Inphi Corporation
Annual Report 2011

Plain-text annual report

Table of Contents UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549 Form 10-K (Mark One) xANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF1934For the fiscal year ended December 31, 2011Or ¨TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934Commission file number 001-34942 Inphi Corporation(Exact Name of Registrant as Specified in Its Charter) Delaware 77-0557980(State or Other Jurisdiction ofIncorporation or Organization) (I.R.S. EmployerIdentification No.)3945 Freedom Circle, Suite 1100,Santa Clara, California 95054(Address of Principal Executive Offices) (Zip Code)Registrant’s telephone number, including area code: (408) 217-7300Securities registered pursuant to Section 12(b) of the Act: Title of Class Name of Exchange on Which RegisteredCommon Stock, $0.001 par value New York Stock ExchangeSecurities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No xIndicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No xIndicate 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 periodthat the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 ofRegulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, indefinitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. xIndicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer”and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one): Large accelerated filer ¨ Accelerated filer xNon-accelerated filer ¨ (Do not check if a smaller reporting company) Smaller reporting company ¨Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2). Yes ¨ No xAs of June 30, 2011, the aggregate market value of the Registrant’s common stock held by non-affiliates of the Registrant was approximately $339 million, based on the closing price of the common stock asreported on the New York Stock Exchange for that date.The total number of shares outstanding of the Registrant’s common stock, $0.001 par value per share, as of February 28, 2012 was 28,161,702. DOCUMENTS INCORPORATED BY REFERENCEPart III incorporates by reference certain information from the registrant’s definitive proxy statement for the 2012 Annual Meeting of Stockholders to be filed no later than 120 days after the conclusion of theregistrant’s fiscal year ended December 31, 2011. Table of ContentsINPHI CORPORATIONANNUAL REPORT ON FORM 10-KFOR THE FISCAL YEAR ENDED DECEMBER 31, 2011TABLE OF CONTENTS Page PART I Item 1. Business 1 Item 1A. Risk Factors 12 Item 1B. Unresolved Staff Comments 31 Item 2. Properties 31 Item 3. Legal Proceedings 32 Item 4. Mine Safety Disclosures 34 PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 35 Item 6. Selected Consolidated Financial Data 37 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 39 Item 7A. Quantitative and Qualitative Disclosures about Market Risk 56 Item 8. Financial Statements and Supplementary Data 57 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 93 Item 9A. Controls and Procedures 93 Item 9B. Other Information 93 PART III Item 10. Directors, Executive Officers and Corporate Governance 94 Item 11. Executive Compensation 94 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 94 Item 13. Certain Relationships and Related Transactions, and Director Independence 94 Item 14. Principal Accountant Fees and Services 94 PART IV Item 15. Exhibits and Financial Statement Schedules 95 Table of ContentsPART I ITEM 1.BUSINESSThis report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. When used in thisreport, the terms “may,” “might,” “will,” “objective,” “intend,” “should,” “could,” “can,” “would,” “expect,” “believe,” “estimate,” “predict,”“potential,” “plan,” or the negative of these terms, and similar expressions intended to identify forward-looking statements. These statements arestatements that relate to future periods and include statements regarding our anticipated trends and challenges in our business and the markets inwhich we operate, including the market for 40G and 100G high-speed analog semiconductor solutions, our plans for future products, such as ourisolation memory buffer or iMB™, clock and data recovery, or CDR, and serializer/deserializer, or SERDES, products, and enhancements of existingproducts, our expectations regarding our expenses and revenue, sources of revenue, our tax benefits, the benefits of our products and services, timingof the development of our products, our anticipated cash needs and our estimates regarding our capital requirements and our needs for additionalfinancing, our anticipated growth and growth strategies, our ability to retain and attract customers, particularly in light of our dependence on alimited number of customers for a substantial portion of our revenue, our expectations regarding competition, interest rate sensitivity, adequacy of ourdisclosure controls, our legal proceedings and warranty claims. These forward-looking statements involved known and unknown risks, uncertaintiesand other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance orachievements expressed or implied by these or any other forward-looking statements. These risks and uncertainties include, but are not limited to,those risks discussed below, as well as factors affecting our results of operations, our ability to manage our growth, our ability to sustain or increaseprofitability, demand for our solutions, the effect of declines in average selling prices for our products, our ability to compete, our ability to rapidlydevelop new technology and introduce new products, our ability to safeguard our intellectual property, trends in the semiconductor industry andfluctuations in general economic conditions, and the risks set forth throughout this Report, including the risks set forth under Part I, “Item 1A, RiskFactors”. Readers are cautioned not to place undue reliance on these forward-looking statements, which are based on current expectations and reflectmanagement’s opinions only as of the date hereof. These forward-looking statements speak only as of the date of this Report. We expressly disclaimany obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change inour expectations with regard thereto or any changes in events, conditions or circumstances on which any such statement is based.All references to “Inphi,” “we,” “us” or “our” mean Inphi Corporation.Inphi, iMB™ and the Inphi logo are trademarks or service marks owned by Inphi. All other trademarks, service marks and trade namesappearing in this report are the property of their respective owners.OverviewOur CompanyWe are a fabless provider of high-speed analog semiconductor solutions for the communications and computing markets. Our analog semiconductorsolutions provide high signal integrity at leading-edge data speeds while reducing system power consumption. Our semiconductor solutions are designed toaddress bandwidth bottlenecks in networks, maximize throughput and minimize latency in computing environments and enable the rollout of next generationcommunications and computing infrastructures. Our solutions provide a vital high-speed interface between analog signals and digital information in high-performance systems such as telecommunications transport systems, enterprise networking equipment, datacenters and enterprise servers, storage platforms,test and measurement equipment and military systems. We provide 40G and 100G high-speed analog semiconductor solutions for the communications marketand high-speed memory interface solutions for the computing market. We have a broad product portfolio with 17 product lines and over 170 products as ofDecember 31, 2011. 1®Table of ContentsWe leverage our proprietary high-speed analog signal processing expertise and our deep understanding of system architectures to address data bottlenecksin current and emerging communications, enterprise network, computing and storage architectures. We develop these solutions as a result of our competitivestrengths, including our system-level simulation capabilities, analog design expertise, strong relationships with industry leaders, extensive broad processtechnology experience and high-speed package modeling and design expertise. We use our core technology and strength in high-speed analog design to enableour customers to deploy next generation communications and computing systems that operate with high performance at high speed. We believe we are at theforefront of developing semiconductor solutions that deliver 100G speeds throughout the network infrastructure, including core, metro and the datacenter.Furthermore, our analog signal processing expertise enables us to improve throughput in computing systems. For example, some of our computing productsenable up to four times the memory capacity on server platforms while using the current generation of memory devices.We have ongoing, informal collaborative discussions with industry and technology leaders such as Advanced Micro Devices, Inc., Alcatel-Lucent,Huawei Technologies Co., Ltd. and Intel Corporation to design architectures and products that solve bandwidth bottlenecks in existing and next generationcommunications and computing systems. Although we do not have any formal agreement with these entities, we engage in informal discussions with theseentities with respect to anticipated technological challenges, next generation customer requirements and industry conventions and standards. We help defineindustry conventions and standards within the markets we target by collaborating with technology leaders, original equipment manufacturers or OEMs,systems manufacturers and standards bodies. Our products are designed into systems sold by OEMs, including Agilent Technologies, Inc., Alcatel-Lucent,Cisco Systems, Inc., Danaher Corporation, Dell Inc., EMC Corporation, Hewlett-Packard Company, Huawei, International Business Machines Corporationand Oracle Corporation. We believe we are one of a limited number of suppliers to these OEMs, and in some cases we may be the sole supplier for certainapplications. We sell both directly to these OEMs and to other intermediary systems or module manufacturers that, in turn, sell to these OEMs.Our BusinessOur semiconductor solutions leverage our deep understanding of high-speed analog signal processing and our system architecture knowledge to addressdata bottlenecks in current and emerging network architectures. We design and develop our products for the communications and computing markets, whichtypically have two to three year design cycles, and product life cycles of 10 or more years. We believe our leadership position in developing high-speed analogsemiconductors is a result of the following core strengths: • System-Level Simulation Capabilities. We design our high-speed analog semiconductor solutions to be critical components in complex systems.In order to understand and solve system problems, we work closely with systems vendors to develop proprietary component, channel and systemsimulation models. We use these proprietary simulation and validation tools to accurately predict system performance prior to fabricating thesemiconductor or alternately, to identify and optimize critical semiconductor parameters to satisfy customer system requirements. We use thesesimulation and validation capabilities to reduce our customers’ time to market and engineering investments, thus enabling us to establishdifferentiated design relationships with our customers. • Analog Design Expertise. We believe that we are a leader in developing broadband analog semiconductors operating at high frequencies of up to100 GHz. High-speed analog circuit design is extremely challenging because, as frequencies increase, semiconductors are increasingly sensitive totemperature, power supply noise, process variation and interaction with neighboring circuit elements. Development of components that workrobustly at high frequencies requires an understanding of analog circuit design, including electromagnetic theory and practical experience inimplementation and testing. Our analog design expertise has enabled us to design and commercially ship the first 18 GHz track-and-holdamplifier, 28 GHz linear transimpedance amplifier, 40 GHz transimpedance amplifier and 50 GHz multiplexer, or MUX and demultiplexer, orDEMUX components. We also launched the 2Table of Contents industry’s first complementary metal oxide semiconductor or CMOS based 100G physical layers or PHYs and CDRs for Ethernet and opticaltransport network applications. These high speed serial PHYs are designed in a generic CMOS process to target much lower power compared tosilicon germanium or SiGe based products, while reducing the design footprint and improving manufacturability. • Strong Relationships with Industry Leaders. We develop many of our high-speed analog semiconductor solutions for applications andsystems that are driven by industry leaders in the communications and computing markets. Through our established relationships with industryleaders, we have repeatedly demonstrated the ability to address their technological challenges. As a result, we are designed into several of theircurrent systems and believe we are well-positioned to develop high-speed analog semiconductor solutions for their emerging architectures. Forinstance, our high-speed memory interface designs have been validated for Intel’s Xeon Core i7 and next generation platforms. We have ongoing,informal collaborative discussions with communication companies such as Alcatel-Lucent and Huawei to address their next generation 100Gefforts, although we have not entered into formal agreements with these entities. Specifically, we engage in informal discussions with these entitieswith respect to anticipated technological challenges, next generation customer requirements and industry conventions and standards. As a result ofour development efforts with industry leaders, we help define industry conventions and standards within the markets we target by collaboratingwith technology leaders, OEMs and systems manufacturers, as well as standards bodies such as the Joint Electronic Device EngineeringCouncils, or JEDEC, and the Institute of Electrical and Electronic Engineers, or IEEE, and the Optical Internetworking Forum, or OIF, toestablish industry standards. • Broad Process Technology. We employ process technology experts, device technologists and circuit designers who have extensive experience inmany process technologies including CMOS, SiGe and III-V technologies such as gallium arsenide, or GaAs or indium phosphide, or InP. Wehave developed specific internal models and design kits for each process to support a uniform design methodology across all of our semiconductorsolutions. For example, our products using 40 nanometer CMOS technology require development of accurate models for sub-circuits such asintegrated phase lock loop, or PLLs, varactors and inductors. As another example, for III-V materials-based processes, in-house modeldevelopment is a necessity and we believe also provides a substantial competitive advantage because these processes have complex material anddevice interactions. Combined with our fabless manufacturing strategy, our design expertise, proprietary model libraries and uniform designmethodology allow us to use the best possible materials and substrates to design and develop our semiconductor solutions. We believe that ourability to design high-speed analog semiconductors in a wide range of materials and process technologies allows us to provide superiorperformance, power, cost and reliability for a specific set of market requirements. • High-Speed Package Modeling and Design. We have developed deep expertise in high-speed package modeling and design, since introducingthe first high-speed 50 GHz MUX and DEMUX product in 2001. At high frequencies, the interaction between an analog device, its package andthe external environment can significantly affect product performance. Accurately modeling and developing advanced packaging allowssemiconductor solutions to address this challenge. Due to the advanced nature of this work, there is a limited supply of engineers with experiencein high-speed package modeling and design, and therefore this required expertise can be difficult to acquire for companies that have not invested indeveloping such a skill set. We have developed an infrastructure to simulate electrical, mechanical and thermal properties of devices and packagesthat we integrate within our semiconductor design process and implement at our third-party packaging providers. Modeling is an inherentlyiterative process, and since our model libraries are used extensively by our circuit designers, the accuracy and value of these models increases overtime. Our current packaging and modeling techniques enable us to deliver semiconductors that are energy efficient, offer high-speed processingand enable advanced signal integrity, all in a small footprint. 3®®Table of ContentsWe believe that our system-level simulation capabilities, our analog design and broad process technology design capabilities as well as our strengths inpackaging enable us to differentiate ourselves by delivering advanced high-speed analog signal processing solutions. For example, we believe we havesuccessfully demonstrated the feasibility of our next generation 100G Ethernet architecture well ahead of our competitors. Within the server market, we haveapplied our analog signal processing expertise to develop our iMB technology, which is designed to expand the memory capacity in existing server andcomputing platforms. Adoption of the iMB allows up to four times the memory capacity to be installed in a server platform, while using the currentgeneration of memory devices.We believe the key benefits that our solutions provide to our customers are as follows: • High Performance. Our high-speed analog semiconductor solutions are designed to meet the specific technical requirements of our customers intheir respective end-markets. In many cases, our close design relationships and deep engineering expertise put us in a position where we are one ofa limited group of semiconductor vendors that can provide the necessary solution. For instance, in the broadband communications market, webelieve our products achieve the highest signal integrity and attain superior signal transmission distance at required error-free or low error rates. Inthe computing market, we believe our products achieve industry leading data transfer rates at the smallest die size. • Low Power and Small Footprint. In each of the end markets that we serve, the power budget of the overall system is a key consideration forsystems designers. Power consumption greatly impacts system operation cost, footprint and cooling requirements, and is increasingly becoming apoint of focus for our customers. We believe that our high speed analog signal processing solutions enable our customers to implement systemarchitectures that reduce overall system power consumption. We also believe that, at high frequencies, our high-speed analog semiconductordevices typically consume less power than competitors’ standard designs, which often incorporate power-consuming digital signal processing toperform data transfer functions, thereby further reducing overall system power consumption. In addition, in many of our applications, we areable to design and deliver semiconductors that have a smaller footprint and therefore reduce the overall system size. • Faster Time to Market. Our customers compete in markets that require high-speed, reliable semiconductors that can be integrated into theirsystems as soon as new market opportunities develop. To meet our customers’ time-to-market requirements, we work closely with them early intheir design cycles and are actively involved in their development processes. Over the past ten years, we have developed methodologies andsimulation environments that accurately predict the behavior of complex integrated circuits within various communications systems. In addition,we have developed an extensive internal library of proven building block circuits such as amplifiers, phase frequency detectors and transmittersthat are reused to shorten design cycles and reduce risk.ProductsOur products address bandwidth bottlenecks throughout the cloud computing and network communications infrastructure, as depicted in theillustration below. For instance, our high-speed memory interface products can be found in servers where they allow CPUs to better utilize available memoryresources. In addition, our products find application in devices such as dense wavelength division multiplexers that enable core and aggregation networks. 4TMTMTable of Contents As of December 31, 2011, we had more than 170 products across 17 product lines, including products that have commercially shipped, products forwhich we have shipped engineering samples and products under development, that perform a wide range of functions such as amplifying, encoding,multiplexing, demultiplexing, retiming and buffering data and clock signals at speeds up to 100 Gbps. These products are key enablers for servers, routers,switches, storage and other equipment that process, store and transport data traffic. Our products are also used in test and measurement equipment andmilitary radar systems that capture and process high-speed and ultra broadband signals. We introduced 8 new products in both 2011 and 2010. We designand develop our products for the communications and computing markets, which typically have two to three year design cycles, and product life cycles aslong as 10 years or more.In 2009, we successfully introduced and began to ship a new product in production which we identify as product number INSSTE32882-GS04, or theGS04 product, and which consists of an integrated PLL and register buffer. Sales of the GS04 product comprised 18% and 43% of our total revenue in 2010and 2009, respectively. In 2010, we also began to ship in production volume a “low voltage” version of our integrated PLL and register buffer, which isshipping in the form of product number INSSTE32882LV-GS02, or the GS02 product. The GS02 product has been launched and in full commercialproduction. Sales of the GS02 product comprised 38% and 32% of our total revenue in 2011 and 2010, respectively. In 2011, we began to ship in productionvolume a new “ultra-low voltage” version of our integrated PLL and register buffer, which is shipping in the form of product number INSSTE32882UV-GS02, or the GS02UV product. Sales of the GS02UV product comprised 13% of our total revenue in 2011. There were no other products that generated morethan 10% of our total revenue in 2011, 2010 or 2009. 5Table of ContentsThe table below lists our products, their application speed in gigabits per second, or Gbps or G, and functional description. Product Line Speed Description ApplicationClock and Data Recovery (CDR) 100G Recovers the clock from high-speedsignals; used to retime the signal prior tore-transmitting to ensure the highest signalintegrity Enables the next generation of small formfactor 100G Ethernet modules, line cardsand backplane applicationsClock fanout 10G to 50G Provides replication and buffering of high-speed clock signals Typically used to distribute a high-speedclock to multiple chips in a systemDemultiplexer (DEMUX) 10G to 50G De-serializes a high-speed data stream tomultiple lower speed data streams forfurther signal processing Typically used in high-speed dataacquisition applicationsD Flip Flops 10G to 50G Retimes the input signal to deliver optimalsignal integrity Typically used in high-speed patterngeneration applicationsDifferential Amplifiers 10G Amplifies differential signals and driveshigh-speed analog-to-digital converters Typically used to amplify linearbroadband signals or drive high-speedanalog-to-digital converters for dataacquisition applicationsDifferential Encoders 10G Provides differential encoding function forDifferential Phase Shift Keying (DPSK)transmission Typically used in 10 Gbps ultra long hauloptical transceiversIsolation Memory Buffer (iMB) 1.6G Provides critical high-speed interfacebetween the central processing unit (CPU)and memory Architecture adopted by the JointElectronic Device Engineering Council asan industry standardLatched Comparator 10G to 50G Used as a high-speed 1-bit analog-to-digital converter Typically used in high-speed dataacquisition applicationsLogic Gates 10G to 50G Standard logic gates used as general-purpose building blocks for high-speeddata processing Typically used in test and measurementapplicationsModulator Driver 40G to 100G Amplifies a small signal to 8 volts (orhigher) output voltage in order to driveoptical modulators for very long distancedata transmission Typically used in optical transmissionsystems and test and measurementequipmentMultiplexer (MUX) 10G to 50G Serializes multiple data streams to a high-speed data stream prior to transmission Typically used in high-speed patterngeneration applications 6TMTable of ContentsProduct Line Speed Description ApplicationPhase-Lock Loop (PLL)* 1.86G Provides critical high-speed interfacebetween CPU and memory Typically used for all but the lowestcapacity modules in order to installsufficient memory in computing andstorage platformsPrescalers 10G to 50G Divides the high frequency clock to alower frequency clock Typically used in test and measurement,military and ultra long haul opticaltransmission equipmentRegister Buffers* 1.86G Regenerates a CPU’s command andaddress signals Typically used for all but the lowestcapacity modules in order to installsufficient memory in computing andstorage platformsReturn-to-Zero (RZ) Converter 10G Converts a Non-Return-to-Zero (NRZ)digital bit stream to RZ format Typically used in 10 Gbps ultra long hauloptical transceiversSerializer-Deserializer (SERDES) 100G Combines a serializer, deserializer,equalizer and CDR functions on one chip Enables the next generation of high density100G Ethernet linecardsTransimpedance Amplifier (TIA) 10G to 100G Amplifies small currents generated by aphotodetector for further signal processing Typically used in optical transceivers forEthernet, synchronous opticalnetworking, dense wavelength divisionmultiplexing, as well as other opticalreceiver applications *Please refer to paragraph immediately preceding the table above.Each of the products listed in the table above are currently in commercial production except for our CDR and SERDES products, which are underdevelopment. In the third quarter of 2011, we shipped engineering samples of our CDR and SERDES products and expect to commence commercialproduction in 2013.CustomersWe sell our products directly to OEMs and indirectly to OEMs through module manufacturers, original design manufacturers or ODMs and sub-systems providers. We work closely with technology leaders, including microprocessor and communications equipment companies, to design architecturesand products that help solve bandwidth bottlenecks in and between systems. These technology leaders often design our products into reference designs, whichthey provide to their customers and suppliers. For example, in the server market we work closely with major CPU manufacturers to address the bottleneckbetween their CPU and the increasing amount of memory attached to it. These CPU manufacturers then provide their server CPU customers and memorymodule partners with a validation report, including validation of our memory interface products. These server OEMs and memory module companies thendesign our memory interface products into their production systems. Ultimately, our sales into these servers are to memory module companies, includingHynix, Micron, Samsung and others. In the networking market, we work closely with OEMs to deliver high performance communication links. These OEMsdesign our product into their systems and then require their ODM and electronics manufacturing services suppliers to purchase and use that specific productfrom us. We also work directly with module manufacturers to design our products into their modules, which they sell to OEMs. 7Table of ContentsWe work closely with our customers throughout design cycles that often last two to three years and we are able to develop long-term relationships withthem as our technology becomes embedded in their products. As a result, we believe we are well-positioned to not only be designed into their current systems,but also to continually develop next generation high-speed analog semiconductor solutions for their future products. During the year ended December 31, 2011,we sold our products to more than 160 customers.Sales to customers in Asia accounted for 69%, 80% and 77% of our total revenue in 2011, 2010 and 2009, respectively. Because many of ourcustomers or their OEM manufacturers are located in Asia, we anticipate that a majority of our future revenue will continue to come from sales to that region.Although a large percentage of our sales are made to customers in Asia, we believe that a significant number of the systems designed by these customers andincorporating our semiconductor products are then sold to end users outside Asia.We currently rely, and expect to continue to rely, on a limited number of customers for a significant portion of our revenue. In the year endedDecember 31, 2011, Samsung and Hynix accounted for 27% and 14% of our total revenue, respectively, and our 10 largest customers collectively accountedfor 73% of our total revenue. In addition, sales directly and through distributors to Micron accounted for 11% of our total revenue in the year endedDecember 31, 2011. Samsung directly accounted for 34% of our total revenue and sales directly and through distributors to Micron accounted for 11% of ourtotal revenue for the year ended December 31, 2010. No other single customer directly or indirectly accounted for more than 10% of our total revenue in 2011 or2010.Sales and MarketingOur design cycle from initial engagement to volume shipment is typically two to three years, with product life cycles in the markets we serve rangingfrom two to 10 years or more. For many of our products, early engagement with our customers’ technical staff is necessary for success. To ensure an adequatelevel of early engagement, our application and development engineers work closely with our customers to identify and propose solutions to their systemschallenges.In addition to our direct customers, we work closely with technology leaders such as Intel and AMD for the computing and storage markets and Alcatel-Lucent, Cisco, Huawei for the networking and communications market to anticipate and solve next generation challenges facing our customers. As part of thesales and product development process, we often design our products in close collaboration with these industry leaders and help define their architecture. Wealso participate actively in setting industry standards with organizations such as IEEE, JEDEC and OIF to have a voice in the definition of future markettrends.We sell our products worldwide through multiple channels, including our direct sales force and a network of sales representatives and distributors. Forthe year ended December 31, 2011, 83% of our revenue was generated by our direct sales team and third-party sales representatives. We operate direct salesoffices in Japan, Korea, Singapore, Taiwan and the United States and employ sales personnel that cover our direct customers and manage our channelpartners. We utilize two sales representatives and three distributors in Asia, a distributor in Europe, a distributor in Israel, ten sales representatives and twodistributors in North America and a distributor in Japan. Our channel network includes more than 100 sales professionals to support our products andcustomers, including seven in Japan, 21 in Asia (other than Japan), 62 in North America and 26 in Europe, the Middle East and Africa, or EMEA. All ofthese sales professionals are sales agents and are employed by our distributors and sales representatives except for 10 sales agents who are our directemployees, including two in Japan, three in Asia, four in North America and one in EMEA. We believe these distributors and sales representatives have therequisite technical experience in our target markets and are able to leverage existing relationships and understanding of our customers’ products to effectivelysell our products. Given the breadth of our target markets, customers and products, we provide our direct and indirect sales teams with regular training andshare product information with our customers and sales team using web-based tools. 8Table of ContentsManufacturingWe operate a fabless business model and use third-party foundries and assembly and test manufacturing contractors to manufacture, assemble and testour semiconductor products. We also inspect and test parts in our Westlake Village, California, facility. This outsourced manufacturing approach allows us tofocus our resources on the design, sale and marketing of our products. In addition, we believe outsourcing many of our manufacturing and assembly activitiesprovides us the flexibility needed to respond to new market opportunities, simplifies our operations and significantly reduces our capital requirements.We subject our third-party manufacturing contractors to qualification requirements in order to meet the high quality and reliability standards required ofour products. We carefully qualify each of our partners and processes before applying the technology to our products. Our engineers work closely with ourfoundries and other contractors to increase yield, lower manufacturing costs and improve product quality. • Wafer Fabrication. We currently utilize a wide range of semiconductor processes to develop and manufacture our products. Each of ourfoundries tends to specialize in a particular semiconductor wafer process technology. We choose the semiconductor process and foundry that webelieve provides the best combination of performance attributes for any particular product. For most of our products, we utilize a single foundryfor semiconductor wafer production. Our principal foundries are Taiwan Semiconductor Manufacturing Company Ltd., or TSMC, in Taiwan,Sumitomo Electric Device Innovations Inc., or SEDI, in Japan, WIN Semiconductors Corp. in Taiwan, Global CommunicationsSemiconductors, Inc., or GCS, in North America and United Monolithic Semiconductors S.A.S, or UMS, in France. • Package and Assembly. Upon the completion of processing at the foundry, the finished wafers are shipped to our third-party assemblers forpackaging and assembly. Currently, our principal packaging and assembly contractors are Orient Semiconductor Electronics Ltd., or OSE inTaiwan, STATS ChipPAC Ltd. in Korea, Signetics Korea Co., Ltd. in Korea, Kyocera Corporation in North America and Japan, and NatelEngineering Co., Inc., in North America. • Test. At the last stage of integrated circuit production, our third-party test service providers test the packaged and assembled integrated circuits.Currently, OSE in Taiwan, Advanced Semiconductor Engineering or ASE in California, STATS ChipPAC in Korea, Signetics in Korea andPresto Engineering in North America are our test partners. We also perform testing in our Westlake Village, California, facility.We are committed to maintaining the highest level of quality in our products. Our objective is that our products meet all of our customer requirements,are delivered on-time and function reliably throughout their useful lives. As part of our total quality assurance program, our quality management system hasbeen certified to ISO 9001:2008 standards. Our manufacturing partners are also ISO 9001 certified.Research and DevelopmentWe focus our research and development efforts on developing products that address bandwidth bottlenecks in networks and minimize latency incomputing environments. We believe that our continued success depends on our ability to both introduce improved versions of our existing products and todevelop new products for the markets that we serve. We devote a portion of our resources to expanding our core technology including efforts in system-levelsimulation, high-speed analog design, supporting a broad range of process technologies and high-speed package modeling and design.We develop models that are used as an input to a combination of proprietary and commercially available simulation tools. We use these tools to predictoverall system performance based on the performance of our product. After our product is manufactured, we perform system measurements and refine ourmodel set to improve the model’s accuracy and predictive ability. As a result, our models and simulation tools have improved over time and we have been ableto very accurately predict overall system performance prior to fabricating a part. 9Table of ContentsWe have assembled a core team of experienced engineers and systems designers in three design centers located in the United States, the United Kingdomand Taiwan. Our technical team typically has, on average, more than 20 years of industry experience with more than 65% having advanced degrees and morethan 20% having Ph.Ds. These engineers and designers are involved in advancing our core technologies, as well as applying these core technologies to ourproduct development activities across a number of areas including telecommunications transport systems, enterprise networking equipment, datacenters andenterprise servers, storage platforms, test and measurement and military systems. In 2011, 2010 and 2009, our research and development expenses were$28.6 million, $23.8 million and $17.8 million, respectively.CompetitionThe global semiconductor market in general, and the communications and computing markets in particular, are highly competitive. We expectcompetition to increase and intensify as more and larger semiconductor companies enter our markets. Increased competition could result in price pressure,reduced profitability and loss of market share, any of which could materially and adversely affect our business, revenue and operating results.Currently, our competitors range from large, international companies offering a wide range of semiconductor products to smaller companies specializingin narrow markets. Our primary competitors include Broadcom Corporation, Hittite Microwave Corporation, Integrated Device Technology, Inc., or IDT, andTexas Instruments Incorporated, as well as other smaller analog signal processing companies. We expect competition in our target markets to increase in thefuture as existing competitors improve or expand their product offerings. In addition, as we continue to develop our 100G semiconductor solutions forenterprise networks, we may face competition from companies such as Broadcom, Semtech Corp. and Triquint Semiconductor.Our ability to compete successfully depends on elements both within and outside of our control, including industry and general economic trends. Duringpast periods of downturns in our industry, competition in the markets in which we operate intensified as our customers reduced their purchase orders. Manyof our competitors are significantly larger, have greater financial, technical, marketing, distribution, customer support and other resources, are moreestablished than we are, and have significantly better brand recognition and broader product offerings with which to withstand similar adverse economic ormarket conditions in the future. These developments may materially and adversely affect our current and future target markets and our ability to competesuccessfully in those markets.We compete or plan to compete in different target markets to various degrees on the basis of a number of principal competitive factors, including: • product performance; • power budget; • features and functionality; • customer relationships; • size; • ease of system design; • product roadmap; • reputation and reliability; • customer support; and • price.We believe we compete favorably with respect to each of these factors. We maintain our competitive position through our ability to successfully design,develop and market complex high-speed analog solutions for the customers that we serve. 10Table of ContentsIntellectual PropertyWe rely on a combination of intellectual property rights, including patents, trade secrets, copyrights and trademarks, and contractual protections, toprotect our core technology and intellectual property. As of December 31, 2011, we had 35 issued and allowed patents in the United States and other patentapplications pending in the United States. The 35 issued and allowed patents in the United States expire in the years beginning in 2021 through 2027. Manyof our issued patents and pending patent applications relate to high-speed circuit and package designs.We may not receive competitive advantages from any rights granted under our patents, and our patent applications may not result in the issuance of anypatents. In addition, any future patent may be opposed, contested, circumvented, designed around by a third party or found to be unenforceable orinvalidated. Others may develop technologies that are similar or superior to our proprietary technologies, duplicate our proprietary technologies or designaround patents owned or licensed by us.In addition to our own intellectual property, we also use third-party licensors for certain technologies embedded in our semiconductor solutions. Theseare typically non-exclusive contracts provided under paid-up licenses. These licenses are generally perpetual or automatically renewed for so long as wecontinue to pay any maintenance fees that may be due. To date, maintenance fees have not constituted a significant portion of our capital expenditures. Wehave entered into a number of licensing arrangements pursuant to which we license third-party technologies. We do not believe our business is dependent to anysignificant degree on any individual third-party license.We generally control access to and use of our confidential information through the use of internal and external controls, including contractual protectionswith employees, contractors and customers. We rely in part on United States and international copyright laws to protect our mask work. All employees andconsultants are required to execute confidentiality agreements in connection with their employment and consulting relationships with us. We also require themto agree to disclose and assign to us all inventions conceived or made in connection with the employment or consulting relationship.Despite our efforts to protect our intellectual property, unauthorized parties may still copy or otherwise obtain and use our software, technology or otherinformation that we regard as proprietary intellectual property. In addition, we intend to expand our international operations, and effective patent, copyright,trademark and trade secret protection may not be available or may be limited in foreign countries.The semiconductor industry is characterized by vigorous protection and pursuit of intellectual property rights and positions, which has resulted inprotracted and expensive litigation for many companies. We have in the past received and, particularly as a public company, we expect that in the future wemay receive, communications from various industry participants alleging our infringement of their patents, trade secrets or other intellectual property rights.Any lawsuits could subject us to significant liability for damages, invalidate our proprietary rights and harm our business and our ability to compete. Anylitigation, regardless of success or merit, could cause us to incur substantial expenses, reduce our sales and divert the efforts of our technical and managementpersonnel. In the event we receive an adverse result in any litigation, we could be required to pay substantial damages, seek licenses from third parties, whichmay not be available on reasonable terms or at all, cease sale of products, expend significant resources to develop alternative technology or discontinue the useof processes requiring the relevant technology.EmployeesAt December 31, 2011, we employed 165 full-time equivalent employees, including 91 in research, product development and engineering, 29 in salesand marketing, 22 in general and administrative management and 23 in manufacturing logistics. We consider relations with our employees to be good andhave never experienced a work stoppage. None of our employees are either represented by a labor union or subject to a collective bargaining agreement. 11Table of ContentsOtherWe were incorporated in Delaware in November 2000 as TCom Communications, Inc. and changed our name to Inphi Corporation in February 2001.Our principal executive offices are located at 3945 Freedom Circle, Suite 1100, Santa Clara, California 95054. Our telephone number at that location is(408) 217-7300. Our website address is www.inphi.com. Information on our website is not part of this report and should not be relied upon in determiningwhether to make an investment decision. The inclusion of our website address in this report does not include or incorporate by reference into this report anyinformation on our website.We electronically file our annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K pursuant to Section 13(a) or15(d) of the Securities Exchange Act of 1934, as amended with the SEC. The public may read or copy any materials we file with the SEC at the SEC’s PublicReference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling theSEC at 1-800-SEC-0330. The SEC maintains an Internet site that contains reports, proxy and information statements, and other information regarding issuersthat file electronically with the SEC. The address of that site is http://www.sec.gov. You may obtain a free copy of our annual reports on Form 10-K, quarterlyreports on Form 10-Q and current reports on Form 8-K and amendments to those reports with the SEC on our website. ITEM 1A.RISK FACTORSRisks Related to Our BusinessOur revenue and operating results can fluctuate from period to period, which could cause our share price to fluctuate.Our revenue and operating results have fluctuated in the past and may fluctuate from period to period in the future due to a variety of factors, many ofwhich are beyond our control. Factors relating to our business that may contribute to these fluctuations include the following factors, as well as other factorsdescribed elsewhere in this report: • the receipt, reduction or cancellation of orders by customers; • fluctuations in the levels of component inventories held by our customers; • the gain or loss of significant customers; • market acceptance of our products and our customers’ products; • our ability to develop, introduce and market new products and technologies on a timely basis; • the timing and extent of product development costs; • new product announcements and introductions by us or our competitors; • incurrence of research and development and related new product expenditures; • fluctuations in sales by module manufacturers who incorporate our semiconductor solutions in their products, such as memory modules; • cyclical fluctuations in our markets; • fluctuations in our manufacturing yields; • significant warranty claims, including those not covered by our suppliers; • changes in our product mix or customer mix; • intellectual property disputes; and • loss of key personnel or the inability to attract qualified engineers. 12Table of ContentsAs a result of these and other factors, the results of any prior quarterly or annual periods should not be relied upon as indications of our future revenueor operating performance. Fluctuations in our revenue and operating results could cause our share price to decline.We have an accumulated deficit and have incurred net losses in the past. We may incur net losses in the future.As of December 31, 2011, we had an accumulated deficit of $32.7 million. We have incurred net losses in each year through 2008. We generated netincome of $1.9 million, $26.1 million and $7.3 million for the years ended December 31, 2011, 2010 and 2009, respectively. We may incur net losses in thefuture.We depend on a limited number of customers for a substantial portion of our revenue, and the loss of, or a significant reduction in ordersfrom, one or more of our major customers could negatively impact our revenue and operating results. In addition, if we offer more favorableprices to attract or retain customers, our average selling prices and gross margins would decline.For the year ended December 31, 2011, Samsung and Hynix accounted for 27% and 14% of our total revenue, respectively, and our 10 largestcustomers collectively accounted for 73% of our total revenue. In addition, sales directly and through distributors to Micron accounted for 11% of our totalrevenue in the year ended December 31, 2011. Samsung directly accounted for 34% of our total revenue and sales directly and through distributors to Micronaccounted for 11% of our total revenue for the year ended December 31, 2010. Some of our customers, including Samsung, Hynix and Micron, use ourproducts primarily in high-speed memory devices. We believe our operating results for the foreseeable future will continue to depend on sales to a relativelysmall number of customers. In the future, these customers may decide not to purchase our products at all, may purchase fewer products than they did in thepast or may alter their purchasing patterns.In addition, our relationships with some customers may deter other potential customers who compete with these customers from buying our products. Toattract new customers or retain existing customers, we may offer these customers favorable prices on our products. In that event, our average selling prices andgross margins would decline. The loss of a key customer, a reduction in sales to any key customer or our inability to attract new significant customers couldnegatively impact our revenue and materially and adversely affect our results of operations.We do not have long-term purchase commitments from our customers and if our customers cancel or change their purchase commitments,our revenue and operating results could suffer.Substantially all of our sales to date, including sales to Samsung, Hynix and Micron, have been made on a purchase order basis. We do not have anylong-term commitments with any of our customers. As a result, our customers may cancel, change or delay product purchase commitments with little or nonotice to us and without penalty. This in turn could cause our revenue to decline and materially and adversely affect our results of operations.We may face claims of intellectual property infringement, which could be time-consuming, costly to defend or settle and result in the loss ofsignificant rights and which could harm our relationships with our customers and distributors.The semiconductor industry is characterized by companies that hold patents and other intellectual property rights and that vigorously pursue, protectand enforce intellectual property rights. From time to time, third parties may assert against us and our customers and distributors their patent and otherintellectual property rights to technologies that are important to our business.Claims that our products, processes or technology infringe third-party intellectual property rights, regardless of their merit or resolution, could be costlyto defend or settle and could divert the efforts and attention of our 13Table of Contentsmanagement and technical personnel. For example, Netlist, Inc. filed suit against us in the United States District Court, Central District of California, inSeptember 2009, alleging that our iMB™ and certain other memory module components infringe three of Netlist’s patents. For more details, see Part I, “Item 3,Legal Proceedings.”Infringement claims also could harm our relationships with our customers or distributors and might deter future customers from doing business withus. We do not know whether we will prevail in these proceedings given the complex technical issues and inherent uncertainties in intellectual property litigation.If any pending or future proceedings result in an adverse outcome, we could be required to: • cease the manufacture, use or sale of the infringing products, processes or technology; • pay substantial damages for infringement; • expend significant resources to develop non-infringing products, processes or technology, which may not be successful; • license technology from the third-party claiming infringement, which license may not be available on commercially reasonable terms, or at all; • cross-license our technology to a competitor to resolve an infringement claim, which could weaken our ability to compete with that competitor; or • pay substantial damages to our customers or end users to discontinue their use of or to replace infringing technology sold to them with non-infringing technology, if available.Any of the foregoing results could have a material adverse effect on our business, financial condition and results of operations.Winning business is subject to lengthy competitive selection processes that require us to incur significant expenditures prior to generatingany revenue or without any guarantee of any revenue related to this business. Even if we begin a product design, a customer may decide to cancelor change its product plans, which could cause us to generate no revenue from a product. If we fail to generate revenue after incurringsubstantial expenses to develop our products, our business and operating results would suffer.We are focused on winning more competitive bid processes, known as “design wins,” that enable us to sell our high-speed analog semiconductorsolutions for use in our customers’ products. These selection processes typically are lengthy and can require us to incur significant design and developmentexpenditures and dedicate scarce engineering resources in pursuit of a single customer opportunity. We may not win the competitive selection process and maynever generate any revenue despite incurring significant design and development expenditures. Failure to obtain a design win could prevent us from offering anentire generation of a product. This could cause us to lose revenue and require us to write off obsolete inventory, and could weaken our position in futurecompetitive selection processes. Even after securing a design win, we may experience delays in generating revenue from our products as a result of the lengthydevelopment cycle typically required. Our customers generally take a considerable amount of time to evaluate our products. Our design cycle from initialengagement to volume shipment is typically two to three years.The delays inherent in these lengthy sales cycles increase the risk that a customer will decide to cancel, curtail, reduce or delay its product plans oradopt a competing design from one of our competitors, causing us to lose anticipated revenue. In addition, any delay or cancellation of a customer’s planscould materially and adversely affect our financial results, as we may have incurred significant expense without generating any revenue. Finally, ourcustomers’ failure to successfully market and sell their products could reduce demand for our products and materially and adversely affect our business,financial condition and results of operations. If we were unable to generate revenue after incurring substantial expenses to develop any of our products, ourbusiness would suffer. 14Table of ContentsOur customers require our products and our third-party contractors to undergo a lengthy and expensive qualification process which doesnot assure product sales. If we are unsuccessful in or delayed in qualifying any of our products with a customer, our business and operatingresults would suffer.Prior to purchasing our products, our customers require that both our products and our third-party contractors undergo extensive qualificationprocesses, which involve testing of our products in the customers’ systems, as well as testing for reliability. This qualification process may continue forseveral months. However, qualification of a product by a customer does not assure any sales of the product to that customer. Even after successfulqualification and sales of a product to a customer, a subsequent revision in our third party contractors’ manufacturing process or our selection of a newsupplier may require a new qualification process with our customers, which may result in delays and in our holding excess or obsolete inventory. After ourproducts are qualified, it can take several months or more before the customer commences volume production of components or systems that incorporate ourproducts. Despite these uncertainties, we devote substantial resources, including design, engineering, sales, marketing and management efforts, to qualifyingour products with customers in anticipation of sales. If we are unsuccessful or delayed in qualifying any of our products with a customer, sales of thoseproducts to the customer may be precluded or delayed, which may impede our growth and cause our business to suffer.The complexity of our products could result in undetected defects and we may be subject to warranty claims and product liability, whichcould result in a decrease in customers and revenue, unexpected expenses and loss of market share. In addition, our product liability insurancemay not adequately cover our costs arising from products defects or otherwise.Our products are sold as components or as modules for use in larger electronic equipment sold by our customers. A product usually goes through anintense qualification and testing period performed by our customers before being used in production. We primarily outsource our product testing to thirdparties and also perform some testing in our Westlake Village, California, facility. We inspect and test parts, or have them inspected and tested in order toscreen out parts that may be weak or potentially suffer a defect incurred through the manufacturing process. From time to time, we are subject to warranty orproduct liability claims that may require us to make significant expenditures to defend these claims or pay damage awards. For example, in September 2010,we were informed of a claim related to repair and replacement costs in connection with shipments of over 4,000 integrated circuits made by us during thesummer and fall of 2009. Of these shipments, approximately 4% were later confirmed or suspected to have random manufacturing process anomalies in thewafer die in the product. Based on our standard warranty provisions, we provided replacement parts to the customer for the known and suspected failures thathad occurred. In addition, and without informing us, in the fall of 2009, the customer instituted its own larger scale replacement program that covered thereplacement of entire subassemblies in which our product was only one component. In September 2010, the customer made an initial claim for approximately$18 million against us for the costs incurred relative to that program. In June 2011, the customer sent us an email and reduced their initial claim down to $6.6million. We believe the amount and the basis of the claims are without merit as our warranty liability is contractually limited to the repair or replacement of theaffected Inphi products, which, to the extent the customer has requested replacement, has already been completed. A formal claim has yet to be made anddiscussions with the customer are ongoing. However, claims of this nature are subject to various risks and uncertainties and there can be no assurance thatthis matter will be resolved without further significant costs to us, including the potential for arbitration or litigation.Generally, our agreements seek to limit our liability to the replacement of the part or to the revenue received for the product, but these limitations onliability may not be effective or sufficient in scope in all cases. If a customer’s equipment fails in use, the customer may incur significant monetary damagesincluding an equipment recall or associated replacement expenses, as well as lost revenue. The customer may claim that a defect in our product caused theequipment failure and assert a claim against us to recover monetary damages. The process of identifying a defective or potentially defective product in systemsthat have been widely distributed may be 15Table of Contentslengthy and require significant resources. We may test the affected product to determine the root cause of the problem and to determine appropriate solutions.We may find an appropriate solution or a temporary fix while a permanent solution is being determined. If we are unable to determine the root cause, find anappropriate solution or offer a temporary fix, we may delay shipment to customers. As a result, we may incur significant replacement costs and contractdamage claims from our customers as well as harm to our reputation. In certain situations, circumstances might warrant that we consider incurring the costsor expense related to a recall of one of our products in order to avoid the potential claims that may be raised should the customer reasonably rely upon ourproduct only to suffer a failure due to a design or manufacturing process defect. Defects in our products could harm our relationships with our customers anddamage our reputation. Customers may be reluctant to buy our products, which could harm our ability to retain existing customers and attract new customersand our financial results. In addition, the cost of defending these claims and satisfying any arbitration award or judicial judgment with respect to these claimscould harm our business prospects and financial condition. Although we carry product liability insurance, this insurance may not adequately cover our costsarising from defects in our products or otherwise.We rely on our relationships with industry and technology leaders to enhance our product offerings and our inability to continue to developor maintain such relationships in the future would harm our ability to remain competitive.We develop many of our semiconductor products for applications in systems that are driven by industry and technology leaders in the communicationsand computing markets. We also work with OEMs, system manufacturers and standards bodies to define industry conventions and standards within ourtarget markets. We believe these relationships enhance our ability to achieve market acceptance and widespread adoption of our products. If we are unable tocontinue to develop or maintain these relationships, our semiconductor solutions would become less desirable to our customers, our sales would suffer and ourcompetitive position could be harmed.If we fail to accurately anticipate and respond to market trends or fail to develop and introduce new or enhanced products to address thesetrends on a timely basis, our ability to attract and retain customers could be impaired and our competitive position could be harmed.We operate in industries characterized by rapidly changing technologies and industry standards as well as technological obsolescence. We havedeveloped products that may have long product life cycles of 10 years or more, as well as other products in more volatile high growth or rapidly changingareas, which may have shorter life cycles of only two to three years. We believe that our future success depends on our ability to develop and introduce newtechnologies and products that generate new sources of revenue to replace, or build upon, existing product revenue streams that may be dependent upon limitedproduct life cycles. If we are not able to repeatedly introduce, in successive years, new products that ship in volume, our revenue will likely not grow and maydecline significantly and rapidly. In 2009, we successfully introduced and began to ship a new product in production which we identify as product numberINSSTE32882-GS04, or the GS04 product, and which consists of an integrated PLL and register buffer. Sales of the GS04 product comprised 18% and 43%of our total revenue in 2010 and 2009, respectively. In 2010, we also began to ship in production volume a “low voltage” version of our integrated PLL andregister buffer, which is shipping in the form of product number INSSTE32882LV-GS02, or the GS02 product. Sales of the GS02 product comprised 38%and 32% of our total revenue in 2011 and 2010, respectively. In 2011, we began to ship in production volume a new “ultra-low voltage” version of ourintegrated PLL and register buffer, which is shipping in the form of product number INSSTE32882UV-GS02, or the GS02UV product. Sales of theGS02UV product comprised 13% of our total revenue in 2011. There were no other products that generated more than 10% of our total revenue in 2011, 2010or 2009.In 2011, the GS04 product matured and as a result, sales of the GS04 product declined. This underscores the importance of the need for us tocontinually develop and introduce new products to diversify our revenue base as well as generate new revenue to replace and build upon the success ofpreviously introduced products which may be rapidly maturing. 16Table of ContentsTo compete successfully, we must design, develop, market and sell new or enhanced products that provide increasingly higher levels of performanceand reliability while meeting the cost expectations of our customers. The introduction of new products by our competitors, the delay or cancellation of aplatform for which any of our semiconductor solutions are designed, the market acceptance of products based on new or alternative technologies or theemergence of new industry standards could render our existing or future products uncompetitive from a pricing standpoint, obsolete and otherwiseunmarketable. Our failure to anticipate or timely develop new or enhanced products or technologies in response to technological shifts could result in decreasedrevenue and our competitors winning design wins. In particular, we may experience difficulties with product design, manufacturing, marketing or certificationthat could delay or prevent our development, introduction or marketing of new or enhanced products. Although we believe our products are fully compliantwith applicable industry standards, proprietary enhancements may not in the future result in full conformance with existing industry standards under allcircumstances. Due to the interdependence of various components in the systems within which our products and the products of our competitors operate,customers are unlikely to change to another design, once adopted, until the next generation of a technology. As a result, if we fail to introduce new or enhancedproducts that meet the needs of our customers or penetrate new markets in a timely fashion, and our designs do not gain acceptance, we will lose market shareand our competitive position, very likely on an extended basis, and operating results will be adversely affected.If sufficient market demand for 100G solutions does not develop or develops more slowly than expected, or if we fail to accurately predictmarket requirements or market demand for 100G solutions, our business, competitive position and operating results would suffer.We are currently investing significant resources to develop semiconductor solutions supporting 100G data transmission rates in order to increase thenumber of such solutions in our product line. If we fail to accurately predict market requirements or market demand for 100G semiconductor solutions, or ifour 100G semiconductor solutions are not successfully developed or competitive in the industry, our business will suffer. If 100G networks are deployed to alesser extent or more slowly than we currently anticipate, we may not realize any benefits from our investment. As a result, our business, competitive position,market share and operating results would suffer.Our target markets may not grow or develop as we currently expect and are subject to market risks, any of which could materially harm ourbusiness, revenue and operating results.To date, a substantial portion of our revenue has been attributable to demand for our products in the communications and computing markets and thegrowth of these overall markets. These markets have fluctuated in size and growth in recent times. Our operating results are impacted by various trends inthese markets. These trends include the deployment and broader market adoption of next generation technologies, such as 40 gigabits per second, or Gbps orG, and 100G, in communications and enterprise networks, timing of next generation network upgrades, the introduction and broader market adoption of nextgeneration server platforms, timing of enterprise upgrades and the introduction and deployment of high-speed memory interfaces in computing platforms. Weare unable to predict the timing or direction of the development of these markets with any accuracy. For example, we expect that the deployment of differenttypes of memory devices for which our iMB™ product is designed will be substantially dependent on the development of next generation server platforms. Wehave not generated any significant revenue from our iMB™ product to date, and if the development or adoption of next generation server platforms is delayed,or if these server platforms do not interoperate with memory devices for which our iMB™ product is designed, we may not realize revenue from our iMB™product. In addition, because some of our products are not limited in the systems or geographic areas in which they may be deployed, we cannot alwaysdetermine with accuracy how, where or into which applications our products are being deployed. If our target markets do not grow or develop in ways that wecurrently expect, demand for our semiconductor products may decrease and our business and operating results could suffer. 17Table of ContentsWe rely on a limited number of third parties to manufacture, assemble and test our products, and the failure to manage our relationshipswith our third-party contractors successfully could adversely affect our ability to market and sell our products and our reputation. Our revenueand operating results would suffer if these third parties fail to deliver products or components in a timely manner and at reasonable cost or ifmanufacturing capacity is reduced or eliminated as we may be unable to obtain alternative manufacturing capacity.We operate an outsourced manufacturing business model. As a result, we rely on third-party foundry wafer fabrication and assembly and test capacity.We also perform testing in our Westlake Village, California, facility. We generally use a single foundry for the production of each of our varioussemiconductors. Currently, our principal foundries are GCS, SEDI, TSMC, TowerJazz Semiconductor Ltd., UMS and WIN Semiconductors. We also usethird-party contract manufacturers for a significant majority of our assembly and test operations, including Kyocera, Natel, OSE, ASE, Presto, Signetics andSTATS ChipPAC.Relying on third-party manufacturing, assembly and testing presents significant risks to us, including the following: • failure by us, our customers or their end customers to qualify a selected supplier; • capacity shortages during periods of high demand; • reduced control over delivery schedules and quality; • shortages of materials; • misappropriation of our intellectual property; • limited warranties on wafers or products supplied to us; and • potential increases in prices.The ability and willingness of our third-party contractors to perform is largely outside our control. If one or more of our contract manufacturers or otheroutsourcers fails to perform its obligations in a timely manner or at satisfactory quality levels, our ability to bring products to market and our reputation couldsuffer. For example, if that manufacturing capacity is reduced or eliminated at one or more facilities, including as a response to the recent worldwide decline inthe semiconductor industry, or any of those facilities are unable to keep pace with the growth of our business, we could have difficulties fulfilling ourcustomer orders and our revenue could decline. In addition, if these third parties fail to deliver quality products and components on time and at reasonableprices, we could have difficulties fulfilling our customer orders, our revenue could decline and our business, financial condition and results of operationswould be adversely affected.Additionally, as many of our fabrication and assembly and test contractors are located in the Pacific Rim region, principally in Taiwan, ourmanufacturing capacity may be similarly reduced or eliminated due to natural disasters, political unrest, war, labor strikes, work stoppages or public healthcrises, such as outbreaks of H1N1 flu. This could cause significant delays in shipments of our products until we are able to shift our manufacturing,assembly or test from the affected contractor to another third-party vendor. There can be no assurance that alternative capacity could be obtained on favorableterms, if at all.Our costs may increase substantially if the wafer foundries that supply our products do not achieve satisfactory product yields or quality.The wafer fabrication process is an extremely complicated process where the slightest changes in the design, specifications or materials can result inmaterial decreases in manufacturing yields or even the suspension of production. From time to time, our third-party wafer foundries have experienced, and arelikely to experience manufacturing defects and reduced manufacturing yields related to errors or problems in their manufacturing processes or theinterrelationship of their processes with our designs. In some cases, our third-party wafer 18Table of Contentsfoundries may not be able to detect these defects early in the fabrication process or determine the cause of such defects in a timely manner. We may incursubstantial research and development expense for prototype or development stage products as we qualify the products for production.Generally, in pricing our semiconductors, we assume that manufacturing yields will continue to increase, even as the complexity of our semiconductorsincreases. Once our semiconductors are initially qualified with our third-party wafer foundries, minimum acceptable yields are established. We are responsiblefor the costs of the wafers if the actual yield is above the minimum. If actual yields are below the minimum we are not required to purchase the wafers. Theminimum acceptable yields for our new products are generally lower at first and increase as we achieve full production. Unacceptably low product yields orother product manufacturing problems could substantially increase the overall production time and costs and adversely impact our operating results on salesof our products. Product yield losses will increase our costs and reduce our gross margin. In addition to significantly harming our operating results and cashflow, poor yields may delay shipment of our products and harm our relationships with existing and potential customers.We do not have any long-term supply contracts with our contract manufacturers or suppliers, and any disruption in our supply of productsor materials could have a material adverse affect on our business, revenue and operating results.We currently do not have long-term supply contracts with any of our third-party contract manufacturers. We make substantially all of our purchases ona purchase order basis, and our contract manufacturers are not required to supply us products for any specific period or in any specific quantity. We expectthat it would take approximately nine to 12 months to transition from our current foundry or assembly services to new providers. Such a transition wouldlikely require a qualification process by our customers or their end customers. We generally place orders for products with some of our suppliers severalmonths prior to the anticipated delivery date, with order volumes based on our forecasts of demand from our customers. Accordingly, if we inaccuratelyforecast demand for our products, we may be unable to obtain adequate and cost-effective foundry or assembly capacity from our third-party contractors tomeet our customers’ delivery requirements, or we may accumulate excess inventories. On occasion, we have been unable to adequately respond to unexpectedincreases in customer purchase orders and therefore, were unable to benefit from this incremental demand. None of our third-party contract manufacturershave provided any assurance to us that adequate capacity will be available to us within the time required to meet additional demand for our products.Our foundry vendors and assembly and test vendors may allocate capacity to the production of other companies’ products while reducing deliveries tous on short notice. In particular, other customers that are larger and better financed than us or that have long-term agreements with our foundry vendor orassembly and test vendors may cause our foundry vendor or assembly and test vendors to reallocate capacity to those customers, decreasing the capacityavailable to us. We do not have long-term supply contracts with our third-party contract manufacturers and if we enter into costly arrangements with suppliersthat include nonrefundable deposits or loans in exchange for capacity commitments, commitments to purchase specified quantities over extended periods orinvestment in a foundry, our operating results could be harmed. We may not be able to make any such arrangement in a timely fashion or at all, and anyarrangements may be costly, reduce our financial flexibility, and not be on terms favorable to us. Moreover, if we are able to secure foundry capacity, we maybe obligated to use all of that capacity or incur penalties. These penalties may be expensive and could harm our financial results. To date, we have not enteredinto such arrangements with our suppliers. If we need another foundry or assembly and test subcontractor because of increased demand, or if we are unable toobtain timely and adequate deliveries from our providers, we might not be able to cost effectively and quickly retain other vendors to satisfy our requirements. 19Table of ContentsMany of our customers depend on us as the sole source for a number of our products. If we are unable to deliver these products as the solesupplier or as one of a limited number of suppliers, our relationships with these customers and our business would suffer.A number of our customers do not have alternative sources for our semiconductor solutions and depend on us as the sole supplier or as one of a limitednumber of suppliers for these products. Since we outsource our manufacturing to third-party contractors, our ability to deliver our products is substantiallydependent on the ability and willingness of our third-party contractors to perform, which is largely outside our control. A failure to deliver our products insufficient quantities or at all to our customers that depend on us as a sole supplier or as one of a limited number of suppliers may be detrimental to theirbusiness and, as a result, our relationship with the customer would be negatively impacted. If we are unable to maintain our relationships with these customersafter such failure, our business and financial results may be harmed.If we are unable to attract, train and retain qualified personnel, particularly our design and technical personnel, we may not be able toexecute our business strategy effectively.Our future success depends on our ability to attract and retain qualified personnel, including our management, sales and marketing, and finance, andparticularly our design and technical personnel. We do not know whether we will be able to retain all of these personnel as we continue to pursue our businessstrategy. Historically, we have encountered difficulties in hiring qualified engineers because there is a limited pool of engineers with the expertise required in ourfield. Competition for these personnel is intense in the semiconductor industry. As the source of our technological and product innovations, our design andtechnical personnel represent a significant asset. The loss of the services of one or more of our key employees, especially our key design and technicalpersonnel, or our inability to attract and retain qualified design and technical personnel, could harm our business, financial condition and results ofoperations.We may not be able to effectively manage our growth, and we may need to incur significant expenditures to address the additionaloperational and control requirements of our growth, either of which could harm our business and operating results.To effectively manage our growth, we must continue to expand our operational, engineering and financial systems, procedures and controls and toimprove our accounting and other internal management systems. This may require substantial managerial and financial resources, and our efforts in thisregard may not be successful. Our current systems, procedures and controls may not be adequate to support our future operations. If we fail to adequatelymanage our growth, or to improve our operational, financial and management information systems, or fail to effectively motivate or manage our new andfuture employees, the quality of our products and the management of our operations could suffer, which could adversely affect our operating results.We face intense competition and expect competition to increase in the future. If we fail to compete effectively, it could have an adverse effecton our revenue, revenue growth rate, if any, and market share.The global semiconductor market in general, and the communications and computing markets in particular, are highly competitive. We compete or planto compete in different target markets to various degrees on the basis of a number of principal competitive factors, including product performance, powerbudget, features and functionality, customer relationships, size, ease of system design, product roadmap, reputation and reliability, customer support andprice. We expect competition to increase and intensify as more and larger semiconductor companies enter our markets. Increased competition could result inprice pressure, reduced profitability and loss of market share, any of which could materially and adversely affect our business, revenue and operating results.Currently, our competitors range from large, international companies offering a wide range of semiconductor products to smaller companies specializingin narrow markets. Our primary competitors include Broadcom Corporation, Hittite Microwave Corporation, Integrated Device Technology, Inc. and Texas 20Table of ContentsInstruments Incorporated, as well as other analog signal processing companies. We expect competition in the markets in which we participate to increase in thefuture as existing competitors improve or expand their product offerings. In addition, as we develop our 100G semiconductor solution, we may facecompetition from companies such as Broadcom, Semtech Corp. and Triquint Semiconductor.Our ability to compete successfully depends on elements both within and outside of our control, including industry and general economic trends. Duringpast periods of downturns in our industry, competition in the markets in which we operate intensified as our customers reduced their purchase orders. Manyof our competitors have substantially greater financial and other resources with which to withstand similar adverse economic or market conditions in thefuture. These developments may materially and adversely affect our current and future target markets and our ability to compete successfully in thosemarkets.We use a significant amount of intellectual property in our business. Monitoring unauthorized use of our intellectual property can bedifficult and costly and if we are unable to protect our intellectual property, our business could be adversely affected.Our success depends in part upon our ability to protect our intellectual property. To accomplish this, we rely on a combination of intellectual propertyrights, including patents, copyrights, trademarks and trade secrets in the United States and in selected foreign countries where we believe filing for suchprotection is appropriate. Effective protection of our intellectual property rights may be unavailable, limited or not applied for in some countries. Some of ourproducts and technologies are not covered by any patent or patent application, as we do not believe patent protection of these products and technologies iscritical to our business strategy at this time. A failure to timely seek patent protection on products or technologies generally precludes us from seeking futurepatent protection on these products or technologies. We cannot guarantee that: • any of our present or future patents or patent claims will not lapse or be invalidated, circumvented, challenged or abandoned; • our intellectual property rights will provide competitive advantages to us; • our ability to assert our intellectual property rights against potential competitors or to settle current or future disputes will not be limited by ouragreements with third parties; • any of our pending or future patent applications will be issued or have the coverage originally sought; • our intellectual property rights will be enforced in jurisdictions where competition may be intense or where legal protection may be weak; • any of the trademarks, copyrights, trade secrets or other intellectual property rights that we presently employ in our business will not lapse or beinvalidated, circumvented, challenged or abandoned; or • we will not lose the ability to assert our intellectual property rights against or to license our technology to others and collect royalties or otherpayments.In addition, our competitors or others may design around our protected patents or technologies. Effective intellectual property protection may beunavailable or more limited in one or more relevant jurisdictions relative to those protections available in the United States, or may not be applied for in one ormore relevant jurisdictions. If we pursue litigation to assert our intellectual property rights, an adverse decision in any of these legal actions could limit ourability to assert our intellectual property rights, limit the value of our technology or otherwise negatively impact our business, financial condition and results ofoperations.Monitoring unauthorized use of our intellectual property is difficult and costly. Unauthorized use of our intellectual property may have occurred or mayoccur in the future. Although we have taken steps to minimize the risk of this occurring, any such failure to identify unauthorized use and otherwiseadequately protect our intellectual property would adversely affect our business. Moreover, if we are required to commence litigation, 21Table of Contentswhether as a plaintiff or defendant, not only would this be time-consuming, but we would also be forced to incur significant costs and divert our attention andefforts of our employees, which could, in turn, result in lower revenue and higher expenses.We also rely on contractual protections with our customers, suppliers, distributors, employees and consultants, and we implement security measuresdesigned to protect our trade secrets. We cannot assure you that these contractual protections and security measures will not be breached, that we will haveadequate remedies for any such breach or that our suppliers, employees or consultants will not assert rights to intellectual property arising out of suchcontracts.In addition, we have a number of third-party patent and intellectual property license agreements. Some of these license agreements require us to makeone-time payments or ongoing royalty payments. We cannot guarantee that the third-party patents and technology we license will not be licensed to ourcompetitors or others in the semiconductor industry. In the future, we may need to obtain additional licenses, renew existing license agreements or otherwisereplace existing technology. We are unable to predict whether these license agreements can be obtained or renewed or the technology can be replaced onacceptable terms, or at all.Average selling prices of our products generally decrease over time, which could negatively impact our revenue and gross margins.Our operating results may be impacted by a decline in the average selling prices of our semiconductors. If competition increases in our target markets,we may need to reduce the average unit price of our products in anticipation of competitive pricing pressures, new product introductions by us or ourcompetitors and for other reasons. If we are unable to offset any reductions in our average selling prices by increasing our sales volumes or introducing newproducts with higher margins, our revenue and gross margins will suffer. To maintain our revenue and gross margins, we must develop and introduce newproducts and product enhancements on a timely basis and continually reduce our costs as well as our customers’ costs. Failure to do so would cause ourrevenue and gross margins to decline.We are subject to order and shipment uncertainties, and differences between our estimates of customer demand and product mix and ouractual results could negatively affect our inventory levels, sales and operating results.Our revenue is generated on the basis of purchase orders with our customers rather than long-term purchase commitments. In addition, our customerscan cancel purchase orders or defer the shipments of our products under certain circumstances. Our products are manufactured using semiconductorfoundries according to our estimates of customer demand, which requires us to make separate demand forecast assumptions for every customer, each ofwhich may introduce significant variability into our aggregate estimates. It is difficult for us to forecast the demand for our products, in part because of thecomplex supply chain between us and the end-user markets that incorporate our products. Due to our lengthy product development cycle, it is critical for us toanticipate changes in demand for our various product features and the applications they serve to allow sufficient time for product development and design. Wehave limited visibility into future customer demand and the product mix that our customers will require, which could adversely affect our revenue forecastsand operating margins. Moreover, because some of our target markets are relatively new, many of our customers have difficulty accurately forecasting theirproduct requirements and estimating the timing of their new product introductions, which ultimately affects their demand for our products. Our failure toaccurately forecast demand can lead to product shortages that can impede production by our customers and harm our customer relationships. Conversely, ourfailure to forecast declining demand or shifts in product mix can result in excess or obsolete inventory. For example, some of our customers may cancelpurchase orders or delay the shipment of their products that incorporate our products as a result of component shortages they may experience due to the recentearthquakes and tsunami in Japan, or likewise with respect to the recent flooding in Thailand, which may result in excess or obsolete inventory and impactour sales and operating results. In addition, the rapid pace of innovation in our 22Table of Contentsindustry could also render significant portions of our inventory obsolete. Excess or obsolete inventory levels could result in unexpected expenses or increases inour reserves that could adversely affect our business, operating results and financial condition. In contrast, if we were to underestimate customer demand or ifsufficient manufacturing capacity were unavailable, we could forego revenue opportunities, potentially lose market share and damage our customerrelationships. In addition, any significant future cancellations or deferrals of product orders or the return of previously sold products due to manufacturingdefects could materially and adversely impact our profit margins, increase our write-offs due to product obsolescence and restrict our ability to fund ouroperations.We rely on third-party sales representatives and distributors to assist in selling our products. If we fail to retain or find additional salesrepresentatives and distributors, or if any of these parties fail to perform as expected, it could reduce our future sales.In 2011, we derived 83% of our total revenue from sales by our direct sales team and third-party sales representatives. In addition, in 2011 and 2010,approximately 17% and 21% of our sales were made through third-party distributors, respectively. Two of our distributors, which sell solely to Micron,accounted for 11% of our total revenue in both 2011 and 2010. We are unable to predict the extent to which these third-party sales representatives anddistributors will be successful in marketing and selling our products. Moreover, many of these third-party sales representatives and distributors also marketand sell competing products, which may affect the extent to which they promote our products. Even where our relationships are formalized in contracts, ourthird-party sales representatives and distributors often have the right to terminate their relationships with us at any time. Our future performance will alsodepend, in part, on our ability to attract additional third-party sales representatives and distributors who will be able to market and support our productseffectively, especially in markets in which we have not previously sold our products. If we cannot retain our current distributors or find additional orreplacement third-party sales representatives and distributors, our business, financial condition and results of operations could be harmed. Additionally, if weterminate our relationship with a distributor, we may be obligated to repurchase unsold products. We record a reserve for estimated returns and price credits. Ifactual returns and credits exceed our estimates, our operating results could be harmed.The facilities of our third-party contractors and distributors are located in regions that are subject to earthquakes and other naturaldisasters.The facilities of our third-party contractors and distributors are subject to risk of catastrophic loss due to fire, flood or other natural or man-madedisasters. A number of our facilities and those of our contract manufacturers are located in areas with above average seismic activity and also subject totyphoons and other Pacific storms. Several foundries that manufacture our wafers are located in Taiwan, Japan and California, and a majority of our third-party contractors who assemble and test our products are located in Asia. In addition, our headquarters are located in California. The risk of an earthquake inthe Pacific Rim region or California is significant due to the proximity of major earthquake fault lines. For example, Japan recently experienced a majorearthquake and tsunami. Although we have not received any reports of damage to the foundry we use in Japan, it did experience a temporary suspension ofproduction. If there is a shortage or interruption in the availability to us of any wafers manufactured by this foundry or shortages in other components ormaterials, and we cannot timely obtain a commercially and technologically suitable substitute or make sufficient and timely design or other productmodifications to permit the use of such a substitute, we may not be able to timely deliver sufficient quantities of our products to satisfy our contractualobligations and revenue expectations. In addition, one of our principal packaging and assembly contractors is located in Japan. As a result of the effects of theearthquake and tsunami, this contractor may be unable to ship our products in sufficient quantities or in a timely manner, which could have a materialadverse affect on our results of operations. Any further catastrophic loss to any of these facilities would likely disrupt our operations, delay production,shipments and revenue and result in significant expenses to repair or replace the facility. In particular, any catastrophic loss at our California locations wouldmaterially and adversely affect our business. 23Table of ContentsWe rely on third-party technologies for the development of our products and our inability to use such technologies in the future would harmour ability to remain competitive.We rely on third parties for technologies that are integrated into our products, such as wafer fabrication and assembly and test technologies used by ourcontract manufacturers, as well as licensed architecture technologies. If we are unable to continue to use or license these technologies on reasonable terms, or ifthese technologies fail to operate properly, we may not be able to secure alternatives in a timely manner or at all, and our ability to remain competitive would beharmed. In addition, if we are unable to successfully license technology from third parties to develop future products, we may not be able to develop suchproducts in a timely manner or at all.Our business would be adversely affected by the departure of existing members of our senior management team and other key personnel.Our success depends, in large part, on the continued contributions of our senior management team, in particular, the services of certain key personnel,including Dr. Loi Nguyen, one of our founders and our Vice President of Networking, Communications and Multi-Market Products. In February 2011, ourChief Technology Officer resigned and we promoted our Vice President of Engineering for New Business Initiatives to serve as our new Chief TechnologyOfficer. In February 2012, our President and Chief Executive Officer, Young K. Sohn resigned and was succeeded by Ford Tamer. These changes couldnegatively affect our operations and our relationships with our customers, employees and market leaders. In addition, we have not entered into non-competeagreements with members of our senior management team. The loss of any member of our senior management team or key personnel could harm our ability toimplement our business strategy and respond to the rapidly changing market conditions in which we operate.Potential future acquisitions could be difficult to integrate, divert attention of key personnel, disrupt our business, dilute stockholder valueand impair our operating results.As part of our business strategy, we have pursued and may continue to pursue acquisitions in the future that we believe will complement our business,semiconductor solutions or technologies. For example, in 2010, we acquired all of the outstanding shares of Winyatek Technology Inc., a Taiwanese company.Any acquisition involves a number of risks, many of which could harm our business, including: • difficulties in integrating the operations, technologies, products, existing contracts, accounting and personnel of the target company; • realizing the anticipated benefits of any acquisition; • difficulties in transitioning and supporting customers, if any, of the target company; • diversion of financial and management resources from existing operations; • the price we pay or other resources that we devote may exceed the value we realize, or the value we could have realized if we had allocated thepurchase price or other resources to another opportunity; • potential loss of key employees, customers and strategic alliances from either our current business or the target company’s business; • assumption of unanticipated problems or latent liabilities, such as problems with the quality of the target company’s products; • inability to generate sufficient revenue to offset acquisition costs; • dilutive effect on our stock as a result of any equity-based acquisitions; • inability to successfully complete transactions with a suitable acquisition candidate; and • in the event of international acquisitions, risks associated with accounting and business practices that are different from applicable U.S. practicesand requirements. 24Table of ContentsAcquisitions also frequently result in the recording of goodwill and other intangible assets that are subject to potential impairments, which could harmour financial results. As a result, if we fail to properly evaluate acquisitions or investments, we may not achieve the anticipated benefits of any suchacquisitions, and we may incur costs in excess of what we anticipate. The failure to successfully evaluate and execute acquisitions or investments or otherwiseadequately address these risks could materially harm our business and financial results.Our portfolio of marketable securities is significant and subject to market, interest and credit risk that may reduce its value.We maintain a significant portfolio of marketable securities. Changes in the value of this portfolio could adversely affect our earnings. In particular, thevalue of our investments may decline due to increases in interest rates, downgrades of money market funds, U.S. Treasuries, municipal bonds, corporatebonds, commercial paper, certificates of deposit, variable rate demand notes and asset backed securities included in our portfolio, instability in the globalfinancial markets that reduces the liquidity of securities included in our portfolio, declines in the value of collateral underlying the asset-backed securitiesincluded in our portfolio and other factors. Each of these events may cause us to record charges to reduce the carrying value of our investment portfolio or sellinvestments for less than our acquisition cost. Although we attempt to mitigate these risks by investing in high quality securities and continuously monitoringour portfolio’s overall risk profile, the value of our investments may nevertheless decline.Tax benefits that we receive may be terminated or reduced in the future, which would increase our costs.In 2010, we began to expand our international presence to take advantage of the opportunity to recruit additional engineering design talent, as well as tomore closely align our operations geographically with our customers and suppliers in Asia. In certain international jurisdictions, we have also entered intoagreements with local governments to provide us with, among other things, favorable local tax rates if certain minimum criteria are met. These agreements mayrequire us to meet several requirements as to investment, headcount and activities to retain this status. We currently believe that we will be able to meet all theterms and conditions specified in these agreements. However, if adverse changes in the economy or changes in technology affect international demand for ourproducts in an unforeseen manner or if we fail to otherwise meet the conditions of the local agreements, we may be subject to additional taxes, which in turnwould increase our costs.Changes in our effective tax rate may harm our results of operations. A number of factors may increase our future effective tax rates, including: • the jurisdictions in which profits are determined to be earned and taxed; • the resolution of issues arising from tax audits with various tax authorities; • changes in the valuation of our deferred tax assets and liabilities and in deferred tax valuation allowances; • changes in the value of assets or services transferred or provided from one jurisdiction to another; • adjustments to income taxes upon finalization of various tax returns; • increases in expenses not deductible for tax purposes, including write-offs of acquired in-process research and development and impairments ofgoodwill in connection with acquisitions; • changes in available tax credits; • changes in tax laws or the interpretation of such tax laws, and changes in U.S. generally accepted accounting principles; and • a decision to repatriate non-U.S. earnings for which we have not previously provided for U.S. taxes. 25Table of ContentsWe are subject to additional regulatory compliance requirements, including Section 404 of the Sarbanes-Oxley Act of 2002, as a result ofbeing a public company and our management has limited experience managing a public company.As a public company, we will incur significant legal, accounting and other expenses that we did not incur as a private company. Our management teamand other personnel will need to devote a substantial amount of time to new compliance initiatives and we may not successfully or efficiently manage ourtransition into a public company. We expect rules and regulations such as the Sarbanes-Oxley Act of 2002 to increase our legal and finance compliance costsand to make some activities more time-consuming and costly. We will need to hire a number of additional employees with public accounting and disclosureexperience in order to meet our ongoing obligations as a public company. For example, Section 404 of the Sarbanes-Oxley Act of 2002 requires that ourmanagement report on, and our independent registered public accounting firm attest to, the effectiveness of our internal control over financial reporting in ourannual report on Form 10-K for the fiscal year ended December 31, 2011. Section 404 compliance may divert internal resources and will take a significantamount of time and effort to complete. If we fail to do so, or if in the future our Chief Executive Officer, Chief Financial Officer or independent registeredpublic accounting firm determines that our internal controls over financial reporting are not effective as defined under Section 404, we could be subject tosanctions or investigations by The New York Stock Exchange, or NYSE, the Securities and Exchange Commission, or the SEC, or other regulatoryauthorities. Furthermore, investor perceptions of our company may suffer, and this could cause a decline in the market price of our stock. Irrespective ofcompliance with Section 404, any failure of our internal controls could have a material adverse effect on our stated results of operations and harm ourreputation. If we are unable to implement these changes effectively or efficiently, it could harm our operations, financial reporting or financial results and couldresult in an adverse opinion on internal controls from our independent auditors.Our insiders who are significant stockholders may control the election of our board and may have interests that conflict with those of otherstockholders.Our directors and executive officers, together with members of their immediate families and affiliated funds, beneficially owned, in the aggregate, morethan 22% of our outstanding capital stock as of December 31, 2011. In addition, entities affiliated with Walden International and Tallwood I, L.P. beneficiallyowned 11.2% and 5.3%, respectively, of our outstanding capital stock as of December 31, 2011. Lip-Bu Tan and Diosdado Banatao, who are affiliated withWalden International and Tallwood I, L.P., respectively, are currently two of the seven members of our board of directors. As a result, acting together, thisgroup has the ability to exercise significant control over most matters requiring our stockholders’ approval, including the election and removal of directors andsignificant corporate transactions.Risks Related to Our IndustryWe may be unable to make the substantial and productive research and development investments which are required to remain competitive inour business.The semiconductor industry requires substantial investment in research and development in order to develop and bring to market new and enhancedtechnologies and products. Many of our products originated with our research and development efforts and have provided us with a significant competitiveadvantage. Our research and development expense was $28.6 million in 2011, $23.8 million in 2010 and $17.8 million in 2009. We are committed toinvesting in new product development in order to remain competitive in our target markets. We do not know whether we will have sufficient resources tomaintain the level of investment in research and development required to remain competitive. In addition, we cannot assure you that the technologies which arethe focus of our research and development expenditures will become commercially successful. 26Table of ContentsOur business, financial condition and results of operations could be adversely affected by worldwide economic conditions, as well as politicaland economic conditions in the countries in which we conduct business.Our business and operating results are impacted by worldwide economic conditions, including the current European debt crisis. Uncertainty aboutcurrent global economic conditions may cause businesses to continue to postpone spending in response to tighter credit, unemployment or negative financialnews. This in turn could have a material negative effect on the demand for our semiconductor products or the products into which our semiconductors areincorporated. Although the United States economy has recently shown signs of recovery, the strength and duration of any economic recovery will be impactedby the European debt crisis and the reaction to any efforts to address the crisis. Multiple factors relating to our international operations and to particularcountries in which we operate could negatively impact our business, financial condition and results of operations. These factors include: • changes in political, regulatory, legal or economic conditions; • restrictive governmental actions, such as restrictions on the transfer or repatriation of funds and foreign investments and trade protectionmeasures, including export duties and quotas and customs duties and tariffs; • disruptions of capital and trading markets; • changes in import or export requirements; • transportation delays; • civil disturbances or political instability; • geopolitical turmoil, including terrorism, war or political or military coups; • public health emergencies; • differing employment practices and labor standards; • limitations on our ability under local laws to protect our intellectual property; • local business and cultural factors that differ from our customary standards and practices; • nationalization and expropriation; • changes in tax or intellectual property laws; • currency fluctuations relating to our international operating activities; and • difficulty in obtaining distribution and support.A significant portion of our products are manufactured, assembled and tested outside the United States. Any conflict or uncertainty in these countries,including due to natural disasters, public health concerns, political unrest or safety concerns, could harm our business, financial condition and results ofoperations. In addition, if the government of any country in which our products are manufactured or sold sets technical standards for products manufacturedin or imported into their country that are not widely shared, it may lead some of our customers to suspend imports of their products into that country, requiremanufacturers in that country to manufacture products with different technical standards and disrupt cross-border manufacturing relationships which, ineach case, could harm our business.Changes in current or future laws or regulations or the imposition of new laws or regulations, including new or changed tax regulations,environmental laws and export control laws, or new interpretations thereof, by federal or state agencies or foreign governments could impair ourability to compete in international markets.Changes in current laws or regulations applicable to us or the imposition of new laws and regulations in the United States or other jurisdictions in whichwe do business, such as China, Japan, Korea, Singapore and Taiwan, 27Table of Contentscould materially and adversely affect our business, financial condition and results of operations. For example, we have entered into agreements with localgovernments to provide us with, among other things, favorable local tax rates if certain minimum criteria are met, as discussed in our risk factor entitled “Taxbenefits that we received may be terminated or reduced in the future, which would increase our costs.” These agreements may require us to meet severalrequirements as to investment, headcount and activities to retain this status. If we fail to otherwise meet the conditions of the local agreements, we may besubject to additional taxes, which in turn would increase our costs. In addition, potential future U.S. tax legislation could impact the tax benefits we effectivelyrealize under these agreements.Due to environmental concerns, the use of lead and other hazardous substances in electronic components and systems is receiving increased attention. Inresponse, the European Union passed the Restriction on Hazardous Substances, or RoHS, Directive, legislation that limits the use of lead and other hazardoussubstances in electrical equipment. The RoHS Directive became effective July 1, 2006. We believe that our current product designs and material supply chainsare in compliance with the RoHS Directive. If our product designs or material supply chains are deemed not to be in compliance with the RoHS Directive, weand our third party manufacturers may need to redesign products with components meeting the requirements of the RoHS Directive and we may incuradditional expense as well as loss of market share and damage to our reputation.In addition, we are subject to export control laws, regulations and requirements that limit which products we sell and where and to whom we sell ourproducts. In some cases, it is possible that export licenses would be required from U.S. government agencies for some of our products in accordance with theExport Administration Regulations and the International Traffic in Arms Regulations. We may not be successful in obtaining the necessary export licenses inall instances. Any limitation on our ability to export or sell our products imposed by these laws would adversely affect our business, financial condition andresults of operations. In addition, changes in our products or changes in export and import laws and implementing regulations may create delays in theintroduction of new products in international markets, prevent our customers from deploying our products internationally or, in some cases, prevent the exportor import of our products to certain countries altogether. While we are not aware of any other current or proposed export or import regulations which wouldmaterially restrict our ability to sell our products in countries such as China, Japan, Korea, Singapore or Taiwan, any change in export or import regulationsor related legislation, shift in approach to the enforcement or scope of existing regulations, or change in the countries, persons or technologies targeted by theseregulations, could result in decreased use of our products by, or in our decreased ability to export or sell our products to, existing or potential customers withinternational operations. In such event, our business and results of operations could be adversely affected.We are subject to the cyclical nature of the semiconductor industry, which has suffered and may suffer from future recessionary downturns.The semiconductor industry is highly cyclical and is characterized by constant and rapid technological change, rapid product obsolescence and priceerosion, evolving standards and wide fluctuations in product supply and demand. The industry experienced a significant downturn during the current globalrecession. These downturns have been characterized by diminished product demand, production overcapacity, high inventory levels and accelerated erosion ofaverage selling prices. The most recent downturn and any future downturns could negatively impact our business and operating results. Furthermore, anyupturn in the semiconductor industry could result in increased competition for access to third-party foundry and assembly capacity. We are dependent on theavailability of this capacity to manufacture and assemble our integrated circuits. None of our third-party foundry or assembly contractors has providedassurances that adequate capacity will be available to us in the future.Our products must conform to industry standards in order to be accepted by end users in our markets.Our products comprise only a part of larger electronic systems. All components of these systems must uniformly comply with industry standards inorder to operate efficiently together. These industry standards are 28Table of Contentsoften developed and promoted by larger companies who are industry leaders and provide other components of the systems in which our products areincorporated. In driving industry standards, these larger companies are able to develop and foster product ecosystems within which our products can be used.We work with a number of these larger companies in helping develop industry standards with which our products are compatible. If larger companies do notsupport the same industry standards that we do, or if competing standards emerge, market acceptance of our products could be adversely affected, whichwould harm our business.Some industry standards may not be widely adopted or implemented uniformly, and competing standards may still emerge that may be preferred by ourcustomers. Products for communications and computing applications are based on industry standards that are continually evolving. Our ability to compete inthe future will depend on our ability to identify and ensure compliance with these evolving industry standards. The emergence of new industry standardscould render our products incompatible with products developed by other suppliers or make it difficult for our products to meet the requirements of certainOEMs. As a result, we could be required to invest significant time and effort and to incur significant expense to redesign our products to ensure compliancewith relevant standards. If our products are not in compliance with prevailing industry standards for a significant period of time, we could miss opportunitiesto achieve crucial design wins. We may not be successful in developing or using new technologies or in developing new products or product enhancements thatachieve market acceptance. Our pursuit of necessary technological advances may require substantial time and expense.Risks Related to our Common StockThe trading price and volume of our common stock is subject to price volatility.The trading price of our common stock has experienced wide fluctuations. For example, since our initial public offering the closing price of our commonstock has ranged from $7.20 to $26.63. Volatility in the market price of our common stock may occur in the future. The market price of shares of ourcommon stock could be subject to wide fluctuations in response to many risk factors listed in this report and others beyond our control, including: • actual or anticipated fluctuations in our financial condition and operating results; • changes in the economic performance or market valuations of other companies that provide high-speed analog semiconductor solutions; • loss of a significant amount of existing business; • actual or anticipated changes in our growth rate relative to our competitors; • actual or anticipated fluctuations in our competitors’ operating results or changes in their growth rates; • issuance of new or updated research or reports by securities analysts; • our announcement of actual results for a fiscal period that are higher or lower than projected results or our announcement of revenue or earningsguidance that is higher or lower than expected; • regulatory developments in our target markets affecting us, our customers or our competitors; • fluctuations in the valuation of companies perceived by investors to be comparable to us; • share price and volume fluctuations attributable to inconsistent trading volume levels of our shares; • sales or expected sales of additional common stock; • terrorist attacks or natural disasters or other such events impacting countries where we or our customers have operations; and • general economic and market conditions.Furthermore, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices ofequity securities of many companies. These fluctuations often have 29Table of Contentsbeen unrelated or disproportionate to the operating performance of those companies. These broad market and industry fluctuations, as well as generaleconomic, political and market conditions such as recessions, interest rate changes or international currency fluctuations, may cause the market price ofshares of our common stock to decline. In the past, companies that have experienced volatility in the market price of their stock have been subject to securitiesclass action litigation. We may be the target of this type of litigation in the future. Securities litigation against us could result in substantial costs and divert ourmanagement’s attention from other business concerns, which could seriously harm our business.If securities or industry analysts do not publish research or reports about our business, or if they change their recommendations regardingour stock adversely, our stock price and trading volume could decline.The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or ourbusiness. If one or more of the analysts who cover us downgrade our stock, our stock price would likely decline. If one or more of these analysts ceasecoverage of our company or fail to regularly publish reports on us, we could lose visibility in the financial markets, which in turn could cause our stock priceor trading volume to decline.Substantial future sales of our common stock in the public market could cause our stock price to fall.Sales of our common stock in the public market or the perception that sales could occur, could cause the market price of our common stock to decline.As of December 31, 2011, we had 27,882,223 shares of common stock outstanding, of which 19,982,223 shares are only eligible for sale upon vesting andsubject to the requirements of Rule 144 and trading black-out periods. As resale and other restrictions on these shares end, the market price of our commonstock could decline if the holders of these shares sell them or are perceived by the market as intending to sell them.We may not be able to obtain capital when desired on favorable terms, if at all, or without dilution to our stockholders and our failure toraise capital when needed could prevent us from executing our growth strategy.We believe that our existing cash and cash equivalents, investments in marketable securities, and cash flows from our operating activities, will besufficient to meet our anticipated cash needs for at least the next 12 to 18 months. We operate in an industry, however, that makes our prospects difficult toevaluate. It is possible that we may not generate sufficient cash flow from operations or otherwise have the capital resources to meet our future capital needs. Ifthis occurs, we may need additional financing to execute on our current or future business strategies, including to: • invest in our research and development efforts by hiring additional technical and other personnel; • expand our operating infrastructure; • acquire complementary businesses, products, services or technologies; or • otherwise pursue our strategic plans and respond to competitive pressures.If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our stockholders could besignificantly diluted, and these newly-issued securities may have rights, preferences or privileges senior to those of existing stockholders. If we raise additionalfunds by obtaining loans from third parties, the terms of those financing arrangements may include negative covenants or other restrictions on our businessthat could impair our operational flexibility, and would also require us to incur interest expense. We have not made arrangements to obtain additional financingand there is no assurance that additional financing will be available on terms favorable to us, or at all. If adequate funds are not available or are not availableon acceptable terms, if and when needed, our ability to fund our operations, take advantage of unanticipated opportunities, develop or enhance our products,or otherwise respond to competitive pressures could be significantly limited. 30Table of ContentsDelaware law and our corporate charter and bylaws contain anti-takeover provisions that could delay or discourage takeover attempts thatstockholders may consider favorable.Provisions in our certificate of incorporation and bylaws, may have the effect of delaying or preventing a change of control or changes in ourmanagement. These provisions include the following: • the right of our board of directors to elect a director to fill a vacancy created by the expansion of our board of directors; • the classification of our board of directors so that only a portion of our directors are elected each year, with each director serving a three-year term; • the requirement for advance notice for nominations for election to our board of directors or for proposing matters that can be acted upon at astockholders’ meeting; • the ability of our board of directors to alter our bylaws without obtaining stockholder approval; • the ability of our board of directors to issue, without stockholder approval, up to 10,000,000 shares of preferred stock with rights set by our boardof directors, which rights could be senior to those of common stock; • the required approval of holders of at least two-thirds of the shares entitled to vote at an election of directors to adopt, amend or repeal our bylawsor amend or repeal the provisions of our certificate of incorporation regarding the election and removal of directors and the ability of stockholdersto take action by written consent; and • the elimination of the right of stockholders to call a special meeting of stockholders and to take action by written consent.In addition, because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law. Theseprovisions may prohibit or restrict large stockholders, in particular those owning 15% or more of our outstanding voting stock, from merging or combiningwith us. These provisions in our certificate of incorporation and bylaws and under Delaware law could discourage potential takeover attempts and couldreduce the price that investors might be willing to pay for shares of our common stock in the future and result in our market price being lower than it wouldwithout these provisions.We do not currently intend to pay dividends on our common stock and, consequently, your ability to achieve a return on your investment willdepend on appreciation in the price of our common stock.We have never declared or paid any cash dividends on our common stock and do not currently intend to do so for the foreseeable future. We currentlyintend to invest our future earnings, if any, to fund our growth. Therefore, you are not likely to receive any dividends on your common stock for theforeseeable future and the success of an investment in shares of our common stock will depend upon any future appreciation in their value. There is noguarantee that shares of our common stock will appreciate in value or even maintain the price at which our stockholders have purchased their shares. ITEM 1B.UNRESOLVED STAFF COMMENTSNone. ITEM 2.PROPERTIESWe currently lease our principal executive office in Santa Clara, California, under a lease for 14,578 square feet of office space that expires in July 31,2015. We also lease 29,090 square feet of office space in Westlake 31Table of ContentsVillage, California under a lease that expires on December 31, 2016. Our Singapore subsidiary currently leases 2,368 square feet of office space in Singaporeunder a lease that expires on March 14, 2014. Our United Kingdom subsidiary currently leases office space in Northamptonshire, England under a lease thatexpires on September 30, 2013. We also lease 8,540 square feet of office space in Hsinchu, Taiwan under a lease that we let expire on February 29, 2012. Webelieve that current facilities, taking into account the expiration of our lease in Taiwan, are sufficient to meet our needs for the foreseeable future. For additionalinformation regarding our obligations under property leases, see Note 16 of Notes to Consolidated Financial Statements, included in Part II, “Item 8, FinancialStatements and Supplementary Data”. ITEM 3.LEGAL PROCEEDINGSWe are currently a party to the following legal proceedings:Netlist, Inc. v. Inphi Corporation, Case No. 09-cv-6900 (C.D. Cal.)On September 22, 2009, Netlist filed suit in the United States District Court, Central District of California, or the Court, asserting that we infringeU.S. Patent No. 7,532,537. Netlist filed an amended complaint on December 22, 2009, further asserting that we infringe U.S. Patent Nos. 7,619,912 and7,636,274, collectively with U.S. Patent No. 7,532,537, the patents-in-suit, and seeking both unspecified monetary damages to be determined and aninjunction to prevent further infringement. These infringement claims allege that our iMB™ and certain other memory module components infringe the patents-in-suit. We answered the amended complaint on February 11, 2010 and asserted that we do not infringe the patents-in-suit and that the patents-in-suit areinvalid. In 2010, we filed requests for Inter Partes Reexamination with the United States Patent and Trademark Office (the “USPTO”), asserting that thepatents-in-suit are invalid.On August 27, 2010, the USPTO ordered the request for Inter Partes Reexamination for U.S. Patent No. 7,636,274 and found a substantial newquestion of patentability based upon each of the different issues that we raised as the reexamination requestor. On September 27, 2011, the Patent Office issueda First Office Action based on the Netlist ‘274 Patent Reexamination Request and rejected 91 of its 97 claims. On October 27, 2011, Netlist responded to theUSPTO determination by amending some but not all of the claims, adding new claims and making arguments as to the validity of the rejected claims in viewof the cited references. We provided rebuttable comments to the USPTO on November 28, 2011. The proceeding is expected to continue in accordance withestablished Inter Partes Reexamination procedures, with a further communication from the USPTO expected as the next substantive step.On September 8, 2010, the USPTO ordered the request for Inter Partes Reexamination for U.S. Patent No. 7,532,537 and found a substantial newquestion of patentability based upon different issues that we raised as the reexamination requestor. The USPTO accompanied this Reexamination Order ofU.S. Patent No. 7,532,537 with its own evaluation of the validity of this patent, and rejected some but not all of claims. In a response dated October 8, 2010,Netlist responded to the USPTO determination by amending some but not all of the claims, adding new claims and making arguments as to why the claimswere not invalid in view of the cited references. We provided rebuttable comments to the USPTO on November 8, 2010 along with a Petition requesting anincrease in the number of allowed pages of the rebuttable comments. On January 20, 2011, the USPTO granted the Petition in part. We then filed updatedrebuttal comments on January 27, 2011 in compliance with the granted Petition. The USPTO has considered these updated rebuttal comments, and in acommunication dated June 15, 2011, continued to reject all the previously rejected claims. The USPTO also rejected all the claims newly added in theOctober 8, 2010 Netlist response. In a further communication dated June 21, 2011, the USPTO issued an Action Closing Prosecution indicating that it wouldconfirm the patentability of four claims and reject all the other pending claims. On August 22, 2011, Netlist responded to the Action Closing Prosecution byfurther amending some claims and making arguments as to the validity of the rejected claims in view of the cited references. We submitted rebuttal commentson September 21, 2011. In a further communication dated February 7, 2012, the USPTO issued a Right of Appeal Notice, which also indicated that theprevious 32Table of Contentsamendments to claim made by Netlist would be entered, and that the currently pending claims, as amended, were patentable. The proceeding is expected tocontinue in accordance with established Inter Partes Reexamination procedures, with the parties being able to file a notice of appeal as the next substantivestep.On September 8, 2010, the USPTO ordered the request for Inter Partes Reexamination for U.S. Patent No. 7,619,912 and found a substantial newquestion of patentability based upon different issues that we raised as the reexamination requestor. The USPTO accompanied this Reexamination Order ofU.S. Patent No. 7,619,912 with its own evaluation of the validity of this patent and initially determined that all of the claims were patentable based upon ourrequest for Inter Partes Reexamination. Netlist did not comment upon this Reexamination Order. The USPTO on February 28, 2011 also merged theProceedings of the Reexamination of U.S. Patent No. 7,619,912, bearing Control No. 90/001,339 with Inter Partes Reexamination Proceeding 95/000,578filed October 20, 2010 on behalf of SMART Modular Technologies, Inc. and Inter Partes Reexamination Proceeding 95/000,579 filed October 21, 2010 onbehalf of Google, Inc. In each of these other Reexamination Proceedings, the USPTO had indicated that there existed a substantial new question of patentabilitywith respect to certain claims of U.S. Patent No. 7,619,912, but had not accompanied the Reexamination Orders related thereto with its own evaluation of thevalidity of this patent, indicating that such evaluation would be forthcoming at a later time. This further evaluation was received in an Office Action datedApril 4, 2011, in which the Examiner rejected a substantial majority of the claims based upon a number of different rejections, including certain of therejections originally proposed by us in its Request for Reexamination. This Office Action also indicated that one claim was deemed to be patentable over theprior art of record in the merged Reexamination Proceedings. After seeking and obtaining an extension of time to respond to the Office Action dated April 4,2011, Netlist served its response on July 5, 2011, which added new claims and made arguments as to why the originally filed claims were not invalid in viewof the cited references. Each of the merged Reexamination Requestors, including us, submitted rebuttal comments by August 29, 2011. The USPTOconsidered this Netlist response and each of the rebuttal comments, and in an Office Action dated October 14, 2011, continued to reject most, but not all of thepreviously rejected claims, as well as rejected claims that had been added by Netlist in its July 5, 2011 response. After seeking and obtaining an extension oftime to respond to the Office Action dated October 14, 2011, Netlist served its response on January 13, 2012, which response made amendments based uponsubject matter that had been indicated as allowable in the Office Action dated October 14, 2011, added other new claims and made arguments as to why all ofthese claims should be allowed. Two of the three merged Reexamination Requestors, including us, submitted rebuttal comments on February 13, 2012. Themerged Reexamination Proceeding will be conducted in accordance with established procedures for merged Reexamination Proceedings, with the last of themerged Reexamination Requestors submitting its rebuttal comments, and then a further communication from the USPTO expected as the next substantivesteps.The reexamination proceedings could result in a determination that the patents-in-suit, in whole or in part, are valid or invalid, as well as modificationsof the scope of the patents-in-suit.A third party, Sanmina-SCI Corporation, or SSC, has also requested interference proceedings with the USPTO with respect to each of the patents-in-suit. In its April 21, 2010 Request for Continued Examination of U.S. Application No. 11/142,989 (“SSC ‘989 patent application”), SSC asserted that ithas priority to the inventions claimed by the patents-in-suit and should be granted rights to those inventions. We have entered into an agreement with SSC for anon-exclusive license to those rights, if any, that SSC may obtain to the inventions claimed by the patents-in-suit if the USPTO agrees to commenceinterference proceedings and if SSC prevails in those proceedings.The USPTO, in a communication dated July 7, 2010, acknowledged that claims were submitted in a filing made in the SSC ‘989 patent application toinvoke an Interference with each of the patents-in-suit, but has declined to declare an Interference at this time. The July 7, 2010 USPTO communicationrejected the claims submitted to invoke the Interference based upon 35 USC 112, with the rejection asserting that these claims contain “subject matter whichwas not described in the specification in such a way as to reasonably convey to one skilled in the relevant art that the inventor(s), at the time the applicationwas filed, had possession of the claimed 33Table of Contentsinvention.” SSC responded to this USPTO communication on December 24, 2010 and provided an updated response on March 23, 2011 to comply withformalities noted by the USPTO. The USPTO, in a communication dated June 8, 2011, continued to reject the claims submitted to invoke the interferencebased upon the previously made rejections. SSC responded to this USPTO communication on December 8, 2011 and currently awaits further correspondencefrom the USPTO.In connection with the reexamination requests and the interference proceedings, we also filed a motion to stay proceedings with the Court, which wasgranted on May 18, 2010, whereby the Court stayed the proceedings until at least February 14, 2011, requested that Netlist notify the Court within one weekof any action taken by the USPTO in connection with the reexamination or interference proceedings, and requested that the parties file papers by January 31,2011 stating their position on whether the stay should be extended. We filed our paper on January 31, 2011 stating the reasons it believed the stay should bemaintained and Netlist, having been given leave to file its paper later, filed its paper on February 21, 2011. Based on these papers the Court ordered acontinued stay of the proceedings until at least February 24, 2012 and requested that the parties file papers by January 30, 2012 stating their position onwhether the stay should be extended, and continued the request that Netlist notify the Court within one week of any action taken by the USPTO in connectionwith the reexamination or interference proceedings. Each of the parties filed its paper on January 30, 2012 stating its positions with respect to the stay, andbased on these papers the Court ordered a continued stay of the proceedings until the conclusion of the reexamination and interference proceedings, and in themeantime requested that the parties file papers by January 30, 2013 stating their position on whether the stay should be extended. At this time, the Court coulddecide to maintain or lift the stay.While we intend to defend the lawsuit vigorously, litigation, whether or not determined in our favor or settled, could be costly and time-consuming andcould divert our attention and resources, which could adversely affect our business. We are unable to assess the possible outcome of these matters. However,because of the nature and inherent uncertainties of litigation, should the outcome of these actions be unfavorable, our business, financial condition, results ofoperations or cash flows could be materially and adversely affected.We are not currently a party to any other material litigation. The semiconductor industry is characterized by frequent claims and litigation, includingclaims regarding patent and other intellectual property rights as well as improper hiring practices. We may from time to time become involved in litigationrelating to claims arising from our ordinary course of business. These claims, even if not meritorious, could result in the expenditure of significant financialand managerial resources. ITEM 4.MINE SAFETY DISCLOSURESNot applicable. 34Table of ContentsPART II ITEM 5.MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OFEQUITY SECURITIESMarket for Registrant’s Common EquityOur common stock is traded on the New York Stock Exchange under the symbol “IPHI” and has been since our initial public offering on November 11,2010. Prior to that date, our common stock was not traded on any public exchange. The following table sets forth the range of high and low sales prices for ourcommon stock in each quarter since our stock began trading: 2011 Low High Fourth Quarter $7.71 $12.72 Third Quarter 7.12 18.05 Second Quarter 16.06 22.61 First Quarter 16.91 26.67 2010 Low High Fourth Quarter (from November 11, 2010) $14.73 $20.94 As of February 28, 2012, we had approximately 68 holders of record of our common stock. This number does not include the number of personswhose shares are in nominee or in “street name” accounts through brokers.We have never declared or paid any cash dividends on shares of our capital stock. We expect to retain all of our earnings to finance the expansion anddevelopment of our business and we do not currently intend to pay any cash dividends on our capital stock in the foreseeable future. Our board of directorswill determine future dividends, if any.Director and Executive Officers have currently and may from time to time in the future, establish pre-set trading plans in accordance with Rule 10b5-1promulgated under the Securities Exchange Act of 1934.Securities Authorized for Issuance under Equity Compensation PlansInformation regarding the securities authorized for issuance under our equity compensation plans can be found under Part III, “Item 12, SecurityOwnership of Certain Beneficial Owners and Management and Related Stockholder Matters”.Share Performance GraphThe following information is not deemed to be “soliciting material” or to be “filed” with the Securities and Exchange Commission or subject toRegulation 14A or 14C under the Securities Exchange Act of 1934 or to the liabilities of Section 18 of the Securities Exchange Act of 1934, and will not bedeemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent wespecifically incorporate it by reference into such a filing.Set forth below is a line graph showing the cumulative total stockholder return (change in stock price plus reinvested dividends) assuming theinvestment of $100 on November 11, 2010 (the day of our initial public offering) in each of our common stock, the S&P 500 Index and PHLXSemiconductor Index for the period commencing on November 11, 2010 and ending on December 31, 2011. The comparisons in the table are required by theSecurities and Exchange Commission and are not intended to forecast or be indicative of future performance of our common stock 35Table of Contents 36Table of ContentsITEM 6.SELECTED CONSOLIDATED FINANCIAL DATAThe following selected consolidated financial data should be read together with Part II, “Item 7., Management’s Discussion and Analysis of FinancialCondition and Results of Operations” and our consolidated financial statements and related notes included elsewhere in this report. The selected balance sheetdata as of December 31, 2011 and 2010, and the selected statements of operations data for each of the years ended December 31, 2011, 2010 and 2009, havebeen derived from our audited financial statements included elsewhere in this report. The selected balance sheet data as of December 31, 2009, 2008 and 2007and the selected statements of operations data for the years ended December 31, 2008 and 2007 have been derived from our audited financial statements notincluded in this report. Historical results are not necessarily indicative of the results to be expected in the future. Year Ended December 31, 2011 2010 2009 2008 2007 (in thousands, except share and per share data) Statement of Operations Data: Revenue $79,297 $83,193 $58,852 $42,954 $36,237 Cost of revenue 28,687 29,438 21,269 19,249 16,028 Gross profit 50,610 53,755 37,583 23,705 20,209 Operating expense: Research and development 28,565 23,781 17,847 17,501 17,332 Sales and marketing 12,700 8,823 7,704 6,339 5,157 General and administrative 9,141 9,212 3,947 3,169 2,966 Total operating expense 50,406 41,816 29,498 27,009 25,455 Income (loss) from operations 204 11,939 8,085 (3,304) (5,246) Interest and other income (expense) 509 (50) 73 (124) (95) Income (loss) before income taxes 713 11,889 8,158 (3,428) (5,341) Provision (benefit) for income taxes (1,218) (14,242) 829 — — Net income (loss) $1,931 $26,131 $7,329 $(3,428) $(5,341) Net income (loss) allocable to common andparticipating common securities $1,931 $5,326 $136 $(3,428) $(5,341) Earnings per share: Basic $0.07 $1.03 $0.08 $(2.66) $(6.57) Diluted $0.07 $0.61 $0.05 $(2.66) $(6.57) Weighted-average shares used in computing earningsper share: Basic 26,799,237 5,086,169 1,668,876 1,289,431 813,290 Diluted 29,367,423 8,546,537 2,785,277 1,289,431 813,290 (1)Samsung, together with associated entities, held over 13% of our outstanding shares of common stock before our initial public offering. After our initialpublic offering in November 2010, Samsung, together with associated entities, holds less than 10% of our outstanding shares of common stock. As aresult of decline in ownership below 10% of our common stock, we no longer consider Samsung a related party. Revenues from Samsung were$27,940, $21,235, $10,227 and $4,556 for the years ended December 31, 2010, 2009, 2008 and 2007, respectively.Footnotes continued on the following page. 37(1)(2)(2)(2)(2)(3)Table of Contents As of December 31, 2011 2010 2009 2008 2007 (in thousands) Balance Sheet Data: Cash and cash equivalents $29,696 $110,172 $19,061 $9,052 $3,268 Investments in marketable securities 89,283 — — — — Working capital 129,395 116,887 20,055 10,721 3,010 Total assets 172,628 158,957 34,472 20,373 16,190 Total liabilities 14,224 16,271 11,588 6,558 10,522 Convertible preferred stock — — 77,616 77,616 67,680 Total stockholders’ equity (deficit) $158,404 $142,686 $(54,732) $(63,801) $(62,012) Footnotes continued from the prior page. (2)Stock-based compensation expense is included in our results of operations as follows: As of December 31, 2011 2010 2009 2008 2007 (in thousands) Operating expenses: Cost of revenue $315 $107 $31 $119 $19 Research and development 3,214 1,381 475 358 168 Sales and marketing 2,054 526 238 101 66 General and administrative 1,609 691 421 417 574 (3)The provision (benefit) for income taxes for the years ended December 31, 2010 and 2009 included the releases and reversals of valuation allowancesagainst deferred tax assets provided in prior periods. Please see note 9 to the notes to our consolidated financial statements. 38Table of ContentsITEM 7.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSThis report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. When used in thisreport, the terms “may,” “might,” “will,” “objective,” “intend,” “should,” “could,” “can,” “would,” “expect,” “believe,” “estimate,” “predict,”“potential,” “plan,” or the negative of these terms, and similar expressions intended to identify forward-looking statements. These statements arestatements that relate to future periods and include statements regarding our anticipated trends and challenges in our business and the markets inwhich we operate, including the market for 40G and 100G high-speed analog semiconductor solutions, our plans for future products, such as ourisolation memory buffer or iMB™, clock and data recovery, or CDR, and serializer/deserializer, or SERDES, products, and enhancements of existingproducts, our expectations regarding our expenses and revenue, sources of revenue, our tax benefits, the benefits of our products and services, timingof the development of our products, our anticipated cash needs and our estimates regarding our capital requirements and our needs for additionalfinancing, our anticipated growth and growth strategies, our ability to retain and attract customers, particularly in light of our dependence on alimited number of customers for a substantial portion of our revenue, our expectations regarding competition, interest rate sensitivity, adequacy of ourdisclosure controls, our legal proceedings and warranty claims. These forward-looking statements involved known and unknown risks, uncertaintiesand other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance orachievements expressed or implied by these or any other forward-looking statements. These risks and uncertainties include, but are not limited to,those risks discussed below, as well as factors affecting our results of operations, our ability to manage our growth, our ability to sustain or increaseprofitability, demand for our solutions, the effect of declines in average selling prices for our products, our ability to compete, our ability to rapidlydevelop new technology and introduce new products, our ability to safeguard our intellectual property, trends in the semiconductor industry andfluctuations in general economic conditions, and the risks set forth throughout this Report, including the risks set forth under Part I, “ Item 1A, RiskFactors”. Readers are cautioned not to place undue reliance on these forward-looking statements, which are based on current expectations and reflectmanagement’s opinions only as of the date hereof. These forward-looking statements speak only as of the date of this Report. We expressly disclaimany obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change inour expectations with regard thereto or any changes in events, conditions or circumstances on which any such statement is based.The following discussion and analysis should be read in conjunction with the consolidated financial statements and related notes that areincluded elsewhere in this Annual Report on Form 10-K.OverviewWe are a fabless provider of high-speed analog semiconductor solutions for the communications and computing markets. Our analog semiconductorsolutions provide high signal integrity at leading-edge data speeds while reducing system power consumption. Our semiconductor solutions are designed toaddress bandwidth bottlenecks in networks, maximize throughput and minimize latency in computing environments and enable the rollout of next generationcommunications and computing infrastructures. Our solutions provide a vital high-speed interface between analog signals and digital information in high-performance systems such as telecommunications transport systems, enterprise networking equipment, datacenter and enterprise servers, storage platforms,test and measurement equipment and military systems. We provide 40G and 100G high-speed analog semiconductor solutions for the communications marketand high-speed memory interface solutions for the computing market. We have a broad product portfolio with 17 product lines and over 170 products as ofDecember 31, 2011. We have ongoing, informal collaborative discussions with industry and technology leaders such as AMD, Alcatel-Lucent, Huawei andIntel to design architectures and products that solve bandwidth bottlenecks in existing and next generation communications and computing systems. Althoughwe do not have any formal agreements with these entities, we engage in informal discussions with these entities with respect to anticipated technologicalchallenges, next generation customer requirements and industry conventions and standards. We help define industry conventions and standards within themarkets we target by collaborating with technology leaders, OEMs, systems manufacturers and standards bodies. 39Table of ContentsThe history of our product development and sales and marketing efforts is as follows: • From 2000 to 2002, we were primarily engaged in the development of our core high-speed analog products and proprietary system architecturemodels to address bottlenecks in emerging network architectures. Specifically, during this period, we developed and shipped our 50 GHz MUXand DEMUX products. During this period, we also began development work on our initial 40G products. • In 2003, we introduced and shipped 13G, 25G and 50G logic products, 20G MUX and 40G transimpedance amplifiers and modulator driversfor the communications, test and measurement and military markets. During this period, we also began the development of our first generationhigh-speed PLLs and register solution used primarily in conjunction with double data rate 2, or DDR2, modules for the computing market. • In 2005, we introduced and shipped our high-speed PLLs and register solution used primarily in conjunction with DDR2 modules for thecomputing market. • In 2006, we began development of our second generation single chip high-speed PLLs and register solution to be used primarily in conjunctionwith double data rate 3, or DDR3, modules for the computing market and were the first to introduce this product to the market. In addition, weintroduced and shipped track-and-hold amplifiers for the communications market. • In 2007, we began volume shipments of our high-speed PLLs and register solution used primarily in conjunction with DDR2 modules, andcontinued development of our single chip high-speed PLLs and register solution, used primarily in conjunction with DDR3 modules. • In 2008, we began volume shipments of our 40G drivers for the communications market and commenced shipments of our high-speed PLLs andregister solution used primarily in conjunction with DDR3 modules for the computing market. • In 2009, due to the launch of Intel’s Nehalem-based platform servers, we began volume shipments of our single chip high-speed PLLs and registersolution to be used primarily in conjunction with DDR3 modules. We also shipped engineering samples of the first generation of our isolationmemory buffer, or iMB™, for the computing market. We also began development of our second generation iMB™ product, the architecture forwhich has been adopted by the Joint Electronic Device Engineering Council, or JEDEC, and development of our low power CMOS SERDESproduct for next generation 100G Ethernet in enterprise networks. • In 2010, we began to ship in production volume a “low voltage” version of our integrated PLL and register buffer. We also shipped engineeringsamples of the second generation iMB™ product. • In 2011, we began to ship in production volume a new “ultra-low voltage” version of our integrated PLL and register buffer and the secondgeneration of iMB™. We also shipped engineering samples of our CDR and SERDES products.Our products are designed into systems sold by OEMs, including Agilent, Alcatel-Lucent, Cisco, Danaher, Dell, EMC, HP, Huawei, IBM and Oracle.We believe we are one of a limited number of suppliers to these OEMs, and in some cases we may be the sole supplier for certain applications. We sell bothdirectly to these OEMs and to module manufacturers, original design manufacturers, or ODMs, and subsystems providers that, in turn, sell to these OEMs.During the year ended December 31, 2011, we sold our products to more than 160 customers. A significant portion of our revenue has been generated by alimited number of customers. Sales directly to Samsung accounted for 27% and 34% of our total revenue and sales directly and through distributors to Micronaccounted for 11% and 11% of our total revenue for the years ended December 31, 2011 and 2010, respectively. In addition, sales directly to Hynix accountedfor 14% of our total revenue for the year ended December 31, 2011. Substantially all of our sales to date, including our sales to Samsung, Micron and Hynix,are made on a purchase order basis. Since the beginning of 2006, we have shipped more than 100 million high-speed analog semiconductors. Our total revenuedecreased to $79.3 million for the year ended December 31, 2011 from $83.2 million for the year ended December 31, 2010. As of December 31, 2011, ouraccumulated deficit was $32.7 million. 40Table of ContentsSales to customers in Asia accounted for 69%, 80%, and 77% of our total revenue in 2011, 2010 and 2009, respectively. Because many of ourcustomers or their OEM manufacturers are located in Asia, we anticipate that a majority of our future revenue will continue to come from sales to that region.Although a large percentage of our sales are made to customers in Asia, we believe that a significant number of the systems designed by these customers arethen sold to end users outside Asia.In April 2010, we received approval from the government of Singapore to set up an international headquarters from which to conduct our internationaloperations. Because of its geographic alignment with suppliers and customers, we established our operations in Singapore to become a new internationalheadquarters office for receiving and fulfilling orders for product shipped to locations outside the United States. Singapore has a strong university system andan established group of technology-based companies from which to recruit new engineers. We intend to build a team of engineering capability in Singapore bothfor development as well as testing associated with manufacturing. International operations in Singapore commenced on May 1, 2010 and during 2010, wetransitioned our international operations from the United States to our Singapore subsidiary.Demand for new features changes rapidly. It is difficult for us to forecast the demand for our products, in part because of the complex supply chainbetween us and the end-user markets that incorporate our products. Due to our lengthy product development cycle, it is critical for us to anticipate changes indemand for our various product features and the applications they serve to allow sufficient time for product development and design. Our failure to accuratelyforecast demand can lead to product shortages that can impede production by our customers and harm our customer relationships. Conversely, our failure toforecast declining demand or shifts in product mix can result in excess or obsolete inventory.Although revenue generated by each design win and the timing of the recognition of that revenue can vary significantly, we consider ongoing design winsto be a key factor in our future success. We consider a design win to occur when an OEM or contract manufacturer notifies us that it has selected our productsto be incorporated into a product or system under development. The design win process is typically lengthy, and as a result, our sales cycles will vary basedon the market served, whether the design win is with an existing or new customer and whether our product is under consideration for inclusion in a first orsubsequent generation product. In addition, our customers’ products that incorporate our semiconductors can be complex and can require a substantialamount of time to define, design and produce in volume. As a result, we can incur significant design and development expenditures in circumstances where wedo not ultimately recognize, or experience delays in recognizing revenue. Our customers generally order our products on a purchase order basis. We do not haveany long-term purchase commitments (in excess of one year) from any of our customers. Once our product is incorporated into a customer’s design, however,we believe that our product is likely to continue to be purchased for that design throughout that product’s life cycle because of the time and expense associatedwith redesigning the product or substituting an alternative semiconductor. Our design cycle from initial engagement to volume shipment is typically two tothree years. Product life cycles in the markets we serve typically range from two to 10 years or more and vary by application.Summary of Consolidated Financial ResultsAs discussed in more detail below, for the year ended December 31, 2011 compared to the year ended December 31, 2010, we delivered the followingfinancial performance: • Total revenues decreased by $3.9 million, or 5%, to $79.3 million. • Gross profit as a percentage of revenue decreased slightly to 64% from 65%. • Total operating expenses increased by $8.6 million, or 21%, to $50.4 million. • Income from operations decreased by $11.7 million, or 98%, to $0.2 million. • Diluted earnings per share decreased by $0.54, or 89%, to $0.07. 41Table of Contents • In 2011, we decided to discontinue the sale of legacy products supported by our Taiwan subsidiary and transitioned the Taiwan subsidiary to bea design and sales support center. The restructuring expense associated with the change in the Taiwan structure was $1.8 million, of which $1.4million pertains to write off of certain intangibles.The decrease in our revenue for the year ended December 31, 2011 was a result of a decrease in consumption of our high speed memory interfaceproducts as customers depleted their own inventories rather than purchasing new parts and a temporary slowdown as customers transition to the newtechnology platform.Our income from operations decreased due to lower gross profit and increased operating expenses. Total operating expenses increased due primarily to anincrease in headcount and stock-based compensation, as well as the restructuring charges related to the Taiwan subsidiary. Our expenses primarily consist ofpersonnel costs, which include compensation, benefits, payroll related taxes and stock-based compensation. The acquisition of Winyatek Technology Inc. onJune 30, 2010 increased our headcount by 29. In addition, in 2011 we also hired 33 new employees, primarily in the engineering department. We expectexpenses to continue to increase in absolute dollars as we continue to invest resources to develop more products, to support the growth of our business and thecost associated with being a public company including, compliance with Sarbanes-Oxley Act of 2002. Our diluted earnings per share decreased primarily dueto reduction in revenues combined with increases in operating expenses, reversal of deferred tax assets valuation allowance of $24.0 million during the yearended December 31, 2010, new issuance of common stock as a result of initial public offering in November 2010 and due to preferred stock excluded from thediluted earnings per share calculation as they were antidilutive. Shares of our preferred stock were converted into common stock in November 2010 uponcompletion of our initial public offering.Critical Accounting Policies and Significant Management EstimatesOur consolidated financial statements are prepared in accordance with U.S. Generally Accepted Accounting Principles, or GAAP. In connection with thepreparation of our consolidated financial statements, we are required to make assumptions and estimates about future events, and apply judgments that affectthe reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historicalexperience, current trends and other factors that management believes to be relevant at the time our consolidated financial statements are prepared. On a regularbasis, we review the accounting policies, assumptions, estimates and judgments to ensure that our consolidated financial statements are presented fairly and inaccordance with GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptionsand estimates, and such differences could be material.Our significant accounting policies are discussed in note 1 of the notes to our consolidated financial statements. We believe that the following accountingestimates are the most critical to aid in fully understanding and evaluating our reported financial results, and they require our most difficult, subjective orcomplex judgments, resulting from the need to make estimates about the effect of matters that are inherently uncertain. We have reviewed these criticalaccounting estimates and related disclosures with our audit committee.Revenue RecognitionOur products are fully functional at the time of shipment and do not require production, modification or customization. We recognize revenue fromproduct sales when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable and collection is reasonably assured.Our fee is considered fixed or determinable at the execution of an agreement, based on specific products and quantities to be delivered at specified prices, whichis evidenced by a customer purchase order or other persuasive evidence of an arrangement. Our agreements with non-distributor customers do not includerights of return or acceptance provisions. Product revenue is recognized upon shipment of product to end customers. 42Table of ContentsApproximately 17% of our sales were made through third-party distributors in 2011. Sales to distributors are included in deferred revenue and weinclude the related costs in inventory until sales and delivery to the end customers occurs. Two distributor arrangements, which together accounted for 9% ofour total revenue in 2011, allow for limited price protection and rights of stock rotation on product unsold by the distributors. The price protection rights allowdistributors the right to a credit in the event of declines in the price of our product that they hold prior to the sale to a specific end customer. In the event that wereduce the selling price of products held by distributors, deferred revenue related to distributors with price protection rights is reduced upon notification to thecustomer of the price change. Stock rotation in the two distributor arrangements is limited to returns for exchange only for a small percentage of product (5%-10%) purchased over a limited period of time (during the immediately prior three to nine months). Other than these two arrangements, no other customerarrangements include any rights of return or acceptance provisions. There were no material product returns or price protection credits in 2011, 2010 and 2009.Revenue recognition on product sales through distributors is highly dependent on receiving pertinent and accurate data from our distributors in a timelyfashion. Distributors provide us periodic data prior to the release of our consolidated financial statements regarding the product, price, quantity and endcustomer when products are resold, as well as the quantities of our products they still have in stock.We have not experienced any significant sales returns from end customers due to our stringent quality control standards. We monitor collectability ofaccounts receivable primarily through review of the accounts receivable aging. Our policy is to record an allowance for doubtful accounts based on specificcollection issues we have identified, aging of underlying receivables and historical experience of uncollectible balances. As of December 31, 2011 and 2010,our allowance for doubtful accounts was $68,000.We have not made any material changes in the accounting methodology we use to record the allowance for doubtful accounts during the past three years.If actual results are not consistent with the assumptions and estimates used, for example, if the financial condition of the customer deteriorated, we may berequired to record additional expense that could materially negatively impact our operating results. To date, however, substantially all of our receivables havebeen collected within the credit term of 30 to 45 days.Inventory ValuationWe value our inventory, which includes materials, labor and overhead, at the lower of cost or market. Cost is computed using standard cost, whichapproximates actual cost, on a first-in, first-out basis. We periodically write-down our inventory to the lower of cost or market based on our estimates thatconsider historical usage and future demand. These factors are impacted by market and economic conditions, technology changes, new product introductionsand changes in strategic direction. The calculation of our inventory valuation requires management to make assumptions and to apply judgment regardingforecasted customer demand and technological obsolescence that may turn out to be inaccurate. Inventory valuation reserves were $1,509,000, $1,372,000and $916,000, as of December 31, 2011, 2010 and 2009, respectively. Inventory valuation reserves, once established, are not reversed until the relatedinventory has been sold or scrapped.We have not made any material changes in the accounting methodology we use to record inventory reserves during the past three years. We do not believethere is a reasonable likelihood that there will be a material change in the future estimates or assumptions that we use to calculate our inventory reserve.However, if estimates regarding customer demand are inaccurate or changes in technology affect demand for certain products in an unforeseen manner, wemay be exposed to losses or gains that could be material.Product WarrantyOur products are under warranty against defects in material and workmanship generally for a period of one or two years. We accrue for estimatedwarranty cost at the time of sale based on anticipated warranty claims and actual historical warranty claims experience including knowledge of specificproduct failures that are outside of 43Table of Contentsour typical experience. The warranty obligation is determined based on product failure rates, cost of replacement and failure analysis cost. We monitor productreturns for warranty-related matters and monitor an accrual for the related warranty expense based on historical experience. Our warranty obligation requiresmanagement to make assumptions regarding failure rates and failure analysis costs. If actual warranty costs differ significantly from these estimates,adjustments may be required in the future, which would adversely affect our gross margins and operating results. The warranty liability as of December 31,2011, 2010 and 2009, were $1,000,000 and $602,000 and $450,000, respectively.In September 2010, we were informed of a claim related to repair and replacement costs in connection with shipments of over 4,000 integrated circuitsmade by us during the summer and fall of 2009. Of these shipments, approximately 4% were later confirmed or suspected to have random manufacturingprocess anomalies in the wafer die in the product. These anomalies made the circuitry of a small number of random die per foundry wafer susceptible tofailure under certain customer specific system operating conditions. At the time of shipment in 2009 and early 2010, we established an initial warranty reserveand added to that accrual as the problem was identified and reliable information became available. The foundry who produced the wafers has informed us thatthe random anomalies are normal in a Gallium Arsenide, or GaAs, manufacturing process. We are currently investigating whether these anomalies werenormal, or whether they could have been the result of a foundry manufacturing process that was not sufficiently robust to reliably produce a part that coulddeliver the specified performance.In March 2010, we developed additional tests to screen out the wafer die that might be susceptible to this type of failure and resumed shipments to thecustomer with no subsequent additional reported incidents. Based on our standard warranty provisions, we have provided replacement parts to the customerfor the known and suspected failures that had occurred.In addition and without informing us, in the fall of 2009 the customer instituted its own larger scale replacement program that covered the replacement ofentire subassemblies in which our product was only one component. In September 2010, the customer made an initial claim for approximately $18 millionagainst us for the costs incurred relative to that program. In June 2011, the customer sent us an e-mail and reduced their initial claim down to $ 6.6 million.We believe the amount of the claim is without merit as our warranty liability is contractually limited to the repair or replacement of our affected products,which to the extent the customer has requested replacement, has already been completed. A formal claim has yet to be made and discussions with the customerare ongoing. At this time, we believe our current warranty reserves are adequate to address the matter and that our obligations under our standard warrantyprovisions have been fulfilled. However, claims of this nature are subject to various risks and uncertainties and there can be no assurance that this matter willbe resolved without further significant costs to us, including the potential for arbitration or litigation and adverse customer relations. If and when the amount ofany additional loss, if any, becomes both probable and determinable, we may be required to record an incremental reserve.Goodwill and Purchased Intangible AssetsGoodwill represents the excess of the cost of an acquired entity over the fair value of the acquired net assets. Events or circumstances which could triggeran impairment review include, but are not limited to a significant adverse change in legal factors or in the business climate, an adverse action or assessment bya regulator, unanticipated competition, a loss of key personnel, significant changes in the manner of use of the acquired assets or the strategy for our overallbusiness, significant negative industry or economic trends or significant underperformance relative to expected historical or projected future results ofoperations.Goodwill is tested for impairment on an annual basis during the fourth fiscal quarter or more frequently if we believe indicators of impairment exist. Theperformance of the test involves a two-step process. The first step requires comparing the fair value of the reporting unit to its net book value, includinggoodwill. Since we only have one reporting unit, the fair value of the reporting unit is determined by taking our market capitalization as 44Table of Contentsdetermined through quoted market prices and adjusted for control premiums and other relevant factors. A potential impairment exists if the fair value of thereporting unit is lower than its net book value. The second step of the process is only performed if a potential impairment exists, and it involves determiningthe difference between the fair value of the reporting unit’s net assets other than goodwill and the fair value of the reporting unit. If the difference is less than thenet book value of goodwill, impairment exists and is recorded. In the event that we determine that the value of goodwill has become impaired, we will record anaccounting charge for the amount of impairment during the fiscal quarter in which the determination is made. We have not been required to perform thissecond step of the process because the fair value of the reporting unit has significantly exceeded its book value at every measurement date.Stock-Based CompensationWe account for stock-based compensation in accordance with authoritative guidance which requires the measurement and recognition of compensationexpense for all share-based payment awards made to employees and directors based on the grant date fair values of the awards. The fair value is estimatedusing the Black-Scholes option pricing model. The value of the award that is ultimately expected to vest is recognized as expense over the requisite serviceperiods in our consolidated statements of operations. We elected to treat share-based payment awards with graded vesting schedules and time-based serviceconditions as a single award and recognize stock-based compensation expense on a straight-line basis (net of estimated forfeitures) over the requisite serviceperiod. Stock-based compensation expenses are classified in the statement of operations based on the department to which the related employee reports.We account for stock options issued to non-employees in accordance with the guidance for equity-based payments to non-employees. Stock optionawards to non-employees are accounted for at fair value using the Black-Scholes option pricing model. Our management believes that the fair value of stockoptions is more reliably measured than the fair value of the services received. The fair value of the unvested portion of the options granted to non-employees isre-measured each period. The resulting increase in value, if any, is recognized as expense during the period the related services are rendered.The Black-Scholes option pricing model requires management to make assumptions and to apply judgment in determining the fair value of our awards.The most significant assumptions and judgments include estimating the fair value of underlying stock, expected volatility and expected term. In addition, therecognition of stock-based compensation expense is impacted by estimated forfeiture rates.We estimated the expected volatility from the historical volatilities of several unrelated public companies within the semiconductor industry because ourcommon stock has limited trading history. When selecting the public companies used in the volatility calculation, we selected companies in the semiconductorindustry with comparable characteristics to us, including stage of development, lines of business, market capitalization, revenue and financial leverage. Theweighted average expected life of options was calculated using the simplified method. This decision was based on the lack of relevant historical data due to ourlimited experience and the lack of active market for our common stock. The risk-free interest rate is based on the U.S. Treasury yields in effect at the time ofgrant for periods corresponding to the expected term of the options. The expected dividend rate is zero based on the fact that we have not historically paiddividends and have no intention to pay cash dividends in the foreseeable future. The forfeiture rate is established based on the historical average period of timethat options were outstanding and adjusted for expected changes in future exercise patterns.We do not believe there is a reasonable likelihood that there will be material changes in the estimates and assumptions we use to determine stock-basedcompensation expense. In the future, if we determine that other option valuation models are more reasonable, the stock-based compensation expense that werecord in the future may differ significantly from what we have recorded using the Black-Scholes option pricing model. 45Table of ContentsIncome TaxesDeferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities, and aremeasured using the enacted tax rates and laws that will be in effect when and where the differences are expected to reverse. We record a valuation allowance toreduce deferred tax assets to the amount that we believe is more likely than not to be realized. In assessing the need for a valuation allowance, we consideredhistorical levels of income, projections of future income, expectations and risk associated with estimates of future taxable income and ongoing prudent andpractical tax planning strategies. To the extent that we believe it is more likely than not that some portion of our deferred tax assets will not be realized, wewould increase the valuation allowance against deferred tax assets. Although, we believe that the judgment we used is reasonable, actual results can differ dueto a change in market conditions, changes in tax laws and other factors.From inception through 2008, we incurred annual losses, and accordingly, we determined that a valuation allowance should be recorded against all ofour deferred tax assets. We considered future taxable income and prudent and feasible tax planning strategies in determining the need for a valuation allowanceand evaluated the need for a valuation allowance on a regular basis. The determination of recording or releasing a tax valuation allowance is made, in part,pursuant to an assessment performed by management regarding the likelihood that we will generate sufficient future taxable income against which the benefitsof our deferred tax assets may or may not be realized. This assessment requires management to exercise significant judgment and make estimates with respectto our ability to generate revenue, gross profits, operating income and taxable income in future periods. Among other factors, management must makeassumptions regarding current and projected overall business and semiconductor industry conditions, operating efficiencies, our ability to timely develop,introduce and consistently manufacture new products to meet our customers’ needs and specifications, our ability to adapt to technological changes and thecompetitive environment, which may impact our ability to generate taxable income and, in turn, realize the value of our deferred tax assets. Significantcumulative operating losses in 2008 and prior years, uncertainty with respect to the acceptance of our products by end customers and significant economicuncertainties in the market made our ability to project future taxable income highly uncertain and volatile at December 31, 2009. Although 2009 was our firstprofitable year, only the last three quarters of the year were profitable and the vast majority of our pre-tax income was generated in the last two quarters of theyear. Based upon management’s assessment of all available evidence, including a relatively short period of recent profitability coupled with significantuncertainties associated with our 2010 business outlook, we concluded, as of December 31, 2009, that it was not more likely than not that our net deferred taxassets would be realized. See note 9 of the notes to our consolidated financial statements.In March 2010, we received our first substantial quantity of production orders for a low voltage product, product number INSSTE32882LV-GS02, orthe GS02 product, which was a new low voltage version of our integrated PLL and register buffer. This GS02 product has been launched and in fullcommercial production and is shipping in commercial volume. The arrival of these production orders from one of our largest customers reduced concerns andincreased our confidence in the strength of our business outlook for the balance of 2010. In addition, certain other new product introductions began to gaintraction with customers, providing additional confidence in our longer term outlook. We also achieved further clarity around certain contingencies related toongoing litigation and certain other product acceptance concerns that existed at December 31, 2009. Furthermore, during the first quarter of 2010, weunexpectedly received additional orders for an older product that allowed us to exceed the overall plan for the quarter and continue our recent trend ofprofitability into the first quarter of 2010. At its April 30, 2010 meeting, based on a review of the positive developments that materialized in the first quarter of2010, our board of directors decided to authorize management to retain investment bankers and proceed with plans to pursue a potential initial public offering.Based on these positive developments and an additional quarter of profitable operation, we reassessed the need for a valuation allowance at March 31, 2010and concluded that a change in circumstances had occurred. Management determined that, based on our prospects and business outlook, it was thenreasonable to conclude that it is more likely than not that our deferred tax assets will be realized. Accordingly, we released the full valuation allowance recordedagainst our deferred 46Table of Contentstax assets based on the weight of positive evidence that existed at March 31, 2010. Significant judgment is required to determine the timing and extent of avaluation allowance release and our ability to utilize deferred tax assets will continue to be dependent on our ability to generate sufficient taxable income infuture periods.Based on our current trend of operating results and forecasts, we believe that it is more likely than not that we will recognize the benefit of our deferredtax assets and no valuation allowance is required as of December 31, 2011 and 2010, except for the deferred tax assets of our Taiwan subsidiary for which afull valuation allowance of $433 was provided at December 31, 2011.In accordance with FASBs guidance on Accounting for Uncertainty in Income Taxes, we perform a comprehensive review of uncertain tax positionsregularly. The guidance prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax positiontaken, or expected to be taken, in a tax return. We determine the tax liability for uncertain tax positions based on a two-step process. The first step is todetermine whether it is more likely than not based on technical merits that each income tax position would be sustained upon examination. The second step isto measure the tax benefit as the largest amount that has a greater than 50% likelihood of being realized upon ultimate settlement with a tax authority that hasfull knowledge of all relevant information. The assessment of each tax position requires significant judgment and estimates. We believe our tax return positionsare fully supported, but tax authorities could challenge certain positions, which may not be fully sustained. All tax positions are periodically analyzed andadjusted as a result of events, such as the resolution of tax audits, issuance of new regulations or new case law, negotiations with tax authorities, andexpiration of statutes of limitations.Results of Operations and Key Operating MetricsThe following describes the line items in the statements of operations, which we consider to be our key operating metrics.Revenue. We generate revenue from sales of our semiconductor products to end customers. A portion of our products is sold indirectly to customersthrough distributors.We design and develop high-speed analog semiconductor solutions for the communications and computing markets. Our revenue is driven by varioustrends in these markets. These trends include the deployment and broader market adoption of next generation 40G and 100G technologies in communicationsand enterprise networks, the timing of next generation network and enterprise server upgrades in different geographic locations worldwide, the introduction andbroader market adoption of next generation server platforms such as Intel’s Nehalem-based platform, and the deployment of high-speed memory interfaces inserver and computing platforms.Our revenue is also impacted by changes in the number and average selling prices of our semiconductor products. Our products are typicallycharacterized by a life cycle that begins with higher average selling prices and lower volumes, followed by broader market adoption, higher volumes, andaverage selling prices that are lower than initial levels.We operate in industries characterized by rapidly changing technologies and industry standards as well as technological obsolescence. Our revenuegrowth is dependent on our ability to continually develop and introduce new products to meet the changing technology and performance requirements of ourcustomers, diversify our revenue base and generate new revenue to replace, or build upon, the success of previously introduced products which may berapidly maturing. As a result, our revenue is impacted to a more significant extent by product life cycles for a variety of products and to a much lesser extent,if any, by any single product. In 2009, we successfully introduced and began to ship a new product in production which integrated a new PLL, along with anew register buffer. Sales of this newly introduced part comprised 18% and 43% of our total revenue in 2010 and 2009, respectively. In 2010, this productmatured. As a result, sales of this product in 2010 declined in volume. In 47Table of Contents2010, we also began to ship in production volume a new “low voltage” version of our integrated PLL and register buffer, which is shipping in the form ofproduct number INSSTE32882LV-GS02, or the GS02 product. Sales of the GS02 product comprised 38% and 32% of our total revenue in 2011 and 2010,respectively. In 2011, we began to ship in production volume a new “ultra-low voltage” version of our integrated PLL and register buffer, which is shipping inthe form of product number INSSTE32882UV-GS02, or the GS02UV product. Sales of the GS02UV product comprised 13% of our total revenue in 2011. In2012, we expect that revenue from sales of GS02 and GS02UV will continue to be significant.The following table is based on the geographic location to which our product is initially shipped. In most cases this will differ from the ultimate locationof the end user of a product containing our technology. For sales to our distributors, their geographic location may be different from the geographic locations ofthe ultimate end customer. Sales by geography for the periods indicated were: Year Ended December 31, 2011 2010 2009 (in thousands) Korea $14,421 $14,319 $18,307 United States 16,791 13,528 10,727 China 23,378 29,238 9,924 Other 24,707 26,108 19,894 $79,297 $83,193 $58,852 Cost of revenue. Cost of revenue includes cost of materials such as wafers processed by third-party foundries, costs associated with packaging andassembly, test and shipping, cost of personnel, including stock-based compensation, as well as equipment associated with manufacturing support, logisticsand quality assurance, warranty costs, write down of inventories, amortization of production mask costs, overhead and other indirect costs, such as allocatedoccupancy and information technology, or IT, costs.As some semiconductor products mature and unit volumes increase, their average selling prices may decline. These declines are often paired withimprovements in manufacturing yields and lower wafer, assembly and test costs, which offset some of the margin reduction that results from lower prices.However, our gross profit, period over period, may fluctuate as a result of changes in average selling prices due to new product introductions or existingproduct transitions into larger scale commercial volumes, manufacturing costs as well as our product mix.Research and development. Research and development expense includes personnel-related expenses, including salaries, stock-based compensation andemployee benefits. It also includes pre-production engineering mask costs, software license expenses, prototype wafer, packaging and test costs, design anddevelopment costs, testing and evaluation costs, depreciation expense and other indirect costs. All research and development costs are expensed as incurred. Weexpect research and development expense to increase in absolute dollars as we continue to invest resources to develop more products and enhance our existingproduct portfolio.Sales and marketing. Sales and marketing expense consists primarily of salaries, stock-based compensation, employee benefits, travel, promotions,trade shows, marketing and customer support, commission payments to employees, depreciation expense and other indirect costs. We expect sales andmarketing expense to increase in absolute dollars to support the growth of our business and promote our products to current and potential customers.General and administrative. General and administrative expense consists primarily of salaries, stock-based compensation, employee benefits andexpenses for executive management, legal, finance and human resources. In addition, general and administrative expenses include fees for professional servicesand other indirect costs. 48Table of ContentsWe expect general and administrative expense to increase in absolute dollars due to the general growth of our business and the costs associated with becoming apublic company for, among other things, SEC reporting and compliance, including compliance with the Sarbanes-Oxley Act of 2002, director fees, insurance,transfer agent fees and similar expenses.Provision (benefit) for income taxes. As of December 31, 2009, we had recorded a valuation allowance for the full amount of our deferred tax asset,as the realization of the full amount of our deferred tax asset was uncertain. Therefore, no deferred tax expense or benefit was recognized in the consolidatedfinancial statements. In 2009, a provision for current income tax was recorded primarily due to our inability to use net operating loss carryforwards for statetax purposes in California and alternative minimum tax for federal tax purposes. For the year ended December 31, 2010, we recorded a net tax benefit of$14.2 million, which reflects an effective tax rate benefit of 120%. The effective tax rate benefit of 120% differs from the statutory rate of 35% primarily due toa release of our deferred tax valuation allowance and, to a lesser extent, foreign income taxes provided at lower rates, geographic mix in profitability andrecognition of federal research and development credits. For the year ended December 31, 2011, we recorded a net tax benefit of $1.2 million, which reflects aneffective tax rate benefit of 171%. The effective tax rate benefit of 171% differs from the statutory rate of 35% primarily due to prior year provision true-up fora worldwide combined filing basis taken on the California tax return and, foreign income taxes provided at lower rates, geographic mix in profitability andrecognition of federal research and development credits. In 2012, we expect the effective tax rate to be lower than 35% due to foreign operations subject to lowertax rates.The following table sets forth a summary of our statement of operations for the periods indicated: Year Ended December 31, 2011 2010 2009 (in thousands) Total revenue $79,297 $83,193 $58,852 Cost of revenue 28,687 29,438 21,269 Gross profit 50,610 53,755 37,583 Operating expense: Research and development 28,565 23,781 17,847 Sales and marketing 12,700 8,823 7,704 General and administrative 9,141 9,212 3,947 Total operating expenses 50,406 41,816 29,498 Income from operations 204 11,939 8,085 Interest and other income (expense) 509 (50) 73 Income before income taxes 713 11,889 8,158 Provision (benefit) for income taxes (1,218) (14,242) 829 Net income $1,931 $26,131 $7,329 49Table of ContentsThe following table sets forth a summary of our statement of operations as a percentage of each line item to the revenue: Year Ended December 31, 2011 2010 2009 Total revenue 100% 100% 100% Cost of revenue 36 35 36 Gross profit 64 65 64 Operating expense: Research and development 36 29 30 Sales and marketing 16 11 13 General and administrative 12 11 7 Total operating expenses 64 51 50 Income from operations — 14 14 Interest and other income (expense) — — — Income before income taxes — 14 14 Provision (benefit) for income taxes (2) (17) 2 Net income 2% 31% 12% Comparison of the Years Ended December 31, 2011, 2010 and 2009Revenue Change Year Ended December 31, 2011 2010 2011 2010 2009 Amount % Amount % (dollars in thousands) Total revenue $79,297 $83,193 $58,852 $(3,896) (5)% $24,341 41% Total revenue for the year ended December 31, 2011 decreased by $3.9 million due to an 8% decrease in the number of units sold, partially offset by ayear over year increase in average selling price of approximately 4%. The decrease in number of units sold was due to reduction in sales of our high speedmemory interface products as customers depleted their own inventories rather than purchasing new parts and a temporary slowdown as customers transition tothe new technology platform. The increase in average selling price was due to change in product mix.Total revenue for the year ended December 31, 2010 increased by $24.3 million due to a 66% increase in the number of units sold, partially offset by adecrease in average selling price of 15%. The increase in unit volumes was a result of a wider acceptance of our products and technology in new serverplatforms, such as Intel’s Nehalem-based platform servers. Our average selling price decreased primarily as a result change in product mix.Cost of Revenue and Gross Profit Change Year Ended December 31, 2011 2010 2011 2010 2009 Amount % Amount % (dollars in thousands) Cost of revenue $28,687 $29,438 $21,269 $(751) (3)% $8,169 38% Gross profit 50,610 53,755 37,583 (3,145) (6)% 16,172 43% Gross profit as a percentage of revenue 64% 65% 64% — (1)% — 1% 50Table of ContentsCost of revenue and gross profit for the year ended December 31, 2011 decreased by $0.8 million and $3.1 million, respectively, compared to the prioryear primarily due to decrease in the number of units purchased by customers consistent with the overall decrease in revenue. Product costs as a percentage ofrevenue were relatively unchanged compared to the prior year.Cost of revenue and gross profit for the year ended December 31, 2010 increased by $8.2 million and $16.2 million, respectively, compared to the prioryear primarily due to an increase in the number of units purchased by customers consistent with the overall increase in revenue. Product costs as a percentageof revenue were relatively unchanged compared to the prior year.Research and Development Change Year Ended December 31, 2011 2010 2011 2010 2009 Amount % Amount % (dollars in thousands) Research and development $28,565 $23,781 $17,847 $4,784 20% $5,934 33% Research and development expense for the year ended December 31, 2011 increased by $4.8 million due to the increase in research and developmentheadcount, which resulted in a $3.4 million increase in personnel costs and stock-based compensation expense, a $0.3 million increase in pre-productionengineering mask costs and a $0.5 million increase in engineering materials. The increase in personnel and development expense was primarily driven by ourstrategy to continue to expand our product offerings and enhance our existing products. Specifically, we accelerated the development of our products for nextgeneration communications networks and high-speed memory interfaces. In addition, in 2011, our Taiwan subsidiary incurred restructuring charge of$0.3 million, which consisted mainly of a write-off of in process research and development intangible asset as a result of our restructuring of Taiwansubsidiary.Research and development expense for the year ended December 31, 2010 increased by $5.9 million due to the increase in research and developmentheadcount, establishment of a design center in United Kingdom and the acquisition of Winyatek Technology Inc., which together resulted in a $3.7 millionincrease in personnel costs and stock-based compensation expense, a $0.7 million increase in pre-production engineering mask costs and packagingdevelopment expense and engineering software expense of $0.2 million. The increase in personnel and development expense was primarily driven by ourstrategy to expand our product offerings and enhance our existing products. In addition, rent expense increased by $0.2 million due to new building leases fortwo offices in California.Sales and Marketing Change Year Ended December 31, 2011 2010 2011 2010 2009 Amount % Amount % (dollars in thousands) Sales and marketing $12,700 $8,823 $7,704 $3,877 44% $1,119 15% Sales and marketing expense for the year ended December 31, 2011 increased primarily due to an increase in personnel costs, including stock-basedcompensation expense of $2.2 million, to support sales activities. In 2011, our Taiwan subsidiary incurred restructuring charge of $0.7 million, whichconsisted mainly of a write-off of customer relationship intangible asset. In addition, commission expense increased by $0.5 million as a result of an increasein sales made through third party representatives.Sales and marketing expense for the year ended December 31, 2010 increased by $1.1 million primarily due to an increase in personnel costs, includingstock-based compensation expense, to support the increased sales activities. 51Table of ContentsGeneral and Administrative Change Year Ended December 31, 2011 2010 2011 2010 2009 Amount % Amount % (dollars in thousands) General and administrative $9,141 $9,212 $3,947 $(71) (1)% $5,265 133% General and administrative expenses for the year ended December 31, 2011 decreased slightly primarily due to reduction in legal fees by $1.3 million,primarily related to reduced expenditures for litigation matters described in note 16 of the notes to our financial statements. The decrease was offset by anincrease in personnel costs, including stock-based compensation expense of $0.9 million. Our directors’ fees and business insurance both increased by $0.2million due to the addition of two directors in 2010 and additional insurance for directors and officers as we transitioned to becoming a public company.General and administrative expenses for the year ended December 31, 2010 increased by $5.3 million primarily due to third-party professional fees andpersonnel costs. Outside legal fees increased by $1.8 million related primarily to litigation matters described in note 16 of the notes to our consolidatedfinancial statements. Accounting and consulting fees increased by $0.8 million due to expenses incurred for our 2009 audit and quarterly reviews and theestablishment of our subsidiary in Singapore. Other professional fees increased by $0.4 million for consulting services in information technology and humanresource functions. General and administrative headcount increased, resulting in a $1.4 million increase in personnel costs and stock-based compensationexpense.Provision (benefit) for Income Taxes Change Year Ended December 31, 2011 2010 2011 2010 2009 Amount % Amount % (dollars in thousands) Provision (benefit) for income taxes $(1,218) $(14,242) $829 $13,024 91% $(15,071) N/M The income tax benefit of $1.2 million for the year ended December 31, 2011 reflects an effective tax rate benefit of 171%. The effective tax rate benefitof 171% for the year ended December 31, 2011 differs from the statutory rate of 35% primarily due to prior year provision true-up for a worldwide combinedfiling basis on California tax return and, foreign income taxes provided at lower rates, geographic mix in profitability and recognition of federal research anddevelopment credits. We recorded a benefit of $1,244 to our 2011 income tax provision for a prior year return to provision adjustment, which primarily relatesto California state income taxes. We file an income tax return in California the laws of which generally require the results of all affiliated companies, bothdomestic and foreign, that are engaged in a unitary business to be included in the California return (i.e., worldwide combined reporting basis). However,California law also provides that a California company may make a so-called “Water’s Edge” election which limits the results included in the combinedreporting to only the companies that are subject to tax in the United States. Once a California Water’s Edge election is made with a timely filed California taxreturn, the filing Company is required to file using the Water’s Edge for seven years. 2010 was the first year we were subject to the California worldwidecombined reporting method. As of December 31, 2010, we intended to make the Water’s Edge election with the 2010 California income tax return and recordedour 2010 state income tax expense based upon this method. However, in October 2011, we filed our 2010 California tax return on a worldwide combinedreporting basis rather than making the Water’s Edge election. Our decision to file the 2010 California income tax return on a worldwide combined reportingbasis was a result of information and circumstances arising in 2011 surrounding expectations of future taxable income under each filing election. 52Table of ContentsThe income tax benefit of $14.2 million for the year ended December 31, 2010 reflects an effective tax rate benefit of 120%. The effective tax rate benefitof 120% for the year ended December 31, 2010 differs from the statutory rate of 35% primarily due to a release of our deferred tax valuation allowance of $24million and, to a lesser extent, foreign income taxes provided at lower rates, geographic mix in profitability and recognition of federal research and developmentcredits.We operate under tax holiday in Singapore, which is effective through May 2020. The tax holiday is conditional upon our meeting certain employment,activities and investment thresholds. The impact of the Singapore tax holiday decreased Singapore taxes by $95 for 2011 and was not material for 2010. Thebenefit of tax holidays has no material impact on diluted earnings per share.The provision for income taxes in 2009 consisted of state income taxes recorded due to our inability to use net operating loss carryforwards for state taxpurposes in California and federal income taxes related to alternative minimum tax.Liquidity and Capital ResourcesAs of December 31, 2011, we had cash and cash equivalents and investments in marketable securities of $119 million. Our primary uses of cash areto fund operating expenses, purchase inventory and acquire property and equipment. Cash used to fund operating expenses is impacted by the timing of whenwe pay these expenses, as reflected in the changes in our outstanding accounts payable and accrued expenses. Our primary sources of cash are cash receiptson accounts receivable from our revenue. Aside from the growth in amounts billed to our customers, net cash collections of accounts receivable are impactedby the efficiency of our cash collections process, which can vary from period to period, depending on the payment cycles of our major customers.The following table summarizes our cash flows for the periods indicated: Years Ended December 31, 2011 2010 2009 (in thousands) Net cash provided by operating activities $9,603 $12,361 $9,849 Net cash used in investing activities (95,674) (7,664) (556) Net cash provided by financing activities 5,596 86,365 716 Effect of currency exchange rate on cash (1) 49 — Net increase (decrease) in cash and cash equivalents $(80,476) $91,111 $10,009 Net Cash Provided by Operating ActivitiesNet cash provided by operating activities in 2011 primarily reflected net income of $1.9 million, change in income tax receivable/payable by $2.7million, depreciation and amortization of $3.2 million, stock-based compensation of $7.2 million, impairment charges of $1.6 million and amortization andadjustment of deferred tax charge of $1.2 million, offset by increases in inventory of $0.6 million, prepaid expenses and other assets of $1.0 million, deferredincome taxes of $5.2 million and decreases in accounts payable of $1.0 million and deferred revenue of $0.7 million. Our inventories increased as a result ofgrowing production for immediate delivery to customers in the first quarter of 2012. Our prepaid expenses and other assets increased as a result of newsubscriptions with vendors and related prepayments. Our accounts payable decreased due to payment to vendors. Our deferred revenue decreased asdistributors reduced their inventory levels and shipped parts to end customers to meet their demand.Net cash provided by operating activities in 2010 primarily reflected net income of $26.1 million, increases to accounts payable and accrued expensesof $1.3 million, depreciation and amortization of $1.8 million and 53Table of Contentsstock-based compensation of $2.7 million offset by increases in inventory of $0.6 million, accounts receivable of $1.9 million, deferred income taxes of$16.1 million and decrease in income tax payable of $1.4 million. Our accounts payable and accrued expenses increased as a result of increased productionvolumes. Our inventories increased as a result of growing production for immediate delivery to customers in the first quarter of 2011, and accounts receivableincreased as a result of increased shipments.Net cash provided by operating activities in 2009 primarily reflected net income of $7.3 million, increases to accounts payable of $1.4 million, accruedexpense of $1.1 million and deferred revenue of $1.6 million, depreciation of $1.3 million and stock-based compensation of $1.2 million. These were offsetby an increase in receivables of $4.6 million. Our accounts payable and accrued expenses increased in 2009 to support our increased production volumes andoverall operational growth. Our deferred revenue increased due to payments received from customers for future shipments. Our accounts receivable increasedas a result of significantly higher product shipments in the fourth quarter of 2009 to meet customer demand.Net Cash Used in Investing ActivitiesIn 2011, net cash used in investing activities consisted of cash used to purchase investment in marketable securities of $125 million and purchases ofproperty, equipment of $5.2 million, mainly for laboratory and production equipment and leasehold improvements for our offices in California, offset bysales and maturities of marketable securities of $34.5 million.In 2010, net cash used in investing activities consisted of net cash used to acquire all of the outstanding shares of Winyatek Technology Inc. of $2.5million and purchases of property, equipment of $5.2 million, of which $1.9 million was invested in leasehold improvements, including new laboratories, inconnection with our move to our new facilities.Net cash used in investing activities during the year ended December 31, 2009 consisted of purchases of property and equipment of $0.6 million.Net Cash Provided by Financing ActivitiesNet cash provided by financing activities in 2011, consisted primarily of $4.5 million proceeds from exercise of stock options and warrants, excess taxbenefit related to stock-based compensation of $1.2 million and net proceeds for secondary offering of $1.0 million. This was offset, in part, by the paymentof $1.1 million of expenses related to our initial public offering.Net cash provided by financing activities in 2010 consisted primarily of $85.7 million net proceeds from the sale of common stock in our initial publicoffering, the proceeds from the exercise of stock options of $0.5 million and the excess tax benefit related to stock-based compensation of $0.2 million.Net cash provided by financing activities in 2009 consisted primarily of $0.7 million in proceeds from the exercise of stock options.Operating and Capital Expenditure RequirementsOur principal source of liquidity as of December 31, 2011 consisted of $119 million of cash, cash equivalents and investments in marketablesecurities. Based on our current operating plan, we believe that our existing cash and cash equivalents and investments in marketable securities fromoperations will be sufficient to finance our operational cash needs through at least the next 12 to 18 months. In the future, we expect our operating and capitalexpenditures to increase as we increase headcount, expand our business activities and grow our end customer base which will result in higher needs forworking capital. Our ability to generate cash from operations is also subject to substantial risks described in Part I, “Item 1A., Risk Factors.” If any of theserisks 54Table of Contentsoccur, we may be unable to generate or sustain positive cash flow from operating activities. We would then be required to use existing cash and cashequivalents to support our working capital and other cash requirements. If additional funds are required to support our working capital requirements,acquisitions or other purposes, we may seek to raise funds through debt financing or from other sources. If we raise additional funds through the issuance ofequity or convertible debt securities, the percentage ownership of our stockholders could be significantly diluted, and these newly-issued securities may haverights, preferences or privileges senior to those of existing stockholders. If we raise additional funds by obtaining loans from third parties, the terms of thosefinancing arrangements may include negative covenants or other restrictions on our business that could impair our operating flexibility, and would also requireus to incur interest expense. We can provide no assurance that additional financing will be available at all or, if available, that we would be able to obtainadditional financing on terms favorable to us.Contractual Obligations, Commitments and ContingenciesThe following table summarizes our outstanding contractual obligations as of December 31, 2011: Payments due by period Total LessThan1 Year 1-3Years 3-5Years MoreThan5 Years (in thousands) Operating lease obligations $11,234 $3,718 $5,710 $1,806 $— As of December 31, 2011, we had noncancelable purchase obligations consisting primarily of license and consulting fees the Company committed topay under several agreements of $0.8 million, which are payable in 2012.As of December 31, 2011, we recorded a liability for our uncertain tax position of $1.5 million. We are unable to reasonably estimate the timing ofpayments in individual years due to uncertainties in the timing of the effective settlement of tax positions.We depend upon third party subcontractors to manufacture our wafers. Our subcontractor relationships typically allow for the cancellation ofoutstanding purchase orders, but require payment of all expenses incurred through the date of cancellation. As of December 31, 2011, the total value of openpurchase orders for wafers was approximately $2.4 million.Off-Balance Sheet ArrangementsSince our inception, we have not engaged in any off-balance sheet arrangements, such as the use of structured finance, special purpose entities orvariable interest entities.Recent Authoritative Accounting GuidanceSee Note 1 of the notes to our consolidated financial statements for information regarding recently issued accounting pronouncements. 55Table of ContentsITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKInterest Rate SensitivityWe had cash and cash equivalents and investments in marketable securities of $119.0 million and $110.2 million at December 31, 2011 andDecember 31, 2010, respectively, which was held for working capital purposes. Our exposure to market interest-rate risk relates primarily to our investmentportfolio. We do not use derivative financial instruments to hedge the market risks of our investments. We manage our total portfolio to encompass adiversified pool of investment-grade securities to preserve principal and maintain liquidity. We place our investments with high-quality issuers, money marketfunds and debt securities. Our investment portfolio as of December 31, 2011 consisted of money market funds, U.S. Treasuries, municipal bonds, corporatebonds, commercial paper, certificates of deposit, variable rate demand notes and asset backed securities. Investments in both fixed rate and floating rateinstruments carry a degree of interest rate risk. Fixed rate securities may have their market value adversely impacted due to an increase in interest rates, whilefloating 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 ofexpectations due to changes in interest rates or if the decline in fair value of our publicly traded debt investments is judged to be other-than-temporary. We maysuffer losses in principal if we are forced to sell securities that have declined in market value due to changes in interest rates. However, because any debtsecurities we hold are classified as available-for-sale, no gains or losses are realized in the income statement due to changes in interest rates unless suchsecurities are sold prior to maturity or unless declines in value are determined to be other-than-temporary. These securities are reported at fair value with therelated unrealized gains and losses, net of applicable taxes, included in accumulated other comprehensive income (loss), reported in a separate component ofstockholders’ equity. Although, we currently expect that our ability to access or liquidate these investments as needed to support our business activities willcontinue, we cannot ensure that this will not change. We believe that, if market interest rates were to change immediately and uniformly by 10% from levels atDecember 31, 2011, the impact on the fair value of these securities or our cash flows or income would not be material.In a declining interest rate environment, as short-term investments mature, reinvestment occurs at less favorable market rates. Given the short-termnature of certain investments, the current interest rate environment may negatively impact our investment income.Our cash and cash equivalents and investment in marketable securities at December 31, 2011 consisted of $116.7 million held domestically, with theremaining balance of $2.3 million held by foreign subsidiaries. There may be adverse tax effects upon repatriation of these funds to the United States. We donot plan to repatriate cash balances from foreign subsidiaries to fund our operations in the United States.Foreign Currency RiskTo date, our international customer and vendor agreements have been denominated almost exclusively in United States dollars. Accordingly, we havelimited exposure to foreign currency exchange rates and do not currently enter into foreign currency hedging transactions. 56Table of ContentsITEM 8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATAIndex to Consolidated Financial Statements Report of Independent Registered Public Accounting Firm 58 Consolidated Balance Sheets 59 Consolidated Statements of Operations 60 Consolidated Statements of Convertible Preferred Stock and Stockholders’ Equity (Deficit) 61 Consolidated Statements of Cash Flows 63 Notes to Consolidated Financial Statements 64 57Table of ContentsReport of Independent Registered Public Accounting FirmTo the Board of Directors and Stockholders of Inphi Corporation:In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, of convertible preferred stock andstockholders’ equity (deficit) and of cash flows present fairly, in all material respects, the financial position of Inphi Corporation and its subsidiaries atDecember 31, 2011 and 2010, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2011 inconformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all materialrespects, effective internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control—IntegratedFramework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible forthese financial statements, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control overfinancial reporting, included in Management’s Annual Report on Internal Control over Financial Reporting appearing under Item 9A. Our responsibility is toexpress opinions on these financial statements and on the Company’s internal control over financial reporting based on our audits (which was an integratedaudit in 2011). We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Thosestandards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatementand whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements includedexamining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used andsignificant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reportingincluded obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluatingthe design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as weconsidered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting andthe preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control overfinancial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflectthe transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are beingmade only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention ortimely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliancewith the policies or procedures may deteriorate./s/ PRICEWATERHOUSECOOPERS LLPSan Jose, CaliforniaMarch 15, 2012 58Table of ContentsInphi CorporationConsolidated Balance Sheets(in thousands, except share and per share amounts) December 31, 2011 2010 Assets Current assets: Cash and cash equivalents $29,696 $110,172 Investments in marketable securities 89,283 — Accounts receivable, net 9,358 10,052 Inventories 5,716 5,095 Deferred tax assets 1,463 1,665 Income tax receivable 2,103 2,214 Prepaid expenses and other current assets 2,466 1,366 Total current assets 140,085 130,564 Property and equipment, net 9,566 7,206 Goodwill 5,875 5,847 Identifiable intangible assets, net — 1,624 Deferred tax assets 10,673 6,182 Deferred tax charge 6,101 7,293 Other assets, net 328 241 Total assets $172,628 $158,957 Liabilities and Stockholders’ Equity Current liabilities: Accounts payable $5,016 $6,692 Deferred revenue 1,929 2,647 Accrued employee expenses 1,703 1,749 Other accrued expenses 2,042 1,843 Other current liabilities — 746 Total current liabilities 10,690 13,677 Other long-term liabilities 3,534 2,594 Total liabilities 14,224 16,271 Commitments and contingencies (Note 16) Stockholders’ equity: Preferred stock, $0.001 par value; 10,000,000 shares authorized; no shares issued — — Common stock, $0.001 par value; 500,000,000 shares authorized; 27,882,223 and 25,088,122 issued andoutstanding at December 31, 2011 and 2010, respectively 28 25 Additional paid-in capital 190,314 176,505 Accumulated deficit (32,713) (34,644) Accumulated other comprehensive income 775 800 Total stockholders’ equity 158,404 142,686 Total liabilities and stockholders’ equity $172,628 $158,957 The accompanying notes are an integral part of these consolidated financial statements. 59Table of ContentsInphi CorporationConsolidated Statements of Operations(in thousands, except share and per share amounts) Year Ended December 31, 2011 2010 2009 Revenue $79,297 $83,193 $58,852 Cost of revenue 28,687 29,438 21,269 Gross profit 50,610 53,755 37,583 Operating expense: Research and development 28,565 23,781 17,847 Sales and marketing 12,700 8,823 7,704 General and administrative 9,141 9,212 3,947 Total operating expense 50,406 41,816 29,498 Income from operations 204 11,939 8,085 Interest and other income (expense) 509 (50) 73 Income before income taxes 713 11,889 8,158 Provision (benefit) for income taxes (1,218) (14,242) 829 Net income $1,931 $26,131 $7,329 Net income allocable to common stockholders and participating common securities $1,931 $5,326 $136 Earnings per share: Basic $0.07 $1.03 $0.08 Diluted $0.07 $0.61 $0.05 Weighted-average shares used in computing earnings per share: Basic 26,799,237 5,086,169 1,668,876 Diluted 29,367,423 8,546,537 2,785,277 (1)Includes related party revenue of $27,940 and $21,235 for the years ended December 31, 2010 and 2009, respectively—see Note 17 of notes to theconsolidated financial statements.The accompanying notes are an integral part of these consolidated financial statements. 60(1)Table of ContentsInphi CorporationConsolidated Statements of Convertible Preferred Stock and Stockholders’ Equity (Deficit)(in thousands, except share amounts) Series AConvertiblePreferredStock Series BRedeemableConvertiblePreferredStock Series CRedeemableConvertiblePreferredStock Series DRedeemableConvertiblePreferredStock Series ERedeemableConvertiblePreferredStock TotalPreferredStock Shares Amount Shares Amount Shares Amount Shares Amount Shares Amount Balance at December 31, 2008 518,555 $12,016 2,905,783 $24,985 6,503,882 $18,690 3,509,749 $11,989 1,043,731 $9,936 $77,616 Exercise of stock options — — — — — — — — — — — Stock-based compensationexpense — — — — — — — — — — — Net income — — — — — — — — — — — Balance at December 31, 2009 518,555 12,016 2,905,783 24,985 6,503,882 18,690 3,509,749 11,989 1,043,731 9,936 77,616 Exercise of stock options,warrant and restricted stockaward grant — — — — — — — — — — — Income tax benefit from stockoption exercises — — — — — — — — — — — Stock-based compensationexpense — — — — — — — — — — — Issuance of preferred stock — — — — — — — — 313,713 4,538 4,538 Issuance of common stock inconnection with initial publicoffering, net — — — — — — — — — — — Conversion of preferred stockto common stock (518,555) (12,016) (2,905,783) (24,985) (6,503,882) (18,690) (3,509,749) (11,989) (1,357,444) (14,474) (82,154) Conversion of preferred stockwarrant to common stockwarrant — — — — — — — — — — — Net income — — — — — — — — — — — Currency translation adjustment — — — — — — — — — — — Total comprehensive income — — — — — — — — — — — Balance at December 31, 2010 — $— — $— — $— — $— — $— $— Exercise of stock options,warrant and restricted stockaward grant — — — — — — — — — — — Income tax benefit from stockoption exercises — — — — — — — — — — — Stock-based compensationexpense — — — — — — — — — — — Issuance of common stock inconnection with secondarypublic offering, net — — — — — — — — — — — Net income — — — — — — — — — — — Currency translation adjustment — — — — — — — — — — — Unrealized loss on marketablesecurities, net — — — — — — — — — — — Total comprehensive income — — — — — — — — — — — Balance at December 31, 2011 — $— — $— — $— — $— — $— $— 61Table of Contents Common Stock AdditionalPaid-inCapital AccumulatedDeficit AccumulatedOtherComprehensiveIncome TotalStockholders’Equity(Deficit) Shares Amount Balance at December 31, 2008 1,577,975 $2 $4,301 $(68,104) — $(63,801) Exercise of stock options 455,567 — 575 — — 575 Stock-based compensation expense — — 1,165 — — 1,165 Net income — — — 7,329 — 7,329 Balance at December 31, 2009 2,033,542 2 6,041 (60,775) — (54,732) Exercise of stock options, warrant and restricted stock award grant 439,167 — 584 — — 584 Income tax benefit from stock option exercises — — 216 — — 216 Stock-based compensation expense — — 2,705 — — 2,705 Issuance of preferred stock — — — — — — Issuance of common stock in connection with initial public offering, net 7,820,000 8 84,690 — — 84,698 Conversion of preferred stock to common stock 14,795,413 15 82,139 — — 82,154 Conversion of preferred stock warrant to common stock warrant — — 130 — — 130 Net income — — — 26,131 — 26,131 Currency translation adjustment — — — — 800 800 Total comprehensive income — — — — — 26,931 Balance at December 31, 2010 25,088,122 $25 $176,505 $(34,644) $800 $142,686 Exercise of stock options, warrant and restricted stock award grant 2,694,101 2 4,532 — — 4,534 Income tax benefit from stock option exercises — — 1,171 — — 1,171 Stock-based compensation expense — — 7,192 — — 7,192 Issuance of common stock in connection with secondary public offering, net 100,000 1 914 — — 915 Net income — — — 1,931 — 1,931 Currency translation adjustment — — — — 30 30 Unrealized loss on marketable securities, net — — — — (55) (55) Total comprehensive income — — — — — 1,906 Balance at December 31, 2011 27,882,223 $28 $190,314 $(32,713) $775 $158,404 The accompanying notes are an integral part of these consolidated financial statements. 62Table of ContentsInphi CorporationConsolidated Statements of Cash Flows(in thousands) Year Ended December 31, 2011 2010 2009 Cash flows from operating activities Net income $1,931 $26,131 $7,329 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 3,185 1,820 1,291 Stock-based compensation 7,192 2,705 1,165 Impairment charges 1,612 — — Deferred income taxes and deferred tax charge (5,192) (16,054) — Amortization and adjustment of deferred tax charge 1,192 746 — Excess tax benefit related to stock-based compensation (1,171) (216) — Amortization of premiums on marketable securities 920 — — Other noncash items (20) 89 27 Changes in assets and liabilities (net of effect of acquisition): Accounts receivable 696 (1,890) (4,588) Inventories (621) (627) 143 Prepaid expenses and other assets (1,027) (1,083) (88) Income tax payable/receivable 2,745 (1,442) 444 Accounts payable (1,005) 344 1,413 Accrued expenses 148 965 1,062 Deferred revenue (718) (736) 1,605 Other liabilities (264) 1,609 46 Net cash provided by operating activities 9,603 12,361 9,849 Cash flows from investing activities Purchases of property and equipment (5,197) (5,165) (560) Proceeds from sale of property and equipment 9 — 4 Purchases of marketable securities (124,986) — — Sales and maturities of marketable securities 34,500 — — Acquisition, net of cash acquired — (2,499) — Net cash used in investing activities (95,674) (7,664) (556) Cash flows from financing activities Repayment of capital lease obligations — — (17) Proceeds from exercise of stock options and warrants 4,525 485 733 Excess tax benefit related to stock-based compensation 1,171 216 — Minimum tax withholding paid on behalf of employees for restricted stock units (51) — — Proceeds from the secondary public offerings, net of issuance costs 1,050 — — Proceeds from initial public offering, net of costs paid (1,099) 85,664 — Net cash provided by financing activities 5,596 86,365 716 Effect of currency exchange rates on cash and cash equivalents (1) 49 — Net increase (decrease) in cash and cash equivalents (80,476) 91,111 10,009 Cash and cash equivalents at beginning of year 110,172 19,061 9,052 Cash and cash equivalents at end of year $29,696 $110,172 $19,061 Supplemental Cash Flow Information Income taxes paid $— $2,502 $381 Noncash investing and financing activities Acquisition of Winyatek Technology Inc. in exchange for Series E preferred shares $— $4,538 — Conversion of preferred stock to common stock — 82,154 — Conversion of preferred stock warrant to common stock warrant — 130 — Unrealized loss on investment, net of tax 55 — — The accompanying notes are an integral part of these consolidated financial statements. 63Table of ContentsInphi CorporationNotes to Consolidated Financial Statements(Dollars in thousands except share and per share amounts)1. Organization and Summary of Significant Accounting PoliciesInphi Corporation (the “Company”), a Delaware corporation, was incorporated in November 2000. The Company is a fabless provider of high-speedanalog semiconductor solutions for the communications and computing markets. The Company’s semiconductor solutions are designed to address bandwidthbottlenecks in networks, maximize throughput and minimize latency in computing environments and enable the rollout of next generation communications andcomputing infrastructures. In addition, the semiconductor solutions provide a vital high-speed interface between analog signals and digital information in high-performance systems such as telecommunications transport systems, enterprise networking equipment, datacenter and enterprise servers, storage platforms,test and measurement equipment and military systems.The Company is subject to certain risks and uncertainties and believes changes in any of the following areas could have a material adverse effect on theCompany’s future financial position or results of operations or cash flows: ability to sustain profitable operations due to history of losses and accumulateddeficit, dependence on limited number of customers for a substantial portion of revenue, product defects, risks related to intellectual property matters, lengthysales cycle and competitive selection process, lengthy and expensive qualification process, ability to develop new or enhance products in a timely manner,market development of and demand for the Company’s products, reliance on third parties to manufacture, assemble and test products and ability to compete.Basis of PresentationThe accompanying financial statements through December 31, 2009 reflect the stand-alone operations of the Company. During the year endedDecember 31, 2010, the Company established subsidiaries in the United Kingdom, Singapore, and Taiwan. All significant intercompany balances andtransactions have been eliminated in consolidation.In the third quarter of 2011, the Company decided to discontinue the sale of legacy products supported by its Taiwan subsidiary and transitioned thesubsidiary to be a design and sales support center. The associated restructuring expense was $1,813, of which $1,408 relates to write off of certain intangibles(see note 7), $204 relates to write off of other assets and $198 relates to severance costs. The severance costs were fully paid in 2011 except for $95, which isincluded in accrued employee expenses in the consolidated balance sheets as of December 31, 2011.Reverse Stock SplitIn October 2010, the Company’s Board of Directors approved a 3-for-7 reverse stock split of the Company’s issued and outstanding shares of commonstock and preferred stock, which was effected on November 3, 2010. All common stock and preferred stock data and stock option plan information have beenadjusted to reflect the split.Initial Public OfferingIn November 2010, the Company completed the initial public offering (the “IPO”), of its common stock in which it sold and issued 7,820,000 shares ofcommon stock, including 1,020,000 shares related to the exercise of the underwriters’ over-allotment, at an issue price of $12.00 per share. The Companyraised a total of $93,840 in gross proceeds in the IPO, or approximately $84,698 in net proceeds after deducting underwriting discounts and commissions of$6,569 and other offering costs of $2,573. Immediately prior to the closing of the IPO, all shares 64Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) of the Company’s then-outstanding convertible preferred stock outstanding automatically converted into 14,795,413 shares of common stock and thewarrants to purchase preferred stock converted into warrants to purchase common stock.Use of EstimatesThe preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of Americarequires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets andliabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ fromthose estimates.On an ongoing basis, management evaluates its estimates, including those related to (i) the collectibility of accounts receivable; (ii) write down for excessand obsolete inventories; (iii) warranty obligations; (iv) the value assigned to and estimated useful lives of long-lived assets; (v) the realization of tax assets andestimates of tax liabilities and tax reserves; (vi) the valuation of equity securities; (vii) amounts recorded in connection with acquisitions; (viii) recoverabilityof intangible assets and goodwill and (ix) the recognition and disclosure of contingent liabilities. These estimates are based on historical data and experience, aswell as various other factors that management believes to be reasonable under the circumstances, the results of which form the basis for making judgmentsabout the carrying value of assets and liabilities that are not readily apparent from other sources. The Company engages third party valuation specialists toassist with estimates related to the valuation of financial instruments and assets associated with various contractual arrangements, the underlying value ofpreferred and common equity prior to the Company’s IPO and valuation of assets acquired in connection with acquisitions. Such estimates often require theselection of appropriate valuation methodologies and models, and significant judgment in evaluating ranges of assumptions and financial inputs. Actualresults may differ from those estimates under different assumptions or circumstances.Foreign Currency TranslationThe Company and its subsidiaries use the U.S. dollar as its functional currency. Foreign currency assets and liabilities are remeasured into U.S. dollarsat the end-of-period exchange rates except for non-monetary assets and liabilities, which are remeasured at historical exchange rates. Revenue and expenses areremeasured at the exchange rate in effect during the period the transaction occurred, except for those expenses related to balance sheet amounts, which areremeasured at historical exchange rates. Gains or losses from foreign currency transactions are included in the Consolidated Statements of Operations as partof “Other income (expense)”. Foreign currency gain or loss in 2011, 2010 and 2009 were not material.The functional currency of the Company’s Taiwan subsidiary was the New Taiwan Dollar through the first two quarters of 2011, which required thatassets and liabilities be translated into US dollars at period-end exchange rates and income, expense, and cash flow items be translated at average exchangerates prevailing during the period. The resulting currency translation adjustment is recorded as a component of accumulated other comprehensive incomewithin stockholders’ equity. As discussed above, in 2011, the Company transitioned its Taiwan subsidiary to be a design and sales support center. Therestructuring brought about a change in the subsidiary’s functional currency designation from Taiwan dollars to United States dollars.Cash and Cash EquivalentsThe Company considers all highly liquid investments with an original or remaining maturity of three months or less at the date of purchase to be cashequivalents. The Company maintains its cash and cash 65Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) equivalents with major financial institutions and, at times, such balances with any one financial institution may exceed Federal Deposit Insurance Corporationinsurance limits. Cash equivalents primarily consist of money market funds.Fair Market Value of Financial InstrumentsThe carrying amount reflected in the balance sheet for cash and cash equivalents, accounts receivable, prepaid and other current assets, accountspayable, accrued expenses and other current liabilities, approximate fair value due to the short-term nature of these financial instruments.Investments in Marketable SecuritiesInvestments in marketable securities consist of available-for-sale securities. These investments are recorded at fair value with changes in fair value, netof applicable taxes, recorded as unrealized gains (losses) as a component of accumulated other comprehensive income in stockholders’ equity. Realized gainsand losses and declines in value judged to be other-than-temporary on available-for-sale securities are included in Other (expense) income, net. The cost basisfor realized gains and losses on available-for-sale securities is determined on a specific identification basis. Investments are made based on our investmentpolicy which restricts the types of investments that can be made. The Company classified available-for-sale securities as short-term as the investments areavailable to be used in current operations.InventoriesInventories are stated at the lower of cost or market. Cost is computed using standard cost, which approximates actual cost, on a first-in, first-out basis.Inventories are reduced for write downs based on periodic reviews for evidence of slow-moving or obsolete parts. The write-down is based on comparisonbetween inventory on hand and estimated future sales for each specific product. Once written down, inventory write downs are not reversed until the inventoryis sold or scrapped. Inventory write downs are also established when conditions indicate that the net realizable value is less than cost due to physicaldeterioration, obsolescence, changes in price level or other causes. Inventory valuation reserves were $1,509 and $1,372, as of December 31, 2011 and 2010,respectively. 66Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) Property and EquipmentProperty and equipment are stated at cost less accumulated depreciation and amortization. Depreciation and amortization is provided on property andequipment over the estimated useful lives on a straight-line basis. Leasehold improvements are amortized on a straight-line basis over the shorter of theirestimated useful lives or lease terms. Repairs and maintenance are charged to expense as incurred. Useful lives by asset category are as follows: Asset Category YearsOffice equipment 3 yearsSoftware 3 yearsLeasehold improvements Shorter of leaseterm or estimateduseful lifeProduction equipment 2 yearsComputer equipment 5 yearsLab equipment 5 yearsFurniture and fixtures 7 yearsImpairment of Long-lived Assets and GoodwillLong-lived AssetsThe Company assesses the impairment of long-lived assets, which consist primarily of property and equipment and intangible assets, whenever eventsor changes in circumstances indicate that such assets might be impaired and the carrying value may not be recoverable. Events or changes in circumstancesthat may indicate that an asset is impaired include significant decreases in the market value of an asset, significant underperformance relative to expectedhistorical or projected future results of operations, a change in the extent or manner in which an asset is utilized, significant declines in the estimated fair valueof the overall Company for a sustained period, shifts in technology, loss of key management or personnel, changes in the Company’s operating model orstrategy and competitive forces.If events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable and the expected undiscounted future cashflows attributable to the asset are less than the carrying amount of the asset, an impairment loss equal to the excess of the asset’s carrying value over its fairvalue is recorded. Fair value is determined based on the present value of estimated expected future cash flows using a discount rate commensurate with the riskinvolved, quoted market prices or appraised values, depending on the nature of the assets.GoodwillGoodwill is recorded when the consideration paid for a business acquisition exceeds the fair value of net tangible and intangible assets acquired.Goodwill is measured and tested for impairment on an annual basis during the fourth fiscal quarter or more frequently if the Company believes indicators ofimpairment exist.The performance of the test involves a two-step process. The first step requires comparing the fair value of the reporting unit to its net book value,including goodwill. As the Company has only one reporting unit, the fair value of the reporting unit is determined by taking the market capitalization of theCompany as determined through quoted market prices and adjusted for control premiums and other relevant factors. A potential 67Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) impairment exists if the fair value of the reporting unit is lower than its net book value. The second step of the process is only performed if a potentialimpairment exists, and it involves determining the difference between the fair value of the reporting unit’s net assets other than goodwill and the fair value ofthe reporting unit. If the difference is less than the net book value of goodwill, impairment exists and is recorded. In the event that the Company determines thatthe value of goodwill has become impaired, the Company will record an accounting charge for the amount of impairment during the fiscal quarter in which thedetermination is made. The Company has not been required to perform this second step of the process because the fair value of the reporting unit hassignificantly exceeded its book value at every measurement date.Internal Use Software CostsCertain external and internal computer software costs acquired for internal use are capitalized. Training costs and maintenance are expensed as incurred,while upgrades and enhancements are capitalized if it is probable that such expenditures will result in additional functionality. Capitalized costs are includedwithin property and equipment.Revenue RecognitionThe Company’s products are fully functional at the time of shipment and do not require additional production, modification, or customization. TheCompany recognizes revenue when there is persuasive evidence of an arrangement, delivery has occurred, the fee is fixed or determinable, and collection isreasonably assured. The Company’s sales arrangements do not include multiple elements.Product revenue is recognized upon shipment of product to customers, net of accruals for estimated sales returns and allowances, which to date, havenot been significant. However, some of the Company’s sales are made through distributors under arrangements that allow for price protection or rights ofreturn on product unsold by the distributors. Product revenue on sales made through distributors with rights of return or price protection is deferred until thedistributors sell the product to end customers. Sales to distributors are included in deferred revenue and the Company includes the related costs in inventoryuntil sale to the end customers occurs. Price protection rights allow distributors the right to a credit in the event of declines in the price of the Company’sproduct that they hold prior to the sale to an end customer. In the event that the Company reduces the selling price of products held by distributors, deferredrevenue related to distributors with price protection rights is reduced upon notification to the customer of the price change. The Company’s sales to directcustomers are made primarily pursuant to standard purchase orders for delivery of products. The Company generally allows customers to cancel or changepurchase orders within limited notice periods prior to the scheduled shipment.Cost of RevenueCost of revenue includes cost of materials, such as wafers processed by third-party foundries, cost associated with packaging and assembly, test andshipping, cost of personnel, including stock-based compensation, and equipment associated with manufacturing support, logistics and quality assurance,warranty cost, write down of inventories, amortization of production mask costs, overhead and an allocated portion of occupancy costs.WarrantyThe Company’s products are under warranty against defects in material and workmanship generally for a period of one or two years. The Companyaccrues for estimated warranty cost at the time of sale based on anticipated warranty claims and actual historical warranty claims experience includingknowledge of specific 68Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) product failures that are outside of the Company’s typical experience. The warranty obligation is determined based on product failure rates, cost of replacementand failure analysis cost. If actual warranty costs differ significantly from these estimates, adjustments may be required in the future. As of December 31,2011 and 2010, the warranty liability was $1,000 and $602, respectively.The following table sets forth changes in warranty accrual included in other accrued expenses in the Company’s consolidated balance sheets: Year Ended December 31, 2011 2010 Beginning balance $602 $450 Accruals for warranties 398 165 Settlements — (13) $1,000 $602 In September 2010, the Company was informed of a claim related to repair and replacement costs in connection with shipments of over 4,000 integratedcircuits made by the Company during the summer and fall of 2009. Of these shipments, approximately 4% were later confirmed or suspected to have randommanufacturing process anomalies in the wafer die in the product. These anomalies made the circuitry of a small number of random die per foundry wafersusceptible to failure under certain customer specific system operating conditions. At the time of shipment in 2009 and early 2010, the Company establishedan initial warranty reserve and added to that accrual as the problem was identified and reliable information became available. The foundry who produced thewafers has informed the Company that the random anomalies are normal in a Gallium Arsenide (“GaAs”) manufacturing process. The Company is currentlyinvestigating whether these anomalies were normal, or whether they could have been the result of a foundry manufacturing process that was not sufficientlyrobust to reliably produce a part that could deliver the specified performance.In March 2010, the Company developed additional tests to screen out the wafer die that might be susceptible to this type of failure and resumedshipments to the customer. Based on its standard warranty provisions, the Company has provided replacement parts to the customer for the known andsuspected failures that had occurred.In addition and without informing the Company, in the fall of 2009 the customer instituted its own larger scale replacement program that covered thereplacement of entire subassemblies in which the Company’s product was only one component. In September 2010, the customer made an initial claim forapproximately $18,000 against the Company for the costs incurred relative to that program. In June 2011, the customer sent an e-mail and reduced their initialclaim down to $6,600. Management believes the amount and basis of the claims made to date are without merit as its warranty liability is contractuallylimited to the repair or replacement of the Company’s affected products, which to the extent the customer has requested replacement, has already beencompleted. A formal claim has yet to be made and discussions with the customer are ongoing. At this time, the Company believes its current warranty reservesare adequate to address the matter and that the Company’s obligations under its standard warranty provisions have been fulfilled. However, claims of thisnature are subject to various risks and uncertainties and there can be no assurance that this matter will be resolved without further significant costs to theCompany, including the potential for arbitration or litigation. If and when the amount of any additional loss, if any, becomes both probable and determinable,the Company may be required to record an incremental reserve. 69Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) Research and Development ExpenseResearch and development expense consists of costs incurred in performing research and development activities including salaries, stock-basedcompensation, employee benefits, occupancy costs, pre-production engineering mask costs, overhead costs and prototype wafer, packaging and test costs.Research and development costs are expensed as incurred.Sales and Marketing ExpenseSales and marketing expense consists of salaries, stock-based compensation, employee benefits, travel and trade show costs. The Company expensessales and marketing costs as incurred. Advertising expenses for the years ended December 31, 2011, 2010 and 2009 were not material.General and Administrative ExpenseGeneral and administrative expense consists of salaries, stock-based compensation, employee benefits and expenses for executive management, legal,finance and human resources personnel. In addition, general and administrative expense includes fees for professional services and occupancy costs. Thesecosts are expensed as incurred.Income TaxesDeferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities, and aremeasured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. The Company must also make judgments inevaluating whether deferred tax assets will be recovered from future taxable income. To the extent that it believes that recovery is not likely, the Company mustestablish a valuation allowance. The carrying value of the Company’s net deferred tax asset is based on whether it is more likely than not that the Companywill generate sufficient future taxable income to realize these deferred tax assets. A valuation allowance is established for deferred tax assets which the Companydoes not believe meet the “more likely than not” criteria. The Company’s judgments regarding future taxable income may change over time due to changes inmarket conditions, changes in tax laws, tax planning strategies or other factors. If the Company’s assumptions and consequently its estimates change in thefuture, the valuation allowance the Company has established may be increased or decreased, resulting in a material respective increase or decrease in incometax expense (benefit) and related impact on the Company’s reported net income (loss).In accordance with FASBs guidance on Accounting for Uncertainty in Income Taxes, the Company performs a comprehensive review of uncertain taxpositions regularly. In this regard, an uncertain tax position represents an expected treatment of a tax position taken in a filed tax return, or planned to be takenin a future tax return or claim, which has not been reflected in measuring income tax expense for financial reporting purposes. Until these positions aresustained by the taxing authorities, the Company does not recognize the tax benefits resulting from such positions and reports the tax effects as a liability foruncertain tax positions in our consolidated financial statements. The Company recognizes potential interest and penalties on uncertain tax positions in incometaxes on the consolidated statement of operations.Stock-Based CompensationStock-based compensation for stock option and restricted stock awards issued to the Company’s employees is measured at the grant date based on thefair value of the award and is recognized as expense over the requisite 70Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) service period, which is the vesting period, on a straight-line basis. The Company uses the Black-Scholes option-pricing model for valuing stock optionawards granted to employees and directors at the grant date. Determining the fair value of stock option awards at the grant date requires the input of variousassumptions, including fair value of the underlying common stock, expected future share price volatility, expected term, risk-free interest rate and dividendrate. Changes in these assumptions can materially affect the fair value of the options. The Company based its estimate of expected volatility on the estimatedvolatility of similar entities whose share prices are publicly available. The risk-free interest rate is based on the U.S. Treasury yields in effect at the time ofgrant for periods corresponding to the expected life of the options. The weighted average expected life of options was calculated using the simplified method.This decision was based on the lack of relevant historical data due to the Company’s limited experience. The expected dividend yield is zero because theCompany has not historically paid dividends and has no present intention to pay dividends. The Company establishes the estimated forfeiture rates based onhistorical experience. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service period which isequal to the vesting period.The Company has elected to treat share-based payment awards with graded vesting schedules and time-based service conditions as single awards andrecognizes stock-based compensation expense on a straight-line basis (net of estimated forfeitures) over the requisite service period.The Company recognizes non-employee stock-based compensation expenses based on the estimated fair value of the equity instrument determined usingthe Black-Scholes option-pricing model. Management believes that the fair value of the stock options is more reliably measured than the fair value of theservices received. The fair value of each non-employee variable stock award is re-measured each period until a commitment date is reached, which is generallythe vesting date.Earnings per ShareThe Company applies the two-class method for calculating earnings per share. Under the two–class method, net income (loss) is allocated betweencommon stock and other participating securities based on their participation rights. Basic earnings per share is calculated by dividing income (loss) allocableto common stockholders (after the reduction for any preferred stock dividends assuming current income for the period had been distributed) by the weightedaverage number of shares of common stock outstanding, net of shares subject to repurchase by the Company, during the period. Diluted earnings per share iscalculated by dividing the net income (loss) allocable to common stockholders by the weighted average number of common shares outstanding, adjusted forthe effects of potentially dilutive common stock, which are comprised of stock options, warrants to purchase common stock and convertible preferred stock.Segment InformationThe Company’s operations are located primarily in the United States, and materially all tangible assets are located in Westlake Village, California. TheCompany operates in one segment related to the design, development and sale of high speed analog connectivity components that operate to maintain, amplifyand improve signal integrity at high speeds in a wide variety of applications. The Company’s chief operating decision-maker is its Chief Executive Officer,who reviews operating results on an aggregate basis and manages the Company’s operations as a single operating segment.Recent Accounting PronouncementsIn May 2011, Financial Accounting Standards Board (“FASB”) issued an amendment to its accounting guidance on fair value measurement. Theamendments provide a consistent definition of fair value and ensure 71Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) that the fair value measurement and disclosure requirements are similar between United States GAAP and International Financial Reporting Standards. Theamendments change certain fair value measurement principles and enhance the disclosure requirements about fair value measurements. This guidance iseffective during interim and annual periods beginning after December 15, 2011 and are applied prospectively. The Company does not anticipate a materialimpact to the consolidated financial statements upon adoption of this guidance.In June 2011, FASB issued an amendment to its accounting guidance on comprehensive income. The amendments require an entity to present the total ofcomprehensive income, the components of net income and the components of other comprehensive income either in a single continuous statement ofcomprehensive income or in two separate but consecutive statements. The amendments eliminate the option to present the components of other comprehensiveincome as part of the statement of equity. This guidance is effective for fiscal years, and interim periods within those years, beginning after December 15,2011. This guidance will change how the Company presents other comprehensive income.2. AcquisitionOn June 30, 2010, the Company acquired all of the outstanding shares of WTI in exchange for $3,344 in cash and 313,713 shares of Series E preferredstock. WTI is primarily engaged in the research, design, development, manufacture and sale of Nand Flash Controller System-On-Chip, secure digital/multi-media card controller, and card reader products. As a result of the acquisition, the Company was expected to expand its technology and engineering resources.The fair value of consideration transferred is shown in the table below: Cash $3,344 Series E preferred stock 4,538 $7,882 The Company issued 313,713 shares of Series E preferred stock that has a total fair value of $4,538 based on the valuation performed as of June 30,2010, the acquisition date. The acquisition of WTI includes a contingent consideration arrangement that requires additional consideration to be paid by theCompany based on achievement of certain revenue and gross margin targets of WTI over the three fiscal quarters starting July 1, 2010. The amount ofcontingent consideration, if any, was payable on or before May 15, 2011. The amount of consideration the Company could pay under the agreement rangesfrom $0 to $2,000. The fair value of the contingent consideration on the acquisition date and at December 31, 2010 was determined to be insignificant as theprobability of WTI achieving the revenue and gross margin requirement is deemed to be remote. No contingent consideration was paid in 2011 as WTI did notachieve the revenue and gross margin requirement.The acquisition has been accounted for using the acquisition method of accounting which requires, among other things, that assets acquired andliabilities assumed be recognized at their fair values as of the acquisition date. 72Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) The following table summarizes the purchase price allocation as of the acquisition date: Cash $808 Receivables 174 Inventories 493 Other current assets 100 Property and equipment 68 Identifiable intangible assets 1,530 In-process research and development 110 Other noncurrent assets 34 Accounts payable and accrued expenses (539) Deferred tax liabilities, net (177) Total identifiable net assets 2,601 Goodwill 5,281 Net assets acquired $7,882 As of the acquisition date, the fair value of receivables, inventories, property and equipment, accounts payable and accrued expenses approximated thebook value acquired.Identifiable intangible assets consist of developed technology of $800 and customer relationships of $730. The Company used a relief-from-royaltymethod to value developed technology. The relief-from-royalty method estimates the cost savings that accrue to the owner of an intangible asset that wouldotherwise be payable as royalties or license fees on revenue earned through the use of the asset. The royalty rate used is based on an analysis of licensingagreements related to similar technologies. Revenue is projected over the expected remaining useful life of the developed technology. The market-derived royaltyrate is then applied to estimate the royalty savings. Customer relationships represent future projected revenue that will be derived from sales of products toexisting customers. Developed technology and customer relationships will be amortized on a straight-line method, which approximates the pattern of economicconsumption over their estimated useful lives as follows:Developed technology 4 yearsCustomer relationships 5 yearsThe Company capitalized $110 of IPR&D costs related to the WTI acquisition. Upon completion of the projects, the related IPR&D assets will beamortized over their estimated useful lives. If any of the projects are abandoned, the Company will be required to impair the related IPR&D asset. The fairvalue of the IPR&D was determined using the relief-from-royalty method similar to the process as discussed above. The significant assumptions underlyingthe valuation of IPR&D are: Estimated percent complete 7% Estimated time to complete 6 months Estimated cost to complete $92 Discount rate 32.5% In the third quarter of 2011, the Company abandoned the in-process projects and wrote off the entire IPR&D. 73Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) Goodwill is calculated as the excess of the consideration transferred over the net assets recognized and is attributable to the workforce of the acquiredbusiness and the synergies expected to arise after the Company’s acquisition of WTI. Goodwill is not amortized and is not deductible for tax purposes. At thetime of the acquisition, goodwill was assigned to the Company’s one reporting unit.The Company incurred acquisition costs of $278 which are included in general and administrative expense in the consolidated statement of income forthe year ended December 31, 2010.WTI contributed revenue of $1,359 and pre-tax loss of $869 to the Company for the period from June 30 to December 31, 2010.Pro Forma InformationThe following unaudited pro forma financial information presents a summary of the Company’s consolidated results of operations for the year endedDecember 31, 2010 and the year ended December 31, 2009, assuming the WTI acquisition had been completed as of January 1, 2009: Pro FormaYear EndedDecember 31,2010 Pro FormaYear EndedDecember 31,2009 (unaudited) (unaudited) Revenue $84,316 $60,427 Net income $25,738 $5,838 Net income allocable to common stockholders $5,186 $— Earnings per share—basic $1.02 $— Earnings per share—diluted $0.61 $— The unaudited pro forma consolidated results were prepared using the acquisition method of accounting and are based on the historical financialinformation of the Company and WTI, reflecting the results of operations for the year ended December 31, 2010 and 2009. The unaudited pro formaconsolidated results are not necessarily indicative of what our consolidated results of operations actually would have been had we completed the acquisition asof the beginning of each period presented. In addition, the unaudited pro forma consolidated results do not purport to project the future results of operations ofthe combined company nor do they reflect the expected realization of any cost savings associated with the acquisition.3. Investments in Marketable SecuritiesThe following table summarizes the investments by investment category as of December 31, 2011: Cost GrossUnrealizedGains GrossUnrealizedLosses Fair Value Available-for-sale securities: US treasury securities $24,153 $4 $(1) $24,156 Municipal bonds 40,080 195 (3) 40,272 Corporate notes/bonds 20,150 12 (300) 19,862 Certificate of deposit 1,000 — (2) 998 Variable rate demand notes 1,000 3 — 1,003 Commercial papers 994 1 — 995 Asset backed securities 2,000 — (3) 1,997 Total investments $89,377 $215 $(309) $89,283 74Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) As of December 31, 2011, we had 24 investments that were in an unrealized loss position for less than 12 months. The gross unrealized losses on theseinvestments at December 31, 2011 were due to changes in interest rates and determined to be temporary in nature. The Company reviews the investments toidentify and evaluate investments that have an indication of possible other-than-temporary impairment. Factors considered in determining whether a loss isother-than-temporary include the length of time and extent to which fair value has been less than the cost basis, the financial condition and near-term prospectsof the investee, and the intent and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in market value.The contractual maturities of available-for-sale securities at December 31, 2011 are presented in the following table: Cost Fair Value Due in one year or less $31,578 $31,576 Due between one and five years 57,799 57,707 $89,377 $89,283 4. ConcentrationsFinancial instruments that subject the Company to concentrations of credit risk consist primarily of cash, cash equivalents and trade accountsreceivable. The Company extends differing levels of credit to customers and does not require collateral deposits. As of December 31, 2011 and 2010, theCompany maintained an allowance for doubtful accounts of $68.The following table summarizes the significant customers’ and distributors’ revenue and accounts receivable as a percentage of total revenue and totalaccounts receivable, respectively: Year Ended December 31, 2011 2010 2009 Revenue Customer A 27% 34% 36% Customer B 14 * * Customer C * * * December 31, 2011 2010 Accounts Receivable Customer A 33% 33% Customer B 10 11 Customer C 10 * *Less than 10% of total revenue and accounts receivableCustomer C and another customer are distributors that sell the Company’s products exclusively to an end customer. In the aggregate, revenue to suchend customer, including revenue made through distributors as a percentage of total revenue was 11%, 11% and 17% for the years ended December 31, 2011,2010 and 2009. 75Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) 5. InventoriesInventories consist of the following: December 31, 2011 2010 Raw materials $1,261 $1,028 Work in process 1,910 2,033 Finished goods 2,545 2,034 $5,716 $5,095 Finished goods held by distributors were $473 and $482 as of December 31, 2011 and 2010, respectively.6. Property and Equipment, netProperty and equipment consist of the following: December 31, 2011 2010 Laboratory and production equipment $15,643 $11,882 Office, software and computer equipment 4,277 3,655 Furniture and fixtures 614 729 Leasehold improvements 3,118 2,652 23,652 18,918 Less accumulated depreciation (14,086) (11,712) $9,566 $7,206 Depreciation and amortization expense for the years ended December 31, 2011, 2010 and 2009 was $2,962, $1,640 and $1,291, respectively.As of December 31, 2011 and 2010, laboratory and production equipment includes $397 in assets that have been capitalized under capital leases.Accumulated amortization of equipment under capital leases was $397 and $388 as of December 31, 2011 and 2010, respectively. Amortization expense inconnection with equipment purchased under capital leases was $9, $45 and $70 for the years ended December 31, 2011, 2010 and 2009, respectively.As of December 31, 2011 and 2010, computer software costs included in property and equipment were $1,712 and $1,471, respectively. Amortizationexpense of capitalized computer software costs was $235, $184 and $134 for the years ended December 31, 2011, 2010 and 2009, respectively.7. Goodwill and Identifiable Intangible AssetsThe change in goodwill from December 31, 2010 of $5,847 to December 31, 2011 of $5,875 was due to foreign currency translation. 76Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) The following table presents details of identifiable intangible assets at December 31, 2010: Gross AccumulatedAmortization Net Developed technology $886 $111 $775 Customer relationships 808 81 727 In-process research and development 122 — 122 $1,816 $192 $1,624 During the third quarter of 2011, the Company decided to discontinue the sale of acquired legacy products in Taiwan and as a result, evaluated thecarrying value of long-lived assets of the related asset group, which resulted in impairment of all identifiable intangible assets. The impairment losses werepresented in the statements of operations for the year ended December 31, 2011 as follows: Cost of revenue $654 Research and development 122 Sales and marketing 632 $1,408 Amortization expense for amortizing intangible assets was $224 and $192 for the years ended December 31, 2011 and 2010, respectively.8. Other Long-term LiabilitiesOther long-term liabilities consist of the following: December 31, 2011 2010 Deferred rent $1,988 $1,561 Income tax payable 1,546 1,000 Other — 33 $3,534 $2,594 9. Income TaxesIncome before income taxes consists of the following: Year Ended December 31, 2011 2010 2009 United States $2,395 $12,765 $8,158 Foreign (1,682) (876) — Total $713 $11,889 $8,158 77Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) Income tax expense (benefit) consisted of the following: Year Ended December 31, 2011 2010 2009 Current: U.S. Federal $2,811 $(6,158) $253 U.S. State 1,180 (1,015) 576 Foreign (17) 29 — 3,974 (7,144) 829 Deferred: U.S. Federal (2,396) (4,523) — U.S. State (2,742) (2,427) — Foreign (54) (148) — (5,192) (7,098) — Total $(1,218) $(14,242) $829 Income tax expense (benefit) differed from the amounts computed by applying the U.S. federal income tax rate of 35% to pretax income as a result of thefollowing: Year Ended December 31, 2011 2010 2009 Provision (benefit) at statutory rate $249 $4,161 $2,855 State income taxes 217 1,653 375 Research and development credits (2,672) (2,063) (713) Change in valuation allowance 433 (24,022) (1,964) Foreign earnings, taxed at different rates 670 4,912 — Unrecognized tax benefits 1,153 791 — Stock-based compensation 95 391 — Tax exempt income (135) — — Prior year return to provision adjustment (1,244) — — Other 16 (65) 276 $(1,218) $(14,242) $829 78Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) Significant components of the Company’s net deferred taxes consist of the following: December 31, 2011 2010 Deferred tax assets Net operating loss carry forwards $7,338 $8,051 Research and development credits 7,220 3,788 Stock-based compensation 2,882 1,150 Other temporary differences 1,536 1,666 Total deferred tax assets 18,976 14,655 Deferred tax liabilities Subpart F income on foreign subsidiaries earnings (5,182) (5,635) Amortization and depreciation (1,225) (953) Other — (249) Total deferred tax liabilities (6,407) (6,837) Less: valuation allowance (433) — Deferred tax assets, net $12,136 $7,818 At December 31, 2011 and 2010, the Company has recorded a deferred tax charge of $6,101 and $7,293, respectively, which represents the tax on theintercompany transfer of intangible assets in connection with the Company’s international reorganization during 2010 in accordance with ASC 740-10-25-3.The deferred tax charge is being amortized over the estimated useful life of 8 years to income tax expense.Valuation AllowanceBased on the current trend of operating results and Company forecasts, the Company believes that it is more likely than not that it will recognize thebenefit of its deferred tax assets and no valuation allowance is required as of December 31, 2011 and 2010, except for the deferred tax assets of its Taiwansubsidiary for which a full valuation allowance of $433 was provided at December 31, 2011.The Company recorded a full valuation allowance against its net deferred tax assets at December 31, 2009. In determining the need for a valuationallowance, management reviews all available evidence pursuant to the requirements of ASC 740. The determination of recording or releasing tax valuationallowances is made, in part, pursuant to an assessment performed by management regarding the likelihood that the Company will generate sufficient futuretaxable income against which benefits of the deferred tax assets may or may not be realized. This assessment requires management to exercise significantjudgment and make estimates with respect to the Company’s ability to generate revenue, gross profits, operating income and taxable income in future periods.Amongst other factors, management must make assumptions regarding overall current and projected business and semiconductor industry conditions,operating efficiencies, the Company’s ability to timely develop, introduce and consistently manufacture new products to customers’ specifications, acceptanceof new products, customer concentrations, technological change and the competitive environment which may impact the Company’s ability to generate taxableincome and, in turn, realize the value of the deferred tax assets. Significant cumulative operating losses in 2008 and prior years, uncertainty with respect to theacceptance of the Company’s products by end customers and significant economic uncertainties in the market made the Company’s ability to project futuretaxable income highly uncertain and volatile at December 31, 2009. Although 2009 was the Company’s first profitable year, only the last three quarters of theyear were profitable and the vast majority of 79Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) the Company’s pre-tax income was generated in the last two quarters of the year. Based upon management’s assessment of all available evidence, including arelatively short period of recent profitability, coupled with significant uncertainties associated with the Company’s 2010 business outlook, the Companyconcluded as of December 31, 2009, that it was not more likely than not that its net deferred tax assets would be realized.In March 2010, the Company received its first substantial quantity of production orders for a new low voltage product, which was a new low voltageversion of the Company’s integrated PLL and register buffer. This new low voltage product is currently in commercial production and is shipping in volume.The arrival of these production orders from one of the Company’s largest customers reduced concerns and increased confidence in the strength of theCompany’s business outlook for the balance of 2010. In addition, certain other new product introductions began to gain traction with customers, providingadditional confidence in the Company’s longer term outlook. The Company also achieved further clarity around certain contingencies related to ongoinglitigation and certain other product acceptance concerns that existed at December 31, 2009. Furthermore, during the first quarter of 2010 the Companyunexpectedly received additional orders for an older product that allowed the Company to exceed its overall plan for the quarter and continue the recent trend ofprofitability into the first quarter of 2010. At its April 30, 2010 meeting, based on a review of the positive developments that materialized in the first quarter of2010, the Company’s Board of Directors decided to authorize management to retain investment bankers and proceed with plans to pursue a potential initialpublic offering. Based on these positive developments and an additional quarter of profitable operation, management reassessed the need for a valuationallowance at March 31, 2010 and concluded that a change in circumstances had occurred. Management determined that, based on the Company’s prospectsand business outlook, it was reasonable to conclude that it is more likely than not that the Company’s deferred tax assets will be realized. Accordingly, theCompany released the full valuation allowance recorded against its deferred tax assets $24,022 based on the weight of positive evidence that existed atMarch 31, 2010. Significant judgment is required to determine the timing and extent of a valuation allowance release and the Company’s ability to utilizedeferred tax assets will continue to be dependent on the ability to generate sufficient taxable income in future periods.The valuation allowance increased $433 in the year ended December 31, 2011 for the Taiwan subsidiary, and decreased $24,022 for the year endedDecember 31, 2010.General Income Tax DisclosuresThe Company has net operating loss (“NOL”) carryforwards for federal and state income tax purposes of approximately $12,936 and $41,542,respectively at December 31, 2011 that will begin to expire in 2022 for federal income tax purposes and in 2016 for state income tax purposes. The Companyhas additional federal and state NOL carryover of $21,645 and $11,237, respectively, arising from an excess stock option deduction for 2011 that was notrecognized in the financial statements. These excess stock option compensation benefits will be credited to additional paid-in capital when it reduces currentincome tax liability. At December 31, 2011, the Company has NOL carryforwards of $2,338 for its Taiwan subsidiary which begin to expire in 2019, and$522 for the Singapore subsidiary, which do not expire. A full valuation allowance has been provided on NOL carryforwards for the Taiwan subsidiary.At December 31, 2011, the Company also has federal and state research and development (“R&D”) tax credit carryforwards of $5,235 and $5,829,respectively. The federal tax credits will begin to expire in 2026, unless previously utilized. The state tax credits do not expire.Pursuant to Internal Revenue Code sections 382 and 383, use of the Company’s NOL and R&D credits generated prior to June 2004 are subject to anannual limitation due to a cumulative ownership percentage change 80Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) that occurred in that period. The Company has had two changes in ownership, one in December 2000 and the second in June 2004, that resulted in an annuallimitation on NOL and R&D credit utilization. The NOL and R&D credit carryforward which will expire unused due to annual limitation is not recognizedfor financial statement purposes and is not reflected in the above carryover amounts.The Company recorded a benefit of $1,244 to its 2011 income tax provision for a prior year return to provision adjustment, which primarily relates toCalifornia state income taxes. The Company files an income tax return in California the laws of which generally require the results of all affiliated companies,both domestic and foreign, that are engaged in a unitary business to be included in the California return (i.e., worldwide combined reporting basis). However,California law also provides that a California company may make a so-called “Water’s Edge” election which limits the results included in the combinedreporting to only the companies that are subject to tax in the United States. Once a California Water’s Edge election is made with a timely filed California taxreturn, the filing Company is required to file using the Water’s Edge for seven years. 2010 was the first year the Company was subject to the Californiaworldwide combined reporting method. As of December 31, 2010, the Company intended to make the Water’s Edge election with the 2010 California incometax return and recorded its 2010 state income tax expense based upon this method. However, in October 2011, the Company filed its 2010 California tax returnon a worldwide combined reporting basis rather than making the Water’s Edge election. The Company’s decision to file its 2010 California income tax returnon a worldwide combined reporting basis was a result of information and circumstances arising in 2011 surrounding expectations of future taxable incomeunder each filing election.The Company operates under tax holiday in Singapore, which is effective through May 2020. The tax holiday is conditional upon meeting certainemployment, activities and investment thresholds. The impact of the Singapore tax holiday decreased Singapore taxes by $95 for 2011 and was not materialfor 2010.The following table summarizes the changes in gross unrecognized tax benefits: Year Ended December 31, 2011 2010 2009 Balance as of January 1 $2,985 $1,283 $1,057 Increases based on tax positions related to the current year 1,239 1,438 226 Decreases based on tax positions of prior year (92) 264 — Balance as of December 31 $4,132 $2,985 $1,283 As of December 31, 2011, the Company had approximately $4,132 of unrecognized tax benefits, $3,350 of which, if recognized, would affect theeffective income tax rate. The Company does not expect any significant increases or decreases to its unrecognized tax benefits within the next 12 months.The Company recognizes interest and penalties related to unrecognized tax benefits as a component of income tax expense. The Company recognized nointerest or penalties during the years ended December 31, 2011, 2010 and 2009 as the prior year’s unrecognized tax benefits reduce tax attributes that have notyet been utilized on the Company’s tax return.The Company files income tax returns in the U.S. federal jurisdiction, state of California and certain foreign jurisdictions. The Company is no longersubject to U.S. federal income tax examinations for tax years ended on or before December 31, 2007 or to California state income tax examinations for tax yearsended on or before December 31, 2006. However, to the extent allowed by law, the tax authorities may have the right to examine prior periods where netoperating losses or tax credits were generated and carried forward, and make adjustments up to the amount of the net operating loss or credit carryforward. 81Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) The Company does not provide for U.S. income taxes on undistributed earnings of its controlled foreign corporations that are intended to be investedindefinitely outside the United States. At December 31, 2011, the Company’s foreign subsidiaries had an accumulated deficit. However, no U.S. deferred taxasset was recorded for the accumulated deficit as it was not apparent as of December 31, 2011, that such deferred tax asset would reverse in the foreseeablefuture.10. Earnings Per ShareThe following shows the computation of basic and diluted earnings per share: Year Ended December 31, 2011 2010 2009 Numerator Net income $1,931 $26,131 $7,329 Less amount allocable to preferred stockholders — (20,805) (7,193) Less amount allocable to unvested early exercised options andunvested restricted stock award (1) (86) (6) Net income allocable to common stockholders—basic and diluted $1,930 $5,240 $130 Denominator Weighted average common stock 26,820,662 5,137,029 1,671,565 Less weighted average unvested common stock subject torepurchase and unvested restricted stock award (21,425) (50,860) (2,689) Weighted average common stock—basic 26,799,237 5,086,169 1,668,876 Effect of potentially dilutive securities: Add options to purchase common stock 2,547,945 3,425,528 1,103,828 Add unvested restricted stock unit 9,442 — — Add warrants to purchase common stock 10,799 34,840 12,573 Weighted-average common stock—diluted 29,367,423 8,546,537 2,785,277 Earnings per share Basic $0.07 $1.03 $0.08 Diluted $0.07 $0.61 $0.05 Net income has been allocated to the common stock, convertible participating preferred stock before conversion to common stock, unvested earlyexercised options and unvested restricted stock award based on their respective rights to share in dividends. 82Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) The following securities were not included in the computation of diluted earnings per share as inclusion would have been anti-dilutive: Year Ended December 31, 2011 2010 2009 Convertible preferred stock — 12,776,077 14,481,699 Common stock options 965,266 938,691 2,145,688 Warrant to purchase redeemable convertible preferred stock — — 17,187 Unvested early exercised options — 32,872 2,689 Unvested restricted stock award and restricted stock unit 410,981 17,987 — 1,376,247 13,765,627 16,647,263 11. WarrantsIn connection with various financing agreements, the Company issued warrants to purchase common stock and preferred stock. In November 2010,upon completion of the initial public offering, all preferred stock warrants were converted to common stock warrants. As of December 31, 2010, there were2,142 and 38,571 outstanding common stock warrants with exercise prices of $3.42 and $1.54 per share, respectively. As of December 31, 2011, there were2,142 outstanding common stock warrants with an exercise price of $3.42.12. Stock Based CompensationIn 2000, the Company adopted the 2000 Stock Option/Stock Issuance Plan (the “2000 Plan”). Under the provisions of the 2000 Plan, employees, outsidedirectors, consultants and other independent advisors who provide services to the Company may be issued incentive and non-qualified stock options topurchase common stock or may be issued shares of common stock directly. The Board of Directors is authorized to administer the 2000 Plan and establish thestock option terms, including the exercise price and vesting period. Options granted under the plan may have varying vesting schedules; however, optionsgenerally vest 25% upon completion of one year of service and thereafter in 36 equal monthly installments. Options granted are immediately exercisable andthe shares issued upon exercise of the option are subject to a repurchase right held by the Company. The repurchase price under the repurchase right is theoriginal exercise price and the right lapses in accordance with the option-vesting schedule. As of December 31, 2011, there were no unvested shares outstandingsubject to the Company’s right of repurchase. There were 32,875 unvested shares subject to the Company’s repurchase right as of December 31, 2010. Theproceeds received from the unvested early exercise of options are presented in the balance sheet as liabilities and subsequently classified to equity based on thevesting schedule. The vesting of certain options granted or shares issued under the 2000 Plan is subject to acceleration of vesting upon the occurrence of certainevents as defined in the 2000 Plan.Under the 2000 Plan, the exercise price, in the case of an incentive stock option, can-not be less than 100%, and in the case of a nonqualified stockoption, not less than 85%, of the fair market value of such shares on the date of grant. The term of the option is determined by the Board but in no case canexceed 10 years.In June 2010, the Board of Directors approved the Company’s 2010 Stock Incentive Plan (the “2010 Plan”), which became effective in November 2010.Upon completion of the Company’s initial public offering, shares originally reserved for issuance under the 2000 Plan but which were not issued or subject tooutstanding grants 83Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) on the effective date of the 2010 Plan, and shares subject to outstanding options or forfeiture restriction under the 2000 Plan on the effective date of the 2010Plan that are subsequently forfeited or terminated before being exercised, become available for awards under the 2010 Plan, up to 428,571 shares. The 2010Plan provides for the grants of restricted stock, stock appreciation rights and stock unit awards to employees, non-employee directors, advisors andconsultants. The Board of Directors administers the 2010 Plan, including the determination of the recipient of an award, the number of shares subject to eachaward, whether an option is to be classified as an incentive stock option or nonstatutory option, and the terms and conditions of each award, including theexercise and purchase prices and the vesting or duration of the award. Options granted under the 2010 Plan are exercisable only upon vesting. At December 31,2011, 2,319,832 shares of common stock have been reserved for future grants under the 2010 Plan.Stock Option AwardsThe fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted averageassumptions: Year Ended December 31, 2011 2010 2009 Risk-free interest rate 2.66% 2.99% 2.67% Expected life (in years) 6.41 6.42 6.25 Dividend yield — — — Expected volatility 50% 60% 68% The following table summarizes information regarding options outstanding: Number ofShares WeightedAverageExercisePrice PerShare WeightedAverageRemainingContractualLife AggregateIntrinsicValue Outstanding at December 31, 2010 6,672,249 3.85 6.88 $108,369 Granted 774,465 20.23 Exercised (2,640,853) 1.71 Canceled (546,755) 9.00 Outstanding at December 31, 2011 4,259,106 $7.50 7.21 $25,168 Exercisable at December 31, 2011 3,528,641 $4.91 6.77 $25,042 Vested at December 31, 2011 2,160,070 $3.24 5.96 $18,897 Vested and expected to vest at December 31, 2011 4,202,984 $7.40 7.19 $25,085 The intrinsic value of options outstanding, exercisable and vested and expected to vest is calculated based on the difference between the exercise price andthe fair value of the Company’s common stock as of the respective balance sheet dates.The total fair value of employee options vested during the years ended December 31, 2011 and 2010 was $3,101 and $887, respectively. 84Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) The weighted average grant date fair value per share of stock options granted to employees during the year ended December 31, 2011 and 2010 was$10.54 and $5.79, respectively.The total intrinsic value of options exercised during the years ended December 31, 2011 and 2010 was $45,613 and $3,247, respectively. The intrinsicvalue of exercised options is calculated based on the difference between the exercise price and the fair value of the Company’s common stock as of the exercisedate. Cash received from the exercise of stock options was $4,505 and $485, respectively, for the years ended December 31, 2011 and 2010.Restricted Stock Units and AwardsThe Company granted restricted stock units and awards to members of the Board of Directors and employees. Most of the Company’s outstandingrestricted stock units vest over four years with vesting contingent upon continuous service. The Company estimates the fair value of restricted stock units andawards using the market price of the common stock on the date of the grant. The fair value of these awards is amortized on a straight-line basis over thevesting period.The following table summarizes information regarding outstanding restricted stock units: Number ofShares WeightedAverageGrant DateFair ValuePer Share Outstanding at December 31, 2010 — $— Granted 776,056 20.66 Vested (12,500) 22.07 Canceled (37,000) 21.75 Outstanding at December 31, 2011 726,556 20.58 Expected to vest at December 31, 2011 691,210 As of December 31, 2010, the Company had 35,355 outstanding nonvested restricted stock awards, 13,930 of which vested during the year endedDecember 31, 2011 resulting to 21,425 nonvested restricted stock awards outstanding as of December 31, 2011.Stock-Based Compensation ExpenseStock-based compensation expense is included in the Company’s results of operations as follows: Year Ended December 31, 2011 2010 2009 Cost of revenue $315 $107 $31 Research and development 3,214 1,381 475 Sales and marketing 2,054 526 238 General and administrative 1,609 691 421 $7,192 $2,705 $1,165 85Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) As of December 31, 2011, total unrecognized compensation cost related to unvested stock options and awards at December 31, 2011, prior to theconsideration of expected forfeitures, was approximately $23,627, which is expected to be recognized over a weighted-average period of 3.03 years.Employee Stock Purchase PlanIn December 2011, the Company adopted the Employee Stock Purchase Plan (“ESPP”). Participants purchase the Company’s stock using payrolldeductions, which may not exceed 15% of their total cash compensation. Pursuant to the terms of the ESPP, the “look-back” period for the stock purchaseprice is six months. Offering and purchase periods will begin on February 10 and August 10 of each year. Participants will be granted the right to purchasecommon stock at a price per share that is 85% of the lesser of the fair market value of the Company’s common shares at the beginning or the end of each six-month period.The ESPP imposes certain limitations upon an employee’s right to acquire common stock, including the following: (i) no employee shall be granted aright to participate if such employee immediately after the election to purchase common stock, would own stock possessing 5% or more to the total combinedvoting power or value of all classes of stock of the Company, and (ii) no employee may be granted rights to purchase more than $25 fair value of commonstock for each calendar year. The maximum aggregate number of shares of common stock available for purchase under the ESPP is one million shares. Therewas no common stock issued under the ESPP in 2011 as the first offering period under the ESPP commence in February 2012.13. Employee Benefit PlanThe Company has established a 401(k) tax-deferred savings plan (the “Plan”) which permits participants to make contributions by salary deductionpursuant to Section 401(k) of the Internal Revenue Code of 1986, as amended. The Company may, at its discretion, make matching contributions to the Plan.Furthermore, the Company is responsible for administrative costs of the Plan. The Company has not made contributions to the Plan since its inception.14. Fair Value MeasurementsThe guidance on fair value measurements requires fair value measurements to be classified and disclosed in one of the following three categories:Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;Level 2: Quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially the full term of theasset or liability, orLevel 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported bylittle or no market activity).The Company measures its investments in marketable securities at fair value using the market approach which uses prices and other relevantinformation generated by market transactions involving identical or comparable assets or liabilities. The Company has cash equivalents which consist ofmoney market funds valued using the amortized cost method, in accordance with Rule 2a-7 under the 1940 Act which approximates fair value. 86Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) The following table presents information about assets and liabilities required to be carried at fair value on a recurring basis as of December 31, 2011: Total Level 1 Level 2 Assets Cash equivalents: Money market funds $12,640 $— $12,640 Investment in marketable securities: US treasury securities 24,156 24,156 — Municipal bonds 40,272 — 40,272 Corporate notes/bonds 19,862 — 19,862 Certificate of deposit 998 — 998 Variable rate demand notes 1,003 — 1,003 Commercial papers 995 — 995 Asset backed securities 1,997 — 1,997 $101,923 $24,156 $77,767 As of December 31, 2010, cash equivalents of $80,017, consist mainly of money market funds which are valued using the amortized cost method, inaccordance with Rule 2a-7 under the 1940 Act which approximates fair value. Cash equivalents as of December 31, 2010 are categorized as Level 2.15. Segment and Geographic InformationThe Company operates in one reportable segment. The Company’s Chief Executive Officer, who is considered to be the chief operating decision maker,manages the Company’s operations as a whole and reviews consolidated financial information for purposes of evaluating financial performance and allocatingresources. Revenue by region is classified based on the locations to which the product is transported, which may differ from the customer’s principal offices.The following table sets forth the Company’s revenue by geographic region: Year Ended December 31, 2011 2010 2009 Korea $14,421 $14,319 $18,307 United States 16,791 13,528 10,727 China 23,378 29,238 9,924 Other 24,707 26,108 19,894 $79,297 $83,193 $58,852 As of December 31, 2011, $2,837 of long-lived tangible assets are located outside the United States of which $2,374 are located in Taiwan. As ofDecember 31, 2010, $1,280 of long-lived tangible assets are located outside the United States of which $864 are located in Taiwan.16. Commitments and ContingenciesLeasesThe Company leases its facility and certain equipment under noncancelable lease agreements expiring in various years through 2016. The Companyalso licenses certain software used in its research and development activities under a term license subscription and maintenance arrangement. 87Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) Future minimum lease payments under noncancelable operating leases having initial terms in excess of one year are as follows: December 31, 2011 2012 $3,718 2013 3,918 2014 1,792 2015 1,038 2016 768 $11,234 For the years ended December 31, 2011, 2010 and 2009, lease operating expense was $3,445, $3,272 and $2,811, respectively.Noncancelable Purchase ObligationsThe Company’s noncancelable purchase obligations consisted primarily of license and consulting fees the Company committed to pay under severalagreements. As of December 31, 2011, the Company’s future noncancelable purchase obligations are as follows: December 31, 2011 2012 $750 Legal ProceedingsNetlist, Inc. v. Inphi Corporation, Case No. 09-cv-6900 (C.D. Cal.)On September 22, 2009, Netlist filed suit in the United States District Court, Central District of California, or the Court, asserting that the Companyinfringes U.S. Patent No. 7,532,537. Netlist filed an amended complaint on December 22, 2009, further asserting that the Company infringes U.S. PatentNos. 7,619,912 and 7,636,274, collectively with U.S. Patent No. 7,532,537, the patents-in-suit, and seeking both unspecified monetary damages to bedetermined and an injunction to prevent further infringement. These infringement claims allege that the Company’s iMB™ and certain other memory modulecomponents infringe the patents-in-suit. The Company answered the amended complaint on February 11, 2010 and asserted that the Company does notinfringe the patents-in-suit and that the patents-in-suit are invalid. In 2010, Company filed inter partes requests for reexamination with the United StatesPatent and Trademark Office (the “USPTO”), asserting that the patents-in-suit are invalid.On August 27, 2010, the USPTO ordered the request for Inter Partes Reexamination for U.S. Patent No. 7,636,274 and found a substantial newquestion of patentability based upon each of the different issues that the Company raised as the reexamination requestor. On September 27, 2011, the PatentOffice issued a First Office Action based on the Netlist ‘274 Patent Reexamination Request and rejected 91 of its 97 claims. On October 27, 2011, Netlistresponded to the USPTO determination by amending some but not all of the claims, adding new claims and making arguments as to the validity of therejected claims in view of the cited references. The Company provided rebuttable comments to the USPTO on November 28, 2011. The proceeding is expectedto continue in accordance with established Inter Partes Reexamination procedures, with a further communication from the USPTO expected as the nextsubstantive step. 88Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) On September 8, 2010, the USPTO ordered the request for Inter Partes Reexamination for U.S. Patent No. 7,532,537 and found a substantial newquestion of patentability based upon different issues that the Company raised as the reexamination requestor. The USPTO accompanied this ReexaminationOrder of U.S. Patent No. 7,532,537 with its own evaluation of the validity of this patent, and rejected some but not all of claims. In a response datedOctober 8, 2010, Netlist responded to the USPTO determination by amending some but not all of the claims, adding new claims and making arguments as towhy the claims were not invalid in view of the cited references. The Company provided rebuttable comments to the USPTO on November 8, 2010 along witha Petition requesting an increase in the number of allowed pages of the rebuttable comments. On January 20, 2011, the USPTO granted the Petition in part.The Company then filed updated rebuttal comments on January 27, 2011 in compliance with the granted Petition. The USPTO has considered these updatedrebuttal comments, and in a communication dated June 15, 2011, continued to reject all the previously rejected claims. The USPTO also rejected all theclaims newly added in the October 8, 2010 Netlist response. In a further communication dated June 21, 2011, the USPTO issued an Action ClosingProsecution indicating that it would confirm the patentability of four claims and reject all the other pending claims. On August 22, 2011, Netlist responded tothe Action Closing Prosecution by further amending some claims and making arguments as to the validity of the rejected claims in view of the cited references.The Company submitted rebuttal comments on September 21, 2011. In a further communication dated February 7, 2012, the USPTO issued a Right ofAppeal Notice, which also indicated that the previous amendments to claim made by Netlist would be entered, and that the current pending claims, asamended, were patentable. The proceeding is expected to continue in accordance with established Inter Partes Reexamination procedures, with the parties beingable to file a notice of appeal as the next substantive step.On September 8, 2010, the USPTO ordered the request for Inter Partes Reexamination for U.S. Patent No. 7,619,912 and found a substantial newquestion of patentability based upon different issues that the Company raised as the reexamination requestor. The USPTO accompanied this ReexaminationOrder of U.S. Patent No. 7,619,912 with its own evaluation of the validity of this patent, and initially determined that all of the claims were patentable basedupon the Company’s request for Inter Partes Reexamination. Netlist did not comment upon this Reexamination Order. The USPTO on February 28, 2011also merged the Proceedings of the Company’s Reexamination of U.S. Patent No. 7,619,912, bearing Control No. 90/001,339 with Inter Partes ReexaminationProceeding 95/000,578 filed October 20, 2010 on behalf of SMART Modular Technologies, Inc. and Inter Partes Reexamination Proceeding 95/000,579 filedOctober 21, 2010 on behalf of Google, Inc. In each of these other Reexamination Proceedings, the USPTO had indicated that there existed a substantial newquestion of patentability with respect to certain claims of U.S. Patent No. 7,619,912, but had not accompanied the Reexamination Orders related thereto withits own evaluation of the validity of this patent, indicating that such evaluation would be forthcoming at a later time. This further evaluation was received inan Office Action dated April 4, 2011, in which the Examiner rejected a substantial majority of the claims based upon a number of different rejections,including certain of the rejections originally proposed by the Company in its Request for Reexamination. This Office Action also indicated that one claim wasdeemed to be patentable over the prior art of record in the merged Reexamination Proceedings. After seeking and obtaining an extension of time to respond to theOffice Action dated April 4, 2011, Netlist served its response on July 5, 2011, which added new claims and made arguments as to why the originally filedclaims were not invalid in view of the cited references. Each of the merged Reexamination Requestors, including the Company, submitted rebuttal commentsby August 29, 2011. The USPTO considered this Netlist response and each of the rebuttal comments, and in an Office Action dated October 14, 2011,continued to reject most, but not all of the previously rejected claims, as well as rejected claims that had been added by Netlist in its July 5, 2011 response.After seeking and obtaining an extension of time to respond to the Office Action dated October 14, 2011, Netlist served its response on January 13, 2012,which response made amendments based upon subject matter that had been indicated as allowable in the Office Action dated October 14, 2011, added othernew claims and made arguments as to why all of these claims should 89Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) be allowed. Two of the three merged Reexamination Requestors, including the Company, submitted rebuttal comments on February 13, 2012. The mergedReexamination Proceeding will be conducted in accordance with established procedures for merged Reexamination Proceedings, with the last of the mergedReexamination Requestors submitting its rebuttal comments, and then a further communication from the USPTO expected as the next substantive steps.The reexamination proceedings could result in a determination that the patents-in-suit, in whole or in part, are valid or invalid, as well as modificationsof the scope of the patents-in-suit.A third party, Sanmina-SCI Corporation, or SSC, has also requested interference proceedings with the USPTO with respect to each of the patents-in-suit. In its April 21, 2010 Request for Continued Examination of U.S. Application No. 11/142,989 (“SSC ‘989 patent application”), SSC asserted that ithas priority to the inventions claimed by the patents-in-suit and should be granted rights to those inventions. The Company has entered into an agreement withSSC for a non-exclusive license to those rights, if any, that SSC may obtain to the inventions claimed by the patents-in-suit if the USPTO agrees to commenceinterference proceedings and if SSC prevails in those proceedings.The USPTO, in a communication dated July 7, 2010, acknowledged that claims were submitted in a filing made in the SSC ‘989 patent application toinvoke an Interference with each of the patents-in-suit, but has declined to declare an Interference at this time. The July 7, 2010 USPTO communicationrejected the claims submitted to invoke the Interference based upon 35 USC 112, with the rejection asserting that these claims contain “subject matter whichwas not described in the specification in such a way as to reasonably convey to one skilled in the relevant art that the inventor(s), at the time the applicationwas filed, had possession of the claimed invention.” SSC responded to this USPTO communication on December 24, 2010 and provided an updated responseon March 23, 2011 to comply with formalities noted by the USPTO. The USPTO, in a communication dated June 8, 2011, continued to reject the claimssubmitted to invoke the interference based upon the previously made rejections. SSC responded to this USPTO communication on December 8, 2011 andcurrently awaits further correspondence from the USPTO.In connection with the reexamination requests and the interference proceedings, the Company also filed a motion to stay proceedings with the Court,which was granted on May 18, 2010, whereby the Court stayed the proceedings until at least February 14, 2011, requested that Netlist notify the Court withinone week of any action taken by the USPTO in connection with the reexamination or interference proceedings, and requested that the parties file papers byJanuary 31, 2011 stating their position on whether the stay should be extended. The Company filed its paper on January 31, 2011 stating the reasons itbelieved the stay should be maintained and Netlist, having been given leave to file its paper later, filed its paper on February 21, 2011. Based on these papersthe Court ordered a continued stay of the proceedings until at least February 24, 2012, and requested that the parties file papers by January 30, 2012 statingtheir position on whether the stay should be extended, and continued the request that Netlist notify the Court within one week of any action taken by theUSPTO in connection with the reexamination or interference proceedings. Each of the parties filed its paper on January 30, 2012 stating its positions withrespect to the stay, and based on these papers the Court ordered a continued stay of the proceedings until the conclusion of the reexamination and interferenceproceedings, and in the meantime requested that the parties file papers by January 30, 2013 stating their position on whether the stay should be extended. Atthis time, the Court could decide to maintain or lift the stay.While the Company intends to defend the lawsuit vigorously, litigation, whether or not determined in the Company’s favor or settled, could be costlyand time-consuming and could divert management’s attention and resources, which could adversely affect the Company’s business. 90Table of ContentsInphi CorporationNotes to Consolidated Financial Statements—(Continued)(Dollars in thousands except share and per share amounts) The Company is unable to assess the possible outcome of this matter. However, because of the nature and inherent uncertainties of litigation, should theoutcome of this action be unfavorable, the Company’s business, financial condition, results of operations or cash flows could be materially and adverselyaffected.IndemnificationsIn the ordinary course of business, the Company may provide indemnifications of varying scope and terms to customers, vendors, lessors, investors,directors, officers, employees and other parties with respect to certain matters, including, but not limited to, losses arising out of the Company’s breach ofsuch agreements, services to be provided by the Company, or from intellectual property infringement claims made by third-parties. These indemnificationsmay survive termination of the underlying agreement and the maximum potential amount of future payments the Company could be required to make underthese indemnification provisions may not be subject to maximum loss clauses. The Company has not incurred material costs to defend lawsuits or settleclaims related to these indemnifications. As a result, the Company believes the estimated fair value of these agreements is immaterial. Accordingly, theCompany has no liabilities recorded for these agreements as of December 31, 2011 and 2010.17. Related Party TransactionsThe Company recognized $27,940 and $21,235 in revenue for the years ended December 31, 2010 and 2009, respectively, from an investor. Thereceivable balance from the investor as of December 31, 2010 was $3,386. The investor, together with associated entities, held over 13% of the Company’soutstanding shares of common stock before the initial public offering. After the initial public offering in November 2010, the investor, together with associatedentities, held less than 10% of the Company’s outstanding shares of common stock. As a result of the decline in ownership below 10% of the outstandingcommon stock, the Company no longer considers the investor a related party.In 2007, the Company entered into a software subscription and maintenance agreement with Cadence Design Systems, Inc. (“Cadence”), a related partycompany. A member of the Company’s Board of Directors is also the Chief Executive Officer, President and a director of Cadence. The Company committedto pay $7,000 payable in 16 quarterly payments through May 2011. In December 2010, the software subscription and maintenance agreement was renewedeffective June 30, 2011. Under the new agreement, the Company committed to pay $5,250 payable in 10 quarterly payments through November 2013. TheCompany paid $2,300 and $2,100 in the years ended December 31, 2011 and 2010, respectively. Operating lease expense related to this agreement included inresearch and development expense was $2,083 and $1,750 for the years ended December 31, 2011 and 2010, respectively.18. Subsequent EventsIn January 2012, the Board of Directors granted 560,250 options to purchase shares of common stock with an exercise price of $12.34 and 554,850restricted stock units to employees with a fair value of $12.34. In addition, on February 1, 2012, the Company hired Ford Tamer as the President and ChiefExecutive Officer of the Company upon the retirement of Young Sohn. The Board of Directors granted the incoming President and Chief Executive Officer ofthe Company 557,645 options to purchase shares of common stock with an exercise price of $14.80 and 278,822 restricted stock units with a fair value of$14.80. 91Table of ContentsSupplementary Financial Information (Unaudited)Quarterly Results of Operations Year Ended December 31, 2011 Mar. 31,2011 Jun. 30,2011 Sept. 30,2011 Dec. 31,2011 (in thousands, except per share amounts) Total revenue $21,504 $24,001 $16,482 $17,310 Gross profit 14,117 15,543 9,909 11,041 Net income (loss) 2,400 2,443 (2,631) (281) Basic earnings per share 0.09 0.09 (0.10) (0.01) Diluted earnings per share 0.08 0.08 (0.10) (0.01) Year Ended December 31, 2010 Mar. 31,2010 Jun. 30,2010 Sept. 30,2010 Dec. 31,2010 (in thousands, except per share amounts) Total revenue $19,086 $21,099 $21,862 $21,146 Gross profit 11,899 13,755 14,307 13,794 Net income 11,999 7,578 3,579 2,975 Basic earnings per share 0.65 0.37 0.11 0.20 Diluted earnings per share 0.26 0.14 0.05 0.11 (1)Net income for the quarters ended March 31, 2010, June 30, 2010, September 30, 2010 and December 31, 2010, included the releases and reversals ofvaluation allowance of $10.1 million, $6.9 million, $4.4 million and $2.6 million, respectively. 92(1)Table of ContentsITEM 9—CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURENone.ITEM 9A—CONTROLS AND PROCEDURES(a) Evaluation of disclosure controls and procedures. We maintain “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) under the Securities Exchange Act 1934, or the Exchange Act (as amended), that are designed to provide reasonable assurance that information required tobe disclosed by us in reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified inthe Securities and Exchange Commission’s rules and forms and that such information is accumulated and communicated to our management, including ourChief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluatingthe disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide onlyreasonable, not absolute, assurance that the objectives of the disclosure controls and procedures are met. Our disclosure controls and procedures have beendesigned to provide reasonable, not absolute assurance. Additionally, in designing disclosure controls and procedures, our management necessarily wasrequired to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controlsand procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design willsucceed in achieving its stated goals under all potential future conditions.Based on their evaluation as of the end of the period covered by this Annual Report on Form 10-K, our Chief Executive Officer and Chief FinancialOfficer have concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.(b) Management’s Annual Report on Internal Control over Financial Reporting. Our management is responsible for establishing and maintainingadequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Because of its inherent limitations, internal controlover financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the riskthat controls may become inadequate because of changes in conditions, or that the degree of compliance with policies or procedures may deteriorate. Ourmanagement, with the participation of our Chief Executive Officer and Chief Financial Officer, assessed the effectiveness of our internal control over financialreporting as of December 31, 2011. In making this assessment, our management used the criteria set forth by the Committee of Sponsoring Organizations ofthe Treadway Commission, or COSO, in Internal Control — Integrated Framework. Based on the assessment using those criteria, our managementconcluded that as of December 31, 2011, our internal control over financial reporting was effective. The effectiveness of our internal control over financialreporting as of December 31, 2011 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in theirreport which is included herein.(c) Changes in Internal Control over Financial Reporting. There has been no change in our internal control over financial reporting during our mostrecent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.ITEM 9B—OTHER INFORMATIONNone. 93Table of ContentsPART IIIITEM 10—DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCEThe information required by this item is incorporated by reference from our Proxy Statement to be filed with the Securities and Exchange Commission inconnection with the solicitation of proxies for our 2012 Annual Meeting of Stockholders to be held on May 24, 2012, or Proxy Statement.ITEM 11—EXECUTIVE COMPENSATIONThe information required by this item is incorporated by reference from the information under the captions “Election of Directors –Compensation ofDirectors” and “Executive Compensation” contained in the Proxy Statement.ITEM 12— SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDERMATTERSThe information required by this item is incorporated by reference from the information under the captions “Security Ownership of Certain BeneficialOwners and Management” and “Executive Compensation” contained in the Proxy Statement.ITEM 13—CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCEThe information required by this item is incorporated by reference from the information under the captions “Election of Directors and “CertainRelationships and Related Person Transactions” contained in the Proxy Statement.ITEM 14—PRINCIPAL ACCOUNTANT FEES AND SERVICESThe information required by this item is incorporated by reference from the information under the caption “Ratification of the Appointment ofIndependent Registered Public Accounting Firm—Principal Accountant Fees and Services” contained in the Proxy Statement. 94Table of ContentsPART IVITEM 15—EXHIBITS AND FINANCIAL STATEMENT SCHEDULES 1.Financial Statements. See “Index to Consolidated Financial Statements” under Part II, “Item 8, Financial Statements and Supplementary Data”. (a)Documents filed as part of this report:(1) Financial StatementsReference is made to the Index to Consolidated Financial Statements of Inphi Corporation under Part II, “Item 8, Financial Statements andSupplementary Data”.(2) Financial Statement SchedulesAll financial statement schedules have been omitted because they are not applicable or not required or because the information is includedelsewhere in the Consolidated Financial Statements or the Notes thereto.(3) ExhibitsSee Item 15(b) below. Each management contract or compensatory plan or arrangement required to be filed has been identified. (b)ExhibitsThe exhibits listed in the Exhibit Index below are filed or incorporated by reference as part of this report. (c)Financial Statements and SchedulesReference is made to Item 15(a)(2) above. 95Table of ContentsSIGNATURESPursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereunto duly authorized. INPHI CORPORATIONBy: /s/ Ford Tamer Ford TamerChief Executive Officer(Principal Executive Officer)Date: March 15, 2012POWER OF ATTORNEYKNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Ford Tamer and JohnEdmunds, and each of them, his true and lawful attorneys-in-fact, each with full power of substitution, for him or her in any and all capacities, to sign anyamendments to this report on Form 10-K and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities andExchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact or their substitute or substitutes may do or cause to be done byvirtue hereof.Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of theregistrant and in the capacities and on the dates indicated. Name Title Date/s/ Ford TamerFord Tamer Chief Executive Officer(Principal Executive Officer), President and Director March 15, 2012/s/ John EdmundsJohn Edmunds Chief Financial Officer and Chief Accounting Officer(Principal Financial and Accounting Officer) March 15, 2012/s/ Diosdado P. BanataoDiosdado P. Banatao Chairman of the Board March 15, 2012/s/ Chenming C. HuChenming C. Hu Director March 15, 2012/s/ David J. LaddDavid J. Ladd Director March 15, 2012/s/ Peter J. SimonePeter J. Simone Director March 15, 2012/s/ Sam S. SrinivasanSam S. Srinivasan Lead Director March 15, 2012/s/ Lip-Bu TanLip-Bu Tan Director March 15, 2012 96Table of ContentsEXHIBIT INDEX ExhibitNumber Description2.1 Share Purchase Agreement dated as of May 25, 2010, by and among the Registrant, Winyatek Technology Inc. and the shareholdersignatories thereto, as amended (excluding certain schedules and exhibits referred to in the agreement, which the Registrant agrees to furnish tothe Securities and Exchange Commission upon request) (incorporated by reference to exhibit 2.1 filed with Registration Statement on Form S-1 (File No. 333-167564), as amended).3(i) Restated Certificate of Incorporation of the Registrant (incorporated by reference to exhibit 3(i) of the Registrant’s annual report on Form 10-Kfiled with the SEC on March 7, 2011).3(ii) Amended and Restated Bylaws of the Registrant (incorporated by reference to the exhibit 3(ii).2 filed with Registration Statement on Form S-1(File No. 333-167564), as amended).4.1 Specimen Common Stock Certificate (incorporated by reference to exhibit 4.1 filed with Registration Statement on Form S-1 (File No. 333-167564), as amended).4.2 Amended and Restated Investors’ Rights Agreement dated as of August 12, 2010 (incorporated by reference to exhibit 4.2 of the Registrant’sannual report on Form 10-K filed with the SEC on March 7, 2011).10.1+ Inphi Corporation 2000 Stock Option/Stock Issuance Plan (as amended on June 2, 2010) and related form stock option plan agreements(incorporated by reference to exhibit 10.1 filed with Registration Statement on Form S-1 (File No. 333-167564), as amended).10.2+ Inphi Corporation 2010 Stock Incentive Plan and related form agreements (incorporated by reference to exhibit 10.2 of the Registrant’s annualreport on Form 10-K filed with the SEC on March 7, 2011).10.3+ Form of Indemnification Agreement between the Registrant and its officers and directors (incorporated by reference to exhibit 10.3 filed withRegistration Statement on Form S-1 (File No. 333-167564), as amended).10.4+ Offer letter dated July 14, 2007 between Young K. Sohn and the Registrant, as amended (incorporated by reference to exhibit 10.4 filed withRegistration Statement on Form S-1 (File No. 333-167564), as amended).10.5+ Change of Control and Severance Agreement dated June 8, 2010, by and between Young K. Sohn and the Registrant (incorporated byreference to exhibit 10.5 filed with Registration Statement on Form S-1 (File No. 333-167564), as amended).10.6 Offer letter dated December 10, 2007 between John Edmunds and the Registrant, as amended (incorporated by reference to exhibit 10.6 to filedwith Registration Statement on Form S-1 (File No. 333-167564), as amended).10.7+ Change of Control and Severance Agreement dated June 8, 2010, by and between John Edmunds and the Registrant (incorporated by referenceto exhibit 10.7 filed with Registration Statement on Form S-1 (File No. 333-167564), as amended).10.8+ Offer letter dated October 3, 2007 between Ron Torten and the Registrant, as amended (incorporated by reference to exhibit 10.8 filed withRegistration Statement on Form S-1 (File No. 333-167564), as amended).10.11 Lease Agreement between the Registrant and Santa Clara Towers, L.P. dated as of April 27, 2010 (incorporated by reference to exhibit 10.11filed with Registration Statement on Form S-1 (File No. 333-167564), as amended). 97Table of ContentsExhibitNumber Description10.12 Lease Agreement between the Registrant and LBA Realty Fund III—Company VII, LLC dated as of June 4, 2010 (incorporated by referenceto exhibit 10.12 filed with Registration Statement on Form S-1 (File No. 333-167564), as amended).10.13 Workshop Lease Contract between Winyatek Technology Inc. and Integrated Circuit Solutions Inc. dated as of March 29, 2010(incorporated by reference to exhibit 10.13 filed with Registration Statement on Form S-1 (File No. 333-167564), as amended).10.14** Software License and Maintenance Agreement dated as of June 29, 2007, by and between the Registrant and Cadence Design Systems,Inc. (incorporated by reference to exhibit 10.1 of the Registrant’s Current Report on Form 8-K filed with the SEC on March 28, 2011).10.15 Inphi Corporation Employee Stock Purchase Plan (incorporated by reference to exhibit 99.1 filed with Registration Statement on Form S-8(File No. 333-179270)).21.1 List of Subsidiaries (incorporated by reference to the exhibit of the same number filed with Registration Statement on Form S-1 (File No.333-167564), as amended).23.1 Consent of PricewaterhouseCoopers LLP, independent registered public accounting firm.24.1 Power of Attorney (see page 96 of this report).31.1 Certificate of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350).31.2 Certificate of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350).32.1(1) Certificate of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350).32.2(1) Certificate of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350).101.INS(2) XBRL Instance Document101.SCH(2) XBRL Taxonomy Extension Schema101.CAL(2) XBRL Taxonomy Extension Calculation Linkbase101.DEF(2) XBRL Taxonomy Extension Definition Linkbase101.LAB(2) XBRL Taxonomy Extension Label Linkbase101.PRE(2) XBRL Taxonomy Extension Presentation Linkbase **Confidential treatment requested.+Indicates management contract or compensatory plan. (1)The material contained in Exhibit 32.1 and Exhibit 32.2 is not deemed “filed” with the SEC and is not to be incorporated by reference into any filing ofthe Company under the Securities Act of 1933 or the Securities Exchange Act of 1934, whether made before or after the date hereof and irrespective ofany general incorporation language contained in such filing, except to the extent that the registrant specifically incorporates it by reference. (2)In accordance with Rule 406T of Regulation S-T, the information furnished in these exhibits will not be deemed “filed” for purpose of Section 18 of theExchange Act. Such exhibits will not be deemed to be incorporated by reference into any filing under the Securities Act or Exchange Act. 98EXHIBIT 23.1CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRMWe hereby consent to the incorporation by reference in the Registration Statements on Form S-8 (No. 333-179270 and No. 333-170629) of Inphi Corporation ofour report dated March 15, 2012 relating to the financial statements and the effectiveness of internal control over financial reporting, which appears in thisForm 10-K. /s/ PRICEWATERHOUSECOOPERS LLPSan Jose, CaliforniaMarch 15, 2012EXHIBIT 31.1CHIEF EXECUTIVE OFFICER CERTIFICATIONI, Ford Tamer, certify that:1. I have reviewed this annual report on Form 10-K of Inphi Corporation;2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make thestatements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for theregistrant and have: (a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, toensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is being prepared; (b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles; (c)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recentfiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to theregistrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): (a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonablylikely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and (b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controlover financial reporting. Date: March 15, 2012/s/ Ford TamerFord TamerPresident and Chief Executive Officer(Principal Executive Officer) EXHIBIT 31.2CHIEF FINANCIAL OFFICER CERTIFICATIONI, John Edmunds, certify that:1. I have reviewed this annual report on Form 10-K of Inphi Corporation;2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make thestatements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for theregistrant and have: (a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, toensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is being prepared; (b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles; (c)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recentfiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to theregistrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): (a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonablylikely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and (b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controlover financial reporting. Date: March 15, 2012/s/ John EdmundsJohn EdmundsChief Financial Officer and Chief Accounting Officer(Principal Financial Officer)EXHIBIT 32.1SECTION 906 CERTIFICATION OF CHIEF EXECUTIVE OFFICERI, Ford Tamer, the chief executive officer of Inphi Corporation (the “Company”), certify for the purposes of section 1350 of chapter 63 of title 18 of the UnitedStates Code that, to my knowledge: 1.The Company’s Annual Report on Form 10-K for the period ended December 31, 2011 fully complies with the requirements of Section 13(a) orSection 15(d) of the Exchange Act, and 2.The information contained in the Annual Report fairly presents, in all material respects, the financial condition and results of operations of theCompany. Date: March 15, 2012/s/ Ford TamerFord TamerPresident and Chief Executive Officer(Principal Executive Officer)EXHIBIT 32.2SECTION 906 CERTIFICATION OF CHIEF FINANCIAL OFFICERI, John Edmunds, the chief financial officer of Inphi Corporation (the “Company”), certify for the purposes of section 1350 of chapter 63 of title 18 of theUnited States Code that, to my knowledge: 1.The Company’s Annual Report on Form 10-K for the period ended December 31, 2011 fully complies with the requirements of Section 13(a) orSection 15(d) of the Exchange Act, and 2.The information contained in the Annual Report fairly presents, in all material respects, the financial condition and results of operations of theCompany. Date: March 15, 2012/s/ John EdmundsJohn EdmundsChief Financial Officer and Chief Accounting Officer(Principal Financial Officer)

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