufacture products based on forecasts of customers’ demands. These forecasts are based on multiple assumptions. If we inaccurately forecast customer demand, we may hold inadequate, excess or obsolete inventory that would reduce our profit margins and adversely affect our results of operations and financial condition.

The worldwide economic downturn and other adverse economic factors would be likely to reduce our sales and revenues, increase our expenses and hurt our profitability, results of operations and financial condition.

The current worldwide economic downturn is likely to reduce consumer spending on products made by our customers. Other factors, such as unemployment levels, inflation, deflation, fuel and energy costs, consumer debt levels, interest rates and tax rates, may also reduce overall consumer spending or shift consumer spending to products other than those made by our customers.  Reduced sales by our customers would be likely to hurt our business by reducing our sales for their existing products and slowing new product introductions by our customers and by us. Lower net sales of our products would reduce our immediate and future revenues.  In addition, our expenses could rise due to, among others, fluctuations of the value of United States dollar, changes in interest and tax rates and decreased inventory turnover.  Such reduction of our revenues and increase of our expenses would hurt our profitability and adversely affect our results of operations and financial condition.  In preparing our financial statements we are required to make estimates and assumptions that affect amounts reported in the financial statements and accompanying notes, and some of those estimates are based on our forecasts of future results.  The current volatility in the worldwide economy increases the risk that our actual results will differ materially from our forecasts, requiring adjustments in future filings.

Our products are characterized by average selling prices that typically decline over relatively short time periods; if we are unable to reduce our costs or introduce new products with higher average selling prices, our financial results will suffer.

Average selling prices for our products typically decline over relatively short time periods, while many of our manufacturing costs are fixed. When our average selling prices decline, our revenues decline unless we are able to sell more units and our gross margins decline unless we are able to reduce our manufacturing costs by a commensurate amount. Our operating results suffer when gross margins decline. We have experienced these problems, and we expect to continue to experience them in the future, although we cannot predict when they may occur or how severe they will be.

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Our operating results may be harmed by worldwide economic downturn, as well as by cyclical and volatile conditions in the markets we address. As a result, our business, financial condition and results of operations could be materially and adversely affected.

We operate in the semiconductor industry, which is cyclical and from time to time has experienced significant downturns. Downturns in the industry often occur in connection with, or anticipation of, maturing product cycles for semiconductor companies and their customers, and declines in general economic conditions.  These downturns can cause abrupt fluctuations in product demand, production over-capacity and accelerated decline of average selling prices. The recent emergence of a number of negative economic factors, including heightened fears of a recession, could lead to such a downturn in our industry, which could harm our revenue and our results of operations. Any downturn in the semiconductor industry may be severe and prolonged. The semiconductor industry also periodically experiences increased demand and production capacity constraints, which may affect our revenue if we are unable to ship products to meet customer requirements.

The recent worldwide downturn, due to the crisis in credit markets, slower economic activity, concerns about inflation and deflation, increased energy costs, decreased consumer confidence and spending, reduced corporate profits and capital spending, and other adverse business conditions, makes it extremely difficult for our customers, our vendors and us to accurately forecast and plan future business activities.  This downturn could cause U.S. and foreign businesses to slow spending on our products and services, which would delay and lengthen sales cycles. We cannot predict the timing, strength or duration of any economic slowdown or subsequent economic recovery, worldwide, or in the semiconductor industry. If the economy or markets in which we operate continue to be subject to these adverse economic conditions, our business, financial condition and results of operations will likely be materially and adversely affected. Additionally, the combination of our lengthy sales cycle coupled with challenging macroeconomic conditions could have a synergistic negative impact on the results of our operations.

Our success for the foreseeable future will depend on demand for integrated circuits for a limited number of applications.

In recent years, we have derived a substantial majority of our product revenues from the sale of integrated circuits for DVD and digital camera applications. We expect that sales of our products for these applications will continue to account for a significant portion of our revenues for the foreseeable future. Our future financial performance will also depend on our ability to successfully develop and market new products in the digital television, HDTV and digital imaging markets. If the markets for these products and applications decline or fail to develop as expected, or we are not successful in our efforts to market and sell our products to manufacturers who incorporate integrated circuits into these products, our financial results will be harmed.

Our financial performance is highly dependent on the timely and successful introduction of new and enhanced products.

Our financial performance depends in large part on our ability to successfully develop and market next-generation and new products in a rapidly changing technological environment. If we fail to successfully identify new product opportunities and timely develop and introduce new products that achieve market acceptance, we may lose our market share and our future revenues and earnings may suffer.

In the consumer electronic market, our performance has been dependent on our successful development and timely introduction of integrated circuits for DVD players, digital cameras, multimedia accelerators for mobile phones, broadband digital television and HDTV. These markets are characterized by the incorporation of a steadily increasing level of integration and numbers of features on a chip at the same or lower system cost, enabling original equipment manufacturers, or OEMs, to continually improve the features or reduce the prices of the systems they sell. If we are unable to continually develop and introduce integrated circuits with increasing levels of integration and new features at competitive prices, our operating results will suffer.

In the Imaging market, our performance has been dependent on our successful development and timely introduction of integrated circuits for printers and multi-function peripherals. These markets are characterized by the incorporation of a steadily increasing level of integration and higher speeds on a chip at the same or lower system cost, enabling OEMs to improve the performance and features or reduce the prices of the systems they sell. If we are unable to develop and introduce integrated circuits with increasing levels of integration, performance and new features at competitive prices, our operating results will suffer. The performance of our software licensing business is dependent on our ability to develop and introduce new releases of our software, which incorporate new or enhanced printing standards, as well as performance enhancements required by our OEM customers. If we are unable to develop and release versions of our software supporting required standards and offering enhanced performance, our operating results will suffer.

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We face competition or potential competition from companies with greater resources than ours, and if we are unable to compete effectively with these companies, our market share may decline and our business could be harmed.

The markets in which we compete are intensely competitive and are characterized by rapid technological change, declining average unit selling prices and rapid product obsolescence. We expect competition to increase in the future from existing competitors and from other companies that may enter our existing or future markets with solutions which may be less costly or provide higher performance or more desirable features than our products. Competition typically occurs at the design stage, when customers evaluate alternative design approaches requiring integrated circuits. Because of short product life cycles, there are frequent design win competitions for next-generation systems.

Our existing and potential competitors include many large domestic and international companies that have substantially greater financial, manufacturing, technological, market, distribution and other resources. These competitors may also have broader product lines and longer standing relationships with customers and suppliers than we have.

Some of our principal competitors maintain their own semiconductor foundries and may therefore benefit from capacity, cost and technical advantages. Our principal competitors in the integrated audio and video devices for DVD applications include MediaTek, and Sunplus. In the markets for digital cameras, our principal competitors are in-house solutions developed and used by major Japanese OEMs, as well as products sold by Ambarella, Fujitsu, MediaTek, Novatech, Sunplus and Texas Instruments. In the market for multimedia acceleration for Mobile phones, our principal competitors include AMD, Broadcom, CoreLogic, MtekVision, NVIDIA and Telechips.  In the market for JPEG-based products for desktop video editing applications, our principal competitor is Sunplus. Cirrus Logic (Crystal Semiconductor), Freescale Semiconductor, Fujitsu, STMicroelectronics and Yamaha are currently shipping Dolby Digital-based audio compression products. Our principal competitors for digital semiconductor devices in the digital television market include Broadcom, M-Star, Mediatek and ST Microelectronics. Others who also participate in this market are Micronas, NXP and Trident Microsystems.  Competitors in the printer and multifunction peripheral space include Conexant, Global Graphics, Marvell Semiconductor and in-house captive suppliers.

We believe that growth of the DVD player market will be modest in the foreseeable future, and that continued strong competition will lead to further price reductions, and reduced profit margins. We also face significant competition in the digital imaging and digital camera markets. The future growth of both markets is highly dependent on OEMs continuing to outsource an increasing portion of their product development work. Many of our existing competitors, as well as OEM customers that are expected to compete with us in the future, have substantially greater financial, manufacturing, technical, marketing, distribution and other resources, broader product lines and longer standing relationships with customers than we have. In addition, much of our future success is dependent on the success of our OEM customers. If we or our OEM customers are unable to compete successfully against current and future competitors, we could experience price reductions, order cancellations and reduced gross margins, any one of which could harm our business.

We must keep pace with rapid technological changes and evolving industry standards to remain competitive.

Our future success will depend on our ability to anticipate and adapt to changes in technology and industry standards and our customers’ changing demands. The consumer electronics market, in particular, is characterized by rapidly changing technology, evolving industry standards, frequent new product introductions, short product life cycles and increasing demand for higher levels of integration. Our ability to adapt to these changes and to anticipate future standards, and the rate of adoption and acceptance of those standards, will be a significant factor in maintaining or improving our competitive position and prospects for growth. If new industry standards emerge, our products or the products of our customers could become unmarketable or obsolete, and we could lose market share or be required to incur substantial unanticipated costs to comply with these new standards.

Our success will also depend on the successful development of new markets and the application and acceptance of new technologies and products in those new markets. For example, our success will depend on the ability of our customers to develop new products and enhance existing products in the DVD player market and products for the broadband digital television and HDTV markets and to introduce and promote those products successfully. These markets may not continue to develop to the extent or in the time periods that we currently anticipate due to factors outside our control, such as delays in implementation of FCC 02-320 requiring all new televisions to include a digital receiver by February 2009. If new markets do not develop as we anticipate, or if our products do not gain widespread acceptance in these markets, our business, financial condition and results of operations could be harmed. The emergence of new markets for our products is also dependent in part upon third parties developing and marketing content in a format compatible with commercial and consumer products that incorporate our products. If this content is not available, manufacturers may not be able to sell products incorporating our products, and our sales would suffer.

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Our new frame rate conversion technology remains unproven, and if it is not accepted by our customers, our financial results and ability to compete could be harmed.

Through our acquisition of Let It Wave in June 2008, we acquired a frame rate conversion technology that is currently under development.  We plan to continue to invest in developing this technology and to make it available for customer integration in the future.  There is no assurance, however, that this new technology will be accepted by our customers.  In addition, our competitors may develop a superior performance image processing technology and introduce it on the market before us.  If we can not successfully market and sell our new frame rate conversion technology, we will not be able to recoup our costs of acquiring Let It Wave and further development costs for this technology, and our financing results and ability to compete could be adversely affected.

We rely on independent foundries and contractors for the manufacture, assembly and testing of our integrated circuits and other hardware products, and the failure of any of these third parties to deliver products or otherwise perform as requested could damage our relationships with our customers and harm our sales and financial results.

We do not operate any manufacturing facilities, and we rely on independent foundries to manufacture substantially all of our products. These independent foundries fabricate products for other companies and may also produce products of their own design. From time to time, there are manufacturing capacity shortages in the semiconductor industry. We do not have long-term supply contracts with any of our suppliers, including our principal supplier Taiwan Semiconductor Manufacturing Company, or TSMC, and our principal assembly houses. Therefore, TSMC and our other suppliers are not obligated to manufacture products for us for any specific period, in any specific quantity or at any specified price, except as may be provided in a particular purchase order.

Our reliance on independent foundries involves a number of risks, including:

the inability to obtain adequate manufacturing capacity;

the unavailability of or interruption in access to certain process technologies necessary for manufacture of our products;

lack of control over delivery schedules;

lack of control over quality assurance;

lack of control over manufacturing yields and cost; and

potential misappropriation of our intellectual property.

In addition, TSMC and some of our other foundries are located in areas of the world that are subject to natural disasters such as earthquakes. While the 1999 earthquake in Taiwan did not have a material impact on our independent foundries, a similar event centered near TSMC’s facility could severely reduce TSMC’s ability to manufacture our integrated circuits. The loss of any of our manufacturers as a supplier, our inability to expand the supply of their products in response to increased demand, or our inability to obtain timely and adequate deliveries from our current or future suppliers due to a natural disaster or any other reason could delay or reduce shipments of our products. Any of these circumstances could damage our relationships with current and prospective customers and harm our sales and financial results.

We also rely on a limited number of independent contractors for the assembly and testing of our products. Our reliance on independent assembly and testing houses limits our control over delivery schedules, quality assurance and product cost. Disruptions in the services provided by our assembly or testing houses or other circumstances that would require them to seek alternative sources of assembly or testing could lead to supply constraints or delays in the delivery of our products. These constraints or delays could damage our relationships with current and prospective customers and harm our financial results.

Because foundry capacity is limited from time to time, we may be required to enter into costly long-term supply arrangements to secure foundry capacity.

If we are not able to obtain additional foundry capacity as required, our relationships with our customers would be harmed and our sales would likely be reduced. In order to secure additional foundry capacity, we have considered, and may in the future need to consider, various arrangements with suppliers, which could include, among others:

option payments or other prepayments to a foundry;

nonrefundable deposits with or loans to foundries in exchange for capacity commitments;

contracts that commit us to purchase specified quantities of silicon wafers over extended periods;

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issuance of our equity securities to a foundry;

investment in a foundry;

joint ventures; or

other partnership relationships with foundries.

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

If our independent foundries do not achieve satisfactory yields, our relationships with our customers may be harmed.

The fabrication of silicon wafers is a complex process. Minute levels of contaminants in the manufacturing environment, defects in photo masks used to print circuits on a wafer, difficulties in the fabrication process or other factors can cause a substantial portion of the integrated circuits on a wafer to be non-functional. Many of these problems are difficult to detect at an early stage of the manufacturing process and may be time consuming and expensive to correct. As a result, foundries often experience problems achieving acceptable yields, which are represented by the number of good integrated circuits as a proportion of the number of total integrated circuits on any particular wafer. Poor yields from our independent foundries would reduce our ability to deliver our products to customers, harm our relationships with our customers and harm our business.

We are dependent upon our international sales and operations; economic, political or military events in a country where we make significant sales or have significant operations could interfere with our success or operations there and harm our business.

During 2007, only 7% of our total revenues were derived from North America sales. We anticipate that international sales will continue to account for a substantial majority of our total revenues for the foreseeable future. Substantially all of our semiconductor products are manufactured, assembled and tested outside of the United States by independent foundries and subcontractors.  Let It Wave, which we acquired in June 2008, operates in France.

We are subject to a variety of risks inherent in doing business internationally, including:

operating in new countries where we have limited or no experience;

unexpected changes in regulatory requirements;

fluctuations in exchange rates;

political and economic instability;

imposition of tariffs and other barriers and restrictions;

the burdens of complying with a variety of foreign laws; and

health risks in a particular region.

A material amount of our research and development personnel and facilities and a portion of our sales and marketing personnel are located in Israel. Political, economic and military conditions in Israel directly affect our operations. Some of our employees in Israel are obligated to perform up to 36 days of military reserve duty annually. The absence of these employees for significant periods during the work week may cause us to operate inefficiently during these periods.

Our operations in China are subject to the economic and political uncertainties affecting that country. For example, the Chinese economy has experienced significant growth in the past decade, but such growth has been uneven across geographic and economic sectors. This growth may decrease and any slowdown may have a negative effect on our business.

We also maintain offices in Canada, England, France, Germany, Hong Kong, India, Israel, Japan, Korea and Taiwan, and our operations are subject to the economic and political uncertainties affecting these countries as well.

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The significant concentration of our manufacturing activities with third party foundries in Taiwan exposes us to the risk of political instability in Taiwan, including the potential for conflict between Taiwan and China. We have several significant OEM customers in Japan, Korea and other parts of Asia. Adverse economic circumstances in Asia could affect these customers’ willingness or ability to do business with us in the future or their success in developing and launching devices containing our products.

The complexity of our international operations may increase our operating expenses and disrupt our revenues and business.

We transact business and have operations worldwide.  For example, international transactions form a substantial majority of our sales, our semiconductor products are manufactured, assembled and tested outside of the United States, and in June 2008 we acquired a foreign corporation.  Our global operations involve significant complexity and difficulties, including:

monitoring and complying with applicable laws and regulatory requirements;

staffing and managing global operations;

complying with statutory equity requirements; and

managing tax consequences.

If we are unable to manage the complexity of our global operations successfully, our financial performance and operating results could suffer.

The prices of our products may become less competitive due to foreign exchange fluctuations.

Foreign currency fluctuations may affect the prices of our products. Prices for our products are currently denominated in U.S. dollars for sales to our customers throughout the world. If there is a significant devaluation of the currency in a specific country, the prices of our products will increase relative to that country’s currency, our products may be less competitive in that country and our revenues may be adversely affected. Also, we cannot be sure that our international customers will continue to be willing to place orders denominated in U.S. dollars. If they do not, our revenue and operating results will be subject to foreign exchange fluctuations.

Because we have significant operations in Israel, our business and future operating results could be harmed by future terrorist activity or military conflict.

We conduct a significant portion of our research and development and engineering activities at our design center in Haifa, Israel, a 109,700 square foot facility where we employ approximately 400 people. We also conduct a portion of our sales and marketing operations at our Haifa facility. We have an additional 16,100 square foot facility in Kfar Netter, Israel, where we conduct research and development activities.

In addition, military conflict in the Middle East or future terrorist activities there or elsewhere in the world could harm our business as a result of a disruption in commercial activity affecting international commerce or a general economic slowdown and reduced demand for consumer electronic products.

Changes in, or interpretations of, tax rules and regulations may adversely affect our effective tax rates.

Unanticipated changes in our tax rates could affect our future results of operations. Our future effective tax rates could be unfavorably affected by changes in tax laws or the interpretation of tax laws, by unanticipated decreases in the amount of revenue or earnings in countries with low statutory tax rates, or by changes in the valuation of our deferred tax assets and liabilities. The ultimate outcomes of any future tax audits are uncertain, and we can give no assurance as to whether an adverse result from one or more of them will have a material effect on our operating results and financial position.

The inflation in foreign countries or the decline in the value of United States dollar compared to those foreign currencies may negatively impact our costs.

A portion of the cost of our operations, relating mainly to our personnel and facilities is incurred in foreign currencies. As a result, we bear the risk that the rate of inflation in those foreign countries or the decline in the value of United States dollar compared to those foreign currencies will increase our costs as expressed in United States dollars. To date, we have not engaged in hedging transactions. In the future, we may enter into currency hedging transactions to decrease the risk of financial exposure from fluctuations in the exchange rate of the United States dollar against foreign currencies. These measures may not adequately protect us from the impact of inflation in foreign countries.

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We derive most of our revenue from sales to a small number of large customers, and if we are not able to retain these customers, or they reschedule, reduce or cancel orders, our revenues would be reduced and our financial results would suffer.

Our largest customers have accounted for a substantial percentage of our revenues. In 2007, one customer accounted for 13% of our total revenues, while sales to our ten largest customers accounted for 60% of our total revenues. In 2006, one customer accounted for 12% of our total revenues, and sales to our ten largest customers accounted for 58% of our total revenues. Sales to these large customers have varied significantly from year to year and will continue to fluctuate in the future. These sales also may fluctuate significantly from quarter to quarter. We may not be able to retain our key customers, or these customers may cancel purchase orders or reschedule or decrease their level of purchases from us. Any substantial decrease or delay in sales to one or more of our key customers could harm our sales and financial results. In addition, any difficulty in collecting amounts due from one or more key customers could harm our financial results. As of December 31, 2007 three customers accounted for approximately 11%, 11% and 10% of the net accounts receivable balance, respectively.

Our products generally have long sales cycles and implementation periods, which increases our costs in obtaining orders and reduces the predictability of our operating results.

Our products are technologically complex. Prospective customers generally must make a significant commitment of resources to test and evaluate our products and to integrate them into larger systems. As a result, our sales processes are often subject to delays associated with lengthy approval processes that typically accompany the design and testing of new products. The sales cycles of our products often last for many months. Longer sales cycles require us to invest significant resources in attempting to make sales and delay the generation of revenue.

Long sales cycles also subject us to other risks, including customers’ budgetary constraints, internal acceptance reviews and cancellations. In addition, orders expected in one quarter could shift to another because of the timing of customers’ purchase decisions.

The time required for our customers to incorporate our products into their own can vary significantly with the needs of our customers and generally exceeds several months, which further complicates our planning processes and reduces the predictability of our operating results.

We are not protected by long-term contracts with our customers.

We generally do not enter into long-term purchase contracts with our customers, and we cannot be certain as to future order levels from our customers. Customers generally purchase our products subject to cancelable short-term purchase orders. We cannot predict whether our current customers will continue to place orders, whether existing orders will be canceled, or whether customers who have ordered products will pay invoices for delivered products. When we do enter into a long-term contract, the contract is generally terminable at the convenience of the customer. Early termination by one of our major customers would harm our financial results.

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

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

Regulation of our customers’ products may slow the process of introducing new products and could impair our ability to compete.

The Federal Communications Commission, or FCC, has broad jurisdiction over our target markets in the digital television business. Various international entities or organizations may also regulate aspects of our business or the business of our customers. Although our products are not directly subject to regulation by any agency, the transmission pipes, as well as much of the equipment into which our products are incorporated, are subject to direct government regulation. For example, before they can be sold in the United States,

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advanced televisions and emerging interactive displays must be tested and certified by Underwriters Laboratories and meet FCC regulations. Accordingly, the effects of regulation on our customers or the industries in which our customers operate may in turn harm our business. FCC regulatory policies affecting the ability of cable operators or telephone companies to offer certain services and other terms on which these companies conduct their business may impede sales of our products. In addition, our digital television business may also be adversely affected by the imposition of tariffs, duties and other import restrictions on our suppliers or by the imposition of export restrictions on products that we sell internationally. Changes in current laws or regulations or the imposition of new laws or regulations in the United States or elsewhere could harm our business. For example, any delays by the FCC in imposing its pending requirement that all new televisions have a digital receiver could have an adverse effect on our HDTV business.

Our ability to compete could be jeopardized if we are unable to protect our intellectual property rights.

Our success and ability to compete depend in large part upon protection of our proprietary technology. We rely on a combination of patent, trade secret, copyright and trademark laws, non-disclosure and other contractual agreements and technical measures to protect our proprietary rights. These agreements and measures may not be sufficient to protect our technology from third-party infringement, or to protect us from the claims of others. Monitoring unauthorized use of our products is difficult, and we cannot be certain that the steps we have taken will prevent unauthorized use of our technology, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States. The laws of certain foreign countries in which our products are or may be developed, manufactured or sold, including various countries in Asia, may not protect our products or intellectual property rights to the same extent as do the laws of the United States and thus make the possibility of piracy of our technology and products more likely in these countries. If competitors are able to use our technology, our ability to compete effectively could be harmed.

The protection offered by patents is subject to numerous uncertainties. For example, our competitors may be able to effectively design around our patents, or the patents may be challenged, invalidated or circumvented. Those competitors may also independently develop technologies that are substantially equivalent or superior to our technology. Moreover, while we hold, or have applied for, patents relating to the design of our products, some of our products are based in part on standards, for which we do not hold patents or other intellectual property rights.

We have generally limited access to and distribution of the source and object code of our software and other proprietary information. With respect to our page description language software, System On a Chip platform firmware and drivers for the digital office market and in limited circumstances with respect to firmware and platforms for our DTV products, we grant licenses that give our customers access to and restricted use of the source code of our software. This access increases the likelihood of misappropriation or misuse of our technology.

Claims and litigation regarding intellectual property rights and breach of contract claims could seriously harm our business and require us to incur significant costs.

In recent years, there has been significant litigation in the United States involving patents and other intellectual property rights. In the past, we have been subject to claims and litigation regarding alleged infringement of other parties’ intellectual property rights, and we have been parties to a number of patent-related lawsuits, both as plaintiff and defendant. We could become subject to additional litigation in the future, either to protect our intellectual property or as a result of allegations that we infringe others’ intellectual property rights or have breached our contractual obligations to others. Claims that our products infringe proprietary rights or that we have breached contractual obligations would force us to defend ourselves and possibly our customers or manufacturers against the alleged infringement or breach. Future litigation against us, if successful, could subject us to significant liability for damages or invalidation of our proprietary rights. These lawsuits, regardless of their success, are time-consuming and expensive to resolve and require significant management time and attention. Future intellectual property and breach of contract litigation could force us to do one or more of the following:

stop selling products that incorporate the challenged intellectual property;

obtain from the owner of the infringed intellectual property right a license to sell or use the relevant technology, which license may not be available on reasonable terms or at all;

pay damages; or

redesign those products that use such technology.

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Although patent disputes in the semiconductor industry have often been settled through cross-licensing arrangements, we may not be able in any or every instance to settle an alleged patent infringement claim through a cross-licensing arrangement. We have a more limited patent portfolio than many of our competitors. If a successful claim is made against us or any of our customers and a license is not made available to us on commercially reasonable terms or we are required to pay substantial damages or awards, our business, financial condition and results of operations would be materially adversely affected.

If necessary licenses of third-party technology are not available to us or are very expensive, our products could become obsolete.

From time to time, we may be required to license technology from third parties to develop new products or product enhancements. Third party licenses may not be available on commercially reasonable terms, if at all. If we are unable to obtain any third-party license required to develop new products and product enhancements, we may have to obtain substitute technology of lower quality or performance standards or at greater cost, either of which could seriously harm the competitiveness of our products.

We rely on licenses to use various technologies that are material to our products. We do not own the patents that underlie this license. Our rights to use these technologies and employ the inventions claimed in the licensed patents are subject to our abiding by the terms of the licenses. Under the license agreements we must fulfill confidentiality obligations and pay royalties. If we fail to abide by the terms of the license, we would be unable to sell and market the products under license. In addition, we do not control the prosecution of the patents subject to this license or the strategy for determining when such patents should be enforced. As a result, we are dependent upon our licensor to determine the appropriate strategy for prosecuting and enforcing those patents.

If we are not able to apply our net operating losses against taxable income in future periods, our financial results will be harmed.

Our future net income and cash flow will be affected by our ability to apply our net operating loss carryforwards, or NOLs, against taxable income in future periods. Our NOLs totaled approximately $141 million for federal and $32 million for state tax reporting purposes as of December 31, 2007. The Internal Revenue Code contains a number of provisions that limit the use of NOLs under certain circumstances. In 2006, we reduced the NOL deferred tax asset for amounts which we believe will expire before they become available for utilization. Changes in tax laws in the United States may further limit our ability to utilize these NOLs. Any further limitation on our ability to utilize these respective NOLs could harm our financial condition.

Any acquisitions we make could disrupt our business and severely harm our financial condition.

We have made investments in, and acquisitions of other complementary companies, products and technologies, and we may acquire additional businesses, products or technologies in the future. In the event of any future acquisitions, we could:

issue stock that would dilute its current stockholders’ percentage ownership;

incur debt;

use a significant amount of our cash;

assume liabilities;

incur expenses related to the future impairment of goodwill and the amortization of intangible assets; or

incur other large write-offs immediately or in the future.

Our operation of acquired business will also involve numerous risks, including:

problems combining the purchased operations, technologies or products;

acquisition of unproven technologies under development;

unanticipated costs;

diversion of management’s attention from our core business;

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adverse effects on existing business relationships with customers;

risks associated with entering markets in which we have no or limited prior experience; and

potential loss of key employees, particularly those of the purchased organizations.

In June 2008 we acquired Let It Wave, a French company, and its frame rate conversion technology, which is still in development.  There is no assurance that we will be able to integrate Let It Wave with our business, or complete the development of this technology and bring it to market.  We may not be able to successfully complete the integration of the business, products or technologies or personnel that we have acquired in the past or might acquire in the future, and any failure to do so could disrupt our business and seriously harm our financial condition.

If our goodwill or amortizable intangible assets become impaired we may be required to record a significant charge to earnings.

We review our goodwill and intangible assets for impairment, no less often than annually, when changes in circumstances indicate the carrying value may not be recoverable. A change in circumstances may be indicated, and the carrying value of our goodwill or intangible assets may be impaired (not be recoverable), where there are declines in our stock price and market capitalization, declines in expected future cash flows, or slower growth rates in our industry. When we performed our annual impairment test in the current quarter, we determined that goodwill and intangible assets related to our reporting units in the Consumer business segment were impaired and therefore recorded a charge of $167.6 million in the current quarter for impairment of goodwill and intangible assets.

If our future financial performance or other events indicate that the value of our recorded goodwill or intangibles is impaired, we may record additional impairment charges that could adversely affect our financial results. In addition, our impairment analysis involves determining the fair value of our business using a projected discounted cash flow analysis that is based on significant estimates, such as our projections of future sales volume and timing, margins and operating costs, and the discount rate we use to calculate present value of future cash flow.  Changes to these estimates may cause us to recognize an impairment loss that could be material to our financial results.

If we fail to manage our future growth, if any, our business would be harmed.

We anticipate that our future growth, if any, will require us to recruit and hire a substantial number of new engineering, managerial, sales and marketing personnel. Our ability to manage growth successfully will also require us to expand and improve administrative, operational, management and financial systems and controls. Many of our key operations, including a material portion of our research and development operations and a significant portion of our sales and administrative operations are located in Israel. A majority of our sales and marketing and certain of our research and development and administrative personnel, including our President and Chief Executive Officer and other officers, are based in the United States. The geographic separation of these operations places additional strain on our resources and our ability to manage growth effectively. If we are unable to manage growth effectively, our business will be harmed.

We are exposed to fluctuations in the market values of our portfolio investments and in interest rates.

At the end of September 2008, we had $361.9 million in cash, cash equivalents and investments. We invest our cash in a variety of financial instruments, consisting principally of investments in commercial paper, money market funds, auction rate securities and highly liquid debt securities of corporations, municipalities and the United States government and its agencies. These investments are denominated in U.S. dollars.

The Company’s investments at September 30, 2008 include $57.8 million of high-grade auction rate securities primarily consisting of government guaranteed student loans. Auction rate securities are securities that are structured with short-term interest rates which periodically reset through auctions, typically within every 90 days. At the end of each reset period, investors can sell or continue to hold the securities at par. During February 2008, some of the auction rate securities failed to auction successfully due to market supply exceeding market demand. In the event of a failed auction, the notes continue to bear interest at a predetermined maximum rate based on the credit rating of notes as determined by one or more nationally recognized statistical rating organizations. The funds associated with failed auctions will generally not be accessible until a successful auction occurs, a buyer is found outside of the auction process, the issuers redeem the securities or the underlying securities have matured.  The securities firms where the auction rate securities are held have agreed to repurchase the auction rate securities at par within the next one to two years.  As a result, the Company has classified all auction rate securities as long-term assets at cost in the condensed consolidated balance sheets as of September 30, 2008 and December 31, 2007.

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Investments in both fixed rate and floating rate interest earning instruments carry a degree of interest rate risk. Fixed rate debt securities may have their market value adversely impacted due to a rise in interest rates, while floating rate securities may produce less income than expected if interest rates fall. Due in part to these factors, our future investment income may fall short of expectations due to changes in interest rates or if the decline in fair value of our publicly traded equity investments and auction rate securities is judged to be other-than-temporary. We may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because any debt securities we hold are classified as “available-for-sale,” generally no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity. Recent events in the subprime mortgage market and with auction rate securities could negatively impact our return on investment for these debt securities and thereby reduce the amount of cash and cash equivalents and long-term investments on our balance sheet.

We rely on the services of our executive officers and other key personnel, whose knowledge of our business and industry would be extremely difficult to replace.

Our success depends to a significant degree upon the continuing contributions of our senior management. Management and other employees may voluntarily terminate their employment with us at any time upon short notice. The loss of key personnel could delay product development cycles or otherwise harm our business. We believe that our future success will also depend in large part on our ability to attract, integrate and retain highly-skilled engineering, managerial, sales and marketing personnel, located in the United States and overseas. Competition for such personnel is intense, and we may not be successful in attracting, integrating and retaining such personnel. Failure to attract, integrate and retain key personnel could harm our ability to carry out our business strategy and compete with other companies.

Provisions in our charter documents and Delaware law could prevent or delay a change in control of Zoran.

Our certificate of incorporation and bylaws and Delaware law contain provisions that could make it more difficult for a third party to acquire us, even if doing so would be beneficial to our stockholders. These include provisions:

prohibiting a merger with a party that has acquired control of 15% or more of our outstanding common stock, such as a party that has completed a successful tender offer, until three years after that party acquired control of 15% of our outstanding common stock;

authorizing the issuance of up to 3,000,000 shares of “blank check” preferred stock;

eliminating stockholders’ rights to call a special meeting of stockholders; and

requiring advance notice of any stockholder nominations of candidates for election to our board of directors.

Our stock price has fluctuated and may continue to fluctuate widely.

The market price of our common stock has fluctuated significantly since our initial public offering in 1995. Between January 1, 2008 and September 30, 2008, the closing sale price of our common stock, as reported on the Nasdaq Global Select Market, ranged from a low of $7.90 to a high of $22.48. The market price of our common stock is subject to significant fluctuations in the future in response to a variety of factors, including:

announcements concerning our business or that of our competitors or customers;

annual and quarterly variations in our operating results;

changes in analysts’ earnings estimates;

announcements of technological innovations;

the introduction of new products or changes in product pricing policies by Zoran or its competitors;

loss of key personnel;

proprietary rights or other litigation;

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general conditions in the semiconductor industry; and

developments in the financial markets.

From time to time the stock market experiences extreme price and volume fluctuations that have particularly affected the market prices for semiconductor companies or technology companies generally and which have been unrelated to the operating performance of the affected companies. Broad market fluctuations of this type may reduce the future market price of our common stock.

The independent investigation of our historical stock option practices and resulting restatements and derivative lawsuits have been time consuming and expensive, and may continue to have an adverse effect on our financial performance.

The independent investigation of our historical stock option practices and resulting restatement activities and derivative lawsuits have required us to expend significant management time and incur significant accounting, legal and other expenses totaling $7.9 million in 2007 and $0.1 million and $1.6 million for the three and nine month periods ended September 30, 2008. The resulting restatements recorded in the 2006 Annual Report on Form 10-K had a material adverse effect on our results of operations. We recorded additional stock-based compensation expense of $11.7 million for stock option grants, recognized over the periods from 1997 to 2005. There was no tax impact of these additional stock-based compensation expenses due to the full valuation allowance on our tax assets at the time of restatement. In addition, we recorded other adjustments previously considered to be immaterial totaling $1.3 million (net of tax of $0.2 million). As a result, our restated consolidated financial statements included in the 2006 Annual Report on Form 10-K reflected a decrease in net income of $13.0 million for the period of 1997 to 2005.  As a result of the amount of management attention and expenditure of funds on the investigation, restatement and litigation, we may have missed important market opportunities or our competitors may have gained advantages, and we may not find similar opportunities or adequately cope with those competitive challenges.

During parts of 2006 and 2007, we were not timely in the filing of our periodic reports with the SEC, which led Nasdaq to warn us of a possible de-listing of our common stock. Should we have similar issues in the future, our listing on Nasdaq, and the availability of a liquid market for resale of your shares, could be at risk.

From August 2006 to April 2007, we were unable to file our periodic reports with the SEC on time and faced the possibility of delisting of our stock from the Nasdaq Global Select Market. As a result of our delay in filing periodic reports on a timely basis, we were not eligible to use a registration statement on Form S-3 to register offers and sales of our securities until all of our periodic reports were timely filed for at least 12 months, which occurred with the filing of this Quarterly Report on Form 10-Q. If in the future we have similar issues filing periodic reports and fail to comply with applicable listing requirements, then our common stock may be de-listed and the market for resales of our common stock may become less liquid. If this happens, the price of our stock and the ability of our stockholders to trade in our stock could be adversely affected. In addition, we would be subject to restrictions regarding the registration of our stock under federal securities laws, and we would not be able to issue stock options or other equity awards to our employees or allow them to exercise their outstanding options, which could adversely affect our business and results of operations.

It may be difficult or costly to obtain director and officer liability insurance coverage as a result of our stock options issues.

We expect that the issues arising from our historical stock option grant practices and the related accounting will make it more difficult to obtain director and officer insurance coverage in the future. If we are able to obtain this coverage, it could be significantly more costly than in the past, which would have an adverse effect on our financial results and cash flow. As a result of this and related factors, our directors and officers could face increased risks of personal liability in connection with the performance of their duties. As a result, we may have difficultly attracting and retaining qualified directors and officers, which could adversely affect our business.

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Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

Purchases of Equity Securities by the Issuer and Affiliated Purchasers

Stock repurchase activity during the three months ended September 30, 2008 was as follows:

Period	Total Number of Shares (or Units) Purchased	Average Price Paid per Share (or Unit)		Total Number of Shares (or Units) Purchased as Part of Publicly Announced Plans or Programs	Maximum Number (or Approximate Dollar Value) of Shares (or Units) that May Yet Be Purchased Under the Plans or Programs
July 1, 2008 – July 31, 2008	N/A	N/A		N/A	$	100,000,000
August 1, 2008 – August 31, 2008	1,163,569	$	8.60	N/A	$	89,987,962
September 1, 2008 – September 30, 2008	N/A	N/A		N/A	$	89,987,962
Total	1,163,569	$	8.60		$	89,987,962

Note:

All shares purchased as part of publicly announced plans during the three months ended September 30, 2008 were purchased under a repurchase program we announced on March 5, 2008. Under this program, we are authorized to repurchase up to $100.0 million of our common stock from time to time.  The amount and timing of specific repurchases under this program are subject to market conditions, applicable legal requirements and other factors, including management’s discretion.  The average price paid per share is based on the total price paid by the Company which includes applicable broker fees.

Item 6.  Exhibits

31.1	Certification of Chief Executive Officer pursuant to Rule 13a-14(a) or 15d-14(a).
31.2	Certification of Chief Financial Officer pursuant to Rule 13a-14(a) or 15d-14(a).
32.1	Certification of Chief Executive Officer, pursuant to 18 U.S.C. Section 1350.
32.2	Certification of Chief Financial Officer, pursuant to 18 U.S.C. Section 1350.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	ZORAN CORPORATION
Dated: November 10, 2008	/s/ Karl Schneider
	Karl Schneider
	Senior Vice President, Finance
	and Chief Financial Officer
	(Principal Financial and Accounting Officer)

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