LSI Logic 2006 Annual Report

L S I L O G I C 2006 AND ANNUA L P ROX Y R EPO RT STAT EMEN T LSI Logic is a leading provider of silicon, systems and software building blocks that are used at the core of products that create, store and consume digital information and content. We offer a broad portfolio of capabilities including custom silicon, standard product ICs, host bus and RAID adapters, storage systems, and software applications. Our products enable leading technology companies in the data storage and consumer electronics markets to deliver some of the most advanced and well-known products available today. S E L E C T E D C U S T O M E R S B Y M A R K E T Consumer Daewoo DVN Harmonic Huawei Technologies KXD LG Electronics Lite-On Motorola Philips Electronics PortalPlayer Samsung SanDisk Tandberg Thomson Multimedia Vestel VTech Communications Alcatel Canon Cisco Systems Ericsson Extreme Networks Fujitsu Ltd. Hewlett-Packard Huawei Technologies NEC Nokia Nortel PMC-Sierra Sharp Siemens Sierra Logic Tellabs Xerox Storage Components Accusys Acer Apple Computer Asustek Dell Dot Hill EMC Fujitsu Ltd. FSC Gigabyte Hewlett-Packard Hitachi IBM Infortrend Inspur Intel Inventec Lenovo NCR NEC Network Appliance Quanta Computer Inc. Sun Microsystems Xyratex Storage Systems BlueArc Compagnie Générale de Géophysique Cray Fujitsu Ltd. Huawei Technologies IBM Lenovo Teradata Raytheon Sepaton Silicon Graphics Sun Microsystems L E T T E R T O O U R S H A R E H O L D E R S 2006 Revenue Profiles LSI Logic marked a number of transformational milestones in 2006, beginning the year by celebrating 25 years of innovation and leadership as a broad-based ASIC supplier and ending the year as a market-focused company. Today, we are well positioned to become the leading provider of silicon, systems and software building blocks to customers in the growing markets for data storage and consumer electronics products. We believe that the demand for products that allow enterprises, small businesses and consumers to create, store and access information and digital content will continue to grow rapidly. LSI enables many of these products today through our custom and standard silicon components, storage adapters and systems, and our software offerings. Our ability to sustain meaningful differentiation by leveraging our deep market insight and strong portfolio of intellectual property makes this an attractive opportunity. Storage Systems 38% Semiconductors 62% By Reporting Segment LSI Domino[X] TM architecture garnered the 2007 International Consumer Electronics Show Innovations Design and Engineering Award for Enabling Technologies. Storage Systems 38% Consumer 11% Communications 16% Storage Components 35% By Market Aligning with this opportunity, LSI initiated a strategic shift in March to become more market-driven, focusing on storage and consumer applications where we enjoy a strong product franchise and away from broad-market technology opportunities where we do not. Related to this shift, our EngenioTM storage systems unit became an integral component of our silicon-to-systems strategy, reversing prior plans for an IPO of this business. We also redirected certain investments in non-core areas to support increased development in our chosen markets. This included terminating further development of our RapidChip® platform ASIC technology and the sale of our ZSP digital signal processor unit. Our storage business made significant progress in 2006 toward establishing LSI silicon-to-systems offerings as the de facto standard for powering the leading products of major server, storage systems and storage networking vendors worldwide. Introducing new SAS (Serial Attached SCSI) products in several categories, we achieved a milestone of more than 2 million components shippedto-date by year’s end. Our market-leading 4-gigabit Fibre Channel storage systems enjoyed strong demand throughout the year, while we expanded our offerings with a new range of Fibre Channel and SAS-attached models targeting the growing opportunity for storage in the small and medium business sector. Europe 12% North America 48% Asia Pacific 40% By Geography In 2006, LSI introduced the first easy-to-use, enterprise-class storage systems designed for small-to-medium businesses, incorporating our industry-leading SAS technology. In our consumer business, we introduced new DoMiNo® media processors targeting the high-volume DVD recorder segment and delivered the first standard product based on our ZEVIO TM architecture, which provides a best-in-class solution for the growing opportunities in the eToy and portable $524 $506 $493 $490 navigation device categories. In the second half of 2006, we introduced our new Domino[X]TM architecture, a multi-stream, multi-format media processor designed for the Blu-ray, HD DVD, set-top box and professional markets. Domino[X] earned a coveted award for innovation at the 2007 International Consumer Electronics Show. $476 LSI SAS components enable leading servers, storage systems and adapters, with more than 2 million units shipped to date. Q4 2005 Q1 Q2 Q3 Q4 2006 Revenue In May, LSI took a significant step to transform operations and enable new opportunities by completing the sale of our Gresham, Oregon wafer fabrication facility to ON Semiconductor. Through the adoption of standard high-volume process technologies and a fully-fabless manufacturing model, we anticipate accelerating the delivery of silicon products based on 65 and 45 nanometer process technologies. LSI underwent significant changes in corporate governance in 2006, including the election of Jim Keyes as non-executive chairman, succeeding former nonexecutive chairman Wilf Corrigan, who concluded 25 years of distinguished service to the company in 2006. The board also elected three new members who bring significant market knowledge and management experience in our target markets: former Western Digital CEO Chuck Haggerty; former Intel Capital president John Miner; and Microsoft Greater China CEO Timothy Chen. Financially speaking, 2006 was another solid year for LSI. We achieved a significant improvement in profitability, reduced debt, and recorded strong operating cash flows. Our storage semiconductor revenue grew 14% yearover-year and represented 35% of total revenues. Our storage systems revenue grew 12% year-over-year and achieved a record annual level, representing 38% of total revenues. Sales of storage products combined represented approximately 73% of full-year revenues. The year 2006 also marked a sea change for the company, with the December announcement of our proposed merger with Agere Systems Inc. The combination represents a significant opportunity to create a new, stronger LSI— a more competitive innovator of the enabling technologies that will bring people, information and digital content together in the “always connected” world of today and in the years to come. I anticipate an exciting 2007 as the new LSI continues to transform itself, driving sustainable long-term growth and increased shareholder value as we strengthen our offerings and deepen our customer relationships. $939 (Dollars in millions) $59 $54 $44 $38 $13 Q4 2005 Q1 Q2 Q3 Q4 2006 Net Income (Dollars in millions) 22% 19% 12% 15% 21% 13% 21% 12% 21% 12% Q4 2005 Q1 Q2 2006 Q3 Q4 R&D and SG&A Research and development expenses Selling, general and administrative expenses $1,201 $1,032 $1,268 $1,009 $624 $409 $315 $623 $578 $623 $646 $622 $659 $350 Q4 2005 Q1 Q2 2006 Q3 Q4 Abhi Talwalkar President and Chief Executive Officer LSI Logic Corporation Cash (Dollars in millions) Cash, cash equivalents and short-term investments Long-term debt (including the current portion) Net cash UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K (Mark One) ¥ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Fiscal Year Ended December 31, 2006 n OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to . Commission File No. 1-10317 FINANCIALS LSI LOGIC CORPORATION (Exact name of registrant as specified in its charter) DELAWARE (State or other jurisdiction of incorporation or organization) 94-2712976 (IRS Employer Identification No.) 1621 Barber Lane Milpitas, California 95035 (Address of principal executive offices) (Zip Code) PROXY STATEMENT Registrant’s telephone number, including area code: (408) 433-8000 Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of Each Exchange on Which Registered Common Stock, $0.01 par value Preferred Share Purchase Rights New York Stock Exchange New York Stock Exchange CORPORATE INFORMATION Securities registered pursuant to Section 12(g) of the Act: NONE (Title of class) Act. Act. Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Yes ¥ No n Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Yes n No ¥ Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ¥ No n Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in the definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¥ Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act (check one): Large accelerated Filer ¥ Accelerated Filer n Non-accelerated Filer n Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes n No ¥ The aggregate market value of the voting and non-voting common stock held by non-affiliates of the Registrant as of July 2, 2006 (the last day of the Registrant’s second quarter of 2006), based upon the closing price of the Common Stock on June 30, 2006, as reported on the New York Stock Exchange (the “NYSE”), was approximately $2,852,702,182. Shares of Common Stock held by each executive officer and director and by each person who owns more than 5% of the outstanding Common Stock have been excluded in that such persons may be deemed affiliates. In determining the number of shares held by greater than 5% shareholders, the Registrant used the ownership as of December 31, 2005 shown on their Schedules 13G filed in February 2006. This determination of affiliate status is not necessarily a conclusive determination for other purposes. As of February 23, 2007, the Registrant had 404,414,200 shares of common stock outstanding. DOCUMENTS INCORPORATED BY REFERENCE FINANCIALS Parts of the following document are incorporated by reference into Part III of this Annual Report on Form 10-K: Registrant’s Proxy Statement to be filed for Registrant’s 2007 Annual Meeting of Stockholders to be held on May 10, 2007. FORWARD-LOOKING STATEMENTS This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Actual results could differ materially from those projected in the forward-looking statements as a result of a number of risks and uncertainties, including the risk factors set forth in this Annual Report on Form 10-K. See “Risk Factors” in Part I, Item 1A. Statements made herein are as of the date of the filing of this Form 10-K with the Securities and Exchange Commission and should not be relied upon as of any subsequent date. We expressly disclaim any obligation to update information presented herein, except as may otherwise be required by law. CORPORATE INFORMATION PROXY STATEMENT 2 PART I Item 1. Business General LSI Logic Corporation (together with its subsidiaries collectively referred to as “LSI”, “LSI Logic” or the “Company” and referred to as “we”, “us” and “our”) designs, develops and markets complex, high-performance semiconductors and storage systems. We are a leading provider of silicon-to-system solutions that are used at the core of products that create, store and consume digital information. We offer a broad portfolio of semiconductors, including custom and standard product integrated circuits, for use in consumer applications, high-performance storage controllers, enterprise hard disk controllers and a wide range of communication devices. We also offer external storage systems and software applications for storage area networks. FINANCIALS In 2005, our operations were organized in four markets: communications, consumer products, storage components and storage systems. On March 6, 2006, we announced plans to focus our business growth opportunities in the information storage and consumer markets, increasing associated research and development investments, while redirecting investments from non-core areas and ceasing further development of our RapidChip» product platform. Consistent with our increased focus on storage, in March 2006 we also announced the cancellation of the previously announced initial public offering of our storage systems business, Engenio Information Technologies. In May 2006, we sold our Gresham, Oregon manufacturing facility as part of our strategy to transition to a fabless semiconductor manufacturing model. In November 2006, we acquired StoreAge Networking Technologies Ltd., a privately held company based in Nesher, Israel that provides SAN storage management and multi-tiered data protection software for enterprises. Also in November 2006, we acquired Metta Technology, a privately held company based in Pune, India that develops multimedia system-on-chip technology and related software for consumer electronics products. On December 4, 2006, we announced our proposed merger with Agere Systems Inc. (together with its subsidiaries collectively referred to as “Agere”), as further discussed in the “Recent Developments” section below. The proposed merger with Agere supports our strategy to increase our penetration of the information storage and consumer markets, and also provides us with complementary capabilities and products to more effectively address the enterprise networking market. We operate in two segments — the Semiconductor segment and the Storage Systems segment — in which we offer products and services for a variety of electronic systems applications. Our products are marketed primarily to original equipment manufacturers (“OEMs”) that sell products to our target markets. For the year ended December 31, 2006, revenues from the Semiconductor segment were $1,223.1 million (approximately 62% of total consolidated revenues) and its income from operations was $96.2 million. In the Semiconductor segment, we use advanced process technologies and comprehensive design methodologies to design, develop, manufacture and market highly complex integrated circuits (“ICs”). These system-on-a-chip solutions include both custom solutions and standard products. Custom solutions are designed for a specific application defined by the customer, whereas standard products are developed for market applications that we define and are sold to multiple customers. See also “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 of Part II. For the year ended December 31, 2006, revenues from the Storage Systems segment were $759.0 million (approximately 38% of total consolidated revenues) and its income from operations was $62.1 million. In the Storage Systems segment, we design, manufacture and sell enterprise storage systems. Our high-performance, highly scalable open storage area network systems and storage solutions are distributed through leading OEMs and directly to a few selected accounts. The Storage Systems segment product offerings also include host bus adapters, RAID adapters (“redundant array of independent disks”), software and related products and services. LSI Logic Corporation was incorporated in California on November 6, 1980, and was reincorporated in Delaware on June 11, 1987. Our principal offices are located at 1621 Barber Lane, Milpitas, California 95035, and our telephone number at that location is (408) 433-8000. Our home page on the Internet is www.lsi.com. The contents of this website are not incorporated in or otherwise to be regarded as part of this annual report on Form 10-K. Copies of this and other annual reports, quarterly reports on Form 10-Q, current reports on Form 8-K 3 PROXY STATEMENT CORPORATE INFORMATION and all amendments to these reports are available free of charge on our website as soon as reasonably practicable after such documents are filed electronically with the Securities and Exchange Commission (“SEC”). Any materials that the Company files with the SEC can be read at the SEC’s website on the Internet at http://www.sec.gov or read and copied at the SEC’s Public Reference Room at 100 F Street, N.E., Room 1580, Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at (800) 732-0330. Recent Developments Proposed Merger with Agere. On December 3, 2006, we entered into an Agreement and Plan of Merger with Agere and we publicly announced the signing of the merger agreement on December 4, 2006. Agere is a provider of integrated circuit solutions for a variety of computing and communications applications. Some of Agere’s solutions include related software and reference designs. Agere’s solutions are used in products such as hard disk drives, mobile phones, high-speed communications systems and personal computers. Agere also licenses its intellectual property to others. Pursuant to the terms and subject to the conditions set forth in the merger agreement, Agere will become a wholly owned subsidiary of LSI. Upon completion of the merger, each share of Agere common stock that is outstanding at the effective time of the merger will be converted into the right to receive 2.16 shares of LSI common stock. Each outstanding option to purchase Agere common stock, whether or not then vested or exercisable, shall be assumed by LSI and will become exercisable for a number of shares of LSI common stock at an exercise price adjusted to reflect the exchange ratio in the merger. The completion of the proposed merger with Agere is subject to various customary conditions, including (i) obtaining the approval of the LSI and Agere stockholders, (ii) absence of any applicable law prohibiting the merger, (iii) certain regulatory approvals, (iv) subject to certain exceptions, the accuracy of the representations and warranties of each party, and (v) performance in all material respects by each party of its obligations under the merger agreement. LSI has scheduled a special meeting of its stockholders for Thursday, March 29, 2007 to vote on a proposal to approve matters related to the proposed merger. Agere has scheduled its 2007 annual meeting of stockholders for Thursday, March 29, 2007, at which Agere stockholders will vote on a proposal to approve the proposed merger, among other things. Subject to obtaining the approval of the LSI and Agere stockholders at these meetings and the satisfaction of other closing conditions, we expect to complete the merger soon after the stockholder meetings. We believe that the proposed merger with Agere presents a unique opportunity to create a combined entity that will offer a comprehensive set of building block solutions, including semiconductors, systems and related software for storage, networking and consumer electronics products, and that the merger should allow us to deliver significant benefits to our customers, stockholders and employees. We believe that the proposed merger offers the following strategic and financial benefits: • Complementary Businesses. The products and development capabilities of LSI and Agere are complementary, and should enable the combined company to compete more effectively in their target markets. The combined company should be stronger than either company on its own, with greater breadth and depth in storage and networking/communications product offerings and a greater ability to develop new product offerings in these market segments. In addition, the combined company is expected to benefit from access to large growth markets, such as those served by the mobile products business of Agere and the consumer products business of LSI. • Customers. The combined company is expected to have deep relationships with many of the marketleading customers in our chosen markets. We expect to improve our ability to expand current customer relationships, and expect to increase the penetration of new customer accounts. We believe that the combination of the two companies’ product lines and engineering resources should enable the combined company to meet customer needs more effectively and to deliver more complete solutions to our customers. In addition, we believe that the larger sales organization, greater marketing resources and financial strength of the combined company may lead to improved opportunities for marketing the combined company’s products. 4 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS • Engineering Talent. The combined company will have over 4,200 engineers, including over 1,700 that hold masters or doctorate degrees, which should enable the combined company to compete more effectively by developing innovative products and delivering greater value to customers more rapidly than either company could do on a stand-alone basis. • Intellectual Property Portfolio. The combined company will have over 10,000 pending and issued U.S. patents, which will be one of the largest intellectual property portfolios in the semiconductor industry. This portfolio is expected to provide the combined company with additional licensing opportunities. • Reduction in Operating Costs. The combined company is expected to realize substantial cost savings beginning in 2007, with annual cost savings reaching at least $125 million in 2008 from increased efficiencies in manufacturing and operating expenses. We expect the combined company to achieve benefits from exercising greater purchasing power with its suppliers, and consolidation and reduction of areas of overlap in operating expenses, including the expenses of maintaining two separate public companies. • Stronger Financial Position. The combined company will have greater scale and financial resources. We expect that this stronger financial position will improve the combined company’s ability to support product development strategies; to respond more quickly and effectively to customer needs, technological change, increased competition and shifting market demand; and to pursue strategic growth opportunities in the future, including acquisitions. • Stock-for-Stock Transaction with Fixed Exchange Ratio. The stockholders of each of LSI and Agere will share in the benefits expected from the synergies and cost savings the combined company will generate. The fact that the merger consideration is based on a fixed exchange ratio provides certainty as to the number of shares of LSI common stock that will be issued to Agere stockholders. In connection with the proposed merger with Agere, LSI has filed a Registration Statement on Form S-4 with the SEC, which registration statement includes a joint proxy statement/prospectus, dated February 5, 2007, and related materials to register the shares of LSI common stock to be issued in the merger. The registration statement and the joint proxy statement/prospectus contain important information about LSI, Agere, the proposed merger and related matters. Investors and security holders are urged to read the registration statement and the joint proxy statement/prospectus carefully. Investors and security holders can obtain free copies of the registration statement and the joint proxy statement/prospectus and other documents filed with the SEC by LSI and Agere through the website maintained by the SEC at www.sec.gov. In addition, free copies of the registration statement and the joint proxy statement/prospectus and other documents are also available on the Agere website at www.agere.com and on the LSI website at www.lsi.com. The registration statement, the joint proxy statement/prospectus and other relevant documents may also be obtained free of charge from Agere by directing such request to Investor Relations, Agere Systems Inc., 1110 American Parkway N.E., Allentown Pennsylvania 18109 and from LSI by directing such request to Investor Relations, LSI Logic Corporation, 1621 Barber Lane, Milpitas, California 95035. The contents of the websites referenced above are not deemed to be incorporated by reference into this Annual Report on Form 10-K, the registration statement or the joint proxy statement/prospectus. Agere, LSI and their respective officers, directors and employees may be deemed to be participants in the solicitation of proxies from their respective stockholders with respect to the proposed merger. Information regarding the interests of these officers, directors and employees in the proposed merger is included in the joint proxy statement/prospectus. Announcement of Stock Repurchase Program. On December 4, 2006, we announced that our board of directors authorized a stock repurchase program of up to $500 million worth of shares of our common stock. Our board of directors terminated the stock repurchase program previously authorized by the Board on July 28, 2000. The repurchases are expected to be funded from available cash and short-term investments. Pending Acquisition of SiliconStor, Inc. In February 2007, we entered into an agreement to acquire SiliconStor, Inc. (“SiliconStor”), a privately held company that provides silicon solutions for enterprise storage networks. SiliconStor is headquartered in Fremont, California and has approximately 30 employees. At the closing of the acquisition, we expect to pay approximately $55 million in cash for SiliconStor. The closing of the acquisition is subject to the satisfaction of customary closing conditions and is expected to occur in the first quarter of 2007. 5 FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Business Strategy We focus our business growth opportunities in the information storage, enterprise connectivity and consumer electronics markets. Following completion of our proposed merger with Agere, we also expect to be in a position to address growth opportunities in semiconductor applications for the networking market and the wireless handset portion of the consumer market. Semiconductor Business Strategy Our objective is to continue our industry leadership in the design, development and marketing of highly complex integrated circuits, software and system-level solutions in the information storage and consumer electronics markets. To achieve this objective, our business strategy includes the following key elements: FINANCIALS • Target Growth Markets and Customers. We concentrate our sales and marketing efforts on leading OEM customers in targeted growth markets. Our engineering expertise is focused on developing technologies that will meet the product and service needs of our customers in order to succeed in these market areas. • Promote Highly Integrated Design Technology. We use proprietary and leading third-party electronic design automation, or EDA, software design tools. We continually evaluate and, as appropriate, develop expertise with third-party EDA tools from leading and emerging suppliers of such products. • Provide Flexibility in Design Engineering. We engage with customers of our semiconductor products under various arrangements whereby the extent of the engineering support we provide will be determined in accordance with the customer’s requirements. For example, a customer may primarily use its own engineers for substantial development of its product design and retain our support for silicon-specific engineering work. We also enter into engineering design projects, including those on a “turn-key” basis. • Deploy a Fabless Semiconductor Manufacturing Model. On September 13, 2005, we announced our intention to sell our Gresham, Oregon manufacturing facility as part of our strategy to transition to a fabless semiconductor manufacturing model. We completed the sale of this facility to Semiconductor Components Industries, LLC, a wholly owned subsidiary of ON Semiconductor Corporation (“ON Semiconductor”), on May 15, 2006. Since announcing our intention to sell this facility, our wafer manufacturing strategy has been to expand our working relationships with major foundry partners and to adopt a roadmap leading to the production of advanced semiconductors utilizing 65-nanometer and below process technology on 300-mm or 12-inch wafers. This model enables us to focus on developing innovative intellectual property and products, while reducing capital and operating infrastructure requirements. We perform substantially all of our packaging, assembly and final test operations through subcontractors in Asia. If we complete our proposed merger with Agere, we will acquire Agere’s 51% equity interest in Silicon Manufacturing Partners, a joint venture with Chartered Semiconductor Manufacturing Ltd. that operates a semiconductor wafer manufacturing facility in Singapore, as well as Agere’s assembly and test facilities in Asia. • Leverage Alliances with Key Partners. We are continually seeking to establish relationships with key partners in a diverse range of technologies to promote new products, services, operating standards and manufacturing capabilities and to avail ourselves of cost efficiencies that may be obtained through collaborative development. • Forge Successful Partnerships with Leading Distribution Partners. Our partner program is designed to effectively market our host bus adapter product families and integrated circuit products utilizing distribution and reseller partnerships. Such partnerships help us to provide an extended range of customers with the full spectrum of product offerings, services and support needed to enable their success. • Develop and Drive Industry Standards to Achieve Market Advantage. We are a leader in developing and promoting important industry standard architectures, functions, protocols and interfaces. We believe that this leadership will enable us to quickly launch new standard-based products, allowing our customers to achieve time-to-market and other competitive advantages. • Operate Worldwide. We market our products and engage with our customers on a worldwide basis through direct sales, marketing and field technical staff and through independent sales representatives and 6 CORPORATE INFORMATION PROXY STATEMENT distributors. Our network of design centers located in major markets allows us to provide customers with highly experienced engineers, to interact with customer engineering management and system architects, to develop designs for new products and to provide continuing after-sale customer support. Storage Systems Business Strategy Our objective is to be the leading provider to server and storage OEMs of modular disk storage systems and sub-assemblies. We intend to enhance our market position by: • Continuing to Innovate and Extend Our Product Offering. We intend to adopt and implement innovative storage system technologies, interfaces, features and customer requirements. In addition, we intend to define, design and develop products that enable our channel customers to offer a broad storage system product line, which incorporates their own intellectual property, to address multiple markets. In this manner, we intend to continue to expand our product offerings in the mid-range markets and further into the entrylevel markets. • Adding Feature Functionality to Meet Expanding Enterprise Requirements. Implementation and management of storage systems within the enterprise is increasingly complex. To address this increasing complexity, we plan to develop or acquire additional premium software management and hardware system features to enhance reliability, data availability and serviceability of our products. For example, in November 2006, we acquired StoreAge Networking Technologies Ltd. (together with its subsidiaries collectively referred to as “StoreAge”), a privately held company based in Nesher, Israel that provides SAN storage management and multi-tiered data protection software for enterprises. We also intend to expand our LSI Storage Solutions program, which is designed to help our customers rapidly implement our products for specific business applications. • Enhancing Interoperability Among Our Products, Our Customers’ Products and Other Leading Enterprise Products. We provide significant value to our channel customers and enterprises by testing and certifying our products with the products of other leading enterprise information technology vendors to ensure broad interoperability and compatibility. We intend to work closely with our channel customers and enterprises to extend and enhance the capabilities of our storage sub-assemblies and storage management software. We also seek to enhance our position in the storage industry by actively participating in a variety of organizations focused on developing standards for emerging technologies and facilitating industry-wide interoperability. • Obtaining New Channel Customers. Our channel customers sell storage solutions based on or incorporating our products and technology through their direct sales forces and other channels. We will continue to seek new customers in domestic and international markets in order to expand the total marketing and sales resources that are focused on our products. In this manner, we intend to increase the market addressable by our products. • Expanding Our Joint Marketing and Sales Efforts With Existing and New Channel Customers. We seek to add value to our customers’ sales, marketing and support initiatives through the provision of extensive training, customized go-to-market campaigns, product positioning, marketing materials, competitive analysis and product support infrastructure. We maintain 16 Experience Centers worldwide, which allow our channel customers to demonstrate to enterprise users the performance and benefits of storage deployments incorporating our products. We plan to continue to add additional demonstration capabilities to reach a broader customer base in the future. • Promoting Our Brand. We believe that a strong association of our brand with innovation and integrity is valuable in achieving increased scale, market leadership and OEM acceptance within our industry. Furthermore, we believe that brand recognition and reputation will become more important as OEMs increasingly outsource their storage system offerings and their customers focus on the performance and reliability of the storage systems or sub-assemblies integrated into OEM storage solutions. We intend to continue to promote our brand and build brand equity to establish and bolster our position in the disk storage systems and related storage management software markets. 7 FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Products and Services Semiconductor Products In our semiconductor components business, we design and develop custom solutions and standard products to customers competing in global storage and consumer markets. The proposed merger with Agere would bring additional semiconductor products into our portfolio, including those targeting the networking market and the wireless handset portion of the consumer market. Custom solutions are semiconductors that are designed for unique, customer-specified applications. Standard products are developed for market applications we define and are targeted to be sold to multiple customers. Both custom solutions and standard products are sold to customers for incorporation into system-level products and may incorporate our intellectual property building blocks. FINANCIALS Storage Components. Our custom solutions and standard product solutions offered to customers in worldwide storage component markets make possible data transmission and storage between a host computer and peripheral devices such as magnetic and optical disk drives, scanners, printers and disk and tape-based storage systems. • Storage Standard Products. Our standard product solutions include Fibre Channel, Serial-Attached SCSI (“SAS”), Serial ATA (“SATA”) and SCSI standard products, including host adapter ICs for motherboard and adapter applications, SCSI and SAS expander ICs, storage adapter boards and our own Fusion-MPTTM software drivers for these product families. We are an industry leader in the on-going development of new storage interface standards and products, including SAS. In February 2007, we entered into an agreement to acquire SiliconStor, a privately held company that provides storage technology focused on the SATA and SAS markets and is shipping patent-pending products that improve the performance, reliability, and manageability of SATA drives when used in a SAS environment. • Storage Custom Solutions. We also offer custom solutions to customers who develop Fibre Channel storage area network (“SAN”) switches and host adapters, storage systems, hard disk drives and tape peripherals. Through leveraging our extensive experience in providing solutions for these applications, we have developed a full portfolio of high-speed interface CoreWare@ that is employed for custom solution platforms that provide a connection to the network, the SAN, memory and host buses. Using these preverified interfaces, our customers reduce development risk and achieve quicker time to market. Our CoreWare@ offerings include the GigaBlaze» high performance SerDes Core supporting Fibre Channel, SATA, Gigabit Ethernet, Infiniband, SAS, Serial RapidIO and PCI-Express industry standards and a family of high-performance Fibre Channel, RapidIO, PCI-E, SAS and SATA protocol controllers. Consumer Products. For the consumer market, we offer a broad array of semiconductor products, including both standard products and custom solutions. • Consumer Standard Products. We design, develop, manufacture and market semiconductor devices, along with enabling software and reference system designs to enable a variety of digital video and audio applications utilizing our core competency in media processing. We are focused on providing solutions for high-growth applications such as DVD recorders, digital set-top boxes, and a variety of combination products such as DVD recorder /VCR, DVD recorder/PVR and DVD recorder/digital set-top box as well as broadcast encoders. At the center of our standard product strategy is our industry leading DoMiNo» architecture. Products based on this flexible architecture provide software programmable, cost-effective solutions to our customers in our target markets. • Consumer Custom Solutions. We offer system-on-a-chip solutions for consumer applications. We focus on consumer market segments employing our intellectual property portfolio, media processing expertise, system level knowledge, design methodology and turn-key product offerings to provide customized solutions to our customers. We are focused on providing solutions to portable consumer appliances such as digital audio players, portable media players, global positioning systems, edutainment and electronic toys and other emerging multimedia applications utilizing in many cases our ZevioTM architecture. 8 CORPORATE INFORMATION PROXY STATEMENT Communications Products. Our highly integrated, high-performance, system-on-a-chip silicon solutions are used in the design of communications equipment. We deliver custom semiconductor solutions to customers who develop devices used for wireless and broadband data networking applications. We have ceased further development of our RapidChip product platform. The proposed merger with Agere would bring additional semiconductor products into our portfolio, including those targeting the networking market and the wireless handset portion of the consumer market. Storage Systems Products We offer a broad line of open, modular storage products comprised of complete systems and sub-assemblies configured from modular components, such as our storage controller modules, disk drive enclosure modules and related management software. The modularity of our products provides channel customers with the flexibility to integrate either our sub-assemblies with third-party components, such as disk drives, or software to form their own storage system products. Our modular product approach allows channel customers to create highly customized storage systems that can then be integrated with value-added software and services and delivered as a complete, differentiated data storage solution to enterprises. We design and develop storage systems, sub-assemblies and storage management software that operate within all major open operating systems, including Windows, UNIX and UNIX variants and Linux environments. We test and certify our products, both independently and jointly with our customers, with those of other hardware, networking and software storage vendors to ensure a high level of interoperability and performance. Our products are targeted at a wide variety of data storage applications, including Internet-based applications such as online transaction processing and e-commerce, data warehousing, video editing and post-production and high-performance computing. In addition, we offer a wide spectrum of direct-attach RAID solutions, spanning from integrated RAID in our storage IC and adapter products and our software-based RAID products to our MegaRAID» product family. Our MegaRAID products include integrated single-chip RAID on motherboard solutions and a broad family of PCI and PCI Express RAID controller boards featuring ATA, SATA, SCSI and SAS interfaces, along with fully featured software and utilities for robust storage configuration and management. In November 2006, we acquired StoreAge, which provides SAN storage management and multi-tiered data protection software for enterprises. This acquisition augmented our product offerings in the storage systems area. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Semiconductor Design Services Our CoreWare design methodology offers a comprehensive design approach for creating custom solutions efficiently, predictably and rapidly. Our CoreWare libraries include high-level intellectual property building blocks created around industry standards. Our CoreWare cells are connected electronically with other memory and logic elements to form an entire system on a single chip. Our software design tool environment supports and automatically performs key elements of the design process from circuit concept to physical layout of the circuit design. The design tool environment features a combination of internally developed proprietary software and third-party tools that are highly integrated with our manufacturing process requirements. The design environment includes expanded interface capabilities with a range of third-party tools from leading EDA vendors and features hardware/software co-verification capability. We provide a suite of MIPS cores and ARM processors, in addition to industry-standard interface cores such as USB, PCI-Express, DDR1&2, QDR, SPI4, SFI, XAUI, XGXS and others. After completion of the custom design effort, we produce and test prototype circuits for shipment to the customer. We then begin volume production of integrated circuits that have been developed through one or more of the arrangements described above in accordance with the customer’s quantity and delivery requirements. 9 Marketing and Distribution Semiconductor Marketing and Distribution The highly competitive semiconductor industry is characterized by rapidly changing technology, short product cycles and emerging standards. Our marketing strategy requires that we forecast trends in the evolution of product and technology development. We must then act upon this knowledge in a timely manner to develop competitively priced products offering superior performance. As part of this strategy, we are active in the formulation and adoption of critical industry standards that influence the design specifications of our products. Offering products with superior price and performance characteristics is essential to satisfy the rapidly changing needs of our customers in the dynamic storage and consumer electronics markets. Our semiconductor products and design services are primarily sold through our network of direct sales and marketing and field engineering offices located in North America, Europe, Japan and elsewhere in Asia. Our sites are interconnected by means of advanced computer networking systems that allow for the continuous, uninterrupted exchange of information that is vital to the proper execution of our sales and marketing activities. International sales are subject to risks common to export activities, including governmental regulations, geopolitical risks, tariff increases and other trade barriers, and currency fluctuations. We rely primarily on direct sales and marketing, but we also work with independent component and commercial distributors and manufacturers’ representatives or other channel partners in North America, Europe, Japan and elsewhere in Asia. Some of our distributors possess engineering capabilities, and design and purchase both custom solutions and standard products from us for resale to their customers. Other distributors focus solely on the sale of standard products. Our agreements with distributors generally grant limited rights to return standard product inventory and we defer revenue for such inventory until the distributor sells the product to a third party. Storage Systems Marketing and Distribution Our storage systems products are sold worldwide through our channel customers and, to a smaller degree, to a limited installed base of end-users. We closely develop and manage our channel customer relationships to meet the diverse needs and requirements of enterprises. By selling products through our channel customers, we are able to address more markets, reach a greater number of enterprises, and reduce our overall sales and marketing expenditures. Our marketing efforts are designed to support our channel customers with programs targeted at developing differentiated go-to-market strategies and increasing sales effectiveness. Depending on the nature of our channel customer engagement, our marketing teams offer various levels of assistance in assessing and analyzing the competitive landscape, defining product strategy and roadmap, developing product positioning and pricing, creating product launch support materials and assisting in closing the sales process. These marketing teams carefully coordinate joint product development and marketing efforts between our customers and us to ensure that we address and effectively target enterprise requirements. We maintain sales and marketing organizations at our headquarters in Milpitas, and also in regional offices in Atlanta, Georgia; Boulder, Colorado; Dallas, Texas; Chicago, Illinois; Houston, Texas; Los Angeles and Irvine, California; New York, New York; Parsippany, New Jersey; Reston, Virginia; Wichita, Kansas; Westborough, Massachusetts; Raleigh, North Carolina; and Renton, Washington. We also market our products internationally in China, France, Germany, Italy, Japan, Singapore, Sweden and the United Kingdom. Customers In 2006, International Business Machines Corporation and Seagate Technology accounted for approximately 19% and 12%, respectively, of our consolidated revenues. No other customer accounted for more than 10% of our consolidated revenues in 2006. We currently have a highly concentrated customer base as a result of our strategy to focus our marketing and sales efforts on select, large-volume customers. We are therefore dependent on a limited number of customers for a substantial portion of our revenues. The loss of any of our significant customers, any substantial decline in sales to these customers, or any significant change in the timing or volume of purchases by our customers could result in lower revenues and could harm our business, financial condition or results of operations. 10 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS We expect that we will continue to derive a substantial portion of our revenue from a highly concentrated customer base following completion of our proposed merger with Agere. Semiconductor Customers We seek to leverage our expertise in the fields of consumer and storage components by marketing our products and services predominantly to market leaders. Our current strategic account focus is on large, well-known companies that produce high-volume products incorporating our semiconductors. We recognize that this strategy may result in increased dependence on a limited number of customers for a substantial portion of our revenues. It is possible that we will not achieve anticipated sales volumes from one or more of the customers we focus on. While this could result in lower revenues, we believe this strategy provides us with an opportunity to drive further growth in sales and unit volumes. FINANCIALS Storage Systems Customers We deliver our storage systems products to OEMs who independently resell or distribute OEM-branded or Engenio co-branded products. The products sold by our OEM partners may be integrated by the OEM with valueadded services, hardware and software and delivered as differentiated complete storage solutions to enterprises. Our OEM partners receive basic training services to enhance their abilities to sell and support our products. After receiving our basic training services, most of our OEM partners independently market, sell and support our products, requiring limited ongoing product support from us. We also assist some of our OEM partners with additional resources that may provide tailored, account-specific education, training and sales and marketing assistance, allowing these OEM partners to leverage our storage products and industry expertise. Manufacturing Semiconductor Manufacturing The semiconductor manufacturing cycle converts a product design from the development stage into an integrated circuit. Manufacturing begins with wafer fabrication, where the design is transferred to silicon wafers through a series of processes, including photolithography, ion implantation, deposition of numerous films and the etching of these various films and layers. Each circuit on the wafer is tested in the wafer sort operation. The good circuits are identified and the wafer is then separated into individual die. Each good die is then assembled into a package using different standards and advanced assembly technologies. This package encapsulates the circuit for protection and allows for electrical connection to the printed circuit board. The final step in the manufacturing process is final test, where the finished devices undergo stringent and comprehensive testing using computer systems. The wafer fabrication operation is very complex and costly, and the industry trend has been towards outsourcing all or a portion of this operation to silicon foundries located throughout the world. Prior to 2006, our wafer manufacturing strategy included a combination of internal and external fabrication. Prior to the sale of our Gresham, Oregon semiconductor manufacturing facility in May 2006, the majority of our wafers were fabricated internally at the Gresham facility and the remainder of our wafer fabrication was outsourced to a variety of wafer foundries in Taiwan, Japan, China and Malaysia. For the more advanced deep sub-micron technologies, we use a combination of standard foundry process technologies and process technologies jointly developed with our foundry partners. These joint development agreements provide us access to leading edge technology and additional wafer capacity. On September 13, 2005, we announced our intention to sell our Gresham facility as part of our strategy to transition to a fabless semiconductor manufacturing model. We completed the sale of this facility to ON Semiconductor on May 15, 2006. Since announcing our intention to sell this facility, our wafer manufacturing strategy has been to expand our working relationships with major foundry partners and to adopt a roadmap leading to the production of advanced semiconductors utilizing 65-nanometer and below process technology on 300-mm or 12-inch wafers. If we complete our proposed merger with Agere, we will acquire Agere’s 51% equity interest in Silicon Manufacturing Partners, a joint venture with Chartered Semiconductor Manufacturing Ltd. that operates a semiconductor wafer manufacturing facility in Singapore. 11 PROXY STATEMENT CORPORATE INFORMATION Our final assembly and test operations are performed by independent subcontractors in South Korea, Taiwan, the Philippines, Malaysia, Thailand and China. We have a long history of outsourcing these operations and can offer a wide range of high-performance packaging solutions for system-on-a-chip designs, including flip chip technology. Upon completion of our proposed merger with Agere, we will acquire the assembly and test facilities in Asia that are owned by Agere. Storage Systems Manufacturing We use third-party suppliers for standard components, such as disk drives and standard computer processors, which are designed and incorporated into our products. Additionally, we outsource the manufacturing of the majority of our product components, such as printed circuit boards, in order to take advantage of quality and cost benefits afforded by using third-party manufacturing services. We believe that using outsourced manufacturing services allows us to focus on product development and increases operational flexibility, both in terms of adjusting manufacturing capacity in response to customer demand and rapidly introducing new products. The assembly of our storage system products involves integrating supplied components and manufactured sub-assemblies into final products, which are configured and rigorously tested before being delivered to our customers. The highly modularized nature of our storage system products allows for flexible assembly and delivery models, which include build-to-order, configure-to-order, direct shipment, bulk shipment and local fulfillment services. We have implemented these models in an effort to reduce requisite lead times for delivery of our products and to provide channel customers with multiple manufacturing and delivery alternatives that best complement their operations. We own a manufacturing facility in Wichita, Kansas at which we assemble and test complete storage systems and sub-assemblies configured from modular components, such as our storage controller modules and disk drive enclosure modules. We have maintained ISO-9001 certification at our Wichita, Kansas manufacturing facility since April 1992 and this facility has been certified as ISO-9001:2000 compliant since October 2001. Product quality is achieved through extensive employee training, exhaustive and automated testing and sample auditing. Quality control and measurement is extended through the subcomponent supplier and component manufacturer base with continuous reporting and ongoing qualification programs. We also use third party contract manufacturers for manufacturing in Mexico. CORPORATE INFORMATION PROXY STATEMENT FINANCIALS Backlog Semiconductor Backlog In the Semiconductor segment, we generally do not have long-term volume purchase contracts with our customers. Instead, customers place purchase orders that are subject to acceptance by us. The timing of the design activities for which we receive payment and the placement of orders included in our backlog at any particular time is generally within the control of the customer. For example, there could be a significant time lag between the commencement of design work and the receipt of a purchase order for the units of a developed product. Also, customers may from time to time revise delivery quantities or delivery schedules to reflect their changing needs. For these reasons, our backlog as of any particular date may not be a meaningful indicator of future annual sales. Storage Systems Backlog Due to the nature of our business, we maintain relatively low levels of backlog in the Storage Systems segment. Consequently, we believe that backlog is not a good indicator of future sales, and our quarterly revenues depend largely on orders booked and shipped in that quarter. Because lead times for delivery of our products are relatively short, we must build in advance of orders. This subjects us to certain risks, most notably the possibility that expected sales will not materialize, leading to excess inventory, which we may be unable to sell to our customers. 12 Competition Semiconductor Competitors The semiconductor industry is intensely competitive and characterized by constant technological change, rapid product obsolescence, evolving industry standards and price erosion. Many of our competitors are larger, diversified companies with substantially greater financial resources. Some of our competitors are also customers who have internal semiconductor design and manufacturing capacity. We also compete with smaller and emerging companies whose strategy is to sell products into specialized markets or to provide only a portion of the products and services that we offer, or, if so, only at reduced prices. Our major competitors in the Semiconductor segment include large companies such as Agere Systems Inc., International Business Machines Corporation, Philips Electronics, N.V., STMicroelectronics, Texas Instruments, Inc. and Toshiba Corporation. Other competitors in strategic markets include Adaptec, Inc., Advanced Micro Devices Inc., Broadcom Corporation, Genesis Microchip, Inc., Intel Corporation, Marvell Technology Group, Ltd., MediaTek Incorporated, NEC Corporation, Sunplus Co. Technology Ltd., Samsung Semiconductor, Trident Microsystems, Inc. and Zoran Corporation. The principal competitive factors in the semiconductor industry include: • design capabilities; • differentiating product features; • product performance characteristics; • time to market; • price; and • utilization of emerging industry standards. It is possible that our competitors will develop design solutions that could have a material adverse impact on our competitive position. Our competitors may also decide from time to time to aggressively reduce prices of products that compete with our products in order to sell related products or achieve strategic goals. Due to their customized nature, custom solutions are not as susceptible to price fluctuations as standard products. However, strategic pricing by competitors can place strong pricing pressure on our products in certain transactions, resulting in lower selling prices and lower gross profit margins for those transactions. The markets into which we sell our semiconductor products are subject to severe price competition. We expect to continue to experience declines in the selling prices of our semiconductor products over the life cycle of each product. In order to offset or partially offset declines in the selling prices of our products, we continue to reduce the costs of products through product design changes, manufacturing process changes, yield improvements and procurement of wafers from outsourced manufacturing partners. Storage Systems Competitors The market for our storage system products is highly competitive, rapidly evolving and subject to changing technology, customer needs and new product introductions. We compete with products from storage system and component providers such as Adaptec, Inc., Dot Hill Systems Corporation, Infortrend Technology Inc., XIOtech Corporation, Xyratex Group Limited. We also compete with the internal storage divisions of existing and potential channel customers as well as with large well-capitalized storage system companies such as EMC Corporation, Hitachi Data Systems and Network Appliance, Inc. with respect to sales to OEM customers. The principal competitive factors affecting the market for our storage system products include: • features and functionality; • product performance and price; • reliability, scalability and data availability; 13 PROXY STATEMENT CORPORATE INFORMATION FINANCIALS • interoperability with other networking devices; • support for emerging industry and customer standards; • levels of training, marketing and customer support; • level of easily customizable features; • quality and availability of supporting software; • quality of system integration; and • technical services and support. Our ability to remain competitive will depend largely upon our ongoing performance in the areas of product development and customer support. To be successful in the future, we believe that we must respond promptly and effectively to the challenges of technological change and our competitors’ innovations by continually enhancing our product offerings. We must also continue to aggressively recruit and retain employees highly qualified and technically experienced in hardware and software development in order to achieve industry leadership in product development and support. Patents, Trademarks and Licenses We maintain a patent program, and believe that our patents and other intellectual property rights add value to our business. We currently have more than 4,500 pending and issued U.S. patents and additional pending and issued foreign patents, some of which are in the Semiconductor segment and some of which are in the Storage Systems segment. In both segments, we also maintain trademarks for our products and services and claim copyright protection for certain proprietary software and documentation. Patents, trademarks and other forms of protection for our intellectual property are important, but we believe our future success principally depends upon the technical competence and creative skills of our employees. Upon completion of our proposed merger with Agere, we will substantially increase the size and breadth of our intellectual property portfolio. We expect that the combined company will have more than 10,000 issued and pending U.S. patents. Agere also derives revenue and income from licensing its intellectual property to other companies, and we expect the combined company to continue this intellectual property licensing business in the future. We continue to expand our portfolio of patents and trademarks. We offer a staged incentive to employees to identify, document and submit invention disclosures. We have developed an internal review procedure to maintain a high level of disclosure quality and to establish criteria, priorities and plans for filings both in the U.S. and abroad. The review process is based solely on engineering, business, legal and management judgment, with no assurance that a specific filing will issue or, if issued, will deliver any lasting value to us. There is no assurance that the rights granted under any patent will provide competitive advantages to us or will be adequate to protect our innovations, products or services. Moreover, the laws of certain countries in which our products are or may be manufactured or sold may not protect our products and intellectual property rights to the same extent as the U.S. legal system. As is typical in the high technology industry, from time to time, we have received communications from other parties asserting that certain of our products or processes infringe upon their patent rights, copyrights, trademark rights or other intellectual property rights. We regularly evaluate such assertions. In light of industry practice, we believe that, with respect to existing or future claims, any licenses or other rights that may be necessary may generally be obtained on commercially reasonable terms. Nevertheless, there is no assurance that licenses will be obtainable on acceptable terms or that a claim will not result in litigation or other administrative proceedings. In the Semiconductor segment, we protect our know-how, trade secrets and other proprietary information through confidentiality agreements with our customers, suppliers, employees and consultants, and through other security measures. We have entered into certain patent cross-license agreements that generally provide for the nonexclusive licensing of rights to design, manufacture and sell products and, in some cases, for cross-licensing of future improvements developed by either party. In the Storage Systems segment, we own a portfolio of patents and patent applications concerning a variety of storage technologies. We also maintain trademarks for certain of our products and services and claim copyright 14 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS protection for certain proprietary software and documentation. Similar to the Semiconductor segment, we protect our trade secrets and other proprietary information through agreements and other security measures, and have implemented internal procedures to obtain patent protection for inventions and pursue protection in selected jurisdictions. Please see Item 3, “Legal Proceedings,” for information regarding pending patent litigation against the Company. Please also refer to the additional risk factors set forth in the Risk Factors section and Note 12 of the Notes to the Consolidated Financial Statements (“Notes”) for additional information. Research and Development Our industry is characterized by rapid changes in intellectual property. We must continue to improve our existing intellectual property and products and to develop new ones in a cost-effective manner to meet changing customer requirements and emerging industry standards. If we are not able to successfully introduce new intellectual property and products, or to achieve volume production of products, there could be a material adverse impact on our operating results and financial condition. On March 6, 2006, we announced plans to focus our business on growth opportunities in the information storage and consumer markets, increasing associated research and development (“R&D”) investments, while redirecting R&D from non-core areas. We have ceased further development of our RapidChip product platform. In the United States, we operate R&D facilities in California, Colorado, Georgia, Kansas, Maryland, Minnesota, Oregon, Texas and selected other states. Internationally, we have facilities in Canada, China, Dubai, Germany, India, Israel, Italy, Russia, Taiwan, and the United Kingdom. During 2005 and 2006, we significantly expanded capabilities in India. The following table shows our expenditures on research and development activities for each of the last three fiscal years (in thousands). Year Amount Percent of Revenue FINANCIALS PROXY STATEMENT 2006 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $413,432 2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $399,685 2004 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $427,805 21% 21% 25% R&D activities primarily consist of materials expenses, salaries and related costs of employees engaged in ongoing research, design and development activities and subcontracting costs. Working Capital CORPORATE INFORMATION Information regarding our working capital practices is incorporated herein by reference from Item 7 of Part II hereof under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operation — Financial Condition, Capital Resources and Liquidity.” Financial Information about Segments and Geographic Areas This information is included in Note 8 (“Segment and Geographic Information”) of the Notes, which information is incorporated herein by reference from Item 8 of Part II. For a discussion of various risks attendant to foreign operations, see (1) “Risk Factors” in Part I, Item 1A, in particular, “We conduct a significant amount of activity outside of the United States, and are exposed to legal, business, political and economic risks associated with our international operations,” and (2) the section in Part II, Item 7A, entitled “Quantitative and Qualitative Disclosures about Market Risk — Foreign Currency Exchange Risk.” This information is incorporated herein by reference. Environmental Regulation Federal, state and local regulations, in addition to those of other nations, impose various environmental controls on the use and discharge of certain chemicals and gases used in semiconductor and storage product processing. Our facilities have been designed to comply with these regulations through the implementation of environmental management systems. We offer products that comply with the requirements of the European Union 15 Restriction of Hazardous Substance Directive 2002/95/EC (RoHS Directive) that was implemented on July 1, 2006 and other international electronic equipment environmental regulations. While to date we have not experienced any material adverse impact on our business from environmental regulations, such regulations might be adopted or amended so as to impose expensive obligations on us in the future. In addition, violations of environmental regulations or impermissible discharges of hazardous substances could result in: • the need for additional capital improvements to comply with such regulations or to restrict discharges; • liability to our employees and/or third parties; and/or • business interruptions as a consequence of permit suspensions or revocations or as a consequence of the granting of injunctions requested by governmental agencies or private parties. FINANCIALS Employees As of December 31, 2006, we had 4,010 full-time employees. Our future success depends upon the continued service of our key technical and management personnel and upon our ability to continue to attract and retain qualified employees, particularly those highly skilled design, process and test engineers involved in the development of new products and processes. We currently have favorable employee relations, but the competition for technical personnel is intense, and the loss of key employees or the inability to hire such employees when needed could have a material adverse impact on our business and financial condition. Seasonality PROXY STATEMENT The Company’s business is largely focused on the information technology and consumer products markets. Due to seasonality in these markets, the Company typically expects to see stronger revenues in the second half of the year, although we did not experience this trend in the second half of 2006 with our consumer products. Item 1A. Risk Factors. We are subject to a number of risks. Some of the risks that we face are endemic to the semiconductor industry, but the fact that certain risks are endemic to our industry does not lessen the significance of these risks. You should carefully consider all of the following risk factors and the other information in this Annual Report on Form 10-K in evaluating our business. We are subject to a number of risks associated with our pending merger with Agere. On December 3, 2006, we entered into a merger agreement with Agere and we publicly announced the signing of the merger agreement on December 4, 2006. Pursuant to the terms and subject to the conditions set forth in the merger agreement, at the effective time of the proposed merger a wholly owned subsidiary of LSI will merge with and into Agere, with Agere continuing as the surviving corporation of the merger and becoming a wholly-owned subsidiary of LSI. Upon completion of the merger, each share of Agere common stock that is outstanding at the effective time of the merger will be converted into the right to receive 2.16 (the “Exchange Ratio”) shares of common stock of LSI. Each outstanding option to purchase Agere common stock, whether or not then vested or exercisable, shall be assumed by LSI and will be exercisable for a number of shares of LSI common stock at an exercise price adjusted to reflect the Exchange Ratio. The completion of the proposed merger is subject to various customary conditions, including (i) obtaining the approval of the LSI and Agere stockholders, (ii) absence of any applicable law prohibiting the merger, (iii) certain regulatory approvals, (iv) subject to certain exceptions, the accuracy of the representations and warranties of each party, and (v) performance in all material respects by each party of its obligations under the merger agreement. Our pending merger with Agere is described in detail in the Registration Statement on Form S-4 that we have filed with the SEC in connection with the merger and in the joint proxy statement/prospectus included in such registration statement. You should read and consider the information in such registration statement and joint proxy statement/prospectus. As a result of the many risks that we face, our business, financial condition or results of operations could be materially and adversely affected. This could cause the trading price of our common stock to decline, and stockholders might lose some or all of their investment. 16 CORPORATE INFORMATION Please consider the following risk factors when you read “forward-looking“ statements elsewhere in this Annual Report on Form 10-K and in the information incorporated herein by reference. Forward-looking statements are statements that relate to our expectations for future events and time periods. Generally, the words, “anticipate,” “expect,” “intend” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and actual results could differ materially from those anticipated in the forward-looking statements. Risk Factors Relating to our Proposed Merger with Agere The issuance of shares of LSI common stock to Agere stockholders in the proposed merger with Agere will substantially reduce the percentage interests of LSI stockholders. If the proposed merger with Agere is completed, we expect that (i) approximately 365.8 million shares of LSI common stock would be issued to Agere stockholders, (ii) upon exercise of assumed equity awards, up to approximately 59.7 million additional shares will be issued to holders of assumed options and restricted stock units and (iii) an additional 23.6 million shares will be issuable upon conversion of Agere’s outstanding convertible notes. Based on the number of shares of LSI and Agere common stock outstanding on January 31, 2007, Agere stockholders before the merger with Agere will own, in the aggregate, approximately 48% of the fully diluted shares of LSI common stock immediately after the merger with Agere, excluding shares issuable upon conversion of Agere’s outstanding convertible notes. The issuance of shares of LSI common stock to Agere stockholders in the merger and to holders of assumed options and restricted stock units will cause a significant reduction in the relative percentage interest of current LSI stockholders in earnings, voting, liquidation value and book and market value. The proposed merger with Agere is subject to the receipt of consents and approvals from government entities that may impose conditions that could have an adverse effect on LSI or Agere or could cause abandonment of the merger. Completion of the proposed merger with Agere is conditioned upon the making of certain filings with and notices to, and the receipt of consents, orders and approvals from, various local, state, federal and foreign governmental entities. Certain of these consents, orders and approvals will involve the relevant governmental entity’s consideration of the effect of the merger on competition in various jurisdictions. The reviewing authorities may not permit the proposed merger with Agere at all or may impose restrictions or conditions on the merger that may seriously harm the combined company if the merger is completed. These conditions could include a complete or partial license, divestiture, spin-off or the holding separate of assets or businesses. Either LSI or Agere may refuse to complete the merger if restrictions or conditions are required by governmental authorities that would materially adversely impact the combined company’s results of operations or the benefits anticipated to be derived by the combined company. Any delay in the completion of the merger could diminish the anticipated benefits of the merger or result in additional transaction costs, loss of revenue or other effects associated with uncertainty about the transaction. LSI and Agere also may agree to restrictions or conditions imposed by antitrust authorities in order to obtain regulatory approval, and these restrictions or conditions could harm the combined company’s operations. No additional stockholder approvals are expected to be required for any decision by LSI or Agere, after the proposed annual meeting of Agere stockholders and the proposed special meeting of LSI stockholders, to agree to any terms and conditions necessary to resolve any regulatory objections to the merger. In addition, during or after the statutory waiting periods, and even after completion of the proposed merger with Agere, governmental authorities could seek to block or challenge the merger as they deem necessary or desirable in the public interest. In addition, in some jurisdictions, a competitor, customer or other third party could initiate a private action under the antitrust laws challenging or seeking to enjoin the merger, before or after it is completed. We may not prevail, or may incur significant costs, in defending or settling any action under antitrust laws. 17 FINANCIALS PROXY STATEMENT CORPORATE INFORMATION The proposed merger with Agere may not be completed, and any delay in completing the proposed merger with Agere may significantly reduce the benefits expected to be obtained from the merger. In addition to the required regulatory clearances and approvals, the proposed merger with Agere is subject to a number of other conditions beyond the control of LSI and Agere that may prevent, delay or otherwise materially adversely affect its completion. We cannot predict whether and when these other conditions will be satisfied. Further, the requirements for obtaining the required clearances and approvals could delay the completion of the merger for a significant period of time or prevent it from occurring. Any delay in completing the merger may significantly reduce the synergies and other benefits that we expect to achieve if we successfully complete the merger within the expected timeframe and integrate our businesses. Customer uncertainties related to the proposed merger with Agere could adversely affect our business, revenues and gross margins. In response to the announcement of the proposed merger with Agere or due to ongoing uncertainty about the merger, customers of LSI or Agere may delay or defer purchasing decisions or elect to switch to other suppliers. In particular, prospective customers could be reluctant to purchase the products and services of LSI, Agere or the combined company due to uncertainty about the direction of the combined company’s offerings and willingness to support existing products. To the extent that the merger creates uncertainty among those persons and organizations contemplating purchases such that one large customer, or a significant group of smaller customers, delays, defers or changes purchases in connection with the planned merger, the revenues of LSI, Agere or the combined company would be adversely affected. Customer assurances may be made by LSI and Agere to address their customers’ uncertainty about the direction of the combined company’s product and related support offerings, which may result in additional obligations of LSI, Agere or the combined company. In addition, the announcement of the merger may cause prospective licensees of Agere’s intellectual property to delay or defer licensing decisions, resulting in a decline in Agere’s licensing revenues, which could have a significant impact on the profitability of Agere and the combined company. Quarterly revenues and net earnings of LSI, Agere or the combined company could be substantially below expectations of market analysts and a decline in the companies’ respective stock prices could result. Provisions of the merger agreement may deter alternative business combinations and could negatively affect our stock price if the merger agreement is terminated in certain circumstances. CORPORATE INFORMATION PROXY STATEMENT FINANCIALS The merger agreement prohibits LSI and Agere from soliciting, initiating, encouraging or facilitating certain alternative acquisition proposals with any third party, subject to exceptions set forth in the merger agreement. The merger agreement also provides for the payment by LSI or Agere of a termination fee of $120 million if the merger agreement is terminated in certain circumstances in connection with a competing third-party acquisition proposal for one of the companies. These provisions limit our ability to pursue offers from third parties that could result in greater value to our stockholders. The obligation to pay the termination fee also may discourage a third party from pursuing an alternative acquisition proposal. If the merger is terminated and we determine to seek another business combination, we can not assure you that we will be able to negotiate a transaction with another company on terms comparable to the terms of the merger, or that we will avoid incurring fees associated with the termination of the merger agreement. In the event the merger is terminated by LSI or Agere in circumstances that obligate either party to pay the termination fee to the other party, including where either party terminates the merger agreement because the other party’s board of directors withdraws its support of the merger, our stock price may decline. If the proposed merger with Agere is not completed, we will have incurred substantial costs that may adversely affect our results of operations and the market price of our common stock. If the proposed merger with Agere is not completed, the price of our common stock may decline to the extent that the current market prices of our common stock reflect a market assumption that the merger will be completed. In addition, we have incurred and will incur substantial costs in connection with the proposed merger. These costs are primarily associated with the fees of attorneys, accountants and our financial advisor. In addition, we have 18 diverted significant management resources in an effort to complete the proposed merger and we are subject to restrictions contained in the merger agreement on the conduct of our business. If the merger is not completed, we will have incurred significant costs, including the diversion of management resources, for which we will have received little or no benefit. Also, if the merger is not completed under certain circumstances specified in the merger agreement, we may be required to pay a termination fee of $120 million. In addition, if the proposed merger with Agere is not completed, we may experience negative reactions from the financial markets and our suppliers, customers and employees. Each of these factors may adversely affect the trading price of our common stock and our results of operations. Risk Factors Relating to our Business and Risk Factors Relating to the Business of the Combined Company if our Proposed Merger with Agere is completed FINANCIALS We may fail to realize the benefits expected from the proposed merger with Agere, which could adversely affect the value of our common stock. The proposed merger involves the integration of LSI and Agere, two companies that have previously operated independently. We entered into the merger agreement with the expectation that, among other things, the proposed merger would enable us to consolidate support functions, leverage our research and development, patents and services across a larger base, and integrate our workforces to create opportunities to achieve cost savings and to become a stronger and more competitive company. Although we expect significant benefits to result from the proposed merger, there can be no assurance that the combined company will actually realize these or any other anticipated benefits of the merger. The value of our common stock following completion of the proposed merger may be affected by the ability of the combined company to achieve the benefits expected to result from the merger. LSI and Agere currently operate in 20 countries, with a combined workforce of approximately 9,100 employees. Achieving the benefits of the merger will depend in part upon meeting the challenges inherent in the successful combination and integration of global business enterprises of the size and scope of LSI and Agere. The challenges involved in this integration include the following: • Demonstrating to customers of LSI and Agere that the merger will not result in adverse changes to the ability of the combined company to address the needs of customers or the loss of attention or business focus; PROXY STATEMENT CORPORATE INFORMATION • Coordinating and integrating independent research and development teams across technologies and product platforms to enhance product development while reducing costs; • Combining product offerings; • Consolidating and integrating corporate, information technology, finance, and administrative infrastructures; • Coordinating sales and marketing efforts to effectively position the capabilities of the combined company and the direction of product development; and • Minimizing the diversion of management attention from important business objectives. If the combined company does not successfully manage these issues and the other challenges inherent in integrating businesses of the size and complexity of LSI and Agere, then the combined company may not achieve the anticipated benefits of the proposed merger and our revenues, expenses, operating results and financial condition could be materially adversely affected. For example, goodwill and other intangible assets could be determined to be impaired, which could adversely affect our financial results of operations. The successful integration of the LSI and Agere businesses is likely to require significant management attention both before and after the completion of the proposed merger, and may divert the attention of our management from business and operational issues. 19 We must attract and retain key employees in a highly competitive environment; uncertainties associated with the proposed merger with Agere may cause a loss of employees and may otherwise materially adversely affect the businesses of LSI and Agere, and the future business and operations of the combined company. Our success depends in part upon our ability to retain key employees. In some of the fields in which we operate, there are only a limited number of people in the job market who possess the requisite skills. We have experienced difficulty in hiring and retaining sufficient numbers of qualified engineers in parts of our business. Current and prospective employees of LSI and Agere may experience uncertainty about their post-merger roles with the combined company following the proposed merger. This may materially adversely affect our ability to attract and retain key management, sales, marketing, technical and other personnel. In addition, key employees may depart because of issues relating to the uncertainty and difficulty of integration or a desire not to remain with us following the proposed merger. The loss of services of any key personnel or the inability to hire new personnel with the requisite skills could restrict our ability to develop new products or enhance existing products in a timely matter, to sell products to customers or to manage our business effectively. The industries in which we operate are highly cyclical, and our operating results may fluctuate. We operate in the highly cyclical semiconductor device and storage systems industries. These industries are characterized by wide fluctuations in product supply and demand. In the past, the semiconductor industry has experienced significant downturns, often in connection with, or in anticipation of, excess manufacturing capacity worldwide, maturing product cycles and declines in general economic conditions. Even if demand for our products remains constant, the availability of additional excess production capacity in the semiconductor industry may create competitive pressures that can degrade pricing levels and reduce our revenues. General economic weakness and geopolitical factors may harm our operating results and financial condition. Our results of operations are, and the results of operations of the combined company after the proposed merger with Agere will be, dependent to a large extent upon the global economy. Geopolitical factors such as terrorist activities, armed conflict or global health conditions that adversely affect the global economy may adversely affect our operating results and financial condition. We are dependent upon a limited number of customers. CORPORATE INFORMATION PROXY STATEMENT FINANCIALS A limited number of customers will account for a substantial portion of our revenues. For LSI’s most recent fiscal year ended December 31, 2006, International Business Machines Corporation and Seagate Technology represented approximately 19% and 12%, respectively, of LSI’s consolidated revenues. If any of our key customers were to decide to significantly reduce or cancel its existing business, our operating results and financial condition could be adversely affected. Because many of our products have long product design and development cycles, it may be difficult for us to replace key customers who reduce or cancel existing business. In addition, we may not win new product designs from major existing customers, major customers may make significant changes in scheduled deliveries, or there may be declines in the prices of products sold to these customers, and our business may be adversely affected if any of these events were to occur. We depend upon independent foundry subcontractors to manufacture our semiconductor products; accordingly, any failure to secure and maintain sufficient foundry capacity could materially and adversely affect our business. Since selling our Gresham, Oregon semiconductor manufacturing facility in May 2006, we have relied entirely on independent foundry subcontractors to manufacture our semiconductor products. Because we rely on third party manufacturing relationships, we face the following risks: • a manufacturer may be unwilling to devote adequate capacity to production of our products or may be unable to produce our products; 20 • a manufacturer may not be able to develop manufacturing methods appropriate for our products; • manufacturing costs may be higher than planned; • product reliability may decline; • a manufacturer may not be able to maintain continuing relationships with our suppliers; and • we may have reduced control over delivery schedules, quality, manufacturing yields and costs of products. If any of these risks were to be realized, we could experience an interruption in supply or an increase in costs, which could adversely affect our results of operations. The ability of an independent foundry subcontractor to provide us with semiconductor devices is limited by its available capacity and existing obligations. Availability of foundry capacity has in the recent past been reduced from time to time due to strong demand. Although we have entered into contractual commitments to supply specified levels of products to some of our customers, other than a wafer supply agreement we have with ON Semiconductor, we do not have long-term volume purchase agreements or significant guaranteed level of production capacity with any of our third-party foundry suppliers. Foundry capacity may not be available when needed at reasonable prices. We place orders on the basis of our customers’ purchase orders or our forecast of customer demand, and the foundries can allocate capacity to the production of other companies’ products and reduce deliveries to us on short notice. It is possible that other foundry customers that are larger and better financed than us, or that have long-term agreements with the foundry suppliers, may induce foundries to reallocate capacity to them. This reallocation could impair our ability to secure the supply of components that we need. Also, our foundry suppliers migrate capacity to newer, state-of-the-art manufacturing processes on a regular basis, which may create capacity shortages for products designed to be manufactured on older processes. In addition, the occurrence of a public health emergency or natural disaster could further affect the production capabilities of our manufacturers by resulting in quarantines or closures. If any of our foundry suppliers experiences a shortage in capacity, suffers any damage to its facilities due to earthquakes or other natural disasters, experiences power outages, encounters financial difficulties or experiences any other disruption of foundry capacity, we may need to qualify an alternative foundry supplier, which may require several months. As a result of all of these factors and risks, we can not provide any assurances that any foundries will be able to produce integrated circuits with acceptable manufacturing yields, or that foundries will be able to deliver enough semiconductor devices to us on a timely basis, or at reasonable prices. We operate in intensely competitive markets. Each of LSI and Agere derive significant revenue from the sale of integrated circuits, and LSI also operates in the Storage Systems segment. These industry segments are intensely competitive and competition is expected to increase as existing competitors enhance their product offerings and as new participants enter the market. The competitors of LSI and Agere include many large domestic and foreign companies that have substantially greater financial, technical and management resources than LSI or Agere. Several major diversified electronics companies offer custom solutions and/or other standard products that are competitive with the products of LSI and Agere. Other competitors are specialized, rapidly growing companies that sell products into the same markets that LSI or Agere target or that the combined company will target. Some of our customers may also design and manufacture products that will compete with our products. We can not provide any assurances that the price and performance of our products will be superior relative to the products of our competitors. Increased competition may negatively affect our pricing, margins and revenues. For example, competitors with greater financial resources may be able to offer lower prices than us, or they may offer additional products, services or other incentives that we may not be able to match. Competitors may be in a stronger position than us to respond quickly to new technologies and may be able to undertake more extensive marketing campaigns. They may also make strategic acquisitions or establish cooperative relationships among themselves or with third parties to increase their ability to gain market share. In addition, competitors may sell commercial quantities of products before we do so, establishing market share and creating a market position that we may not be able to overcome once we introduce similar products in commercial quantities. 21 FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Our target markets are characterized by rapid technological change. The industry segments in which we currently operate, and in which the combined company will operate, are characterized by rapid technological change, changes in customer requirements, limited ability to accurately forecast future customer orders, frequent new product introductions and enhancements, short product cycles and evolving industry standards. We believe that our future success will depend, in part, upon our ability to improve on existing technologies and to develop and implement new ones, as well as upon our ability to adopt and implement emerging industry standards in a timely manner and to adapt products and processes to technological changes. If we are not able to successfully implement new process technologies or to achieve volume production of new products at acceptable yields, our operating results and financial condition may be adversely affected. In addition, if we fail to make sufficient investments in research and development programs in order to develop new and enhanced products and technologies, or if we focus on technologies that do not become widely adopted, new technologies could render our current and planned products obsolete, resulting in the need to change the focus of our research and development and product strategies and disrupting our business significantly. In addition, the emergence of markets for integrated circuits may be affected by factors beyond our control. In particular, products are designed to conform to current specific industry standards. Our customers may not adopt or continue to follow these standards, which would make our products less desirable to customers, and could negatively affect sales. Also, competing standards may emerge that are preferred by our customers, which could reduce sales and require us to make significant expenditures to develop new products. To the extent that we are not able to effectively and expeditiously adapt to new standards, our business may be negatively affected. Order or shipment cancellations or deferrals could cause our revenue to decline or fluctuate. PROXY STATEMENT FINANCIALS We sell, and expect to continue to sell, a significant amount of products pursuant to purchase orders that customers may cancel or defer on short notice without incurring a significant penalty. Cancellations or deferrals could cause us to hold excess inventory, which could adversely affect our results of operations. If a customer cancels or defers product shipments or refuses to accept shipped products, we may incur unanticipated reductions or delays in revenue. If a customer does not pay for products in a timely manner, we could incur significant charges against income, which could materially and adversely affect our results of operations. We design and develop highly complex products that require significant investments. Our products are highly complex and significant time and expense are expected to be associated with the design, development and manufacture of our products. We expect to incur substantial research and development costs to confirm the technical feasibility and commercial viability of our products, which in the end may not be successful. Our products may contain defects. Our products may contain undetected defects, errors or failures. These products can only be fully tested when deployed in commercial applications and other equipment. Consequently, customers may discover errors after the products have been deployed. The occurrence of any defects, errors or failures could result in: • cancellation of orders; • product returns, repairs or replacements; • diversion of our resources; • legal actions by customers or customers’ end users; • increased insurance costs; and • other losses to us or to customers or end users. Any of these occurrences could also result in the loss of or delay in market acceptance of products and loss of sales, which could negatively affect our business and results of operations. As our products become even more complex in the future, this risk may intensify over time and may result in increased expenses. 22 CORPORATE INFORMATION Our manufacturing facilities have high fixed costs and involve highly complex and precise processes. LSI has a storage systems manufacturing facility in Wichita, Kansas. If our proposed merger with Agere is completed, we will acquire Agere’s assembly and test facilities and its 51% equity interest in Silicon Manufacturing Partners, a fabrication facility joint venture with Chartered Semiconductor Manufacturing Ltd. Operations at any of these facilities may be disrupted for reasons beyond our control, including work stoppages, supply shortages, fire, earthquake, tornado, floods or other natural disasters, any of which could have a material adverse effect on our results of operations or financial position. In addition, if we do not experience adequate utilization of, or adequate yields at, our manufacturing facilities, our results of operations may be adversely affected. We confront challenges in the manufacturing process that require us to: maintain a competitive manufacturing cost structure; exercise stringent quality control measures to obtain high yields; effectively manage subcontractors engaged in the wafer fabrication, test and assembly of products; and update equipment and facilities as required for leading edge production capabilities. FINANCIALS The manufacture of our products involves highly complex and precise processes, requiring production in a clean and tightly controlled environment. In addition, the manufacture of integrated circuits is a highly complex and technologically demanding process. Although we work closely with our foundry suppliers to minimize the likelihood of reduced manufacturing yields, such foundries have, from time to time, experienced lower than anticipated manufacturing yields. This often occurs during the production of new products or the installation and start-up of new process technologies. Poor yields from our foundry suppliers could result in product shortages or delays in product shipments, which could seriously harm relationships with our customers and materially and adversely affect our business and results of operations. Failure to qualify our products or our suppliers’ manufacturing lines may adversely affect our results of operations. Some customers will not purchase any products, other than limited numbers of evaluation units, until they qualify the manufacturing line for the product. We may not always be able to satisfy the qualification requirements of these customers. Delays in qualification may cause a customer to discontinue use of non-qualified products and result in a significant loss of revenue. We depend upon third-party subcontractors to assemble, obtain packaging materials for, and test certain products. Third-party subcontractors located in Asia assemble, obtain packaging materials for, and test certain products of LSI. Although Agere owns and operates its own semiconductor assembly and test facilities, even if the proposed merger with Agere is consummated, the combined company will continue to depend upon third-party subcontractors to assemble and test some of the combined company’s semiconductor products or to perform other services for the combined company. To the extent that we rely upon third-party subcontractors to perform these functions, we will not be able to control directly product delivery schedules and quality assurance. This lack of control may result in product shortages or quality assurance problems that could delay shipments of products or increase manufacturing, assembly, testing or other costs. In addition, if these third-party subcontractors are unable to obtain sufficient packaging materials for products in a timely manner, we may experience product shortages or delays in product shipments, which could materially and adversely affect customer relationships and results of operations. If any of these subcontractors experiences capacity constraints or financial difficulties, suffers any damage to its facilities, experiences power outages or any other disruption of assembly or testing capacity, we may not be able to obtain alternative assembly and testing services in a timely manner. Due to the amount of time that it usually takes to qualify assemblers and testers, we could experience significant delays in product shipments if we are required to find alternative assemblers or testers for such components. A widespread outbreak of an illness or other health issue could negatively affect our manufacturing, assembly and test, design or other operations. A widespread outbreak of an illness such as avian influenza, or bird flu, or severe acute respiratory syndrome, or SARS, could adversely affect our operations as well as demand from customers. A number of countries in the 23 PROXY STATEMENT CORPORATE INFORMATION Asia/Pacific region have experienced outbreaks of bird flu and/or SARS. As a result of such an outbreak, businesses can be shut down temporarily and individuals can become ill or quarantined. After the proposed merger with Agere, we will have operations in Singapore, Thailand and China, countries where outbreaks of bird flu and/or SARS have occurred. If operations are curtailed because of health issues, we may need to seek alternate sources of supply for manufacturing or other services and alternate sources can be more expensive. Alternate sources may not be available or may result in delays in shipments to customers, which would affect results of operations. In addition, a curtailment of design operations could result in delays in the development of new products. If customers’ businesses are affected by health issues, they might delay or reduce purchases, which could adversely affect results of operations. We procure parts and raw materials from a limited number of domestic and foreign sources. We do not maintain an extensive inventory of parts and materials for manufacturing storage systems at our Wichita, Kansas facility. We purchase, and expect that we will continue to purchase, a portion of our requirements for parts and raw materials from a limited number of sources, primarily from suppliers in Japan and their U.S. subsidiaries, and obtain other material inputs on a local basis. If we have difficulty in obtaining parts or materials in the future from our existing suppliers, alternative suppliers may not be available, or suppliers may not provide parts and materials in a timely manner or on favorable terms. As a result, we may be adversely affected by delays in product shipments. If we cannot obtain adequate materials for manufacture of our products, or if such materials are not available at reasonable prices, there could be a material adverse impact on our operating results and financial condition. If our new product development and expansion efforts are not successful, our results of operations may be adversely affected. LSI is currently developing, and we expect that we will continue to develop, products in new areas and we may seek to expand into additional areas in the future. Our efforts to develop products and expand into new areas may not result in sales that are sufficient to recoup our investment, and we may experience higher costs than anticipated. For example, we may not be able to manufacture products at a competitive cost, we may need to rely on new suppliers or we may find that our development efforts are more costly or time consuming than anticipated. Development of new products often requires long-term forecasting of market trends, development and implementation of new or changing technologies and a substantial capital commitment. There can be no assurance that any products that we select for investment of our financial and engineering resources will be developed or acquired in a timely manner or will enjoy market acceptance. In addition, our products may support protocols that are not widely adopted and we may have difficulties entering markets where competitors have strong market positions. We may engage in acquisitions and alliances giving rise to financial and technological risks. We may explore strategic acquisitions that build upon or expand our library of intellectual property, human capital and engineering talent, and increase our ability to fully address the needs of our customers. For example, in addition to the proposed merger with Agere, in November 2006 we acquired StoreAge Networking Technologies Ltd., a privately held software company based in Nesher, Israel, for approximately $50 million in cash. Also in November 2006, we acquired Metta Technology, a privately held company based in Pune, India that develops multimedia system-on-chip technology and related software for consumer electronics products. In February 2007, we entered into an agreement to acquire SiliconStor, a privately held company that provides silicon solutions for enterprise storage networks. SiliconStor is headquartered in Fremont, California and has approximately 30 employees. At the closing of the acquisition, we expect to pay approximately $55 million in cash for SiliconStor. The closing of the acquisition is subject to the satisfaction of customary closing conditions and is expected to occur in the first quarter of 2007. Mergers and acquisitions of high-technology companies bear inherent risks. No assurance can be given that our previous acquisitions or future acquisitions will be successful and will not materially adversely affect our business, operating results or financial condition. Failure to manage growth effectively or to integrate acquisitions could adversely affect our operating results and financial condition. In addition, we may make investments in companies, products and technologies through strategic alliances and otherwise. Investment 24 FINANCIALS CORPORATE INFORMATION PROXY STATEMENT activities often involve risks, including the need for timely access to needed capital for investments and to invest in companies and technologies that will contribute to the growth of our business. The semiconductor industry is prone to intellectual property litigation. As is typical in the semiconductor industry, we are frequently involved in disputes regarding patent and other intellectual property rights. We have in the past received, and we may in the future receive, communications from third parties asserting that certain of our products, processes or technologies infringe upon their patent rights, copyrights, trademark rights or other intellectual property rights, and we may also receive claims of potential infringement if we attempt to license intellectual property to others. Defending these claims may be costly and time consuming, and may divert the attention of management and key personnel from other business issues. Claims of intellectual property infringement also might require us to enter into costly royalty or license agreements. We may not be able to obtain royalty or license agreements on acceptable terms. Resolution of whether any of our products or intellectual property has infringed upon valid rights held by others could have a material adverse effect on our results of operations or financial position and may require material changes in production processes and products. We may not be able to adequately protect or enforce our intellectual property rights, which could harm our competitive position. Our success and future revenue growth will depend, in part, upon our ability to protect our intellectual property. We will primarily rely on patent, copyright, trademark and trade secret laws, as well as nondisclosure agreements and other methods, to protect our proprietary technologies and processes. It is possible that competitors or other unauthorized third parties may obtain, copy, use or disclose proprietary technologies and processes, despite our efforts to protect our proprietary technologies and processes. While we hold a significant number of patents, there can be no assurances that any additional patents will be issued. Even if new patents are issued, the claims allowed may not be sufficiently broad to protect our technology. In addition, any of LSI or Agere’s existing patents, and any future patents issued to us, may be challenged, invalidated or circumvented. As such, any rights granted under these patents may not provide us with meaningful protection. LSI and Agere may not have, and in the future we may not have, foreign patents or pending applications corresponding to its U.S. patents and applications. Even if foreign patents are granted, effective enforcement in foreign countries may not be available. If our patents do not adequately protect our technology, competitors may be able to offer products similar to our products. Our competitors may also be able to develop similar technology independently or design around our patents. Some or all of LSI’s and Agere’s patents have in the past been licensed and likely will in the future be licensed to certain of our competitors through cross-license agreements. A decline in the revenue that we expect to derive from the licensing of intellectual property could have a significant impact on net income. Agere currently generates significant revenue from, and if we complete the proposed merger with Agere, we expect to generate revenue from, the licensing of intellectual property. The revenue generated from the licensing of Agere’s intellectual property has a high gross margin compared to the revenue generated from the sale of other products currently sold by Agere, and a decline in this licensing revenue could have a significant impact on the profitability of the combined company. The combined company’s licensing revenue is expected to come from a limited number of transactions and the failure to complete one or more transactions in a quarter could have a material adverse impact on revenue and profitability. We conduct a significant amount of activity outside of the United States, and are exposed to legal, business, political and economic risks associated with our international operations. We derive, and it is expected that we will continue to derive, a substantial portion of our revenue from sales of products shipped to locations outside of the United States. In addition, we manufacture, and it is expected that we will continue to manufacture, a significant portion of our products outside of the United States and we are dependent upon non-U.S. suppliers for many parts and services. We may also pursue growth opportunities in sales, design and 25 FINANCIALS PROXY STATEMENT CORPORATE INFORMATION manufacturing outside of the United States. Operations outside of the United States are subject to a number of risks and potential costs that could adversely affect our revenue and results of operations, including: • political, social and economic instability; • fluctuations in foreign currency exchange rates; • exposure to different legal standards, particularly with respect to intellectual property; • natural disasters and public health emergencies; • nationalization of businesses and blocking of cash flows; • trade and travel restrictions; FINANCIALS • imposition of governmental controls and restrictions; • burdens of complying with a variety of foreign laws; • import and export license requirements and restrictions; • unexpected changes in regulatory requirements; • foreign technical standards; • difficulties in staffing and managing international operations; • international trade disputes; PROXY STATEMENT • difficulties in collecting receivables from foreign entities or delayed revenue recognition; and • potentially adverse tax consequences. We may rely on the capital markets and/or bank markets to provide financing. We may rely on the capital markets and/or bank markets to provide financing for strategic acquisitions, capital expenditures and other general corporate needs. As of December 31, 2006, LSI had approximately $350 million of convertible notes outstanding. We may need to seek additional equity financing or debt financing from time to time. Historically, we have been able to access the capital markets and the bank markets when deemed appropriate, but we may not be able to access these markets in the future on acceptable terms. The availability of capital in these markets may be affected by several factors, including geopolitical risk, the interest rate environment and the condition of the economy as a whole. Moreover, any future equity or equity-linked financing may dilute the equity ownership of existing shareholders. In addition, our operating performance, capital structure and expected future performance will affect our ability to raise capital. We believe that our current cash, cash equivalents, short-term investments and expected future cash from operations will be sufficient to fund our needs in the foreseeable future. We utilize indirect channels of distribution over which we will have limited control. Financial results could be adversely affected if our relationships with resellers or distributors were to deteriorate or if the financial condition of these resellers or distributors were to decline. In addition, as our business grows, there may be an increased reliance on indirect channels of distribution. There can be no assurance that we will be successful in maintaining or expanding these indirect channels of distribution. This could result in the loss of certain sales opportunities. Furthermore, the partial reliance on indirect channels of distribution may reduce visibility with respect to future business, thereby making it more difficult to accurately forecast orders. We may not be able to collect all of our accounts receivable from customers. A majority of our trade receivables have been, and it is expected that a majority of our trade receivables will continue to be, derived from sales of products to large multinational computer, communication, networking, storage and consumer electronics manufacturers. We can not provide any assurances that our accounts receivable balances will be paid on time or at all. 26 CORPORATE INFORMATION The price of our securities may be subject to wide fluctuations. Our stock has experienced substantial price volatility, particularly as a result of quarterly variations in results, the published expectations of analysts and announcements by us and our competitors, and our stock is likely to be subject to similar volatility in the future. Many of the markets from which we expect to derive a substantial portion of our revenues are highly cyclical, and we may experience declines in our revenue that are primarily related to industry conditions in general and not to our business or prospects. In addition, the stock market has experienced price and volume fluctuations that have affected the market price of many technology companies and that have often been unrelated to the operating performance of such companies. The price of our securities may also be affected by general global, economic and market conditions. While we cannot predict the individual effect that these and other factors may have on the price of the our securities in the future, these factors, either individually or in the aggregate, could result in significant variations in our stock price during any given period of time. Fluctuations in our stock price may also affect the price of outstanding convertible securities of Agere and LSI, and the likelihood of the convertible securities being converted into cash or equity. If our stock price is below the conversion price of the Agere or LSI convertible notes on the date of maturity, they may not convert into equity and we may be required to redeem the outstanding convertible securities for cash. However, in the event they do not convert into equity, we believe that our cash position and expected future operating cash flows will be adequate to meet these obligations as they mature. In the past, securities class action litigation often has been brought against a company following periods of volatility in the market price of its securities. Companies in technology industries are particularly vulnerable to this kind of litigation due to the high volatility of their stock prices. Accordingly, we may in the future be the target of securities litigation. Any securities litigation could result in substantial costs and could divert the attention and resources of our management. PROXY STATEMENT FINANCIALS Future changes in financial accounting standards or practices or existing taxation rules or practices may cause adverse unexpected fluctuations and affect reported results of operations. Financial accounting standards in the United States are constantly under review and may be changed from time to time. We would be required to apply these changes if adopted. Once implemented, these changes could result in material fluctuations in our results of operations and/or the way in which such results of operations are reported. For example, on January 1, 2006, we adopted SFAS 123-R. In accordance with the modified prospective transition method, we began recognizing compensation expense for all share-based awards granted on or after January 1, 2006, plus unvested awards granted prior to January 1, 2006. The adoption of SFAS 123-R had a significant impact on our operating results as share-based compensation expense is charged directly against reported earnings. Numerous judgments and estimates are involved in the calculation of this expense and changes to those estimates or different judgments could have a significant effect on our reported earnings. Similarly, we are subject to taxation in the United States and a number of foreign jurisdictions. Rates of taxation, definitions of income, exclusions from income, and other tax policies are subject to change over time. Changes in tax laws in a jurisdiction in which we have reporting obligations could have a material impact on our results of operations. We face uncertainties related to the effectiveness of internal controls. Public companies in the United States are required to review their internal controls over financial reporting under Section 404 of the Sarbanes-Oxley Act of 2002. It should be noted that any system of controls, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system are met. In addition, the design of any control system is based in part upon certain assumptions about the likelihood of future events. Because of these and other inherent limitations of control systems, there can be no assurance that any design will achieve its stated goal under all potential future conditions, regardless of how remote. Although our management has determined, and our independent registered public accounting firm has attested, that our internal controls were effective as of the end of our most recent fiscal year, there can be no assurance that our internal control systems and procedures, or the integration of LSI and Agere and their respective internal control systems and procedures, will not result in or lead to a future material weakness in our internal 27 CORPORATE INFORMATION controls, or that we or our independent registered public accounting firm will not identify a material weakness in our internal controls in the future. A material weakness in internal controls over financial reporting would require management and our independent public accounting firm to evaluate our internal controls as ineffective. If internal controls over financial reporting are not considered adequate, we may experience a loss of public confidence, which could have an adverse effect on our business and stock price. Internal control deficiencies or weaknesses that are not yet identified could emerge. Over time we may identify and correct deficiencies or weaknesses in our internal controls and, where and when appropriate, report on the identification and correction of these deficiencies or weaknesses. However, the internal control procedures can provide only reasonable, and not absolute, assurance that deficiencies or weaknesses are identified. Deficiencies or weaknesses that are not yet identified by us could emerge and the identification and correction of these deficiencies or weaknesses could have a material impact on our results of operations. Item 1B. Unresolved Staff Comments Not applicable. Item 2. Properties We lease approximately 460,000 square feet of real property in Milpitas, California for our corporate headquarters, administration and engineering offices. These leases expire from 2010 to 2014. PROXY STATEMENT FINANCIALS In May 2006, we completed the sale of our formerly-owned semiconductor manufacturing facility in Gresham, Oregon to ON Semiconductor. We continue to own approximately 200 acres of land in Gresham, Oregon. We also own approximately 150,000 square feet of sales and engineering office space and approximately 85 acres of unimproved land in Fort Collins, Colorado; we have agreed to sell approximately 58 acres of that unimproved land. We also own approximately 180,000 square feet of sales and engineering office space in Colorado Springs, Colorado. These facilities are used by both our Semiconductor segment and our Storage Systems segment. We also own our logistics center in Tsuen Wan, Hong Kong, which consists of approximately 27,000 square feet. In the Storage Systems segment, we own our manufacturing, engineering and executive office site in Wichita, Kansas, which includes approximately 330,000 square feet of space, and we lease a facility in Boulder, Colorado, which consists of approximately 50,000 square feet. We also lease space for executive offices, design centers and sales offices for our Semiconductor segment and Storage Systems segment in Norcross, Georgia, Bracknell, United Kingdom and Tokyo, Japan. In addition, we lease space for sales and engineering offices and design centers for our Semiconductor segment and our Storage Systems segment at various other locations in North America, Europe, Canada, China, Dubai, India, Israel, Japan, Korea, Russia, Singapore and Taiwan (See Note 12 of the Notes.) We believe that our existing facilities and equipment are well maintained, in good operating condition, suitable for our operations and are adequate to meet our current requirements. Item 3. Legal Proceedings This information is included in Note 12 (“Commitments and Contingencies — Legal Matters”) of the Notes, which information is incorporated herein by reference from Item 8 of Part II hereof. Item 4. Submission of Matters to a Vote of Security Holders During the fourth quarter of 2006, no matter was submitted to a vote of our security holders. 28 CORPORATE INFORMATION Executive Officers of LSI Our executive officers as of March 1, 2007 are set forth below. Our executive officers are elected by and serve at the discretion of our Board of Directors. The ages set forth below for our executive officers are as of March 1, 2007. Name Age Position Abhijit Y. Talwalkar . . . . . . . . . . . . . . . Philip G. Brace . . . . . . . . . . . . . . . . . . . Philip W. Bullinger . . . . . . . . . . . . . . . . Donald J. Esses . . . . . . . . . . . . . . . . . . . Jon R. Gibson . . . . . . . . . . . . . . . . . . . . Andrew S. Hughes. . . . . . . . . . . . . . . . . Bryon Look. . . . . . . . . . . . . . . . . . . . . . Umesh Padval . . . . . . . . . . . . . . . . . . . . D. Jeffrey Richardson . . . . . . . . . . . . . . Flavio Santoni . . . . . . . . . . . . . . . . . . . . William J. Wuertz . . . . . . . . . . . . . . . . . 42 36 42 55 60 41 53 49 42 48 49 President and Chief Executive Officer Senior Vice President, Corporate Planning and Marketing Senior Vice President, Engenio Storage Group Executive Vice President, Worldwide Operations Vice President, Human Resources Vice President, General Counsel and Corporate Secretary Executive Vice President and Chief Financial Officer Executive Vice President, Consumer Products Group Executive Vice President, Custom Solutions Group Executive Vice President, Worldwide Storage Sales and Marketing Senior Vice President, Storage Components Group FINANCIALS PROXY STATEMENT Abhijit Talwalkar was appointed President and Chief Executive Officer and elected to the Company’s Board of Directors in May 2005. Prior to joining LSI, Mr. Talwalkar was employed by Intel Corporation, a microprocessor manufacturer, most recently as Corporate Vice President and Co-general Manager of the Digital Enterprise Group from January 2005 until he joined LSI in May 2005. Previously, from May 2004 to January 2005, he served as Vice President and General Manager for Intel’s Enterprise Platform Group. Prior to this role, from April 2002 to May 2004, he served as Vice President and General Manager of Intel’s Platform Products Group, within Intel’s Enterprise Platform Group. Mr. Talwalkar served as Vice President and Assistant General Manager of Intel’s Enterprise Platform Group from June 2001 to March 2002. Prior to this position, Mr. Talwalkar held the position of Vice President and General Manager of the Enterprise Platform and Service Division of Intel. Philip G. Brace joined LSI in August 2005 as Senior Vice President, Corporate Planning and Marketing. He joined LSI from Intel Corporation, a microprocessor manufacturer, where from November 2004 until his departure from Intel in August 2005, he served as General Manager of Sever Platforms Group Marketing within the Digital Enterprise Group. Mr. Brace joined Intel in 1993, holding marketing, sales, and applications engineering positions in both silicon and systems products. From April 2004 to November 2004, he served as Director of Volume Platform Marketing within Intel’s Enterprise Platform Group. Prior to this role, he served as Director of marketing for the Enterprise Platforms and Services Division within Intel’s Enterprise Platform Group from October 2001 until April 2004. From February 1999 to October 2001 he was Director of Marketing for the Fabric Components Division within Intel’s Enterprise Platform Group. Philip W. Bullinger joined LSI in 1998 as part of LSI’s acquisition of Symbios, Inc. and served as Director of Product Development until August 2001. Symbios was a storage company. From September 2001, he has served as Vice President and General Manager of LSI Logic’s RAID Storage Adapters division. In August 2005, Mr. Bullinger was promoted to his current position of Senior Vice President of our Engenio Storage Group. Donald J. Esses was named Executive Vice President, Worldwide Operations in December 2003. He joined LSI in 1983 and has held management positions in process and product engineering. From July 1994 to November 2000, Mr. Esses held the position of Vice President, U.S. Manufacturing. From November 2000 to December 2003, he was Vice President of Supply Chain Management. 29 CORPORATE INFORMATION Jon Gibson was named Vice President, Human Resources in November 2001. He joined LSI in September 1984 as Employee Relations Manager. Mr. Gibson was named Director of Human Resources in October 1987. From March 1999 until November 2001, Mr. Gibson served as Senior Director of Human Resources. Andrew S. Hughes was named Vice President, General Counsel and Corporate Secretary in May 2006. Mr. Hughes joined LSI in 2000 and was manager of LSI’s commercial law group and assistant corporate secretary prior to being appointed to his current position. Prior to joining LSI, Mr. Hughes was division counsel for Harris Corporation from 1998 to 2000. Bryon Look was named Executive Vice President and Chief Financial Officer in November 2000. Mr. Look joined LSI in March 1997 as Vice President, Corporate Development and Strategic Planning. Prior to joining LSI, he was manager of business development at Hewlett-Packard’s corporate development department. During a 21-year career at Hewlett-Packard, Mr. Look held a variety of management positions in finance and research and development. Umesh Padval was named Executive Vice President, Consumer Products in August 2004. He served as Senior Vice President and General Manager for LSI’s Broadband Entertainment Division, a position he held since June 2001, when LSI acquired C-Cube Microsystems Inc. Mr. Padval served as the Chief Executive Officer of C-Cube from May 2000 until June 2001, and President of C-Cube’s semiconductor division from 1998 to 2000. Prior to joining C-Cube, Mr. Padval was Senior Vice President and General Manager of the Consumer Digital Entertainment and Computing Products Divisions at VLSI Technology, Inc. D. Jeffrey Richardson joined LSI in June 2005 as Executive Vice President, Customs Solutions Group. He joined Intel Corporation, a microprocessor manufacturer, in November 1992, where he held a variety of management positions. From February 2005 until his departure from Intel in June 2005, he served as Vice President of the Digital Enterprise Group and General Manager of the Server Platform Group. Earlier, from June 2001 to January 2005, Mr. Richardson was General Manager of Intel’s Enterprise Platforms and Services Division. From January 1999 to June 2001, he was Director of Product Development of Intel’s Enterprise Platforms and Services Division. Flavio Santoni was named Executive Vice President, Storage Sales and Marketing in October 2006. Mr. Santoni joined LSI in February 2001 as Vice President of Worldwide Marketing for the company’s Engenio storage systems subsidiary, becoming additionally responsible for its worldwide sales and customer support operations in October 2001. In August 2004, he was named senior vice president and was elected an LSI Logic corporate officer in December 2005. Previously, Mr. Santoni was Executive Vice President and Chief Operating Officer at Sutmyn Storage Corporation and held various senior management positions with Memorex Telex in the United States, United Kingdom and Italy. Prior to his promotion to his current position of Senior Vice President, Storage Components Group, in August 2005, William J. Wuertz was Senior Vice President and General Manager of LSI’s Storage Standard Products division, a position he held since joining LSI in 1998 as part of LSI’s acquisition of Symbios, Inc. Symbios was a storage company. There are no family relationships among any executive officers and directors. In connection with our proposed merger with Agere, we expect that we will make changes in the composition and roles of certain of our executive officers, subject to and effective as of completion of the pending merger. Immediately following the proposed merger with Agere, Abhijit Talwalker will continue to serve as our President and Chief Executive Officer and Bryon Look will continue to serve as our Chief Financial Officer. Although the exact composition of our executive management team following the proposed merger with Agere has not been finalized as of the date of this Annual Report on Form 10-K, it is currently expected that Phil Brace, Phil Bullinger, Jon Gibson, Jeff Hoogenboom (Executive Vice President, LSI Sales), Andy Micallef (Executive Vice President, Global Operations at Agere), Umesh Padval, Jean Rankin (Executive Vice President, General Counsel and Secretary at Agere), Denis Regimbal (Executive Vice President and General Manager, Mobility Division at Agere), Jeff Richardson, Flavio Santoni and Rudy Stroh (Executive Vice President and General Manager, Storage Division at Agere) will serve as part of the post-merger executive management team. 30 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Our stock trades on the NYSE under the symbol “LSI.” The Company’s Chief Executive Officer has certified to the NYSE that he is unaware of any violation by the Company of the NYSE’s corporate governance listing standards. On June 2, 2006, the Company submitted its Annual CEO Certification as required by Section 303A(12a) of the NYSE Listed Company Manual. The high and low closing sales prices for the stock for each full quarterly period within the two most recent fiscal years as reported on the NYSE are: 2006 High — Low 2005 High — Low First Quarter . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Second Quarter . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Third Quarter . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Fourth Quarter . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $11.56 — 8.16 $11.66 — 8.46 $ 9.06 — 7.46 $10.94 — 8.05 $11.66 — 7.46 $ 6.47 — 5.02 $ 8.69 — 5.11 $10.48 — 9.12 $ 9.91 — 7.70 $10.48 — 5.02 FINANCIALS At February 23, 2007, there were 3,193 owners of record of our common stock. We have never paid cash dividends on our common stock. It is presently our policy to reinvest our earnings, and we do not currently anticipate paying any cash dividends to stockholders in the foreseeable future. PROXY STATEMENT Equity Compensation Plan Information As of December 31, 2006 (a) Number of Securities to be Issued upon Exercise of Outstanding Options, Warrants and Rights (b) (c) Number of Securities Remaining Available for Future Issuance Under Equity Compensation Plans (Excluding Securities Reflected in Column (a)) Plan Category Weighted-average Exercise Price of Outstanding Options, Warrants and Rights Equity compensation plans approved by security holders(1) . . . . . . . . . . . Equity compensation plans not approved by security holders(2) . . . . Total. . . . . . . . . . . . . . . . . . . . . . . . . . CORPORATE INFORMATION 23,321,780 35,338,159 58,659,939 $12.94 $11.28 $11.94 62,498,682(3) 15,094,715 77,593,397 (1) Equity compensation plans approved by security holders are the following: (i) The Employee Stock Purchase Plan, amended and restated (“US ESPP”), under which rights are granted to LSI Logic employees in the United States to purchase shares of common stock at 85% of the lesser of the fair market value of such shares at the beginning of a 12-month offering period or the end of each six-month purchase period within such an offering period. There are 16,684,068 shares remaining available for future issuance under this plan, of which 9,000,000 shares were added to the plan by stockholder approval in 2006. The US ESPP includes an annual replenishment calculated at 1.15% of the Company’s common stock issued and outstanding at the fiscal year end less the number of shares available for future grants under the US ESPP. No shares have been added to the US ESPP from the annual replenishment since January 2001. (ii) The 2003 Equity Incentive Plan (the “2003 Plan”) was approved by stockholders in May 2003. Under this plan, the Company may grant stock options or restricted stock to employees, officers and consultants. There are 5,691,593 shares remaining available for future issuance under this plan, including 1,910,227 shares reserved for restricted stock awards that have been granted, but will not be issued until the awards have vested. Stock options have an exercise price that is no less than the fair market value of the stock on the date of grant. 31 The term of each option or restricted stock award is determined by the Board of Directors and, for option grants on or after February 12, 2004, is generally seven years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. Restricted stock awards may be granted with the vesting requirements determined by the Board of Directors. (iii) Under the 1991 Equity Incentive Plan (the “1991 Plan”), the Company may grant stock options to employees, officers and consultants, with an exercise price that is no less than the fair market value of the stock on the date of grant. The term of each option is determined by the Board of Directors and, for options granted on or after February 12, 2004, the term of the options is generally seven years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. With respect to shares previously approved by stockholders, no incentive stock options may be granted under this plan after March 2001. (iv) Under the 1995 Director Option Plan (“1995 Director Plan”), new directors receive an initial grant of options to purchase 30,000 shares of common stock and directors receive subsequent automatic grants of options to purchase 30,000 shares of common stock each year thereafter. The initial grants vest in annual increments of 25% per year, commencing one year from the date of grant. Subsequent option grants become exercisable in full six months after the grant date. The term of each option is ten years. The exercise price of the options granted is equal to the fair market value of the stock on the date of grant. (2) Equity compensation plans not previously approved by security holders are the following: (i) Options to purchase an aggregate of 4,348,969 shares with a weighted-average exercise price of $11.99 per share are outstanding that were assumed in acquisitions. No further options may be granted under these assumed plans. (ii) A total of 316,042 shares of common stock were reserved under the 2001 Supplemental Stock Issuance Plan, of which 14,830 shares remain available for future issuance. Shares of common stock may be issued under this plan pursuant to share right awards, which entitle the recipients to receive those shares upon the satisfaction of the following service requirements: 20% of the shares subject to an award will be issued upon completion of three months of continuous service measured from the award date, an additional 30% of the shares will be issued upon completion of 12 months of continuous service measured from the award date and the remaining 50% of the shares will be issued upon completion of 24 months of continuous service measured from the award date. (iii) Under the 1999 Nonstatutory Stock Option Plan (the “1999 Plan”), the Company may grant stock options to its employees, excluding officers, with an exercise price that is no less than the fair market value of the stock on the date of grant. The term of each option is determined by the Board of Directors and, for options granted on or after February 12, 2004, the term of the options is generally seven years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. (iv) Under the International Employee Stock Purchase Plan (“IESPP”), rights are granted to LSI Logic employees (excluding executive officers) outside of the United States to purchase shares of common stock at 85% of the lesser of the fair market value of such shares at the beginning of a 12-month offering period or the end of each six-month purchase period within such an offering period. There are 1,773,302 shares remaining available for future issuance under this plan, of which 1.0 million shares were added to the plan by stockholder approval in 2006. (3) Of the 62,498,682 securities remaining available for future issuance under equity compensation plans approved by security holders, up to 5,691,593 could be issued in the form of restricted stock awards (the number of securities that remain available for issuance under the 2003 Plan, subject to the plan limits on individual grants. See footnote (1)(ii) above. On July 28, 2000, the Company’s Board of Directors authorized a stock repurchase program in which up to 5.0 million shares of the Company’s common stock may be repurchased in the open market from time to time. On December 4, 2006, the Company announced that the Board of Directors had authorized a stock repurchase program of up to $500.0 million worth of shares of the Company’s common stock. Our Board of Directors terminated the stock repurchase program authorized by the Board on July 28, 2000. The repurchases are expected to be funded from available cash and short-term investments. No shares were repurchased under this plan during 2006. 32 PROXY STATEMENT CORPORATE INFORMATION FINANCIALS PERFORMANCE GRAPH Comparison of Five-year Cumulative Total Return among LSI Logic Corporation, the S&P 500 Index and the Philadelphia Semiconductor Index The stock price performance shown on the following graph is not necessarily indicative of future price performance. CUMULATIVE TOTAL RETURN Based upon initial investment of $100 on December 31, 2001 with dividends reinvested FINANCIALS $200 LSI Logic Corporation S&P 500® Philadelphia Semiconductor Index $150 $100 PROXY STATEMENT $50 Source: Georgeson, Inc. $0 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec 31, 2001 Dec 31, 2002 Dec 31, 2003 Dec 31, 2004 Dec 31, 2005 Dec 31, 2006 LSI Logic Corporation S&P 500» Philadelphia Semiconductor Index $100 $100 $100 $37 $78 $55 $ 56 $100 $ 98 $ 35 $111 $ 84 $ 51 $117 $ 93 $ 57 CORPORATE INFORMATION $135 $ 91 33 Item 6. Selected Financial Data Five-Year Consolidated Summary 2006 Year Ended December 31, 2005 2004 2003 (In thousands, except per share amounts) 2002 Revenues . . . . . . . . . . . . . . . . . . . . . . $1,982,148 Cost of revenues . . . . . . . . . . . . . . . . . 1,126,894 Additional excess inventory and related charges . . . . . . . . . . . . . . . . — Total cost of revenues . . . . . . . . . . . Gross profit . . . . . . . . . . . . . . . . . . . . Research and development . . . . . . . . . Selling, general and administrative . . . Acquired in-process research and development . . . . . . . . . . . . . . . . . . Restructuring of operations and other items, net . . . . . . . . . . . . . . . . . . . . Amortization of intangibles . . . . . . . . . Income/(loss) from operations . . . . . . . Interest expense . . . . . . . . . . . . . . . . . Interest income and other, net . . . . . . . Income/(loss) before income taxes and minority interest . . . . . . . . . . . . . . . Provision for income taxes . . . . . . . . . Income/(loss) before minority interest . . . . . . . . . . . . . . . . . . . . . . Minority interest in net income of subsidiary . . . . . . . . . . . . . . . . . . . . Net income/(loss) . . . . . . . . . . . . . . . . Basic net income/(loss) per share. . . . . $ Diluted net income/(loss) per share . . . $ FINANCIALS $1,919,250 1,087,558 — 1,087,558 831,692 399,685 238,265 — 119,052 62,484 12,206 (25,283) 34,000 20,923 26,540 (5,617) 6 $ $ $ (5,623) (0.01) (0.01) $1,700,164 964,754 — 964,754 735,410 427,805 245,460 — 423,444 75,050 (436,349) (25,320) 22,170 (439,499) 24,000 (463,499) 32 $ (463,531) $ $ (1.21) (1.21) $1,693,070 1,016,311 — 1,016,311 676,759 453,107 239,319 — 180,597 76,352 (272,616) (30,703) 18,933 (284,386) 24,000 (308,386) 161 $ (308,547) $ $ (0.82) (0.82) $1,816,938 1,124,216 45,526 1,169,742 647,196 515,974 247,362 2,920 67,136 78,617 (264,813) (51,977) 26,386 (290,404) 1,750 (292,154) 286 $ (292,440) $ $ (0.79) (0.79) 1,126,894 855,254 413,432 255,569 4,284 (8,427) 32,089 158,307 (24,263) 51,277 185,321 15,682 169,639 1 169,638 0.43 0.42 CORPORATE INFORMATION PROXY STATEMENT Year-end status: Total assets . . . . . . . . . . . . . . . . . . . $2,852,144 Long-term obligations . . . . . . . . . . . $ 429,400 Stockholders’ equity . . . . . . . . . . . . $1,895,738 $2,796,066 $ 699,050 $1,627,950 $2,874,001 $ 859,545 $1,618,046 $3,447,901 $1,007,079 $2,042,450 $4,012,736 $1,315,557 $2,300,355 The Company’s fiscal years ended on December 31 for each of the years presented above. For a discussion of charges for restructuring of operations and other items, net, see Note 2 of the Notes in Item 8 of Part II, which information is incorporated in this Item 6 of Part II by reference. For a discussion of recent acquisitions, see Note 4 of the Notes. On January 1, 2006, the Company adopted the fair value recognition provisions of Statement of Financial Accounting Standards No. 123(R), “Share-Based Payments” (“SFAS 123R”), using the modified prospective transition method. In accordance with the modified prospective transition method, the Company began recognizing compensation expense for all share-based awards granted on or after January 1, 2006, plus unvested awards granted prior to January 1, 2006. Under this method of implementation, no restatement of prior periods has been made. 34 During the year ended December 31, 2006, LSI completed the sale of the Gresham, Oregon semiconductor facility to ON Semiconductor for approximately $105.0 million in cash. On January 1, 2003, the Company adopted Statement of Financial Accounting Standards No. 146, “Accounting for Exit or Disposal Activities” (“SFAS 146”). SFAS No. 146 has been applied to restructuring activities initiated after December 31, 2002 and changes the timing of when restructuring charges are recorded to the date when the liabilities are incurred. During 2002, the Company recorded $46.0 million in additional excess inventory and related charges and $67.0 million in charges for restructuring of operations and other items, net. The Company adopted SFAS No. 142 “Goodwill and Other Intangible Assets” on January 1, 2002, as a result of which goodwill is no longer amortized. Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations FINANCIALS Statements in this discussion and analysis include forward-looking information within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. All forward-looking statements included in this discussion and analysis are based on information available to us on the date of filing of this Annual Report on Form 10-K, and we assume no obligation to update any such forward-looking statements. These statements involve known and unknown risks and uncertainties. Our actual results in future periods may be significantly different from any future performance suggested in this report. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “intends,” “projects,” “predicts,” or similar expressions. For such statements, we claim the protection under the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. For a detailed discussion of risk factors, refer to the “Risk Factors” section set forth in Part I, Item 1A of this Annual Report on Form 10-K, which is incorporated by reference into this Part II, Item 7. While management believes that the discussion and analysis in this report is adequate for a fair presentation of the information, we recommend that you read this discussion and analysis in conjunction with the remainder of this Annual Report on Form 10-K. OVERVIEW We design, develop and market complex, high-performance semiconductors and storage systems. We are a leading provider of silicon-to-system solutions that are used at the core of products that create, store and consume digital information. We offer a broad portfolio of semiconductors, including custom and standard product integrated circuits, for use in consumer applications, high-performance storage controllers, enterprise hard disk controllers and a wide range of communication devices. We also offer external storage systems and software applications for storage area networks. We operate in two segments — the Semiconductor segment and the Storage Systems segment — in which we offer products and services for a variety of electronic systems applications. Our products are marketed primarily to OEMs that sell products to our target markets. In the second quarter of 2006, we completed the sale of our Gresham, Oregon semiconductor manufacturing facility to ON Semiconductor for approximately $105.0 million in cash. Under the terms of the agreement, ON Semiconductor offered employment to substantially all of the LSI manufacturing employees based at the Gresham site, with the remaining non-manufacturing workforce expected to continue their employment with LSI. ON Semiconductor also entered into additional agreements with LSI, including a multi-year wafer supply and test agreement, intellectual property license agreement, transition services agreement and a facilities use agreement. We also completed the sale of our ZSP digital signal processor technology during the second quarter of 2006 (See Note 2 of the Notes). Revenues for the year ended December 31, 2006 were $1,982.1 million representing a 3.3% increase as compared to $1,919.3 million in revenues for the year ended December 31, 2005. The increase in revenues is due to 35 PROXY STATEMENT CORPORATE INFORMATION an increase in our Storage Systems segment revenues, partially offset by a decline in revenues in our Semiconductor segment. We reported net income of $169.6 million, or $0.42 a diluted share, for the year ended December 31, 2006, as compared to a net loss of $5.6 million, or $0.01 a diluted share, for the year ended December 31, 2005. Cash, cash equivalents and short-term investments were $1.0 billion as of December 31, 2006, as compared to $938.9 million at December 31, 2005. For the year ended December 31, 2006, we generated $247.2 million in cash provided by operations as compared to $248.7 million for the year ended December 31, 2005. On November 1, 2006, the 2001 Convertible Subordinated Notes in the amount of $271.8 million became due and were repaid in full. Acquisitions. We continue to evaluate strategic acquisitions that build upon our existing library of intellectual property, provide additional human capital, including engineering talent, and seek to increase our leadership position in the markets in which we operate. We acquired StoreAge and Metta Technology (“Metta”) during the fourth quarter of 2006. StoreAge was accounted for as a purchase of a business and Metta was accounted for as a purchase of assets. Accordingly, the estimated fair value of assets acquired and liabilities assumed and the results of operations were included in our Consolidated Financial Statements as of the effective date of each acquisition. The transactions are summarized below. There were no significant differences between our accounting policies and those of the companies acquired. (See Note 4 of the Notes.) The transactions are summarized in the table below (in millions): Fair Value of Tangible Net Total Assets/ Purchase Type of (Liabilities) Price Consideration Acquired Amortizable In-Process Intangible Research and Assets Development FINANCIALS PROXY STATEMENT Entity Name; Segment Included in; Description of Acquired Business Acquisition Date Goodwill StoreAge Networking Technologies, Ltd.; Storage segment; SAN storage management and multi-tiered data November 21, protection software applications . . . . . . . . 2006 Metta Technology; Semiconductor segment; November 10, Next generation digital video . . . . . . . . . 2006 $47.4 $47.4 cash $(4.6) $ 6.7 $ 6.7 cash $(0.6) $6.1 Not applicable — asset purchase $43.5 $2.4 $ 5.4 $1.9 CORPORATE INFORMATION Proposed Merger with Agere. On December 3, 2006, we entered into an Agreement and Plan of Merger with Agere and we publicly announced the signing of the merger agreement on December 4, 2006. Agere is a provider of integrated circuit solutions for a variety of computing and communications applications. Some of Agere’s solutions include related software and reference designs. Agere’s solutions are used in products such as hard disk drives, mobile phones, high-speed communications systems and personal computers. Agere also licenses its intellectual property to others. Pursuant to the terms and subject to the conditions set forth in the merger agreement, Agere will become a wholly-owned subsidiary of LSI. Upon completion of the merger, each share of Agere common stock that is outstanding at the effective time of the merger will be converted into the right to receive 2.16 shares of LSI common stock. Each outstanding option to purchase Agere common stock, whether or not then vested or exercisable, shall be assumed by LSI and will become exercisable for a number of shares of LSI common stock at an exercise price adjusted to reflect the exchange ratio in the merger. The completion of the proposed merger with Agere is subject to various customary conditions, including (i) obtaining the approval of the LSI and Agere stockholders, (ii) absence of any applicable law prohibiting the merger, (iii) certain regulatory approvals, (iv) subject to certain exceptions, the accuracy of the representations and warranties of each party, and (v) performance in all material respects by each party of its obligations under the merger agreement. LSI has scheduled a special meeting of its stockholders for Thursday, March 29, 2007 to vote on a proposal to approve matters related to the proposed merger. Agere has scheduled its 2007 annual meeting of stockholders for Thursday, March 29, 2007, at which Agere stockholders will vote on a proposal to approve the proposed merger, among other things. Subject to obtaining the approval of the LSI and Agere stockholders at these meetings and the satisfaction of other closing conditions, we expect to complete the merger soon after the stockholder meetings. 36 We believe that the proposed merger with Agere presents a unique opportunity to create a combined entity that will offer a comprehensive set of building block solutions, including semiconductors, systems and related software for storage, networking and consumer electronics products, and that the merger should allow us to deliver significant benefits to our customers, stockholders and employees. In connection with the proposed merger with Agere, LSI has filed a Registration Statement on Form S-4 with the SEC, which registration statement includes a joint proxy statement/prospectus and related materials to register the shares of LSI common stock to be issued in the merger, and LSI and Agere have mailed to their respective stockholders a joint proxy statement/prospectus relating to the proposed merger. The registration statement and the joint proxy statement/prospectus contain important information about LSI, Agere, the proposed merger and related matters. Investors and security holders are urged to read the registration statement and the joint proxy statement/ prospectus carefully. FINANCIALS RESULTS OF OPERATIONS Where more than one significant factor contributed to changes in results from year to year, we have quantified such factors throughout Management’s Discussion & Analysis (“MD&A”) where practicable and useful to the discussion. Revenues: Year Ended December 31, 2006 2005 2004 (In millions) Semiconductor segment. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,223.1 Storage Systems segment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 759.0 Consolidated . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,982.1 There were no significant inter-segment revenues during the periods presented. 2006 compared to 2005 $1,244.3 675.0 $1,919.3 $1,095.1 605.1 $1,700.2 PROXY STATEMENT Total consolidated revenues for 2006 increased $62.8 million or 3.3% as compared to 2005, reflecting an increase in revenues from the Storage Systems segment, offset in part by a decline in revenues in the Semiconductor segment. Semiconductor segment: Revenues for the Semiconductor segment decreased $21.2 million or 1.7% in 2006 as compared to 2005. Revenues decreased for semiconductors used in consumer product applications primarily as a result of lower demand for video game products, DVD-products and digital audio players. This decrease was offset in part by increases in revenues for semiconductors used in storage standard product applications such as SAS products, higher demand for semiconductors used in storage custom solutions product applications such as hard disk drives, and increased demand for semiconductors used in communication product applications such as office automation, routers, switches and wide area network (“WAN”) products. Storage Systems segment: Revenues for the Storage Systems segment increased $84.0 million or 12.4% in 2006 from 2005. The increase in revenues in the Storage Systems segment is primarily attributable to increased demand from certain large customers for our new high performance controller and drive modules introduced in the second quarter of 2006 and also for our mid-range integrated storage modules. We expect revenues to be lower in the first quarter of 2007 as a result of normal seasonality in the storage and consumer end markets. 37 CORPORATE INFORMATION 2005 compared to 2004 Total consolidated revenues for 2005 increased $219.1 million or 12.9% as compared to 2004. Semiconductor segment: Revenues for the Semiconductor segment increased $149.2 million or 13.6% in 2005 as compared to 2004. The increase in revenues in the Semiconductor segment is primarily attributable to the following factors: • An increase in revenues for semiconductors used in consumer product applications as a result of increased demand for digital audio players, DVD-recorders and cable set-top box solutions, offset in part by decreases in demand for semiconductors used in video game products; and FINANCIALS • An increase in revenues for semiconductors used in storage product applications, primarily attributable to higher demand for custom silicon used in hard disk drives. The above noted increases in revenues were offset in part by decreased revenues for semiconductors used in communications product applications such as office automation, switch and wireless products. Storage Systems segment: Revenues for the Storage Systems segment increased $69.9 million or 11.6% in 2005 from 2004. The increase in revenues in the Storage Systems segment is primarily attributable to increased demand from one large customer for our new high performance controller product introduced in the second quarter of 2005 and also for our command module products. PROXY STATEMENT Significant Customers. The following table summarizes the number of our significant customers, each of whom accounted for 10% or more of our revenues, along with the percentage of revenues they individually represent on a consolidated basis and by segment: 2006 Year Ended December 31, 2005 2004 CORPORATE INFORMATION Semiconductor segment: Number of significant customers . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . . . . . . Storage Systems segment: Number of significant customers . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . . . . . . Consolidated: Number of significant customers . . . . . . . . . . . . . . Percentage of consolidated revenues . . . . . . . . . . . 1 19% 2 47%, 15% 2 19%, 12% 1 17% 2 44%, 12% 2 16%, 11% 1 11% 3 41%, 15%, 11% 1 16% Revenues by geography. The following table summarizes our revenues by geography: Year Ended December 31, 2006 2005 2004 (In millions) Revenues: North America* . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 956.7 Asia, including Japan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 797.1 EMEA** . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 228.3 Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,982.1 * $ 932.2 756.0 231.1 $1,919.3 $ 852.5 655.1 192.6 $1,700.2 Revenues by geography are accumulated based on the revenues generated by our subsidiaries located within the three geographic areas noted in the above table. In the second half of 2005, Engenio formed new subsidiaries 38 within EMEA. As a result, the amounts in the table reflect that change as of June 21, 2005 and prior to that all revenues generated by Engenio EMEA were previously reported in North America. ** EMEA refers to Europe, Middle East and Africa. Our business is in Europe and the Middle East. 2006 compared to 2005 In 2006, revenues increased in North America and Asia, including Japan, and decreased in EMEA as compared to 2005. The increase in North America is attributable to an increase in demand within the Storage Systems segment, offset in part by declines in demand for semiconductors used in consumer product applications such as digital audio players and declines in demand for semiconductors used in storage product applications due to the continued shift in revenues to Asia and decreased revenues for semiconductors used in communication product applications such as wireless and WAN products. The increase in revenues in Asia, including Japan, is attributable to increased demand for semiconductors used in storage product applications such as hard disk drives, Host Bus Adapters (“HBA”), server products and storage standard product applications such as SAS products as well as increased demand for semiconductors used in communication product applications. The increase in revenues in Asia, including Japan, is also attributable to our customers transitioning their contract manufacturing to Asia from other regions. The increase was offset in part by decreases in demand for semiconductors used in consumer product applications such as video game products and DVD-products. The decrease in EMEA is primarily attributable to declines in revenues for semiconductors used in consumer product applications such as DVD-products and decreased demand within the Storage Systems segment, offset in part by increases in revenues for semiconductors used in storage product applications such as HBA products and for semiconductors used in storage standard product applications such as SAS products, and semiconductors used in communication product applications. 2005 compared to 2004 In 2005, revenues increased in North America, Asia, including Japan, and EMEA as compared to 2004. The increase in revenues in North America for 2005 is primarily attributable to an increase in demand for semiconductors used in consumer product applications such as digital audio players and set-top box solutions and increases in revenues in the Storage Systems segment. The increase was offset in part by decreased demand for semiconductors used in storage product applications such as custom silicon for the server market and communication product applications. The increase in Asia, including Japan, is attributable to higher demand for semiconductors used in storage product applications such as hard disk drives. These increases were offset in part by lower demand for semiconductors used in consumer product applications such as video games and communications product applications such as enterprise switches. The increase in EMEA revenues is attributable to increased demand for products in the Semiconductor segment such as Ultra320, tape drives and DVD-recorders and also increases in demand for products in the Storage System segment. Operating costs and expenses. segments are as follows: Gross profit margin: Year Ended December 31, 2006 2005 2004 (In millions) FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Key elements of the consolidated statements of operations for the respective Semiconductor segment . . . . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . Storage Systems segment . . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . $588.2 $589.4 $511.9 ................... 48.1% 47.4% 46.7% . . . . . . . . . . . . . . . . . . . $267.1 $242.3 $223.5 ................... 35.2% 35.9% 36.9% $831.7 43.3% $735.4 43.3% 43.2% Consolidated . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $855.3 Percentage of revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39 2006 compared to 2005 The consolidated gross profit margin as a percentage of revenues was 43.2% and 43.3% in 2006 and 2005, respectively. Semiconductor segment: The gross profit margin as a percentage of revenues for the Semiconductor segment increased to 48.1% in 2006 from 47.4% in 2005. The following contributed to the improvement in the gross margin for the Semiconductor segment in 2006 as compared to 2005: • A favorable shift in product mix toward more high-margin semiconductors used in storage and communication product applications and lower prices from our foundry partners. FINANCIALS This increase in gross margin was offset in part by: • Higher scrap costs in early 2006, mainly due to a manufacturing issue with a vendor; and • Stock-based compensation expense associated with the adoption of SFAS 123R as of January 1, 2006. (See Note 3 of the Notes.) Storage Systems segment: The gross profit margin as a percentage of revenues for the Storage Systems segment decreased slightly to 35.2% in 2006 from 35.9% in 2005 mainly due to the following: • Higher product costs associated with the ramp of new integrated storage products and drive modules beginning in mid 2006; • Higher expedite fees in the fourth quarter of 2006 as the result of orders coming in later than expected; and • Stock-based compensation expense associated with the adoption of SFAS 123R on January 1, 2006. We expect our margins to be slightly lower in the first quarter of 2007 as a result of unfavorable product mix in both reportable segments. CORPORATE INFORMATION PROXY STATEMENT 2005 compared to 2004 The consolidated gross profit margin as a percentage of revenues was 43.3% in 2005 and 2004. Semiconductor segment: The gross profit margin as a percentage of revenues for the Semiconductor segment increased to 47.4% in 2005 from 46.7% in 2004. In 2005, gross profit margins included more favorable manufacturing variances for the Gresham manufacturing facility associated with yield improvements and operating cost savings attributable to write-downs recorded in the second half of 2004 related to the impairment of the Gresham manufacturing facility (See Note 2 of the Notes). This favorable effect on gross profit margin was offset by an unfavorable shift in the overall mix. Storage Systems segment: The gross profit margin as a percentage of revenues for the Storage Systems segment decreased to 35.9% in 2005 from 36.9% in 2004 mainly due to changes in product mix reflecting lower sales volumes for some of our higher-end storage products, and lower selling prices for RSA products and some of our older products. These declines were only partially offset by margin improvements since the introduction of our new high-end controller product introduced in the second quarter of 2005. 40 Research and development: Year Ended December 31, 2006 2005 2004 (In millions) Semiconductor segment . . . . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . Storage Systems segment . . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . $315.9 $307.7 $346.0 ................... 25.8% 24.7% 31.6% . . . . . . . . . . . . . . . . . . . $ 97.5 $ 92.0 $ 81.8 ................... 12.8% 13.6% 13.5% $399.7 20.8% $427.8 25.2% FINANCIALS Consolidated . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $413.4 Percentage of revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2006 compared to 2005 20.9% R&D expenses, on a consolidated basis, increased $13.7 million or 3.4% during 2006 as compared to 2005. Semiconductor segment: R&D expenses for the Semiconductor segment consist primarily of employee salaries, costs related to third party design tools and materials used in the design of custom silicon and standard products, as well as depreciation of capital equipment and facilities related expenditures. On March 6, 2006, we announced that we will focus our R&D activities in the storage and consumer markets and redirect R&D spending from non-core areas. R&D expenses for the Semiconductor segment increased $8.2 million or 2.7% in 2006 as compared to 2005 and increased as a percentage of revenues from 24.7% in 2005 to 25.8% in 2006. R&D expenses for the Semiconductor segment increased primarily as the result of an increase in stock-based compensation expense associated with the adoption of SFAS 123R on January 1, 2006, offset in part by lower depreciation and amortization related expenses, lower expenses related to design tools, and lower spending on design engineering programs. Storage Systems segment: R&D expenses for the Storage Systems segment consist primarily of employee salaries and materials used in product development, as well as depreciation of capital equipment and facilities. In addition to the significant resources required to support hardware technology transitions, we devote significant resources to developing and enhancing software features and functionality to remain competitive. R&D expenses for the Storage Systems segment increased by $5.5 million or 6.0% in 2006 as compared to 2005. The increase is primarily due to increased compensation-related expenditures that are based upon an increase in headcount and increased spending for future R&D projects, along with the increased stock-based compensation expenses associated with the adoption of SFAS 123R on January 1, 2006. As a percentage of revenues, R&D expense declined from 13.6% in 2005 to 12.8% in 2006 as a result of higher revenues in 2006 as compared to 2005. 2005 compared to 2004 R&D expenses, on a consolidated basis, decreased $28.1 million or 6.6% during 2005 as compared to 2004 and decreased as a percentage of revenues from 25.2% in 2004 to 20.8% in 2005. Semiconductor segment: R&D expenses for the Semiconductor segment decreased $38.3 million or 11.1% in 2005 as compared to 2004 and decreased as a percentage of segment revenues from 31.6% in 2004 to 24.7% in 2005. The decrease in R&D expenses for the Semiconductor segment is primarily the result of the cost-cutting measures implemented as part of the restructuring actions taken during 2004 (See Note 2 of the Notes), including lower compensation-related 41 PROXY STATEMENT CORPORATE INFORMATION expenses as well as lower equipment and depreciation expenses. In addition, we spent less on design engineering programs during 2005 as compared to 2004. Storage Systems segment: R&D expenses for the Storage Systems segment increased by $10.2 million or 12.5% in 2005 as compared to 2004 and increased as a percentage of segment revenues from 13.5% in 2004 to 13.6% in 2005. The increase is primarily due to increased compensation-related expenditures that are based upon an increase in employees. Selling, general and administrative: Year Ended December 31, 2006 2005 2004 (In millions) FINANCIALS Semiconductor segment . . . . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . Storage Systems segment . . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . $157.4 $150.6 $150.7 ................... 12.9% 12.1% 13.8% . . . . . . . . . . . . . . . . . . . $ 98.2 $ 87.7 $ 94.8 ................... 12.9% 13.0% 15.7% $238.3 12.4% $245.5 14.4% 12.9% Consolidated . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $255.6 Percentage of revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . PROXY STATEMENT 2006 compared to 2005 Consolidated selling, general and administrative (“SG&A”) expenses increased $17.3 million or 7.3% during 2006 as compared to 2005 and increased as a percentage of revenues from 12.4% in 2005 to 12.9% in 2006. SGI, a customer of ours, filed for bankruptcy protection under Chapter 11 of the United States Bankruptcy Code on May 8, 2006. On October 17, 2006, SGI emerged from bankruptcy. Based on the court approved repayment plan, we recognized approximately $1.8 million in bad debt expenses related to this bankruptcy filing in 2006. We perform ongoing credit evaluations of our customers’ financial condition and require collateral as considered necessary. Semiconductor segment: CORPORATE INFORMATION SG&A expenses for the Semiconductor segment increased $6.8 million or 4.5% in 2006 as compared to 2005 and increased as a percentage of segment revenues from 12.1% in 2005 to 12.9% in 2006. The increase in the Semiconductor segment was primarily due to an increase in stock-based compensation associated with the adoption of SFAS 123R (See Note 3 of the Notes), offset in part by lower compensation-related expenses, and lower operating expenses for maintenance, facilities and information technology costs in 2006. Storage Systems segment: SG&A expenses for the Storage Systems segment increased $10.5 million or 12.0% in 2006 as compared to 2005, but remained relatively flat as a percentage of segment revenues. The increase in dollar amount is primarily due to higher sales expenses associated with the increase in revenues, the SGI bankruptcy noted above and the stock-based compensation expense associated with the adoption of SFAS 123R (See Note 3 of the Notes). On March 6, 2006, we announced, among other things, that we were canceling any plans for an initial public offering of its wholly-owned storage systems subsidiary, Engenio Information Technologies, Inc (“Engenio”). 2005 compared to 2004 Consolidated SG&A expenses decreased $7.2 million or 2.9% during 2005 as compared to 2004 and declined from 14.4% in 2004 to 12.4% in 2005 as a percentage of revenues. 42 Semiconductor segment: SG&A expenses for the Semiconductor segment remained relatively flat in dollar amount for 2005 as compared to 2004. However, SG&A expenses as a percentage of segment revenues decreased from 13.8% in 2004 to 12.1% in 2005. Storage Systems segment: SG&A expenses for the Storage Systems segment decreased $7.1 million or 7.5% in 2005 as compared to 2004 and decreased as a percentage of segment revenues from 15.7% in 2004 to 13.0% in 2005. The decrease is primarily attributable to spending in 2004 related to Engenio’s proposed initial public offering, separation from LSI and set-up costs for experience centers. These costs were not present in 2005. Acquired in-process research and development: We recorded a charge of $4.3 million for the year ended December 31, 2006 associated with acquired inprocess research and development (“IPR&D”) in connection with the StoreAge and Metta acquisitions. See Note 4 of the Notes for more detailed information. There were no IPR&D charges for the year ended December 31, 2005 and 2004. The details for the acquisitions, at the acquisition dates, are summarized in the table below: Company Acquisition Date IPR&D Discount Rate (Dollar amounts in millions) Revenue Projections Extend Through FINANCIALS StoreAge . . . . . . . . Metta . . . . . . . . . . . November 2006 November 2006 $2.4 $1.9 28% Not applicable, used a variation of the Cost Approach 2013 Not applicable, used a variation of the Cost Approach PROXY STATEMENT The amounts of IPR&D were determined by identifying research projects for which technological feasibility had not been established and no alternative future uses existed as of the respective acquisition dates. See Note 4 of the Notes. Project descriptions and estimates of completion by acquisition. StoreAge Networking Technologies Ltd. On November 21, 2006, we acquired StoreAge. The acquisition expanded our SAN storage management and multi-tiered data protection software product offerings within the Storage segment. The acquisition was accounted for as a purchase business combination. As of the acquisition date, there was one project that was in process for development of storage systems software. The development of the project started in late 2003. As of the acquisition date, the cost to complete this project was estimated at $0.2 million in 2006 and $4.6 million in 2007. Metta Technology. On November 10, 2006, we acquired Metta. The acquisition increased our focus on delivering the advanced, feature-rich solutions required by next generation digital video products. The acquisition was accounted for as a purchase of productive assets. As of the acquisition date, the Graphics and Audio intellectual property (“IP”) were two technologies identified as in-process technologies. Restructuring of operations and other items, net: 2006 We recorded a credit of $8.4 million in restructuring of operations and other items for the year ended December 31, 2006. A credit of $9.6 million was recorded in the Semiconductor segment and a charge of $1.2 million was recorded in the Storage Systems segment. A complete discussion of our restructuring actions in 2006, 2005 and 2004 is included in Note 2 of the Notes. We realized savings mainly on depreciation of approximately $3.2 million for the twelve months ended December 31, 2005, respectively as a result of our September 13, 2005 decision to hold our Gresham, Oregon 43 CORPORATE INFORMATION manufacturing facility for sale. Depreciation savings in 2006 were fully offset by decreased loading for the Gresham facility. We sold the Gresham facility in the second quarter of 2006. 2005 We recorded charges of $119.1 million in restructuring of operations and other items for the year ended December 31, 2005, consisting of $113.7 million in charges for restructuring of operations and impairment of longlived assets and a charge of $5.4 million for other items. Of these charges, $115.9 million were recorded in the Semiconductor segment and $3.2 million were recorded as part of the Storage Systems segment. We also recorded a $5.4 million charge related to other items mainly related to the following. On May 23, 2005, Wilfred J. Corrigan’s status as an employee ceased and in connection with this event, we recorded a charge of $5.3 million. The amount was paid to Mr. Corrigan in the second quarter of 2005 and was made in accordance with Mr. Corrigan’s employment agreement dated September 20, 2001. Mr. Corrigan was our former Chief Executive Officer and former Chairman of the Board. These charges were recorded in the Semiconductor segment. 2004 We recorded net charges of $423.4 million in restructuring of operations and other items for the year ended December 31, 2004, consisting of $433.5 million in charges for restructuring of operations and impairment of longlived assets and a gain of $10.1 million for other items. Of these charges, $420.2 million was recorded in the Semiconductor segment and $3.2 million was recorded in the Storage Systems segment. PROXY STATEMENT FINANCIALS Stock-based compensation: On January 1, 2006, we adopted SFAS 123R, using the modified prospective transition method. Under this transition method of adopting SFAS 123R, we began recognizing compensation expense for all share-based awards granted after January 1, 2006 plus unvested awards granted prior to January 1, 2006. Under this method of implementation, no restatement of prior periods has been made. Stock-based compensation expense under SFAS 123R in the consolidated condensed statements of operations for the year ended December 31, 2006 was $47.0 million. The estimated fair value of our equity-based awards, less expected forfeitures, is amortized over the awards’ vesting period on a straight-line basis. The implementation of SFAS 123R did not have a significant impact on cash flows from operations during the year ended December 31, 2006. See Note 3 to the Notes for discussion on stock-based compensation. Amortization of intangibles: Amortization of intangibles decreased to $32.1 million in 2006 from $62.5 million in 2005. The decrease is primarily a result of certain intangible assets becoming fully amortized during 2006 and 2005 and also due to the write-off of certain intangible assets acquired in a purchase business combination during the second quarter of 2006. These decreases were offset in part by amortization of intangible assets acquired in connection with the acquisitions of StoreAge, which was added to our Storage segment and Metta, which was added to our Semiconductor segment during the fourth quarter of 2006. As of December 31, 2006, we had $59.5 million of intangible assets, net of accumulated amortization that will continue to amortize. Amortization of intangibles decreased to $62.5 million in 2005 from $75.1 million in 2004. Amortization decreased as a result of a write-down during the fourth quarter of 2004 of certain amortizing intangibles and certain intangible assets becoming fully amortized during 2005, offset in part by amortization of intangible assets acquired during the first and second quarters of 2004. As of December 31, 2005, we had $46.0 million of intangible assets, net of accumulated amortization that will continue to amortize. 44 CORPORATE INFORMATION Interest expense: With the objective of protecting our cash flows and earnings from the impact of fluctuations in interest rates, while minimizing the cost of capital, we may enter into interest rate swaps. In June 2002, we entered into interest rate swaps (“the Swaps”) with various investment banks. The Swaps effectively converted fixed interest payments on a portion of our Convertible Subordinated Notes (“Convertible Notes”) to LIBOR-based floating rates. The Swaps qualified for hedge accounting treatment. (See Note 9 of the Notes.) During the second quarter of 2003, we terminated the Swaps, resulting in a deferred gain of $44.1 million that is being amortized as a benefit to interest expense over the remaining term of the hedged Convertible Notes. A portion of the deferred gain was written off as part of the net gain or loss on the repurchase of the hedged Convertible Notes during 2005 and 2004. On November 1, 2006, the 2001 Convertible Subordinated Notes in the amount of $271.8 million became due and were repaid in full. (See Note 10 of the Notes.) Interest expense decreased by $1.0 million to $24.3 million in 2006 from $25.3 million in 2005. The decrease is mainly due to a lower average debt balance from the repayment of $271.8 million of the 2001 Convertible Notes in the fourth quarter of 2006 and the repurchase of $149.7 million of the 2001 Convertible Notes during the second quarter of 2005, offset by a lower benefit from the amortization of the deferred gain on the terminated Swaps. Interest expense remained flat at $25.3 million in 2005 as compared to 2004. Interest expense declined as a result of a lower average debt balance from the repurchase of $149.7 million of the 2001 Convertible Notes during the second quarter of 2005, but was fully offset by a lower benefit from the amortization of the deferred gain on the terminated Swaps. Interest income and other, net: Interest income and other, net, was $51.3 million in 2006 as compared to $34.0 million in 2005. Interest income increased by $21.4 million to $47.3 million in 2006 from $25.9 million in 2005. The increase in interest income is mainly due to higher returns and higher average cash and short-term investment balances for the year ended December 31, 2006 as compared to the same period of 2005. Other income, net of $4.0 million in 2006 included the following: • A pre-tax gain of $6.7 million on sale of certain marketable available-for-sale equity securities (see Note 7 of the Notes); • A $2.0 million gain related to a cash insurance settlement originally associated with a manufacturing issue with a supplier during the third quarter of 2006; and • A $4.7 million expense for points on foreign currency forward contracts, which was offset in part by other miscellaneous items. Interest income and other, net, was $34.0 million in 2005 as compared to $22.2 million in 2004. Interest income increased by $7.2 million to $25.9 million in 2005 from $18.7 million in 2004. The increase in interest income is mainly due to higher returns on our investments during the year ended December 31, 2005 as compared to the same period of 2004. Other income, net of $8.1 million in 2005 included the following: • A pre-tax gain of $8.0 million on sale of certain marketable available-for-sale equity securities (see Note 7 of the Notes); • A pre-tax gain of $1.4 million associated with marketable available-for-sale equity securities of a certain technology company that was acquired by another technology company (see Note 7 of the Notes); • A pre-tax gain of $4.1 million on the repurchase of the 2001 Convertible Notes (see Note 10 of the Notes); • A pre-tax loss of $2.4 million on impairment of certain non-marketable available-for-sale equity securities. Management considered the impairment to be other than temporary (see Note 7 of the Notes); and 45 CORPORATE INFORMATION FINANCIALS PROXY STATEMENT • A $3.0 million expense for points on foreign currency forward contracts, which was offset in part by other miscellaneous items. Other income, net of $3.5 million in 2004 included the following: • A pre-tax gain of $3.0 million associated with our investment in marketable available-for-sale equity securities of a certain technology company that was acquired by another publicly traded technology company; • A pre-tax gain of $5.1 million on sales of certain marketable available-for-sale equity securities; • A pre-tax gain of $1.8 million on repurchase of 2001 Convertible Notes; and FINANCIALS • A pre-tax loss of $6.2 million on impairment of our investment in certain marketable and non-marketable available-for-sale equity securities and other miscellaneous items. Management considered the impairments to be other than temporary. For all investment in debt and equity securities, unrealized losses are evaluated to determine if they are other than temporary. We frequently monitor the credit quality of our investments in marketable debt securities. In order to determine if impairment has occurred for equity securities, we review the financial performance of each investee, industry performance and outlook for each investee, the trading prices of marketable equity securities and pricing in current rounds of financing for non-marketable equity securities. If an unrealized loss is determined to be other than temporary, a loss is recognized as a component of interest income and other. For marketable equity securities, the impairment losses were measured using the closing market price of the marketable securities on the date management determined that the investments were impaired. For non-marketable equity securities, the impairment losses were measured by using pricing in current rounds of financing. Provision for income taxes: During 2006, we recorded a provision for income taxes of $15.7 million, which represents an effective tax rate of approximately 9%. This rate differs from the U.S. statutory rate primarily due to the realization of deferred tax assets not previously recognized in the U.S., which offsets the tax expenses generated from U.S. sourced income as well as from earnings of certain foreign subsidiaries taxed in the U.S. The Company also benefits from lower tax rates in foreign jurisdictions. During 2006, the Company closed various audits which resulted in a tax benefit of $3.1 million in the current tax provision. These audits included the U.S. federal, various states and certain foreign jurisdictions. During 2005, we recorded an income tax provision of $26.5 million, which represents an effective tax rate of approximately 127%. This rate differs from the U.S. statutory rate primarily due to earnings of certain foreign subsidiaries taxed in the U.S., which have been partially offset by the benefit of net operating losses and other deferred tax assets not previously recognized and lower tax rates in foreign jurisdictions. During 2004, we recorded an income tax provision of $24.0 million, which represents an effective tax rate of approximately (5%). This rate differs from the U.S. statutory rate primarily due to increases in net deferred tax assets not currently benefited in the U.S., losses of certain foreign subsidiaries that are benefited at lower rates and earnings of certain foreign subsidiaries taxed in the U.S. The Company operates in multiple jurisdictions throughout the world. The Company’s income tax expense was primarily related to taxable income in certain foreign jurisdictions, which were not reduced by separate losses in other foreign jurisdictions. See Note 11 of the Notes. Minority interest in net income of subsidiary: Minority interest in net income of subsidiary was not significant for the periods presented. The changes in minority interest were attributable to the composition of earnings and losses in our majority-owned Japanese subsidiary for each of the respective years. 46 CORPORATE INFORMATION PROXY STATEMENT FINANCIAL CONDITION, CAPITAL RESOURCES AND LIQUIDITY Cash, cash equivalents and short-term investments increased to $1.0 billion at December 31, 2006, from $938.9 million at December 31, 2005. The increase is mainly due to cash and cash equivalents provided by operating and investing activities, partially offset by net cash outflows for financing activities as described below. Working capital. Working capital increased by $231.6 million to $1.1 billion at December 31, 2006, from $877.4 million as of December 31, 2005. Working capital increased in 2006 as a result of the following activities: • Cash, cash equivalents and short-term investments increased by $70.0 million. • Accounts receivable increased by $25.3 million to $348.6 million as of December 31, 2006 from $323.3 million at December 31, 2005. The increase is mainly attributable to higher revenues in the fourth quarter of 2006. FINANCIALS • Inventories increased by $14.7 million to $209.5 million as of December 31, 2006, from $194.8 million as of December 31, 2005. The increase in inventory was required to meet the ramp up of new products in early 2007 that were not in production in early 2006. • Current portion of long-term debt decreased by $273.9 million due to the payment of the Convertible Subordinated Notes on November 1, 2006. The increase in working capital was offset, in part, by the following: • Prepaid expenses and other current assets decreased by $94.4 million primarily due to decreases in assets held for sale due to the sale of our Gresham, Oregon manufacturing facility and two Colorado facilities, and a decrease in prepaid software maintenance. • Accounts payable increased by $28.6 million due to the timing of payments. • Other accrued liabilities increased by $15.8 million due to an increase in deferred tax liabilities, deferred revenues and other miscellaneous items, offset in part by a decrease in the restructuring reserve. • Income taxes payable increased by $9.0 million due to the timing of income tax payments made and the income tax provision recorded during 2006. • Accrued salaries, wages and benefits increased by $4.6 million primarily due to timing differences in payment of salaries, benefits and performance-based compensation. Cash and cash equivalents generated from operating activities. During 2006, we generated $247.2 million of net cash and cash equivalents from operating activities compared to $248.7 million generated in 2005. Cash and cash equivalents generated from operating activities for the year ended December 31, 2006 were the result of the following: • Net income adjusted for non-cash transactions. The non-cash items and other non-operating adjustments are quantified in our Consolidated Statements of Cash Flows included in this Annual Report on Form 10-K; • A net decrease in assets and liabilities, net of assets acquired and liabilities assumed in business combinations, including changes in working capital components from December 31, 2006 as compared to December 31, 2005 as discussed above. Cash and cash equivalents provided by/ (used in) investing activities. Net cash and cash equivalents provided by investing activities during 2006 were $25.9 million as compared to $84.3 million used in investing activities during 2005. The primary investing activities or changes during 2006 were as follows: • Purchases of debt and equity securities available for sale, net of sales and maturities; • Proceeds from the sale of the Gresham, Oregon manufacturing facility, two Colorado facilities and intellectual property, net of purchases of property, equipment and software. • Acquisition of companies; • The receipt of income tax refunds for pre-acquisition tax matters associated with an acquisition in 2001. 47 PROXY STATEMENT CORPORATE INFORMATION Without considering additional capital expenditures that will be required with respect to Agere following our proposed merger with Agere, we expect capital expenditures to be approximately $55.0 million in 2007. In recent years we have reduced our level of capital expenditures as a result of our focus on establishing strategic supplier alliances with foundry semiconductor manufacturers, which enables us to have access to advanced manufacturing capacity and reduces our capital spending requirements. Cash and cash equivalents used in financing activities. Cash and cash equivalents used in financing activities during 2006 were $210.8 million as compared to $117.4 million in 2005. The primary financing activities during 2006 were as follows: • The issuance of common stock under our employee stock option and purchase plans; and • The repayment of debt obligations. FINANCIALS On December 4, 2006, we announced that our Board of Directors had authorized a stock repurchase program of up to $500.0 million worth of shares of our common stock. Our Board of Directors terminated the stock repurchase program authorized by the Board on July 28, 2000. The repurchases are expected to be funded from available cash and short-term investments. No shares were repurchased under this plan during 2006. It is our policy to reinvest our earnings and we do not anticipate paying any cash dividends to stockholders in the foreseeable future. We may seek additional equity or debt financing from time to time. We believe that our existing liquid resources and funds generated from operations, combined with funds from such financing and our ability to borrow funds will be adequate to meet our operating and capital requirements and obligations for the foreseeable future. However, we cannot be certain that additional financing will be available on favorable terms. Moreover, any future equity or convertible debt financing will decrease the percentage of equity ownership of existing stockholders and may result in dilution, depending on the price at which the equity is sold or the debt is converted. CONTRACTUAL OBLIGATIONS The following table summarizes our contractual obligations at December 31, 2006, and the effect these obligations are expected to have on our liquidity and cash flow in future periods. The following table does not include any contractual obligations of Agere, which we will assume upon completion of the merger. Contractual Obligations Less Than 1 Year Payments Due by Period 1-3 Years 4-5 Years After 5 Years (In millions) Total CORPORATE INFORMATION PROXY STATEMENT Convertible Subordinated Notes . . . Operating lease obligations . . . . . . Purchase commitments . . . . . . . . . Total . . . . . . . . . . . . . . . . . . . . . Convertible Subordinated Notes $ — 49.7 392.2 $ — 77.3 31.3 $350.0 33.4 — $383.4 $— 9.3 — $9.3 $350.0 169.7 423.5 $943.2 $441.9 $108.6 As of December 31, 2006, we have $350.0 million of the 4% Convertible Subordinated Notes due in May 2010 (“2003 Convertible Notes”). The 2003 Convertible Notes are subordinated to all existing and future senior debt and are convertible at the holder’s option, at any time prior to the maturity date of the 2003 Convertible Notes, into shares of our common stock. The 2003 Convertible Notes have conversion prices of approximately $13.42 per share. We cannot elect to redeem the 2003 Convertible Notes prior to maturity. Each holder of the 2003 Convertible Notes has the right to cause us to repurchase all of such holder’s convertible notes at 100% of their principal amount plus accrued interest upon the occurrence of any fundamental change, which includes a transaction or event such as an exchange offer, liquidation, tender offer, consolidation, merger or combination. The proposed merger with Agere will not trigger the 2003 Convertible Note holder’s right to cause us to repurchase the Notes. Interest is payable semiannually. 48 Fluctuations in our stock price affect the prices of our outstanding convertible securities and the likelihood of the convertible securities being converted into cash or equity. If we are required to redeem any of the 2003 Convertible Notes for cash, it may adversely affect our liquidity position. In the event that the 2003 Convertible Notes are not converted to equity, we believe that our current cash position and expected future operating cash flows will be adequate to meet these obligations as they mature. From time to time, we may repurchase 2003 Convertible Notes. Operating Lease Obligations We lease real estate, certain non-manufacturing equipment and software under non-cancelable operating leases. Purchase Commitments FINANCIALS We maintain certain purchase commitments, primarily for raw materials with suppliers and for some nonproduction items. Purchase commitments for inventory materials are generally restricted to a forecasted timehorizon as mutually agreed upon between the parties. This forecasted time-horizon can vary among different suppliers. In the second quarter of 2006, we completed the sale of our Gresham, Oregon semiconductor manufacturing facility to ON Semiconductor for approximately $105.0 million in cash. Under the terms of the agreement, ON Semiconductor entered into a multi-year wafer supply agreement (WSA) with LSI and LSI is a customer of ON Semiconductor, whereby LSI has agreed to purchase $198.8 million in wafers from ON Semiconductor during the period from the date of sale of the Gresham facility in May 2006 to the end of LSI’s second quarter of 2008. As of December 31, 2006, LSI had yet to purchase $113.7 million in wafers under this arrangement. In February 2007, we entered into an agreement to acquire SiliconStor, a privately held company that provides silicon solutions for enterprise storage networks. SiliconStor is headquartered in Fremont, California and has approximately 30 employees. At the closing of the acquisition, we expect to pay approximately $55.0 million in cash for SiliconStor. The closing of the acquisition is subject to the satisfaction of customary closing conditions and is expected to occur in the first quarter of 2007. This is not included in the summary table above. Standby letters of credit At December 31, 2006 and 2005, we had outstanding standby letters of credit of $2.7 million and $2.4 million, respectively. These instruments are off-balance sheet commitments to extend financial guarantees for leases and certain self-insured risks and generally have one-year terms. The fair value of the letters of credit approximates the contract amount. CRITICAL ACCOUNTING ESTIMATES The discussion and analysis of our financial condition and results of operations are based on the consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. Note 1 of the Notes describes the significant accounting policies essential to the consolidated financial statements. The preparation of these financial statements requires estimates and assumptions that affect the reported amounts and disclosures. We believe the following to be critical accounting estimates. They are both important to the portrayal of our financial condition and results, and they require significant management judgments and estimates about matters that are inherently uncertain. As a result of the inherent uncertainty, there is a likelihood that materially different amounts would be reported under different conditions or using different assumptions. Although we believe that our judgments and estimates are reasonable, appropriate and correct, actual future results may differ materially from our estimates. Stock-Based Compensation. On January 1, 2006, we adopted SFAS 123R, using the modified prospective transition method. In accordance with the modified prospective transition method, we began recognizing compensation expense for all share-based awards granted on or after January 1, 2006 plus unvested awards granted prior 49 PROXY STATEMENT CORPORATE INFORMATION to January 1, 2006. Under this method of implementation, no restatement of prior periods has been made. Stockbased compensation expense under SFAS 123R in the consolidated condensed statements of operations for the year ended December 31, 2006 was $47.0 million. Stock-based compensation costs capitalized to inventory and software for the year ended December 31, 2006 were not significant. (See Note 3 of the Notes for a description of our equity compensation plans and a more detailed discussion of the adoption of SFAS 123R.) Stock Options: The fair value of each option grant is estimated on the date of grant using a reduced form calibrated binomial lattice model (“the Lattice Model”). This model requires the use of historical data for employee exercise behavior and the use of assumptions as follows: Employee Stock Options Granted 2006 FINANCIALS Weighted average estimated grant date fair value per share . . . . . . . . . . . . . . . . . . . . . . . . . Weighted average assumptions in calculation: Expected life (years) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Risk-free interest rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Volatility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Dividend yield . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $3.30 . . . . 4.33 4.78% 48% — PROXY STATEMENT The expected life of employee stock options represents the weighted-average period the stock options are expected to remain outstanding and is a derived output of the Lattice Model. The expected life of employee stock options is impacted by all of the underlying assumptions and calibration of our model. We used an equally weighted combination of historical and implied volatilities as of the grant date. The historical volatility is the standard deviation of the daily stock returns for LSI from the date of our initial public offering in 1983. We used implied volatilities of near-the-money LSI traded call options since stock options are call options that are granted at the money. The historical and implied volatilities were annualized and equally weighted to determine the volatilities as of the grant date. Prior to January 1, 2006, we used historical implied stock price volatilities in accordance with SFAS 123 for purposes of its pro forma information. Our management believes that the equally weighted combination of historical and implied volatilities is more representative of future stock price trends than historical implied volatilities. The risk-free interest rate assumption is based upon observed interest rates for constant maturity treasuries appropriate for the term of our employee stock options. The Lattice Model assumes that employees’ exercise behavior is a function of the option’s remaining vested life and the extent to which the option is in-the-money. The Lattice Model estimates the probability of exercise as a function of these two variables based on the entire history of exercises and cancellations on all past option grants made by us since the initial public offering in 1983. As stock-based compensation expense recognized in the consolidated condensed statement of operations for the year ended December 31, 2006 is based on awards ultimately expected to vest, it has been reduced for estimated forfeitures. SFAS 123R requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Forfeitures were estimated based on historical experience. For our pro forma information required under SFAS 123 for the periods prior to January 1, 2006, we accounted for forfeitures as they occurred. Employee Stock Purchase Plans We also have two employee stock purchase plans (“ESPPs” — US ESPP and IESPP) under which rights are granted to all qualifying employees to purchase shares of common stock at 85% of the lesser of the fair market value of such shares at the beginning of a 12-month offering period or the end of each six-month purchase period within such an offering period, typically in May and November. Compensation expense is calculated using the fair value of 50 CORPORATE INFORMATION the employees’ purchase rights under the Black-Scholes model. For disclosure purposes, we have included the assumptions that went into the calculation of fair value for the May and November 2006 grant as follows: Grants under Employee Stock Purchase Plans Year Ended December 31, 2006 Weighted average estimated grant date fair value per share . . . . . . . . . . . . . . . . . . Weighted average assumptions in calculation: Expected life (years). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Risk-free interest rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Volatility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Dividend yield . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Restricted Stock Awards $2.92 0.7 5% 35% — FINANCIALS The cost of these awards is determined using the fair value of our common stock on the date of the grant and compensation expense is recognized over the vesting period on a straight-line basis. Our determination of fair value of share-based payment awards on the date of grant using an option-pricing model is affected by our stock price as well as assumptions regarding a number of highly complex and subjective assumptions. We use third-party consultants to assist in developing the assumptions used in as well as calibrating the Lattice Model. We are responsible for determining the assumptions used in estimating the fair value of its share based payment awards. Option-pricing models were developed for use in estimating the value of traded options that have no vesting or hedging restrictions and are fully transferable. Because our employee stock options have certain characteristics that are significantly different from traded options, and because changes in the subjective assumptions can materially affect the estimated value, in management’s opinion, the existing valuation models may not provide an accurate measure of the fair value of our employee stock options. Although, the fair value of employee stock options is determined in accordance with SFAS 123R and SAB 107 using an option-pricing model, that value may not be indicative of the fair value observed in a willing buyer/willing seller market transaction. Inventory Valuation Methodology. Inventories are valued at the lower of cost or market using the first-in, first-out (FIFO) method. We write down our inventories for estimated obsolescence and unmarketable inventory in an amount equal to the difference between the cost of the inventory and the estimated market value based upon assumptions about future demand and market conditions. Inventory impairment charges create a new cost basis for inventory. We balance the need to maintain strategic inventory levels to ensure competitive delivery performance to our customers with the risk of inventory obsolescence due to rapidly changing technology and customer requirements, product life-cycles, life-time buys at the end of supplier product runs and a shift of production to outsourcing. If actual demand or market conditions are less favorable than we project or our customers fail to meet projections, additional inventory write-downs may be required. Our inventory balance was approximately $209.5 million and $194.8 million as of December 31, 2006, and 2005, respectively. If market conditions are more favorable than expected, we could experience more favorable gross profit margins going forward as we sell inventory that was previously written down. Valuation of long-lived assets, intangible assets and goodwill. We have historically pursued the acquisition of businesses, which has resulted in significant goodwill and intangible assets. We assess the impairment of longlived assets, identifiable intangibles and related goodwill annually or sooner if events or changes in circumstances indicate that the carrying value may not be recoverable. Factors that could trigger an impairment review include the following: (i) significant negative industry or economic trends; (ii) exiting an activity in conjunction with a restructuring of operations; (iii) current, historical or projected losses that demonstrate continuing losses associated with an asset; or (iv) a significant decline in our market capitalization, for an extended period of time, relative to net book value. When we determine that there is an indicator that the carrying value of long-lived assets, identifiable intangibles or related goodwill may not be recoverable, we measure impairment based on estimates of future cash flows. These estimates include assumptions about future conditions such as future revenues, gross margins, operating expenses within our Company, the fair values of certain assets based on thoroughly researched 51 PROXY STATEMENT CORPORATE INFORMATION management estimates, and industry trends. See Notes 5 and 6 of the Notes for more details on long-lived assets, intangible assets and goodwill. As of December 31, 2006, we have a goodwill balance of $932.3 million. We monitor the recoverability of goodwill recorded in connection with acquisitions annually or sooner if events or changes in circumstances indicate that the carrying amount may not be recoverable. Impairment, if any, would be determined in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets,” which uses a fair value model for determining the carrying value of goodwill. The impairment testing is a two-step process and is performed by reporting unit. Our reporting units are Semiconductor and Storage Systems. The first step requires comparing the fair value of each reporting unit to its net book value. We concluded that goodwill was not impaired under the first step as of December 31, 2006. The second step is only performed if impairment is indicated after the first step is performed, as it involves measuring the actual impairment to goodwill. Our next annual test for the impairment of goodwill will be performed in our fourth fiscal quarter in 2007. We use management estimates of future cash flows to perform the first step of the goodwill impairment test. These estimates include assumptions about future conditions such as future revenues, gross margins and operating expenses within LSI. Two methodologies were used to obtain the fair value for each reporting unit as of December 31, 2006: Discounted Cash Flow and Market Multiple. The Discounted Cash Flow and Market Multiple methodologies include assumptions about future conditions within our reporting units and related industries. These assumptions include estimates of future market size and growth, expected trends in technology, timing of new product introductions by our competitors and us, and the nature of the industry in which comparable companies and we operate. If significant changes to these assumptions occur, goodwill could become impaired in the future. Restructuring reserves. We have recorded reserves/accruals for restructuring costs related to the restructuring of operations. The restructuring reserves include payments to employees for severance, termination fees associated with leases and other contracts, decommissioning and selling costs associated with assets held for sale, and other costs related to the closure of facilities. Reserves are recorded when management has approved a plan to restructure operations and a liability has been incurred. The restructuring reserves are based upon management estimates at the time they are recorded. These estimates can change depending upon changes in facts and circumstances subsequent to the date the original liability was recorded. For example, existing accruals for severance may be modified if employees are redeployed due to circumstances not foreseen when the original plans were initiated, accruals for outplacement services may not be fully utilized by former employees, and severance accruals could change for statutory reasons in countries outside the United States. Accruals for facility leases under which we ceased using the benefits conveyed to us under the lease may change if market conditions for subleases change or if we later negotiate a termination of the lease. Income taxes. We recognize deferred tax assets and liabilities based on the differences between the financial statement carrying amounts and the tax basis of the assets and liabilities. We have recorded a valuation allowance to reduce the deferred tax assets to the amount that is more likely than not to be realized. We have considered future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for the valuation allowance. See Note 11 of the Notes for more details about our deferred tax assets and liabilities. The calculation of our tax liabilities involves the application of complex tax rules and regulations within multiple jurisdictions throughout the world. Our tax liabilities include estimates for all income related taxes that we believe are probable and that can be reasonably estimated. To the extent that our estimates are understated, additional charges to income tax expense would be recorded in the period in which we determine such understatement. If our income tax estimates are overstated, income tax benefits will be recognized when realized. Recent Accounting Pronouncements The information contained in Part II, Item 8 in Note 1 of the Notes under the heading “Recent Accounting Pronouncements” is hereby incorporated by reference into this Part II, Item 7. 52 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS Item 7A. Quantitative and Qualitative Disclosures about Market Risk Interest rate sensitivity In 2006, a 10% weighted-average worldwide interest rate movement affecting our fixed and floating rate financial instruments as of December 31, 2006, including investments and debt obligations, would not have had a significant effect on our financial position, results of operations and cash flows over the next fiscal year, assuming that the debt and investment balances remained consistent. In 2005, a 10% weighted-average worldwide interest rate movement affecting our fixed and floating rate financial instruments as of December 31, 2005, including investments and debt obligations, would not have had a significant effect on our financial position, results of operations and cash flows over the next fiscal year, assuming that the debt and investment balances remained consistent. With the objective of protecting our cash flows and earnings from the impact of fluctuations in interest rates, while minimizing the cost of capital, we may enter into interest rate swaps. As of December 31, 2006, there were no interest rate swaps outstanding. See Note 9 for a discussion of previously outstanding swaps. Foreign currency exchange risk. We have foreign subsidiaries that operate and sell our products in various global markets. As a result, our cash flows and earnings are exposed to fluctuations in foreign currency exchange rates. We attempt to limit these exposures through operational strategies and financial market instruments. We use various hedge instruments, primarily forward contracts with maturities of twelve months or less and currency option contracts, to manage our exposure associated with net asset and liability positions and cash flows denominated in non-functional currencies. We did not enter into derivative financial instruments for trading purposes during 2006 and 2005. Based on our overall currency rate exposures at December 31, 2006, including derivative financial instruments and non-functional currency-denominated receivables and payables, a near-term 10% appreciation or depreciation of the U.S. dollar would not have a significant effect on our financial position, results of operations and cash flows over the next fiscal year. In 2005, a near-term 10% appreciation or depreciation of the U.S. dollar would also not have had a significant effect. Equity price risk. We have investments in available-for-sale equity securities included in long-term assets. The fair values of these investments are sensitive to equity price changes. Changes in the value of these investments are ordinarily recorded through accumulated comprehensive income. The increase or decrease in the fair value of the investments would affect our results of operations to the extent the investments were sold or that declines in value were concluded by management to be other than temporary. If prices of the available-for-sale equity securities increase or decrease 10% from their fair values as of December 31, 2006, it would increase or decrease the investment values by $1.6 million. As of December 31, 2005, a 10% increase or decrease in fair values would have increased or decreased the investment values by $2.6 million. We do not use any derivatives to hedge the fair value of our marketable available-for-sale equity securities. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION 53 Item 8. Financial Statements and Supplementary Data LSI Logic Corporation Consolidated Balance Sheets December 31, 2006 2005 (In thousands, except per share amounts) FINANCIALS ASSETS Cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Short-term investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Accounts receivable, less allowances of $13,871 and $15,328 . . . . . . . . . . . . . . . Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Prepaid expenses and other current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Property and equipment, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Other intangible assets, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 327,800 681,137 348,638 209,470 68,692 1,635,737 86,045 59,484 932,323 138,555 $ 264,649 674,260 323,310 194,814 163,086 1,620,119 98,285 45,974 928,542 103,146 $ 2,852,144 $ 2,796,066 PROXY STATEMENT LIABILITIES AND STOCKHOLDERS’ EQUITY Accounts payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ Accrued salaries, wages and benefits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Other accrued liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Income taxes payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Current portion of long-term debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total current liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Long-term debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Tax-related liabilities and other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total long-term obligations and other liabilities . . . . . . . . . . . . . . . . . . . . . . . . Commitments and contingencies (Note 12) Minority interest in subsidiary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Stockholders’ equity: Preferred shares; $.01 par value; 2,000 shares authorized; none outstanding . . . . . Common stock; $.01 par value; 1,300,000 shares authorized; 403,680 and 394,015 shares outstanding . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Additional paid-in capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Accumulated other comprehensive income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total stockholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total liabilities and stockholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 200,189 82,292 155,986 88,304 — 526,771 350,000 79,400 429,400 235 — $ 171,632 77,713 140,194 79,290 273,940 742,769 350,000 75,110 425,110 237 — CORPORATE INFORMATION 4,037 3,102,178 (1,220,306) 9,829 1,895,738 $ 2,852,144 3,940 2,996,102 (1,389,944) 17,852 1,627,950 $ 2,796,066 The accompanying notes are an integral part of these Consolidated Financial Statements. 54 LSI Logic Corporation Consolidated Statements of Operations Year Ended December 31, 2006 2005 2004 (In thousands, except per share amounts) Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,982,148 Cost of revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,126,894 Gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Research and development . . . . . . . . . . . . . . . . . . . . . . . . . . . Selling, general and administrative . . . . . . . . . . . . . . . . . . . . . Restructuring of operations and other items, net . . . . . . . . . . . Acquired in-process research and development . . . . . . . . . . . . Amortization of intangibles . . . . . . . . . . . . . . . . . . . . . . . . . . . .... .... .... .... .... .... 855,254 413,432 255,569 (8,427) 4,284 32,089 158,307 (24,263) 51,277 185,321 15,682 169,639 1 $1,919,250 1,087,558 831,692 399,685 238,265 119,052 — 62,484 12,206 (25,283) 34,000 20,923 26,540 (5,617) 6 $ $ $ (5,623) (0.01) (0.01) 390,135 390,135 $1,700,164 964,754 735,410 427,805 245,460 423,444 — 75,050 (436,349) (25,320) 22,170 (439,499) 24,000 (463,499) 32 $ (463,531) $ $ (1.21) (1.21) 384,070 384,070 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS Income/(loss) from operations . . . . . . . . . . . . . . . . . . . . . . . . . . . Interest expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Interest income and other, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Income/(loss) before income taxes and minority interest . . . . . . . . Provision for income taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Income/(loss) before minority interest . . . . . . . . . . . . . . . . . . . . . Minority interest in net income of subsidiary . . . . . . . . . . . . . . . . . . Net income/(loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 169,638 Net income/(loss) loss per share: Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ Shares used in computing per share amounts: Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 0.43 0.42 398,551 405,163 The accompanying notes are an integral part of these Consolidated Financial Statements. 55 LSI Logic Corporation Consolidated Statements of Stockholders’ Equity Common Stock Shares Amount Balances at December 31, 2003 . . . . . Net loss . . . . . . . . . . . . . . . . . . . . Change in foreign currency translation adjustments . . . . . . . . . . . . . . . . Change in unrealized gain on available-for-sale Securities. . . . . . . Change in unrealized loss on derivative instruments designated and qualifying as cash-flow hedges . . . . . . . . . . . . 381,491 . . . . $3,815 Additional Paid-in Capital $2,950,051 Deferred Stock Compensation Accumulated Deficit (In thousands) $(24,839) $ (920,790) (463,531) Accumulated Other Comprehensive Income/(Loss) $ 34,213 1,948 3,784 (1,995) (459,794) 5,852 147 59 1 27,928 (414) 6,401 (14,488) 27,987 (413) — — 7,816 (1,384,321) (5,623) 37,950 (12,976) (7,122) (25,721) 6,369 156 64 1 30,797 (686) 13,427 (6,739) 3,889 30,861 (685) — — — 5,449 (1,389,944) 169,638 17,852 276 (8,299) 161,615 (14,064) 129 8,944 721 90 7 60,923 (3,250) 6,094 31,338 10,842 $4,037 $3,102,178 $ — $(1,220,306) $ 9,829 14,064 — 129 61,013 (3,243) 6,094 31,338 10,842 $1,895,738 1,627,950 1,618,046 Total $2,042,450 FINANCIALS Total comprehensive loss . . . . . . . . . . Issuance to employees under stock option and purchase plans . . . . . . . . . . . . . Issuance or return from escrow of common stock in conjunction with acquisitions (Note 4). . . . . . . . . . . . Grants of restricted shares (Note 3) . . . . Forfeiture of restricted shares and stock options assumed in an acquisition (Note 3) . . . . . . . . . . . . . . . . . . . Amortization of deferred stock compensation . . . . . . . . . . . . . . . . Balances at December 31, 2004 . . . . Net loss . . . . . . . . . . . . . . . . . . . Change in foreign currency translation adjustments . . . . . . . . . . . . . . . Change in unrealized loss on available-for-sale Securities. . . . . . (6,401) 14,488 7,816 . . 387,490 . . . . . . 3,875 2,969,478 (8,936) PROXY STATEMENT Total comprehensive loss . . . . . . . . . . Issuance to employees under stock option and purchase plans . . . . . . . . . . . . . Issuance or return from escrow of common stock in conjunction with acquisitions (Note 4). . . . . . . . . . . . Grants of restricted shares (Note 3) . . . . Forfeiture of restricted shares and stock options assumed in an acquisition (Note 3) . . . . . . . . . . . . . . . . . . . Engenio stock option exchange (Note 3). . Amortization of deferred stock compensation . . . . . . . . . . . . . . . . Balances at December 31, 2005 . . . . Net income . . . . . . . . . . . . . . . . . Change in foreign currency translation adjustments . . . . . . . . . . . . . . . Change in unrealized loss on available-for-sale securities . . . . . . (13,427) 6,739 (3,889) 5,449 CORPORATE INFORMATION . . 394,015 . . . . . . 3,940 3,010,166 (14,064) Total comprehensive income . . . . . . . . Adoption of FAS 123R — reclassification of Deferred Stock Compensation . . . . Tax effect of FAS 123R on foreign entities . . . . . . . . . . . . . . . . . . . . Issuance to employees under stock option and purchase plans . . . . . . . . . . . . . Issuance of common stock pursuant to restricted stock awards, net . . . . . . . . Amortization of stock-based compensation related to restricted shares . . . . . . . . . . . . . . . . . . . . Amortization of stock-based compensation related to employee stock options . . . . . . . . . . . . . . . . Amortization of stock-based compensation related to employee stock purchases . . . . . . . . . . . . . . . Balances at December 31, 2006 . . . . . . 403,680 The accompanying notes are an integral part of these Consolidated Financial Statements. 56 LSI Logic Corporation Consolidated Statements of Cash Flows Year Ended December 31, 2006 2005 (In thousands) 2004 Operating activities: Net income/(loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Adjustments: Depreciation and amortization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Stock-based compensation expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Non-cash restructuring and other items . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Acquired in-process research and development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Gain on sale of intellectual property . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Gain on sale of Gresham manufacturing facility and associated intellectual property . . . . . Write-off of intangible assets acquired in a purchase business combination . . . . . . . . . . . Non-cash foreign exchange (gain)/loss . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Gain on sale of equity securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Gain on repurchase of Convertible Subordinated Notes. . . . . . . . . . . . . . . . . . . . . . . . Gain/(loss) on sale of property and equipment, including assets held-for-sale . . . . . . . . . Changes in deferred tax assets and liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Changes in assets and liabilities, net of assets acquired and liabilities assumed in business combinations: Accounts receivable, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Prepaid expenses and other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Accounts payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Accrued and other liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 169,638 82,263 47,049 (713) 4,284 (15,000) (12,553) 3,325 (1,089) (6,727) — (252) (98) $ (5,623) 146,169 5,449 88,224 — — — — (11,491) (6,475) (4,123) 27 14,220 $(463,531) 176,606 8,449 401,058 — — — — 3,322 (1,913) (1,767) (6,348) 4,895 FINANCIALS . . . . . (24,617) (18,062) (24,858) 23,338 21,223 247,151 (603,624) 595,135 (8,150) 11,876 (58,671) 118 2,282 — — — (55,328) 22,670 10,998 7,029 96,426 5,100 25,861 — 61,014 (271,848) — (210,834) 973 63,151 264,649 $ 327,800 (51,305) 24,086 (22,582) 46,998 25,129 248,703 (550,912) 462,530 (150) 11,105 (48,055) 4,894 36,307 — — — — — — — — — (84,281) (148,126) 30,862 (129) — (117,393) (1,103) 45,926 218,723 $ 264,649 (40,076) (20,660) 20,055 21,056 (10,329) 90,817 (747,096) 679,483 (2,250) 10,518 (52,776) 10,936 — (332,396) (313,013) 688,994 (32,025) — — — — — (89,625) (68,117) 27,988 (438) (8,020) (48,587) (3,564) (50,959) 269,682 $ 218,723 PROXY STATEMENT Net cash provided by operating activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Investing activities: Purchase of debt securities available-for-sale . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Proceeds from maturities and sales of debt securities available-for-sale . . . . . . . . . . . . . . . . Purchases of equity securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Proceeds from sales of equity securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Purchases of property, equipment and software . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Proceeds from sale of property and equipment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Adjustment to goodwill acquired in a prior year for resolution of a pre-acquisition income tax contingency . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Buyout of equipment operating lease . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Increase in non-current assets and deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Decrease in non-current assets and deposits. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Acquisitions of companies, net of cash acquired . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Proceeds from sale of intellectual property . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Proceeds from sale of Fort Collins facility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Proceeds from sale of Colorado Springs facility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Proceeds from sale of Gresham manufacturing facility . . . . . . . . . . . . . . . . . . . . . . . . . . . Proceeds from sale of Gresham manufacturing facility associated intellectual property . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Net cash provided by/(used in) investing activities . . . . . . . . . . . . . . . . . . . . . . . . . . Financing activities: Repurchase of Convertible Subordinated Notes Issuance of common stock . . . . . . . . . . . . . . Repayment of debt obligations . . . . . . . . . . . Purchase of minority interest in subsidiary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . CORPORATE INFORMATION Net cash used in financing activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Effect of exchange rate changes on cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . Increase/(decrease) in cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Cash and cash equivalents at beginning of year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Cash and cash equivalents at end of year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . The accompanying notes are an integral part of these Consolidated Financial Statements. 57 LSI Logic Corporation Notes to Consolidated Financial Statements Note 1 — Significant Accounting policies Nature of the business. LSI designs, develops and markets complex, high-performance semiconductors and storage systems. The Company is a leading provider of silicon-to-system solutions that are used at the core of products that create, store and consume digital information. The Company offers a broad portfolio of semiconductors, including custom and standard product integrated circuits, for use in consumer applications, highperformance storage controllers, enterprise hard disk controllers and a wide range of communication devices. The Company also offers external storage systems and software applications for storage area networks. In 2005, the Company’s operations were organized in four markets: communications, consumer products, storage components and storage systems. On March 6, 2006, the Company announced plans to focus the Company’s business on growth opportunities in the storage and consumer markets. The Company operates in two Reportable segments — the Semiconductor segment and the Storage Systems segment — in which the Company offers products and services for a variety of electronic systems applications. LSI’s products are marketed primarily to OEMs that sell products to the Company’s target markets. The semiconductor and storage systems industries are characterized by rapid technological change, competitive pricing pressures and cyclical market patterns. The Company’s financial results are affected by a wide variety of factors, including general economic conditions worldwide, economic conditions specific to the semiconductor and storage systems industries, the timely implementation of new technologies and the ability to safeguard patents and intellectual property in a rapidly evolving market. In addition, the semiconductor and storage systems markets have historically been cyclical and subject to significant economic downturns at various times. Basis of presentation. The consolidated financial statements include the accounts of the Company and all of its subsidiaries. Intercompany transactions and balances have been eliminated in consolidation. Minority interest in a subsidiary represents the minority stockholders’ proportionate share of the net assets and the results of operations for one of the Company’s majority-owned Japanese subsidiaries. Sales of common stock of the Company’s subsidiary and purchases of such shares may result in changes in the Company’s proportionate share of the subsidiary’s net assets. During 2004, the Company purchased a portion of the minority interest. At December 31, 2006, the Company owned approximately 99.84% of the Japanese affiliate. Where the functional currency of the Company’s foreign subsidiaries is the local currency, all assets and liabilities are translated into U.S. dollars at the current rates of exchange as of the balance sheet date and revenues and expenses are translated using weighted average rates prevailing during the period. Accounts and transactions denominated in foreign currencies have been remeasured into functional currencies before translation into U.S. dollars. Foreign currency transaction gains and losses are included as a component of interest income and other. Gains and losses from foreign currency translation are included as a separate component of comprehensive income. Use of estimates. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ materially from these estimates. Acquisitions. The estimated fair value of acquired assets and assumed liabilities and the results of operations of purchased businesses are included in the Company’s consolidated financial statements as of the effective date of the purchase, through the end of the period. The total purchase price is allocated to the estimated fair value of assets acquired and liabilities assumed based on management estimates using the assistance of third party appraisers. The purchase price includes direct acquisition costs consisting of investment banking, legal and accounting fees. Revenue recognition. The majority of the Company’s product revenues are recognized upon shipment, when persuasive evidence of a sales arrangement exists, the price is fixed or determinable, title has transferred and 58 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) collection of resulting receivables is reasonably assured (or probable in the case of software). Standard products sold to distributors are subject to specific rights to return and revenue recognition is deferred until the distributor sells the product to a third party. Revenues from the licensing of the Company’s design and manufacturing technology is recognized when the significant contractual obligations have been fulfilled. Royalty revenues are recognized upon the sale of products subject to royalties. All amounts billed to a customer related to shipping and handling are classified as revenues, while all costs incurred by the Company for shipping and handling are classified as cost of revenues. Consideration given to customers, when offered, is primarily in the form of discounts and rebates. Such consideration is accounted for as a reduction to revenues in the period the related sale is made. Reserves for estimated sales returns are established based on historical returns experience. The Company has substantial historical experience to form a basis for estimating returns when products are shipped. In arrangements where software is more than incidental to the arrangement as a whole, which includes a combination of the Company’s hardware, and the Company’s premium software products that are also sold separately, the Company follows the guidance in EITF 03-05 and accounts for the entire arrangement as a sale of software and software-related items because the software is essential to the functionality of the hardware as the software provides the majority of the value-added features and differentiated performance of the Company’s products. Sales arrangements that include a combination of storage systems hardware, software and/or services are multiple element arrangements. Revenues from multiple element arrangements that include software that is more than incidental to the product being sold and include a combination of storage systems hardware, premium software, services and post-contract customer support, is allocated to the separate elements based on relative fair values, which is determined based on the prices when the items are sold separately. Earnings per share. Basic earnings per share (“EPS”) is computed by dividing net income/(loss) available to common stockholders (numerator) by the weighted average number of common shares outstanding (denominator) during the period. Diluted EPS is computed using the weighted-average number of common and dilutive potential common shares outstanding during the period using the treasury-stock method for outstanding stock options and restricted stock awards and the if-converted method for convertible notes. A reconciliation of the numerators and denominators of the basic and diluted per share amount computations is as follows: 2006 Per-Share Amount Year Ended December 31, 2005 Per-Share (Loss)* Shares+ Amount (In thousands except per share amounts) 2004 Per-Share Amount FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Income* Shares+ (Loss)* Shares+ Basic EPS: Net income/(loss) available to common stockholders . . . . . Stock options, employee stock purchase rights and restricted stock awards . . . . . . . . . Diluted EPS: Net income/(loss) available to common stockholders . . . . . $169,638 398,551 $0.43 $(5,623) 390,135 $(0.01) $(463,531) 384,070 $(1.21) — 6,612 — — — — — — — $169,638 405,163 $0.42 $(5,623) 390,135 $(0.01) $(463,531) 384,070 $(1.21) * Numerator + Denominator 59 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Options to purchase approximately 45,379,128, 70,618,481 and 67,733,073 shares outstanding at December 31, 2006, 2005 and 2004, respectively, were excluded from the computation of diluted shares because of their antidilutive effect on net income/(loss) per share. A total of 34,676,681, 38,411,403 and 43,728,665 weighted average potentially dilutive shares associated with the 2003 and 2001 Convertible Notes were excluded from the calculation of diluted shares because of their antidilutive effect on net income/(loss) per share for the years ended December 31, 2006, 2005 and 2004, respectively. Stock-Based Compensation Expense. On January 1, 2006, the Company adopted SFAS 123R, using the modified prospective transition method. In accordance with the modified prospective transition method, the Company began recognizing compensation expense for all share-based awards granted after January 1, 2006 plus unvested awards granted prior to January 1, 2006. Under this method of implementation, no restatement of prior periods has been made. Determining the fair value of stock-based awards at the grant date requires considerable judgment, including estimating expected volatility, expected term and risk-free rate. If factors change and the Company employs different assumptions, stock-based compensation expense may differ significantly from what the Company has recorded in the prior years (see Note 3 of the Notes). Advertising. Advertising costs are charged to expense in the period incurred. Advertising expense was $5.0 million, $4.9 million and $5.4 million for the years ended December 31, 2006, 2005 and 2004, respectively. PROXY STATEMENT FINANCIALS Cash equivalents. All highly liquid investments purchased with an original maturity of 90 days or less are considered to be cash equivalents. Cash equivalents are reported at amortized cost plus accrued interest. Accounts receivable and allowance for doubtful accounts. Trade receivables are reported in the balance sheet reduced by an allowance for doubtful accounts for estimated losses resulting from receivables not considered to be collectible. The allowance for doubtful accounts is estimated by evaluating customer’s history and credit worthiness as well as current economic and market trends. Investments. Available-for-sale investments include marketable short-term investments and long-term investments in marketable shares of technology companies. Short-term investments in marketable debt securities are reported at fair value and include all debt securities regardless of their maturity dates. Long-term investments in marketable equity securities are reported at fair value with unrealized gains and losses, net of related tax, recorded as a separate component of comprehensive income in stockholders’ equity until realized. The investments in longterm non-marketable equity securities are recorded at cost basis and consist primarily of common and preferred stock of various non-marketable technology companies. Gains and losses on securities sold are determined based on the specific identification method and are included in interest income in the statement of operations. The Company does not hold any of these securities for speculative or trading purposes. For all investment securities, unrealized losses that are considered to be other than temporary are considered impairment losses and recognized as a component of interest income and other in the statement of operations. In order to determine if an impairment has occurred, the Company reviews the financial performance and outlook of each investee, industry performance, the trading prices of marketable securities and pricing in current rounds of financing for non-marketable equity securities. For marketable equity securities, impairment losses are measured using the closing market prices of the marketable securities on the date management determined that the investments were impaired. For non-marketable equity securities, impairment losses are generally measured by using pricing in current rounds of financing. The fair values of the Company’s non-marketable equity investments are not estimated if there are no identified events or changes in circumstances that may have a significant adverse effect on the investment. Inventories. Inventories are stated at the lower of cost or market. Cost is computed on a first-in, first-out basis for raw materials, work-in-process and finished goods. Inventory reserves are established when conditions indicate that the selling price could be less than cost due to physical deterioration, obsolescence, changes in price levels, or 60 CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) other causes. Reserves are established for excess inventory generally based on inventory levels in excess of 12 months of demand, as judged by management, for each specific product. Property and equipment. Property and equipment are recorded at cost. Depreciation and amortization for property and equipment are calculated based on the straight-line method over the estimated useful lives of the assets as presented below: Buildings and improvements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Furniture and fixtures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20 - 40 years 3 - 5 years 5 years FINANCIALS Amortization of leasehold improvements is computed using the shorter of the remaining term of the Company’s facility leases or the estimated useful lives of the improvements. While the majority of the Company’s equipment is depreciated over a three- to five-year period, some tools are being depreciated over a seven-year period. Software. The Company capitalizes both purchased software and software development costs. Purchased software primarily includes software and external consulting fees related to the purchase and implementation of software projects used for business operations and engineering design activities. Capitalized software projects are amortized over the estimated useful lives of the projects, typically a two- to five-year period. Development costs for software that will be sold to customers and/or embedded in certain hardware products are capitalized beginning when a product’s technological feasibility has been established. Prior to the establishment of technological feasibility, software development costs are expensed as research and development. Capitalized development costs are amortized on a straight-line basis to cost of revenues when ready for general release to customers over the estimated useful life of the product, typically an 18- to 24-month period. Software amortization totaling $13.8 million, $14.2 million and $12.0 million was included in the Company’s results of operations during 2006, 2005 and 2004, respectively. On a quarterly basis, the Company assesses the realizability of each product. The amount by which the unamortized capitalized software development costs exceed the estimated net realizable value is written-off immediately. Impairment of long-lived assets. The Company evaluates the carrying value of long-lived assets whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable. The determination of recoverability is based on an estimate of undiscounted cash flows expected to result from the use and eventual disposition of the asset. In the event such cash flows are not expected to be sufficient to recover the recorded value of the assets, the assets are written down to their estimated fair values. When assets are removed from operations and held for sale, the impairment loss is estimated as the excess of the carrying value of the assets over their fair value. Goodwill. The Company monitors the recoverability of goodwill recorded in connection with acquisitions, by reporting unit, annually or sooner if events or changes in circumstances indicate that the carrying amount may not be recoverable. The Company’s two reporting units are Semiconductor and Storage Systems. Impairment, if any, would be determined based on an implied fair value model for determining the carrying value of goodwill. The impairment test is a two-step process. The first step requires comparing the fair value of each reporting unit to its net book value. The Company uses management estimates of future cash flows to perform the first step of the goodwill impairment test. Estimates made by management include assumptions about future conditions such as future revenues, gross margins and operating expenses. The second step is only performed if impairment is indicated after the first step is performed, as it involves measuring the actual impairment to goodwill. Fair value disclosures of financial instruments. The estimated fair value of financial instruments is determined by the Company, using available market information and valuation methodologies considered to be appropriate. However, considerable judgment is required in interpreting market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that the Company could realize in a current market exchange. The use of different market assumptions and/or estimation 61 PROXY STATEMENT CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) methodologies could have a significant effect on the estimated fair value amounts. The fair value of investments, derivative instruments and convertible debt are based on market data. Carrying amounts of accounts receivable and accounts payable approximate fair value due to the short maturity of these financial instruments. Derivative instruments. All of the Company’s derivative instruments are recognized as assets or liabilities in the statement of financial position and measured at fair value (see Note 9 of the Notes). The Company does not enter into derivative financial instruments for speculative or trading purposes. On the date a derivative contract is entered into, the Company designates its derivative as either a hedge of the fair value of a recognized asset or liability (“fairvalue” hedge), as a hedge of the variability of cash flows to be received (“cash-flow” hedge), or as a foreigncurrency hedge. Changes in the fair value of a derivative that is highly effective and is designated and qualifies as a fair-value hedge, along with the loss or gain on the hedged asset or liability that is attributable to the hedged risk (including losses or gains on firm commitments), are recorded in current period earnings. Effective changes in the fair value of a derivative that is highly effective and is designated and qualifies as a cash-flow hedge, are recorded in other comprehensive income, until earnings are affected by the variability of the cash flows. Changes in the fair value of derivatives that are highly effective, and are designated and qualify as a foreign-currency hedge, are recorded in either current period earnings or other comprehensive income, depending on whether the hedge transaction is a fair-value hedge (e.g., a hedge of a firm commitment that is to be settled in a foreign currency) or a cash-flow hedge (e.g., a foreign-currency-denominated forecasted transaction). The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk management objective and strategy for undertaking various hedge transactions. This process includes linking all derivatives that are designated as fair-value, cash-flow or foreign-currency hedges to specific assets and liabilities on the balance sheet or to specific firm commitments or forecasted transactions. The Company also assesses, both at the hedge’s inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in fair values or cash flows of the hedged items. If it were to be determined that a derivative is not highly effective as a hedge or that it has ceased to be a highly effective hedge, the Company would discontinue hedge accounting prospectively, as discussed below. The Company would discontinue hedge accounting prospectively when (1) it is determined that the derivative is no longer highly effective in offsetting changes in the fair value or cash flows of a hedged item (including firm commitments or forecasted transactions); (2) the derivative expires or is sold, terminated or exercised; (3) the derivative is no longer designated as a hedge instrument, because it is unlikely that a forecasted transaction will occur; (4) the hedged firm commitment no longer meets the definition of a firm commitment; or (5) management determines that designation of the derivative as a hedge instrument is no longer appropriate. When hedge accounting is discontinued because it is determined that the derivative no longer qualifies as a highly effective fair-value hedge, the derivative will continue to be carried on the balance sheet at its fair value, and the hedged asset or liability will no longer be adjusted for changes in fair value. When hedge accounting is discontinued because the hedged item no longer meets the definition of a firm commitment, the derivative will continue to be carried on the balance sheet at its fair value, and any asset or liability that was previously recorded pursuant to recognition of the firm commitment will be removed from the balance sheet and recognized as a gain or loss in current period earnings. When hedge accounting is discontinued because it is probable that a forecasted transaction will not occur, the derivative will continue to be carried on the balance sheet at its fair value, and gains and losses that were accumulated in other comprehensive income will be recognized immediately in earnings. When a fair value hedge on an interest-bearing financial instrument (such as an interest rate swap) is cancelled and hedge accounting is discontinued, the hedged item is no longer adjusted for changes in its fair value, and the remaining asset or liability will be amortized to earnings over the remaining life of the hedged item. Concentration of credit risk of financial instruments. Financial instruments that potentially subject the Company to credit risk consist of cash equivalents, short-term investments and accounts receivable. Cash equivalents and short-term investments are maintained with high quality institutions, the composition and maturities of which are regularly monitored by management. A majority of the Company’s trade receivables 62 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) are derived from sales to large multinational computer, communication, networking, storage and consumer electronics manufacturers, with the remainder distributed across other industries. There are two customers that accounted for 24% and 13% of trade receivables as of December 31, 2006 and two customers that accounted for 23% and 13% of trade receivables as of December 31, 2005. Concentrations of credit risk with respect to all other trade receivables are considered to be limited due to the quantity of customers comprising the Company’s customer base and their dispersion across industries and geographies. The Company performs ongoing credit evaluations of its customers’ financial condition and requires collateral as considered necessary. Write-offs of uncollectible amounts have not been significant. Product warranties. The Company warrants finished goods against defects in material and workmanship under normal use and service for periods of one to five years for Semiconductor products and Storage Systems’ products. A liability for estimated future costs under product warranties is recorded when products are shipped (see Note 12). Litigation and Settlement Costs. The Company is involved in legal actions arising in the ordinary course of business. The Company aggressively defends these legal actions. The Company records an estimated loss for a loss contingency when both of the following conditions are met: (i) information available prior to issuance of the financial statements indicates that it is probable that an asset had been impaired or a liability had been incurred at the date of the financial statements, and (ii) the amount of loss can be reasonably estimated. Income Taxes. The calculation of the Company’s tax provision involves the application of complex tax rules and regulations within multiple jurisdictions throughout the world. The Company’s tax liabilities include estimates for all income-related taxes that the Company believes are probable and that can be reasonably estimated. To the extent that the Company’s estimates are understated, additional charges to the provision for income taxes would be recorded in the period in which the Company determines such understatement. If the Company’s income tax estimates are overstated, income tax benefits will be recognized when realized. Deferred tax assets and liabilities are recognized for temporary differences between financial statement and income tax bases of assets and liabilities. Valuation allowances are provided against deferred tax assets when it is more likely than not that some portion or all of the deferred tax asset will not be realized. Related party transactions. A member of the Company’s board of directors is also a director of Seagate Technology. The Company sells semiconductors used in storage product applications to Seagate Technology for prices the Company believes unrelated third party would pay for such products. Storage products include disk drives, RAID subsystems and tape drives. Revenues from Seagate were $234.4 million, $207.7 million and $121.7 million for the years ended December 31, 2006, 2005 and 2004, respectively. The Company had accounts receivable from Seagate of $45.8 million and $41.2 million as of December 31, 2006 and 2005 respectively. Recent accounting pronouncements. In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB interpretation No. 48 (“FIN No. 48”), “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109 (“FAS No. 109”).” This interpretation prescribes a recognition threshold and measurement attribute for tax positions taken or expected to be taken in a tax return. This interpretation also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. The evaluation of a tax position in accordance with this interpretation is a two-step process. In the first step, recognition, the Company determines whether it is more-likely-than-not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The second step addresses measurement of a tax position that meets the more-likely-than-not criteria. The tax position is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. Differences between tax positions taken in a tax return and amounts recognized in the financial statements will generally result in (a) an increase in a liability for income taxes payable or a reduction of an income 63 PROXY STATEMENT CORPORATE INFORMATION FINANCIALS LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) tax refund receivable, (b) a reduction in a deferred tax asset or an increase in a deferred tax liability or (c) both a and b. Tax positions that previously failed to meet the more-likely-than-not recognition threshold should be recognized in the first subsequent financial reporting period in which that threshold is met. Previously recognized tax positions that no longer meet the more-likely-than-not recognition threshold should be de-recognized in the first subsequent financial reporting period in which that threshold is no longer met. Use of a valuation allowance as described in FAS No. 109 is not an appropriate substitute for the de-recognition of a tax position. The requirement to assess the need for a valuation allowance for deferred tax assets based on sufficiency of future taxable income is unchanged by this interpretation. This interpretation is effective for the Company on January 1, 2007. The Company is currently evaluating the impact of FIN No. 48 on its consolidated financial statements. FINANCIALS PROXY STATEMENT In June 2006, the FASB Emerging Issues Task Force issued EITF Issue No. 06-2 (“EITF 06-02”), “Accounting for Sabbatical Leave and Other Similar Benefits Pursuant to FASB Statement No. 43 (“FAS No. 43”), Accounting for Compensated Absences.” EITF 06-02 addresses the accounting for an employee’s right to a compensated absence under a sabbatical or other similar benefit arrangement that is unrestricted (that is, the employee is not required to perform any services for or on behalf of the entity during the absence) and that requires the completion of a minimum service period and in which the benefit does not increase with additional years of service. For sabbatical arrangements meeting these criteria, EITF 06-02 concludes that the accumulated criteria have been met in paragraph 6(b) of FAS No. 43 and that as long as the remaining sections of paragraph 6 are met, the sabbatical arrangement should be accrued over the requisite service period, which for the Company would be 10 years. The Company offers a sabbatical of 20 days to full-time employees upon completion of 10 years of service. EITF 06-02 is effective for the Company on January 1, 2007 and the provisions of the EITF allow for either retrospective application or a cumulative effect adjustment approach upon adoption. The Company will adopt this EITF in the first quarter of 2007 with a cumulative effect adjustment to retained earnings of approximately $4.2 million. In September 2006, the SEC issued Staff Accounting Bulletin No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements” (“SAB 108”). SAB 108 gives guidance on how errors, built up over time in the balance sheet, should be considered from a materiality perspective and corrected. SAB 108 provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. SAB 108 is effective for fiscal years ending after November 15, 2006, and early application is encouraged. The adoption of SAB 108 did not have a material impact on the Company’s consolidated balance sheet or statement of operations. In September 2006, the FASB issued FASB Statement No. 157, Fair Value Measurements (“FAS 157”). FAS 157 establishes a single authoritative definition of fair value, sets out a framework for measuring fair value, and expands on required disclosures about fair value measurement. FAS 157 is effective for fiscal years beginning after November 15, 2007 and will be applied prospectively. The Company is currently evaluating the impact that the provisions of FAS 157 will have on the Company’s consolidated balance sheet and statement of operations. Note 2 — Restructuring and other items 2006 The Company recorded a credit of $8.4 million in restructuring of operations and other items for the year ended December 31, 2006. A credit of $9.6 million was recorded in the Semiconductor segment and a charge of $1.2 million was included in the Storage Systems segment. Restructuring and impairment of long- lived assets: First quarter of 2006: The Company recorded a $5.7 million charge in the first quarter of 2006,which is related to the net effect of the following items. An expense of $2.7 million was recorded for changes in sublease assumptions for certain previously accrued facility lease termination costs. An expense of $0.5 million was recorded to reflect the 64 CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) change-in-time value of accruals for facility lease termination costs. An expense of $5.7 million was recorded for severance and termination benefits for employees primarily related to the broad-based reorganization that was announced in August 2005. Other exit costs of $1.4 million include contract termination costs of $0.9 million related to the Company’s strategic realignment of the sales function and an expense of $0.5 million for facility closure costs related to the Colorado fabrication facility as the expenses were incurred. Net gains of $4.6 million were recorded to reflect (a) the increase in fair value for the Company’s Colorado Springs facility that was sold to a third party subsequent to the first quarter of 2006, (b) a gain for the sale of certain intellectual property to a third party during the first quarter of 2006 that was written down to zero due to impairment in a previous year and (c) the write-down of certain equipment held for sale to fair market value. FINANCIALS Second quarter of 2006: The Company recorded $21.6 million credit related to the net effect of the following items: • $12.5 million net gain recorded for the sale of Gresham, Oregon manufacturing facility and certain related manufacturing process intellectual property to ON Semiconductor; • $15.0 million gain recorded for the sale of certain intellectual property to a third party based on the sale of zero basis intellectual property for $15.0 million in cash proceeds; • $7.4 million gain recorded for the sale of the Company’s ZSP digital signal processor intellectual technology; • $8.6 million charge recorded for severance and termination benefits for employees primarily related to the broad-based reorganization that was announced in August 2005; • $3.3 million charge recorded for the write-off of certain intangible assets acquired in a purchase business combination; and • $1.4 million net charge recorded primarily for changes in sublease assumptions for certain previously accrued facility lease termination costs. Sale of the Gresham facility: In May 2006, the Company completed the sale of the Company’s Gresham, Oregon manufacturing facility to ON Semiconductor for approximately $105.0 million in cash. $90.0 million in cash was received in the second quarter of 2006 and $15.0 million was received early in the third quarter of 2006. Under the terms of the agreement, ON Semiconductor offered employment to substantially all of the LSI manufacturing employees based at the Gresham site, with the remaining non-manufacturing workforce expected to continue their employment with LSI. ON Semiconductor also entered into additional agreements with LSI, including a multi-year wafer supply and test agreement, intellectual property license agreement, transition services agreement and a facilities use agreement. The Company recognized a gain of $12.5 million associated with the sale of the Gresham manufacturing facility. No amounts were deferred pursuant to the transaction as any continuing involvement with the Gresham manufacturing facility does not carry with it the same risks and rewards as does ownership of the property, nor would any portion of the sales price need to be deferred due to the nature and fair market value pricing of the ancillary agreements entered into as discussed below as they represent separate earnings processes. Under the terms of the wafer supply agreement, LSI is a customer of ON Semiconductor, whereby LSI has agreed to purchase $198.8 million in wafers from ON Semiconductor during the period from the date of sale of the Gresham facility in May 2006 to the end of LSI’s second quarter of 2008. Such wafer supply agreements are customary with the sale of large wafer manufacturing facilities and the wafer prices under the agreement represent fair market values. The wafers purchased from ON Semiconductor will be recognized by LSI as purchases of inventory upon transfer of title of the inventory to LSI from ON Semiconductor. Deliverables under the intellectual 65 PROXY STATEMENT CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) property license agreement were completed upon sale of the facility to ON Semiconductor in May 2006. The transition services agreement was short-term in nature and priced separately from the overall sale agreement. Services performed by LSI under this agreement were primarily related to short-term accounting system services and priced at fair market value. The facility use agreement is for a term of 36 months whereby LSI leases space from ON Semiconductor. LSI pays ON Semiconductor fair market value for such space rental. Third quarter of 2006: The Company recorded a $2.6 million charge related to the net effect of the following items: FINANCIALS • $1.7 million charge recorded for severance and termination benefits for employees primarily related to the broad-based reorganization that was announced in August 2005; • $0.4 million net charge recorded primarily for changes in sublease assumptions for certain previously accrued facility lease termination costs and additional $0.4 million recorded to reflect the change-in-time value of accruals for facility lease termination costs; and • $0.1 million net charge recorded for other exit costs, mainly related to the contract termination costs related to the Company’s strategic realignment of the sales function. Fourth quarter of 2006: PROXY STATEMENT The Company recorded a $4.9 million charge related to the net effect of the following items: • $1.3 million charge recorded for a write-down of leasehold improvements, $0.6 million loss recorded from sale of assets; • $1.5 million net charge recorded primarily for changes in sublease assumptions for certain previously accrued facility lease termination costs and an additional $0.4 million recorded to reflect the change-in-time value of accruals for facility lease termination costs; and • $1.1 million charge recorded for severance and termination benefits for employees primarily related to the broad-based reorganization that was announced in August 2005. Assets held for sale of $20.1 million and $105.8 million were included as a component of prepaid expenses and other current assets as of December 31, 2006 and December 31, 2005, respectively. During the three months ended July 2, 2006, the Company sold the Gresham, Oregon manufacturing facility and two Colorado facilities. The gain from the Gresham facility is described above. The net loss from the sale of the two Colorado facilities was insignificant. Assets classified as held-for-sale are not depreciated. The fair values of impaired equipment and facilities were thoroughly researched and estimated by management using the assistance of third-party appraisers. Given that current market conditions for the sale of older fabrication facilities and related equipment may fluctuate, there can be no assurance that the Company will realize the current net carrying value of the assets held for sale. The Company reassesses the realizability of the carrying value of these assets at the end of each quarter until the assets are sold or otherwise disposed of and additional adjustments may be necessary. CORPORATE INFORMATION 66 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) The following table sets forth the Company’s restructuring reserves as of December 31, 2006, which are included in other accrued liabilities on the balance sheet: Balance at December 31, 2005 Restructuring Expense 2006 Release of Reserve (In thousands) Utilized During 2006 Balance at December 31, 2006 Write-down of excess assets and decommissioning costs(a). . . . . . . . . . . . . . . . . Lease terminations and maintenance contracts(b) . . . . Facility closure and other exit costs(c). . . . . . . . . . . . . . . . . Payments to employees for severance(d) . . . . . . . . . . . . . Total . . . . . . . . . . . . . . . . . . $ 4,993 22,287 — 5,395 $32,675 $(34,390) 7,462 1,510 16,991 $ (8,427) $(188) — — (422) $(610) $ 29,585 (6,580) (1,510) (21,622) $ (127) $ — FINANCIALS 23,169 — 342 $23,511 (a) The credit includes the gain from the sale of the Gresham facility, which is described above. The remaining balance was utilized during the third quarter of 2006. PROXY STATEMENT (b) Amounts utilized represent cash payments. The balance remaining for real estate lease terminations will be paid during the remaining terms of these contracts, which extend through 2011. (c) Amounts utilized represent cash payments. (d) Amounts utilized represent (i) cash severance payments to 190 employees during the year ended December 31, 2006 and (ii) cash payments for one-time termination benefits for 512 employees associated with the sale of the Gresham manufacturing facility. 2005 The Company recorded charges of $119.1 million in restructuring of operations and other items for the year ended December 31, 2005, consisting of $113.7 million in charges for restructuring of operations and impairment of long-lived assets and a charge of $5.4 million for other items. Of these charges, $115.9 million was recorded in the Semiconductor segment and $3.2 million was included in the Storage Systems segment. Restructuring and impairment of long-lived assets: First quarter of 2005: The Company recorded restructuring charges of approximately $1.5 million, which included the following items. An expense of $0.8 million was recorded for the write-down of purchased software that will not be used. An expense of $0.3 million was recorded to reflect the change in time value of accruals for facility lease termination costs, net of adjustments for changes in sublease assumptions for certain previously accrued facility lease termination costs. Additional non-manufacturing facilities were consolidated during the first quarter of 2005 and an expense of $0.4 million was recorded as the leased facilities ceased being used. Second quarter of 2005: The Company recorded restructuring charges of approximately $1.7 million, which included the following items. An expense of $0.4 million for the write-down of equipment held for sale to reflect a decline in fair market values. An expense of $0.4 million was recorded to reflect the change in time value of accruals for facility lease termination costs. An additional non-manufacturing facility was consolidated during the second quarter of 2005 and 67 CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) an expense of $0.3 million was recorded as the leased facility ceased being used. An expense of $0.2 million was recorded for severance and termination benefits for 10 employees. An expense of $0.4 million was recorded for facility closure costs related to the Colorado fabrication facility as the expenses were incurred. Third quarter of 2005: The Company recorded restructuring charges of approximately $100.0 million for the three months ended September 30, 2005 as follows: On September 13, 2005, the Company announced its intention to sell its Gresham, Oregon manufacturing facility as part of the Company’s strategy to move to a fabless semiconductor manufacturing model. Accordingly, the Company recorded $91.1 million in charges directly associated with the decision to sell the manufacturing facility in the third quarter of 2005. The asset impairment charge for the Gresham disposal was calculated in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” and included a charge of $85.2 million for the Gresham facility and $4.8 million in charges for estimated selling costs. The fair market values for the Gresham facility were thoroughly researched and estimated by management using the assistance of third party appraisers. The impairment charges of $85.2 million are non-cash charges. In addition, the Company announced workforce reductions for approximately 80 positions in the Gresham facility and recorded a charge of $1.1 million for severance and termination benefits. The Company also established a retention bonus arrangement for approximately 500 employees to induce them to stay until the facility is sold. Each employee who stayed and rendered service until the sale of the Gresham facility received a termination benefit, which was paid after the sale of the facility. These actions and related charges are associated with the Semiconductor segment. An expense of $7.7 million was recorded for changes in sublease assumptions for certain previously accrued facility lease termination costs. In addition, an expense of $0.5 million was recorded to reflect the change in time value of accruals for facility lease termination costs. An expense of $0.5 million was recorded for severance and termination benefits for approximately 17 employees primarily related to the broad-based reorganization that was announced in August 2005. An expense of $0.5 million was recorded for facility closure costs related to the Colorado fabrication facility as the expenses were incurred. Fourth quarter of 2005: The Company recorded restructuring charges of approximately $10.4 million for the three months ended December 31, 2005 as follows: An expense of $2.2 million was recorded for changes in sublease assumptions for certain previously accrued facility lease termination costs. In addition, an expense of $0.4 million was recorded to reflect the change in time value of accruals for facility lease termination costs. An expense of $5.7 million was recorded for severance and termination benefits for employees primarily related to the one-time termination benefits for employees affected by the broad-based reorganization that was announced in August 2005. An additional non-manufacturing facility was consolidated during the fourth quarter of 2005 and an impairment charge of $1.6 million was recorded for leasehold improvements as the leased facility ceased being used. This was a non-cash charge associated with the Company’s Storage System segment. An expense of $0.5 million was recorded for facility closure costs related to the Colorado fabrication facility as the expenses were incurred. Assets held for sale of $105.8 million and $11.0 million were included as a component of prepaid expenses and other current assets as of December 31, 2005 and December 31, 2004, respectively. Assets classified as held for sale are not depreciated. The fair values of impaired equipment and facilities were estimated by management using the assistance of third party appraisers. Given that current market conditions for the sale of older fabrication facilities and related equipment may fluctuate, there can be no assurance that the Company will realize the current net carrying value of the assets held for sale. The Company reassesses the realizability of the carrying value of these 68 FINANCIALS CORPORATE INFORMATION PROXY STATEMENT LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) assets at the end of each quarter until the assets are sold or otherwise disposed of and additional adjustments may be necessary. The following table sets forth the Company’s restructuring reserves as of December 31, 2005, which are included in other accrued liabilities on the balance sheet: Balance at December 31, 2004 Restructuring Expense 2005 Release of Reserve (In thousands) Utilized During 2005 Balance at December 31, 2005 Write-down of excess assets and decommissioning costs(a) . . . . Lease terminations and maintenance contracts(b) . . . . . Facility closure and other exit costs(c) . . . . . . . . . . . . . . . . . Payments to employees for severance(d) . . . . . . . . . . . . . . Total . . . . . . . . . . . . . . . . . . . FINANCIALS $ 1,207 20,065 543 7,408 $29,223 $ 92,421 12,241 1,427 7,527 $113,616 $(518) — — (284) $(802) $ (88,117) (10,019) (1,970) (9,256) $(109,362) $ 4,993 22,287 — 5,395 $32,675 PROXY STATEMENT (a) The amounts utilized in 2005 reflect non-cash write-downs of long-lived assets in the U.S. due to impairment, primarily related to the impairment charge for the Gresham facility of $85.2 million, other asset write-downs of $2.8 million, cash payments to decommission and sell assets of $0.5 million and a credit of $0.4 million of net of other miscellaneous items. The write-downs of long-lived assets were accounted for as a reduction of the assets and did not result in a liability. The $5.0 million balance as of December 31, 2005, related to estimates for selling costs for assets held for sale and was utilized during 2006. (b) Amounts utilized represent cash payments. The balance remaining for real estate lease terminations will be paid during the remaining terms of these contracts, which extend through 2011. (c) Amounts utilized represent cash payments. (d) Amounts utilized represent cash severance payments to 126 employees during the year ended December 31, 2005 for the action announced in the third quarter of 2004. Amounts utilized also include cash severance payments for 124 employees for the action announced in the third quarter of 2005 for the year ended December 31, 2005. The balance remaining for severance was paid by the end of 2006. Other Items: Second quarter of 2005: The Company recorded a charge of $5.4 million, which was primarily related to the following. On May 23, 2005, Wilfred J. Corrigan’s status as an employee ceased and, in connection with this event, the Company recorded a charge of $5.3 million. The amount was paid to Mr. Corrigan in the second quarter of 2005 and was made in accordance with Mr. Corrigan’s employment agreement dated September 20, 2001. Mr. Corrigan was the Company’s former Chief Executive Officer. On February 13, 2006, Mr. Corrigan notified the Company that he would not stand for reelection to the Company’s board of directors (the “Board”) at the 2006 annual stockholder’s meeting. On May 11, 2006, the Company announced that the Board had elected James H. Keyes to serve as its Chairman, succeeding Mr. Corrigan in this position. 69 CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) 2004 The Company recorded net charges of $423.4 million in restructuring of operations and other items for the year ended December 31, 2004, consisting of $433.5 million in charges for restructuring of operations and impairment of long-lived assets and a gain of $10.1 million for other items. Of these charges, $420.2 million was recorded in the Semiconductor segment and $3.2 million was included in the Storage Systems segment. Restructuring and impairment of long-lived assets: First quarter of 2004: FINANCIALS The Company recorded a gain of $3.3 million on the sale of fixed assets that had previously been held for sale and an expense of $1.1 million for the abandonment of fixed assets that had previously been held for sale. In addition, an expense of $1.1 million was recorded for the write-down of fixed assets due to impairment. An expense of $0.3 million was recorded to reflect the change in time value of accruals for facility lease termination costs, net of adjustments for changes in sublease assumptions for certain previously accrued facility lease termination costs. An expense of $0.2 million was recorded primarily for severance and termination benefits for four employees involved in research and development. Second quarter of 2004: PROXY STATEMENT The Company recorded a gain of $1.0 million on the sale of fixed assets that had previously been held for sale and an expense of $4.0 million primarily for the write-down of the Colorado Springs fabrication facility to reflect a decline in fair market value and to write down certain spare parts for fixed assets. An expense of $0.4 million was recorded to reflect the change in time value of accruals for facility lease termination costs, net of adjustments for changes in sublease assumptions for certain previously accrued facility lease termination costs. Previously accrued contract termination fees of $0.4 million were reversed as the result of more favorable than expected negotiations to terminate those contracts. Third quarter of 2004: CORPORATE INFORMATION As a result of the decline in revenues in the semiconductor industry and a corresponding decline in the Company’s outlook as of the latter part of the third quarter of 2004, the Company initiated a comprehensive restructuring program, which included asset impairments, a global reduction in workforce and the consolidation of certain facilities as described further below. The Company concluded in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” that the Gresham manufacturing facility assets were impaired. Accordingly, an asset writedown of $205.5 million was recorded in the Semiconductor segment during the third quarter of 2004. The fair values of equipment and facilities were researched and estimated by management using the assistance of third party appraisers. The Company announced workforce reductions of approximately 560 positions worldwide across all job functions and recorded a charge of $14.6 million in the Semiconductor segment for severance and termination benefits. The Company recorded a gain of $1.9 million on the sale of fixed assets that had previously been held for sale and an expense of $3.4 million for the write-down of the Colorado Springs fabrication facility to reflect a decline in fair market value, the impairment of certain acquired intangible assets in the Semiconductor segment and the writedown of leasehold improvements related to the facility operating leases discussed below. In the third quarter of 2004, the Company consolidated additional non-manufacturing facilities and recorded $6.1 million for costs associated with exiting certain operating leases for real estate as the facilities ceased being 70 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) used. An expense of $0.4 million was recorded to reflect the change in time value of prior accruals for facility lease termination costs. In addition, an expense of $1.8 million was recorded for changes in sublease assumptions for certain previously accrued facility lease termination costs. Fourth quarter of 2004: In November 2004, the Company exercised its right to purchase all of the wafer fabrication equipment that had previously been under two operating lease and security agreements. The purchase amount was $332 million. Cash collateral of $311 million associated with the leases was returned to the Company. Termination fees under the lease agreements were not significant. The formerly leased equipment is part of the Gresham manufacturing facility, but was not impaired in the third quarter of 2004 because the Company did not own the equipment until November 2004, as discussed above. Accordingly, in the fourth quarter of 2004, after purchasing the previously leased equipment, the Company recorded an additional impairment charge of $177.7 million in restructuring of operations and other items within the Semiconductor segment. The charge includes a write-down of $247.7 million to reflect the equipment at fair value, the reversal of a $56.0 million deferred gain previously recorded in non-current liabilities related to the sale-leaseback of equipment during 2003, lease termination fees and the write-off of capitalized lease fees and deferred rent. The fair values of the impaired equipment were researched and estimated by management. In the Semiconductor segment, the Company recorded a gain of $0.6 million on the sale of fixed assets that had previously been held for sale; an expense of $11.4 million for the write-down of the Colorado Springs fabrication facility to reflect a decline in fair market value; and an expense of $0.3 million for the write-down of leasehold improvements related to the facility operating leases discussed below and other fixed assets. During the third quarter of 2004, the Company reclassified a parcel of land in Japan with a book value of $1.4 million from a long-term asset to a current asset held for sale. The land was part of the total assets in the Semiconductor segment. The land was sold in the fourth quarter of 2004 and a gain of $0.2 million was recorded. As part of the restructuring program initiated in the third quarter, the Company decided to discontinue development of a product line in the Semiconductor segment that had been acquired in connection with the Datapath acquisition in 2000. As a result, an analysis of the future net cash flows related to the affected product line was performed and the Company determined that certain acquired intangible assets were impaired. An impairment charge of $4.7 million for the write-down of the acquired intangible assets to fair market value was recorded in the Semiconductor segment. In the fourth quarter of 2004, the Company consolidated additional non-manufacturing facilities and recorded $1.9 million for costs associated with exiting certain operating leases for real estate as the facilities ceased being used. An expense of $0.5 million was recorded to reflect the change in time value of accruals for facility lease termination costs. Previously accrued lease termination fees of $0.3 million were reversed as a result of favorable negotiations to terminate those contracts. The Company recorded $2.5 million for additional severance and termination benefits in the Semiconductor segment related to the workforce reductions described in the third quarter of 2004 above, primarily in EMEA and the United States due to changes in estimates. In the Company’s Storage Systems segment, during the fourth quarter, the Company initiated realignment of the Company’s product portfolio and overhead cost structures driven by the future operating and financial performance goals of the Storage Systems segment. In connection with this action the Company recorded a $1.5 million charge for severance and termination benefits for 70 employees across multiple activities and functions. In addition, the Company recorded a charge of $1.7 million for the write-off of previously capitalized software development costs. The Company cancelled the related project based upon the determination that this project would not achieve the desired future financial performance goals. 71 FINANCIALS PROXY STATEMENT CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Other Items During the third quarter of 2004, the Company entered into two new lease agreements for wafer fabrication equipment. The equipment was previously on lease immediately prior to the closing of the new lease agreements. The Company had capitalized and was amortizing fees related to the previous lease agreements. Upon entering into the new lease agreements, $2.5 million in remaining unamortized fees for the previous leases were recorded as an expense in the statement of operations. During the third quarter of 2004, the Company discontinued hedge accounting treatment on the interest rate swap related to the equipment operating leases that were refinanced and recorded the $3.8 million balance in accumulated comprehensive income as a gain in the statement of operations (see Note 9 of the Notes). During the fourth quarter of 2004, the Company released $8.8 million in accruals that were established in years prior to 2004, because management determined that the accruals were no longer necessary. Note 3 — Common Stock, Stock-Based Compensation and Other Employee Compensation Plans On January 1, 2006, the Company adopted the fair value recognition provisions of SFAS 123R “Share-Based Payments,” using the modified prospective transition method. In accordance with the modified prospective transition method, the Company began recognizing compensation expense for all share-based awards granted on or after January 1, 2006, plus unvested awards granted prior to January 1, 2006. Under this method of implementation, no restatement of prior periods has been made. The cumulative effect of adopting SFAS 123R was not significant. Description of the Company’s equity compensation plans: The 2003 Equity Incentive Plan (the “2003 Plan”): The 2003 Plan was approved by stockholders in May 2003. Under the 2003 Plan, the Company may grant stock options or restricted stock units to employees, officers and consultants. Stock options will have an exercise price that is no less than the fair market value of the stock on the date of grant. No participant may be granted more than 0.5 million shares of restricted stock in any year. The term of each option or restricted stock unit is determined by the Board of Directors or its committee and, for option grants on or after February 12, 2004, will generally be seven years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. As of December 31, 2006, the 2003 Plan had approximately 6 million common shares available for future grants. The 1991 Equity Incentive Plan (the “1991 Plan”): Under the 1991 Plan, the Company may grant stock options to employees, officers and consultants, with an exercise price that is no less than the fair market value of the stock on the date of grant. The term of each option is determined by the Board of Directors or its committee and, for options granted prior to February 12, 2004, was generally ten years. For options granted on or after February 12, 2004, the term of the options generally is seven years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. With respect to shares previously approved by stockholders, no incentive stock options may be granted under the 1991 plan after March 2001. As of December 31, 2006, the 1991 Plan had approximately 39.4 million common shares available for future grants. The 1995 Director Option Plan (“1995 Director Plan”): Under the 1995 Director Option Plan, new directors receive an initial grant of options to purchase 30,000 shares of common stock and directors receive subsequent automatic grants of options to purchase 30,000 shares of common stock each year thereafter. The initial grants vest in annual increments of 25% per year, commencing one year from the date of grant. Subsequent option grants become exercisable in full six months after the grant date. The term of each option is ten years. The exercise price of the options granted is equal to the fair market value of the stock on the date of grant. As of December 31, 2006, there were approximately 0.8 million shares available for future grants under the 1995 Director Plan. 72 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) The 1999 Nonstatutory Stock Option Plan (the “1999 Plan”): Under the 1999 Plan, the Company may grant nonstatutory stock options to its employees, excluding officers, with an exercise price that is no less than the fair market value of the stock on the date of grant. The term of each option is determined by the Board of Directors or its committee and, for options granted prior to February 12, 2004, was generally ten years. For options granted on or after February 12, 2004, the term of the options is seven years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. As of December 31, 2006, the 1999 Plan had approximately 13.3 million common shares available for future grants. The Employee Stock Purchase Plan, as amended and restated (“US ESPP”): Under the US ESPP, rights are granted to LSI Logic employees in the United States to purchase shares of common stock at 85% of the lesser of the fair market value of such shares at the beginning of a 12-month offering period or the end of each six-month purchase period within such an offering period. The maximum number of shares that can be purchased in a single purchase period is 1,000 shares per employee. Sales under the US ESPP in 2006, 2005 and 2004 were approximately 3.6 million, 4.3 million and 5.0 million shares of common stock at an average price of $6.69, $4.49 and $4.60 per share, respectively. There are 16,684,068 shares remaining available for future issuance under the US ESPP, of which 9 million shares were added to the plan by stockholder approval in 2006. The US ESPP includes an annual replenishment calculated at 1.2% of the Company’s common stock issued and outstanding at fiscal year end less the number of shares available for future grants under the US ESPP. No shares have been added to the US ESPP from the annual replenishment since January 2001. International Employee Stock Purchase Plan (“IESPP”): Under the IESPP, rights are granted to LSI Logic employees (excluding executive officers) outside of the United States to purchase shares of common stock at 85% of the lesser of the fair market value of such shares at the beginning of a 12-month offering period or the end of each six-month purchase period within such an offering period. There are 1,733,302 shares remaining available for future issuance under the IESPP, of which 1.0 million shares were added to the plan by stockholder approval in 2006. Stock-based compensation expense under SFAS 123R: Stock-based compensation expense under SFAS 123R in the consolidated statements of operations for the year ended December 31, 2006, 2005 and 2004 was $47.0 million, $5.4 million and $8.4 million, respectively, as shown in the table below. Stock-based compensation costs capitalized to inventory and software for the year ended December 31, 2006 were not significant. The estimated fair value of the Company’s stock-based awards, less expected forfeitures, is amortized over each award vesting period (the requisite service period), on a straight-line basis. The table below summarizes stockbased compensation expense, related to employee stock options, the stock purchase plans and restricted stock units under SFAS 123R for the year ended December 31, 2006. Prior to January 1, 2006, the Company accounted for stock-based compensation awards using the intrinsic value method under APB 25, “Accounting for Stock Issued to Employees,” and related interpretations and followed the disclosure-only provisions of Statement of Financial Accounting Standards No. 123, “Accounting for StockBased Compensation” (“SFAS 123”), as amended. Such disclosure-only provisions are also referred to herein as pro forma financial information. Under APB 25 and related interpretations, compensation costs for stock options, if any, was measured as the excess of the quoted market price on the date of grant over the exercise price and recognized over the vesting period on a straight-line basis. The Company’s policy is to grant options with an exercise price no less than the quoted closing market price of the Company’s stock on the date of grant. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION 73 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Year Ended December 31, 2006 2005 2004 (In thousands) Stock-based Compensation Expense: Cost of revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 6,903 Research and development. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17,397 Selling, general and administrative . . . . . . . . . . . . . . . . . . . . . . . . . . . 22,749 Total stock-based compensation expense . . . . . . . . . . . . . . . . . . . . . . $47,049 FINANCIALS $ 744 2,373 2,332 $5,449 $ 198 6,289 1,962 $8,449 Stock Options The fair value of each option grant is estimated on the date of grant using a reduced form calibrated binomial lattice model (the “Lattice Model”). This model requires the use of historical data for employee exercise behavior and the use of assumptions outlined in the following table: Employee Stock Options Granted 2006 PROXY STATEMENT Weighted average estimated grant date fair value per share . . . . . . . . . . . . . . . . . . . . . . . . . Weighted average assumptions in calculation: Expected life (years) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Risk-free interest rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Volatility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Dividend yield . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $3.30 . . . . 4.33 4.78% 48% — The expected life of employee stock options represents the weighted-average period the stock options are expected to remain outstanding and is a derived output of the Lattice Model. The expected life of employee stock options is affected by all of the underlying assumptions and calibration of the Company’s model. The Company used an equally weighted combination of historical and implied volatilities as of the grant date. The historical volatility is the standard deviation of the daily stock returns for LSI from the date of the Company’s initial public offering in 1983. The Company used implied volatilities of near-the-money LSI traded call options, as stock options are call options that are granted at the money. The historical and implied volatilities were annualized and equally weighted to determine the volatilities as of the grant date. Prior to January 1, 2006, the Company used historical implied stock price volatilities in accordance with SFAS 123 for purposes of its pro forma information. Company management believes that the equally weighted combination of historical and implied volatilities is more representative of future stock price trends than sole use of historical implied volatilities. The risk-free interest rate assumption is based upon observed interest rates of constant maturity treasuries appropriate for the term of the Company’s employee stock options. The Lattice Model assumes that employees’ exercise behavior is a function of the option’s remaining vested life and the extent to which the option is in-the-money. The Lattice Model estimates the probability of exercise as a function of these two variables based on the entire history of exercises and cancellations on all past option grants made by the Company since the initial public offering in 1983. As stock-based compensation expense recognized in the consolidated statement of operations for the year ended December 31, 2006 is based on awards ultimately expected to vest, it has been reduced for estimated forfeitures. SFAS 123R requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Forfeitures were estimated based on historical experience. For the Company’s pro forma information required under SFAS 123 for the periods prior to January 1, 2006, the Company accounted for forfeitures as they occurred. 74 CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) The following table summarizes the Company’s stock options for each of the years ended December 31, 2006, 2005 and 2004 (share amounts in thousands): 2006 Number of Shares Weighted Average Exercise Price Per Share Number of Shares 2005 Weighted Average Exercise Price Per Share Number of Shares 2004 Weighted Average Exercise Price Per Share Options outstanding at January 1,. . . . . Options canceled . . . Options granted . . . . Options exercised . . . Options outstanding at December 31, . . Options exercisable at December 31, . . 70,618 (16,130) 7,781 (5,519) 56,750 35,638 $ 13.21 (18.02) 9.17 (6.71) $ 11.92 $ 14.29 67,733 (11,555) 16,493 (2,053) 70,618 44,489 $ 14.57 (14.63) 7.67 (5.68) $ 13.21 $ 16.52 69,166 (7,993) 7,450 (890) 67,733 44,301 $ 15.17 (14.01) FINANCIALS 7.39 (5.87) $ 14.57 $ 17.54 For the options outstanding and exercisable as of December 31, 2006, the weighted average remaining contractual term was 4.70 and 4.05 years, respectively, and the average intrinsic value was $58.4 million and $29.5 million, respectively. During the second quarter of 2005, Abhijit Y. Talwalkar joined the company as President and Chief Executive Officer. As part of his initial stock option grants, Mr. Talwalkar was granted non-statutory stock options to purchase 2,000,000 shares of Company common stock under the 2003 Plan at an exercise price equal to the closing price per share on the NYSE for the common stock of the Company on the date of grant. The shares subject to such option will vest based on Mr. Talwalkar attaining certain performance criteria determined by the Compensation Committee of the Board of Directors. The shares subject to such option are scheduled to fully vest six years after the date of grant, whether or not the performance goals are met, subject to Mr. Talwalkar’s continued employment with the Company on each scheduled vesting date. As of December 31, 2006, total unrecognized compensation expense related to nonvested stock options, net of estimated forfeitures, was approximately $70.1 million and is expected to be recognized over the next 2.6 years on a weighted average basis. The total intrinsic value of options exercised for the year ended December 31, 2006 was $17.9 million. Cash received from stock option exercises for the year ended December 31, 2006 and 2005 was $37.0 million and $11.6 million, respectively. The Company’s determination of fair value of share-based payment awards on the date of grant using an option-pricing model is affected by the Company’s stock price as well a number of highly complex and subjective assumptions. The Company uses third-party consultants to assist in developing the assumptions used in as well as calibrating the Lattice Model. The Company is responsible for determining the assumptions used in estimating the fair value of its share-based payment awards. PROXY STATEMENT CORPORATE INFORMATION 75 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Employee Stock Purchase Plans Compensation expense for the Company’s two employee stock purchase plans (“ESPPs” — US ESPP and IESPP) is calculated using the fair value of the employees’ purchase rights under the Black-Scholes model. For disclosure purposes, the Company has included the assumptions that went into the calculation of fair value for the May and November 2006 grant as follows: Year Ended December 31, 2006 Grants under Employee Stock Purchase Plans FINANCIALS Weighted average estimated grant date fair value per share . . . . . . . . . . . . . . . . . . . . . Weighted average assumptions in calculation: Expected life (years) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Risk-free interest rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Volatility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Dividend yield . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Restricted Stock Awards $2.92 0.7 5% 35% — PROXY STATEMENT Under the 2003 Plan, the Company may grant restricted stock awards. No participant may be granted more than 0.5 million shares of restricted stock in any year. The vesting requirements for the restricted stock awards are determined by the Board of Directors. Typically, vesting of restricted stock awards is subject to the employee’s continuing service to the Company. The cost of these awards is determined using the fair value of the Company’s common stock on the date of grant and compensation expense is recognized over the vesting period on a straightline basis. A summary of the changes in restricted stock awards outstanding for the year ended December 31, 2006 is presented below: CORPORATE INFORMATION Number of Shares (In thousands) Non-vested shares at January 1, 2006 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Granted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Vested . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Forfeited . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Non-vested shares at December 31, 2006 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,375 733 (928) (270) 1,910 Restricted stock awards of LSI common stock granted during the years ended December 31, 2006, 2005 and 2004 are as follows (share amounts in thousands): 2006 Weighted Average Grant Date Fair Value per Share 2005 Weighted Average Grant Date Fair Value per Share 2004 Weighted Average Grant Date Fair Value per Share Number of Shares Number of Shares Number of Shares Restricted stock awards granted . . . 733 $9.45 2,125 $6.32 892 $6.75 As of December 31, 2006, the Company had approximately $10.8 million of total unrecognized compensation expense, net of estimated forfeitures, related to restricted stock awards, which will be recognized over the weighted average period of 2.2 years. The fair value of shares vested for the year ended December 31, 2006 was $8.2 million. 76 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) There are a total of approximately 118 million shares of common stock reserved for issuance upon exercise of options and vesting of restricted stock awards, including options available for future grants, outstanding under all of the Company’s stock option plans. Income taxes In November 2005, the FASB issued FASB Staff Position No. FAS 123R-3, “Transition Election Related to Accounting for Tax Effects of Share-Based Payment Awards.” The Company has elected the alternative transition method (short-cut method) as set forth in the FASB Staff Position No. FAS 123R-3 “Transition Election Related to Accounting for the Tax Effects of Share-Based Payment Awards.” In addition, in accordance with SFAS 123R, SFAS No. 109, “Accounting for Income Taxes” (“SFAS 109”), and EITF Topic D-32, “Intraperiod Tax Allocation of the Effect of Pretax Income from Continuing Operations,” the Company has elected to recognize excess income tax benefits from stock option exercises in additional paid-in capital only if an incremental income tax benefit would be realized after considering all other tax attributes presently available to the Company. The Company records its stock-based compensation expense in multiple jurisdictions. In jurisdictions where an income tax deduction is allowed and an income tax benefit is realizable, the Company has recognized an income tax benefit. In jurisdictions where an income tax deduction is not allowed or where an income tax benefit is not realizable, an income tax benefit has not been recognized. PROXY STATEMENT FINANCIALS Earnings per share Basic net income per share is computed using the weighted-average number of common shares outstanding during the period. Diluted net income per share is computed using the weighted-average number of common shares outstanding and dilutive potential common shares outstanding during the period. Dilutive potential common shares consist of employee stock options and restricted common stock. Under the treasury stock method, the amount the employee must pay for exercising stock options, employee stock purchase rights, the amount of compensation cost for future service that the Company has not yet recognized, and the amount of tax benefits that would be recorded in additional paid-in capital when the award becomes deductible are assumed to be used to repurchase the shares. Pro Forma Information under SFAS 123 for Periods Prior to January 1, 2006: Prior to January 1, 2006, the Company followed the disclosure-only provisions of SFAS 123. The following table provides pro forma disclosures as if the Company had recorded compensation costs based on the estimated grant date fair value, as defined by the SFAS 123, for awards granted under its stock-based compensation plans. In such case, the Company’s net loss per share would have been adjusted to the pro forma amounts below. Year Ended December 31, 2005 2004 (In thousands, except per share amounts CORPORATE INFORMATION Net loss, as reported . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Add: Amortization of non-cash deferred stock compensation determined under the intrinsic value method as reported in net income, net of related tax effects * . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Deduct: Total stock-based employee compensation expense determined under fair value method for all awards, net of related tax effects*. . . . . . . Pro forma net loss . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Loss per share: Basic and diluted as reported . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Basic and diluted pro forma . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (5,623) 638 (70,028) $(75,013) $ (0.01) $ (0.19) $(463,531) 3,494 (120,265) $(580,302) $ $ (1.21) (1.51) * This amount excludes amortization of stock-based compensation on restricted stock awards. 77 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) The stock-based compensation expense determined under the fair value method, included in the table above, was calculated using the Black-Scholes model. The Black-Scholes model was developed to estimate the fair value of freely tradable, fully transferable options without vesting restrictions, which significantly differ from the Company’s stock option awards. This model also requires highly subjective assumptions, including future stock price volatility and expected time until exercise, which greatly affect the calculated grant date fair value. The following weighted average assumptions were used in determining the estimated grant date fair values: Employee Stock Options Granted 2005 2004 Weighted average estimated grant date fair value per share . . . . . . . . . . . . . . . . . $ 3.98 $ 4.39 Weighted average assumptions in calculation: Expected life (years) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3.88 3.90 Risk-free interest rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3.30% 3.03% Volatility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67.75% 79.72% Dividend yield . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — — Engenio Stock Option Exchange Program. On September 16, 2005, the Company exchanged options to purchase an aggregate of 3,011,450 shares of Engenio common stock for options to purchase an aggregate of 2,830,763 shares of LSI’s common stock. The exchange occurred in accordance with the terms of the Engenio Equity Incentive plan, which provided for the automatic exchange of the options in the event it was determined that the Engenio initial public offering was not likely to occur. The original exercise prices of the options were multiplied by an exchange ratio equal to the relative fair values of Engenio and LSI stock on the exchange date. Stock repurchase program. On July 28, 2000, the Company’s Board of Directors authorized a stock repurchase program in which up to 5.0 million shares of the Company’s common stock were authorized to be repurchased in the open market from time to time. On December 4, 2006, the Company announced that the LSI Board of Directors authorized a stock repurchase program of up to $500.0 million worth of shares of the Company’s common stock. The Board of Directors terminated the stock repurchase program authorized by the Board on July 28, 2000. The repurchases are expected to be funded from available cash and short-term investments. No shares were repurchased under this plan during 2006. Stock purchase rights. In November 1988, the Company implemented a plan to protect stockholders’ rights in the event of a proposed takeover of the Company. The plan was amended and restated in November 1998. Under the plan, each share of the Company’s outstanding common stock carries one Preferred Share Purchase Right. Each Preferred Share Purchase Right entitles the holder, under certain circumstances, to purchase one-thousandth of a share of Preferred Stock of the Company or its acquirer at a discounted price. The Preferred Share Purchase Rights are redeemable by the Company and will expire in 2008. LSI 401(k) Defined Contribution Plan. Eligible employees in the U.S. may participate in the LSI Logic Corporation 401(k) Plan (“LSI 401(k) Plan”). The Company provides a base matching contribution to employees of 100% of the first 2% of employee contributions. When the Company achieves operating profitability during a quarter, as defined by the Company, of 1% or greater of revenues, an additional matching contribution of 50% of the next 3% of an employee’s contribution is made during the following quarter. Company contributions to the LSI 401(k) Plan were $13.0 million, $11.0 million and $12.0 million during 2006, 2005 and 2004, respectively. Note 4 — Business Combinations The Company actively evaluates strategic acquisitions that build upon the Company’s existing library of intellectual property, human capital and engineering talent, and seeks to increase the Company’s leadership position in the markets in which the Company operates. During 2006, the Company completed two acquisitions accounted for under the purchase method of accounting. In addition, the Company entered into an agreement to acquire Agere. The transaction is expected 78 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) to close in the second quarter of 2007. There were no material acquisitions in 2005. In 2004, the Company made two acquisitions. Pro forma statements of earnings information have not been presented because the effect of these acquisitions was not material either on an individual or aggregate basis. See summary below (in millions): 2006 Entity Name; Segment Included in; Description of Acquired Business Fair Value of Tangible Net Total Assets/ Purchase Type of (Liabilities) Price Consideration Acquired In-Process Amortizable Research and Intangible Assets Development Acquisition Date Goodwill FINANCIALS StoreAge Networking Technologies, Ltd.; Storage segment; SAN storage management and multi-tiered data protection software applications . . . . . . . . . November 21, 2006 $47.4 Metta Technology; Semiconductor segment; Next generation digital video . . . . . . . . . . . . . . November 10, 2006 $ 6.7 $47.4 cash $(4.6) $ 6.7 cash $(0.6) $6.1 Not applicable — asset purchase $43.5 $2.4 $ 5.4 $1.9 PROXY STATEMENT 2005 There was no acquisition in 2005. 2004 Entity Name; Segment Included in; Description of Acquired Business Fair Value of Tangible Net Assets/ In-Process Deferred (Liabilities) Amortizable Research and Stock Acquired Goodwill Intangible Assets Development Compensation Acquisition Date Total Purchase Price Type of Consideration CORPORATE INFORMATION Acerant Inc.; Semiconductor segment; Consumer product applications . . May 11, 2004 Velio Communications; Semiconductor segment; High speed interconnect and switch fabric application specific standard products . . . . April 2, 2004 $14.1 cash, 234,000 restricted $15.9 common shares $— $8.0 $ 6.1 $— $1.8 $19.8 cash; 100,000 restricted $20.8 common shares $1.5 $— $18.3 $— $1.0 Acquired in-process research and development. The Company recorded acquired IPR&D charges of $4.3 million for the year ended December 31, 2006. The details for the 2006 acquisitions are summarized in the table below (in millions). 79 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Revenue Projections Extended Through Entity Name IPR&D Discount Rate StoreAge Networking Technologies, Ltd. . . . . . . Metta Technology . . . . . . . . $2.4 $1.9 28% Not applicable, used Cost Approach 2013 Not applicable, used Cost Approach The amounts of IPR&D were determined by identifying research projects for which technological feasibility had not been established and no alternative future uses existed as of the respective acquisition dates. FINANCIALS For the StoreAge acquisition, the value of the projects identified to be in progress was determined by estimating the future cash flows from the projects once commercially feasible, discounting the net cash flows back to their present value. The net cash flows from the identified projects were based on estimates of revenues, cost of revenues, research and development costs, selling, general and administrative costs and applicable income taxes for the projects. Total revenues for the projects are expected to extend through the dates noted in the table above by acquisition. These projections were based on estimates of market size and growth, expected trends in technology and the expected timing of new product introductions by the Company’s competitors and the Company. These estimates did not account for any potential synergies realizable as a result of the acquisition and were in line with industry averages and growth estimates. A discount rate is used for the projects to account for the risks associated with the inherent uncertainties surrounding the successful development of the IPR&D, market acceptance of the technology, the useful life of the technology, the profitability level of such technology and the uncertainty of technological advances, which could impact the estimates described above. For the Metta acquisition, a variation of the Cost Approach was used to value the in-process technologies. This approach takes into account the cost to replace (or reproduce) the asset and the effect on the asset’s value of physical, functional and/or economic obsolescence that has occurred with respect to the asset. There were no IPR&D charges recorded for the years ended December 31, 2005 and 2004. CORPORATE INFORMATION PROXY STATEMENT 80 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Note 5 — Balance Sheet Detail December 31, 2006 2005 (In thousands) Inventories: Raw materials . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Work-in-process . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Finished goods . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 44,151 52,497 112,822 $ 209,470 $ 30,541 62,167 102,106 FINANCIALS $ 194,814 $ 105,849 57,237 $ 163,086 $ 6,128 105,256 403,696 29,787 31,958 7,812 Prepaid expenses and other current assets: Assets held for sale . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Prepaid expense and other current assets . . . . . . . . . . . . . . . . . . . . . . . . $ 20,120 48,572 $ 68,692 Property and equipment: Land . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Buildings and improvements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Equipment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Furniture and fixtures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Leasehold improvements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Construction in progress . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Accumulated depreciation and amortization . . . . . . . . . . . . . . . . . . . . . . $ 6,040 39,519 315,672 24,391 34,700 8,198 PROXY STATEMENT 428,520 (342,475) $ 86,045 584,637 (486,352) $ 98,285 Depreciation for property and equipment totaling $30.0 million, $63.0 million and $85.6 million was included in the Company’s results of operations during 2006, 2005 and 2004, respectively. December 31, 2006 2005 (In thousands) CORPORATE INFORMATION Tax related liabilities and other: Other long-term tax-related liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Other long-term liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $77,572 1,828 $79,400 $74,738 372 $75,110 Accumulated other comprehensive income: Net unrealized (loss)/gains on available-for-sale securities, net of tax of $0 and $2,394 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Foreign currency translation adjustments . . . . . . . . . . . . . . . . . . . . . . . . . $ (3,854) 13,683 $ 9,829 $ 4,445 13,407 $17,852 81 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Note 6 — Intangible Assets and Goodwill Intangible assets by reportable segment are comprised of the following (in thousands): December 31, 2006 Gross Accumulated Carrying Amount Amortization December 31, 2005 Gross Accumulated Carrying Amount Amortization Semiconductor: Current technology . . . . . . . . . . Trademarks . . . . . . . . . . . . . . . . Customer base . . . . . . . . . . . . . . Non-compete agreements . . . . . . Existing purchase orders . . . . . . Workforce . . . . . . . . . . . . . . . . . Subtotal . . . . . . . . . . . . . . . . . Storage Systems: Current technology . . . . . . . . . . Trademarks . . . . . . . . . . . . . . . . Customer base . . . . . . . . . . . . . . Supply agreement . . . . . . . . . . . Non-compete agreements . . . . . . Trade Names . . . . . . . . . . . . . . . Subtotal . . . . . . . . . . . . . . . . . Total . . . . . . . . . . . . . . . . . . . . . . . $240,458 26,285 8,788 849 200 3,567 280,147 164,339 7,150 5,010 8,147 1,600 800 187,046 $467,193 $(232,716) (25,446) (4,394) (625) (200) (65) (263,446) (124,618) (7,120) (5,010) (7,472) (33) (10) (144,263) $(407,709) $244,301 26,285 8,788 849 200 — 280,423 124,139 7,150 5,010 7,247 — — 143,546 $423,969 $(213,671) (22,258) (2,796) (476) (200) — (239,401) (120,909) (6,189) (4,249) (7,247) — — (138,594) $(377,995) PROXY STATEMENT FINANCIALS On November 21, 2006, the Company acquired StoreAge and on November 10, 2006, the Company acquired Metta. See more details in Note 4 of the Notes. CORPORATE INFORMATION Amortization expense and the weighted average lives of intangible assets are shown in the table below: Weighted Average Lives (In Months) Year Ended December 31, 2006 2005 2004 (In thousands) Current technology . . . . . . . . . . . . . . . . . . . . . . . . . Trademarks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Customer base . . . . . . . . . . . . . . . . . . . . . . . . . . . . Supply agreement . . . . . . . . . . . . . . . . . . . . . . . . . . Non-compete agreements . . . . . . . . . . . . . . . . . . . . Existing purchase orders . . . . . . . . . . . . . . . . . . . . . Workforce . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Trade Names . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 80 83 68 32 28 9 72 84 79 $25,129 4,119 2,359 225 182 — 65 10 $32,089 $53,185 5,001 2,427 1,590 281 — — — $62,484 $65,153 5,007 2,078 2,417 195 200 — — $75,050 82 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) The estimated future amortization expense of intangible assets as of December 31, 2006 is as follows (in thousands): Fiscal Year: Amount: 2007 2008 2009 2010 2011 ................................................................ ................................................................ ................................................................ ................................................................ and thereafter. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $14,179 10,499 9,235 6,777 18,794 $59,484 FINANCIALS The changes in the carrying amount of goodwill for the years ended December 31, 2006 and 2005 are as follows (in thousands): Semiconductor Segment Storage Systems Segment Total Balance as of December 31, 2004 . . . . . . . . . . . . . . . . . Goodwill acquired during the year Adjustment to goodwill recorded in a prior year for the resolution of a pre-acquisition income tax contingency . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Adjustment to goodwill recorded in prior periods * . . . . Balance as of December 31, 2005 . . . . . . . . . . . . . . . . . Goodwill acquired during the year ** . . . . . . . . . . . . . . Adjustment to goodwill recorded in a prior year for cash received from the resolution of a pre-acquisition income tax contingency . . . . . . . . . . . . . . . . . . . . . . Balance as of December 31, 2006 . . . . . . . . . . . . . . . . . $801,272 $171,858 $973,130 PROXY STATEMENT (36,307) (5,984) $758,981 — — (2,297) $169,561 6,063 (36,307) (8,281) $928,542 6,063 (2,282) $756,699 — $175,624 (2,282) CORPORATE INFORMATION $932,323 * In 2005, the provision for income taxes was increased by a $5.4 million charge related to the correction of an error in a prior period associated with the carrying value of $8.3 million in deferred tax liabilities that should have been reclassified to goodwill upon adoption of SFAS No. 142, “Goodwill and Intangible Assets”, in 2002. The deferred tax liabilities were instead used as a reduction of the Company’s required valuation allowance in 2002. This was offset by tax-related liabilities of $2.9 million originally recorded in connection with these deferred tax balances, which are no longer required. The Company believes that this amount is not material to previously reported financial statements and has concluded that correcting such amounts in the fourth quarter of 2005 and the 2005 fiscal year, as opposed to restating prior periods, is appropriate in the circumstances. ** During the year ended December 31, 2006, the Company recorded $6.1 million of goodwill in connection with the acquisition of StoreAge in the Storage Systems segment. See Note 4 of the Notes. The Company reviewed goodwill by reporting unit for impairment as of December 31, 2006. The Company concluded that goodwill was not impaired under the first step of the test for impairment, as described in Note 1, as of December 31, 2006. The Company’s next annual test for the impairment of goodwill will be performed in the fourth fiscal quarter of 2007. The annual impairment test performed as of December 31, 2006 indicated that goodwill was not impaired. 83 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Note 7 — Cash, Cash Equivalents and Investments December 31, 2006 2005 (In thousands) Cash and cash equivalents Cash in financial institutions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 50,478 Cash equivalents: Overnight deposits and money market funds . . . . . . . . . . . . . . . . . . . . . . . Commercial paper . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Asset-backed securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . U.S. government and agency securities . . . . . . . . . . . . . . . . . . . . . . . . . . . Certificates of deposit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 234,287 39,809 3,226 — — $ 85,641 148,665 17,473 — 10,870 2,000 179,008 $264,649 $335,495 266,077 72,688 $674,260 $ 18,769 7,070 $ 25,839 FINANCIALS Total cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 277,322 Total cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $327,800 Available-for-sale debt securities Asset and mortgage-backed securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $363,723 U.S. government and agency securities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 272,287 Corporate and municipal debt securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45,127 Total short-term investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $681,137 Long-term investments in equity securities Marketable equity securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 2,827 Non-marketable equity securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12,973 Total long-term investments in equity securities . . . . . . . . . . . . . . . . . . . . $ 15,800 CORPORATE INFORMATION PROXY STATEMENT Contractual maturities of available-for-sale debt securities as of December 31, 2006 were as follows (in thousands): Due Due Due Due within one year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $134,395 in 1-5 years . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 336,504 in 5-10 years. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 78,193 after 10 years . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 132,045 Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $681,137 The maturities of asset and mortgage-backed securities were allocated based on contractual principal maturities assuming no prepayments. Net realized gains/(loss) on sales of available-for-sale debt securities were $(1.1) million, $1.2 million and $1.0 million for the years ended December 31, 2006, 2005 and 2004, respectively. The Company realized net pre-tax gains of $6.7 million related to the sale of certain marketable available-for-sale equity securities for the year ended December 31, 2006. 84 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) The Company realized pre-tax gains of $9.0 million related to the following for the year ended December 31, 2005: • A $7.6 million pre-tax gain related to the sale of certain marketable available-for-sale equity securities in the second and fourth quarters of 2005; and • A $1.4 million pre-tax gain associated with marketable available-for-sale equity securities of a certain technology company that was acquired by another technology company in the second quarter of 2005. The above pre-tax gains were recorded in interest income and other, net in Consolidated Statements of Operations. Investments in available-for-sale securities Adjusted Cost Gross Unrealized Gross Unrealized Gains Losses (In thousands) Estimated Fair Value FINANCIALS December 31, 2006 Short-term debt securities . . . . Long-term marketable equity securities . . . . . . . . . . . . . . December 31, 2005 Short-term debt securities . . . . Long-term marketable equity securities . . . . . . . . . . . . . . ..... ..... ..... ..... $686,705 1,117 $682,524 3,669 $ 640 1,710 $(6,208) — $(8,662) — $681,137 2,827 PROXY STATEMENT $ 398 $674,260 18,769 15,100 The following table shows the gross unrealized losses and fair values of the Company’s short-term investments that have been in a continuous unrealized loss position for less than and greater than 12 months, aggregated by investment category as of December 31, 2006. Less than 12 Months Greater than 12 Months Fair Value Unrealized Losses Fair Value Unrealized Losses (In thousands) CORPORATE INFORMATION Asset and mortgage-backed securities . . . . . . . . . . . . . . . . . . . . . U.S. government and agency securities . . . . . . . . . . . . . . . . . . . . . Corporate and municipal debt securities . . . . . . . . . . . . . . . . . . . . . $106,099 74,800 4,000 $184,899 $468 193 1 $662 $127,454 153,880 25,809 $307,143 $2,647 2,429 470 $5,546 The unrealized losses on the Company’s investments in short-term debt securities were primarily caused by rising interest rates. The Company frequently monitors the credit quality of its investments in marketable debt securities and, as of December 31, 2006, there were no known material problems with issuer credit quality. Since the unrealized losses were primarily the result of changes in interest rates rather than credit quality, the Company considered these unrealized losses to be temporary as of December 31, 2006. Note 8 — Segment and Geographic Information The Company operates in two Reportable segments — the Semiconductor segment and the Storage Systems segment — in which the Company offers products and services for a variety of electronic systems applications. LSI’s products are marketed primarily to OEMs that sell products to the Company’s target markets. 85 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Information about profit or loss and assets. The following is a summary of operations by segment for the years ended December 31, 2006, 2005 and 2004: 2006 Year Ended December 31, 2005 2004 (In thousands) Revenues: Semiconductor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,223,130 Storage Systems . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 759,018 FINANCIALS $1,244,248 675,002 $1,919,250 $ (25,721) 37,927 $ 12,206 $1,095,091 605,073 $1,700,164 $ (447,988) 11,639 $ (436,349) Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,982,148 Income/(loss) from operations: Semiconductor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ Storage Systems . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 96,162 62,145 Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 158,307 PROXY STATEMENT Intersegment revenues for the periods presented above were not significant. Restructuring of operations and other items were included in both segments. Depreciation expense for the Semiconductor and Storage Systems segments was $19.7 million and $10.3 million, respectively, for the year ended December 31, 2006, $51.4 million and $11.6 million, respectively, for the year ended December 31, 2005 and $77.2 million and $8.4 million, respectively for the year ended December 31, 2004. The following is a summary of total assets by segment as of December 31, 2006 and 2005: December 31, 2006 2005 (In thousands) CORPORATE INFORMATION Total assets: Semiconductor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Storage Systems . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,212,711 639,433 $2,852,144 $2,285,913 510,153 $2,796,066 Significant Customers. The following table summarizes the number of the Company’s significant customers, each of whom accounted for 10% or more of the Company’s revenues, along with the percentage of revenues they individually represent on a consolidated basis and by segment: 2006 Year Ended December 31, 2005 2004 Semiconductor segment: Number of significant customers . . . . . . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . . . . . . . . . . . . Storage Systems segment: Number of significant customers . . . . . . . . . . . . . . . . . . . Percentage of segment revenues . . . . . . . . . . . . . . . . . . . . Consolidated: Number of significant customers . . . . . . . . . . . . . . . . . . . Percentage of consolidated revenues . . . . . . . . . . . . . . . . . 86 1 19% 1 17% 1 11% 2 2 3 47%, 15% 44%, 12% 41%, 15%, 11% 2 2 19%, 12% 16%, 11% 1 16% LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Information about geographic areas. The Company’s significant operations outside the United States include sales offices in EMEA and Asia, including Japan. The following is a summary of revenues and longlived assets by entities located within the indicated geographic areas. 2006 Year Ended December 31, 2005 2004 (In thousands) Revenues: North America* . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 956,696 Asia, including Japan . . . . . . . . . . . . . . . . . . . . . . . . . . 797,174 EMEA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 228,278 Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,982,148 $ 932,190 755,960 231,100 $1,919,250 $ 852,453 655,077 192,634 $1,700,164 FINANCIALS December 31, 2006 2005 (In thousands) Long-lived assets: North America . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $166,034 Asia, including Japan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36,990 EMEA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,831 Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $205,855 $163,226 34,833 2,785 $200,844 PROXY STATEMENT * Revenues by geography are accumulated based on the revenues generated by the Company’s company located within the three geographic areas noted in the above table. In the second half of 2005, Engenio formed new subsidiaries within EMEA. As a result, the amounts in the table reflect that change as of June 21, 2005 and prior to that all revenues generated by Engenio EMEA were previously reported in North America. Long-lived assets consist of net property and equipment, capitalized software and other long-term assets, excluding long-term deferred tax assets. Note 9 — Derivative Instruments Foreign currency risk The Company has foreign subsidiaries that operate and sell the Company’s products in various global markets. As a result, the Company is exposed to changes in foreign currency exchange rates and interest rates. The Company utilizes various hedge instruments, primarily forward contracts and currency option contracts, to manage its exposure associated with firm intercompany and third-party transactions and net asset and liability positions denominated in non-functional currencies. The Company entered into forward contracts that were designated as foreign currency cash-flow hedges of forecasted payments in Euros during 2005. Changes in the fair value of the forward contracts due to changes in time value are excluded from the assessment of effectiveness and are recognized in interest income and other. There were no such hedges outstanding at December 31, 2006 and 2005. Forward contracts and options are also used to hedge certain foreign currency-denominated assets or liabilities. These derivatives do not qualify for SFAS No. 133 hedge accounting treatment. Accordingly, the changes in fair value of the hedges are recorded immediately in earnings to offset the changes in fair value of the assets or liabilities being hedged. The related gains and losses included in interest income and other, net were not significant. 87 CORPORATE INFORMATION LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Interest rate risk With the objective of protecting cash flows and earnings of the Company from the impact of fluctuations in interest rates, while minimizing the cost of capital, the Company may enter into or terminate interest rate swaps, such as the transactions described below. As of December 31, 2006 and 2005, there were no interest rate swaps outstanding. The Company entered into interest rate swap transactions (the “Swaps”) with several investment banks in June 2002. The Swaps were entered into to convert the fixed rate interest expense on the Company’s 4% and 4.25% Convertible Subordinated Notes (“Convertible Notes”) to a floating rate based on LIBOR (see Note 10). The Swaps qualified for hedge accounting as fair value hedges, with changes in the fair value of the interest rate risk on the Convertible Notes being offset by changes in the fair values of the Swaps recorded as a component of interest expense. In the second quarter of 2003, the Company terminated Swaps with a notional amount of $740 million. The deferred gain of $44 million from the termination of these Swaps was included as a component of the Convertible Notes. Deferred gains on terminated Swaps associated with Convertible Notes repurchased during 2005 and 2004 were written-off as part of the net gain or loss on repurchase of the Convertible Notes. As of December 31, 2006, the deferred gain was fully amortized. In the second quarter of 2003, the Company entered into an interest rate swap transaction to effectively convert the LIBOR-based floating rate interest payments on operating leases for wafer fabrication equipment, with an initial notional amount of $395 million, to a fixed interest rate (the “Lease Swap”). The Lease Swap qualified to be accounted for as a cash-flow hedge of the forecasted interest payments attributable to the benchmark interest rate on the operating leases for the wafer fabrication equipment. An expense of approximately $2 million was recorded to cost of revenues as the lease payments were made in 2004. In August 2004, the Company entered into two new equipment operating leases for the wafer fabrication equipment that was previously on the above-mentioned leases. As a result of entering into the new leases, the hedged forecasted interest payments were no longer probable. Hedge accounting treatment was discontinued prospectively and the balance in accumulated other comprehensive income was immediately recorded as a gain of $3.8 million in restructuring and other items in the statement of operations. In September 2004, the Company terminated the Lease Swap. Note 10 — Debt Maturity Interest Rate* Conversion Price December 31, 2006 2005 (In thousands) CORPORATE INFORMATION PROXY STATEMENT FINANCIALS 2003 Convertible Subordinated Notes . . . 2001 Convertible Subordinated Notes . . . Deferred gain on terminated swap . . . . . . Current portion of long-term debt . . . . . . Long-term debt . . . . . . . . . . . . . . . . . . 2010 2006 4.00% 4.00% $13.4200 $26.3390 $350,000 — — 350,000 — $350,000 $ 350,000 271,848 2,092 623,940 (273,940) $ 350,000 * The weighted average interest rate on the Convertible Notes was 4.00% for the years ended December 31, 2006 and 2005. See Note 9 for further discussion of deferred gain on terminated swap. As of December 31, 2006, the Company has $350.0 million of the 2003 Convertible Subordinated Notes (“2003 Convertible Notes”) due in May 2010. The 2003 Convertible Notes are subordinated to all existing and future senior debt and are convertible at the holders’ option, at any time prior to the maturity date of the 2003 Convertible Notes, into shares of the Company’s common stock. The 2003 Convertible Notes have conversion 88 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) prices of approximately $13.42 per share. The Company cannot elect to redeem the 2003 Convertible Notes prior to maturity. The holders of 2003 Convertible Notes have the right to cause the Company to repurchase all of such holder’s Convertible Notes at 100% of their principal amount plus accrued interest upon the occurrence of any fundamental change to the Company, which includes a transaction or event such as an exchange offer, liquidation, tender offer, consolidation, merger or combination. This right will not arise in connection with the Company’s proposed merger with Agere. Interest is payable semiannually. The Company paid approximately $10.5 million in debt issuance costs related to the 2003 Convertible Notes, that is being amortized using the interest method. As of December 31, 2006 and 2005, total debt issuance costs, net are included in other current and long-term assets (see Note 5 of the Notes). FINANCIALS Aggregate principal payments required on outstanding debt obligations is $350.0 million due in 2010. The Company paid $24.9 million, $28.2 million and $33.1 million in interest during 2006, 2005 and 2004, respectively. At December 31, 2006, the estimated fair value of the 2003 Convertible Notes was $355.3 million. Approximately $28.0 million of the proceeds from issuance of the 2003 Convertible Notes were used to purchase call spread options (“Call Spread Options”) on LSI’s common stock. The Call Spread Options, including fees and costs, were accounted for as capital transactions in accordance with EITF Issue No. 00-19, “Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company’s Own Stock.” The Call Spread Options cover approximately 26.1 million shares of the Company’s common stock, which is the number of shares that are initially issuable upon conversion of the 2003 Convertible Notes in full. The Call Spread Options are designed to mitigate dilution from conversion of the 2003 Convertible Notes in the event that the market price per share of the Company’s common stock upon exercise of the Call Spread Options is greater than $13.42 and is less than or equal to $23.875. The Call Spread Options may be settled at the Company’s option in either net shares or in cash and expire in 2010. Settlement of the Call Spread Options in net shares on the expiration date would result in the Company receiving a number of shares, not to exceed 26.1 million shares, of the Company’s common stock with a value equal to the amount otherwise receivable on cash settlement. Should there be an early unwinding of the Call Spread Options, the amount of cash or net shares potentially receivable by the Company will be dependent upon then existing overall market conditions, and on the Company’s stock price, the volatility of the Company’s stock and the amount of time remaining on the Call Spread Options. On November 1, 2006, the 2001 Convertible Subordinated Notes (“2001 Convertible Notes”) in the amount of $271.8 million became due and were repaid in full. During 2005, the Company repurchased approximately $149.7 million of the 2001 Convertible Notes. A net pre-tax gain of approximately $4.1 million was recognized in interest income and other, net for the repurchase in 2005. During 2004, the Company repurchased $68.5 million of the 2001 Convertible Notes. A net pre-tax gain of approximately $1.8 million was recognized in interest income and other, net, for the repurchases in 2004. The pre-tax gain or loss is net of the write-off of debt issuance costs and a portion of the deferred gain on the terminated Swaps (see Note 9 of the Notes). PROXY STATEMENT CORPORATE INFORMATION 89 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Note 11 — Income Taxes The provision for taxes consisted of the following: Year Ended December 31, 2006 2005 2004 (In thousands) FINANCIALS Current: Federal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . State . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Foreign . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Deferred: Federal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . State . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Foreign . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 220 551 16,765 17,536 — — (1,854) (1,854) $ (70) 451 14,861 15,242 4,369 985 5,944 11,298 $ 3,815 615 14,689 19,119 — — 4,881 4,881 $24,000 $15,682 $26,540 PROXY STATEMENT The domestic and foreign components of income/(loss) before income taxes and minority interest were as follows: 2006 Year Ended December 31, 2005 2004 (In thousands) Domestic. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Foreign . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Income/(loss) before income taxes and minority interest . . . . . . $ 61,382 123,939 $185,321 $(55,140) 76,063 $ 20,923 $(392,070) (47,429) $(439,499) CORPORATE INFORMATION 90 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Significant components of the Company’s deferred tax assets and liabilities as of December 31, 2006 and 2005 were as follows: December 31, 2006 2005 (In thousands) Deferred tax assets: Tax credit carryovers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Net operating loss carryforwards . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Future deductions for purchased intangible assets . . . . . . . . . . . . . . . . . . Depreciation and amortization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Future deductions for reserves and other . . . . . . . . . . . . . . . . . . . . . . . . Future deductions for inventory reserves . . . . . . . . . . . . . . . . . . . . . . . . Total deferred tax assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Valuation allowance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Net deferred tax assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Deferred tax liabilities: Gain on unrealized investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total net deferred tax assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 335,152 109,395 45,660 18,975 75,701 13,623 598,506 (592,185) 6,321 — $ 6,321 $ 329,529 108,882 82,352 65,531 50,214 17,479 653,987 (649,220) 4,767 (2,394) FINANCIALS PROXY STATEMENT $ 2,373 Current and long-term net deferred taxes have been netted to the extent they are in the same tax jurisdiction. Valuation allowances reduce the deferred tax assets to the amount that, based upon all available evidence, is more likely than not to be realized. The deferred tax assets’ valuation allowance is attributed to U.S. federal, state and certain foreign deferred tax assets primarily consisting of reserves, other one-time charges, purchased intangible assets, tax credit carryovers and net operating loss carryovers that could not be benefited under existing carry-back rules. Approximately $102 million of the valuation allowance at December 31, 2006 relates to tax benefits of stock option deductions, which will be credited to equity if and when realized. As of December 31, 2006 and December 31, 2005, the Company had net deferred tax asset of $1.3 million and net deferred tax liability of $2.4 million, respectively, associated with net unrealized gain/loss on available-for-sale securities, which are a component of Accumulated Other Comprehensive Income. At December 31, 2006, the Company had federal, state and foreign net operating loss carryovers of approximately $131 million, $226 million and $136 million, respectively. The federal and state net operating losses will expire beginning in 2006 through 2025. The foreign net operating losses will expire beginning in 2009 through 2012. Approximately $79 million of the federal net operating loss carryover and $37 million of the state net operating loss carryover relate to recent acquisitions and are subject to certain limitations under the Internal Revenue Code of 1986, as amended, Section 382. As of December 31, 2006, the Company had tax credits of approximately $335 million, which will expire beginning in 2007. CORPORATE INFORMATION 91 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Differences between the Company’s effective tax rate and the federal statutory rate were as follows: Year Ended December 31, 2006 2005 (In thousands) 2004 PROXY STATEMENT Federal statutory rate . . . . . . . . . . . . . . . . $ 64,864 State taxes, net of federal benefit. . . . . . . . 358 Foreign earnings taxed in the U.S. . . . . . . 31,069 Benefit of net operating losses and deferred tax assets not previously recognized . . . . . . . . . . . . . . . . . . . . . . (56,708) Change in valuation allowance from the correction of prior period errors* . . . . . . — Difference between U.S. and foreign tax rates . . . . . . . . . . . . . . . . . . . . . . . . . . . (25,993) State tax refund, net of federal effect . . . . . — Release of domestic/foreign income withholding taxes previously accrued . . . (3,593) Net impact of federal income tax audit not previously accrued . . . . . . . . . . . . . . . . — Alternative minimum tax . . . . . . . . . . . . . — Nondeductible expenses . . . . . . . . . . . . . . — Net operating loss and future deductions not currently benefited . . . . . . . . . . . . . — Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,685 Effective tax rate . . . . . . . . . . . . . . . . . . . $ 15,682 35% $ 7,324 0% 294 17% 29,904 35% $(153,825) 1% 400 143% 6,191 (35)% — 1% FINANCIALS (31)% (11,067) 0% (14)% (0)% (2)% 0% 0% — — 3% 5,354 (3,206) (2,837) (2,500) 2,345 302 (14) — 641 (53)% 26% (15)% (14)% (12)% 11% 1% — — 4% (854) — 35,148 — — — — 10,054 122,423 4,463 — — 8% — — — — 2% 28% 1% 5% 8% $ 26,540 127% $ 24,000 CORPORATE INFORMATION * In 2005, the provision for income taxes was increased by a $5.4 million charge related to the correction of an error in a prior period associated with the carrying value of $8.3 million in deferred tax liabilities that should have been reclassified to goodwill upon adoption of SFAS No. 142 “Goodwill and Intangible Assets” in 2002. The deferred tax liabilities were instead used as a reduction of the Company’s required valuation allowance in 2002. This was offset by tax-related liabilities of $2.9 million originally recorded in connection with these deferred tax balances which are no longer required. The Company believes that this amount is not material to previously reported financial statements and has concluded that correcting such amounts in the fourth quarter of 2005 and the 2005 fiscal year, as opposed to restating prior periods, is appropriate in the circumstances. The Company paid of $8.0 million, $3.0 million and $1.0 million for income taxes in 2006, 2005 and 2004, respectively. In 2006, the Company closed various audits, which resulted in a tax benefit of $3.1 million in the current tax provision. These audits included the U.S. federal, various states and certain foreign jurisdictions. In 2005, the Internal Revenue Service (“IRS”) began an income tax audit of the Company’s 2002 federal income tax return. In 2004, the Inland Revenue Department of Hong Kong began an income tax audit of certain foreign subsidiaries of the Company for the years 1996 through 2000. Undistributed earnings of the Company’s foreign subsidiaries aggregate approximately $14 million at December 31, 2006, and are indefinitely reinvested in foreign operations. The Company’s Federal provision includes U.S. income tax on certain foreign-based income. 92 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) Note 12 — Commitments and Contingencies Operating Leases The Company leases the majority of its facilities, certain non-manufacturing equipment and software under non-cancelable operating leases, which expire through 2014. The facilities lease agreements typically provide for base rental rates that are increased at various times during the terms of the lease and for renewal options at the fair market rental value. Future minimum payments under the operating lease agreements for the above-mentioned facilities, equipment and software are $49.7 million, $40.8 million, $36.5 million, $22.0 million, $11.4 million and $9.3 million for the years ending December 31, 2007, 2008, 2009, 2010, 2011 and thereafter, respectively. Rental expense under all operating leases was $30.8 million, $33.0 million and $90.0 million for the years ended December 31, 2006, 2005 and 2004, respectively. Indemnifications The Company is a party to a variety of agreements pursuant to which it may be obligated to indemnify the other party with respect to certain matters. Typically, these obligations arise in connection with contracts and license agreements or the sale of assets, under which the Company customarily agrees to hold the other party harmless against losses arising from a breach of warranties, representations and covenants related to such matters as title to assets sold, validity of certain intellectual property rights, non-infringement of third-party rights, and certain income tax-related matters. In each of these circumstances, payment by the Company is typically subject to the other party making a claim to and cooperating with the Company pursuant to the procedures specified in the particular contract. This usually allows the Company to challenge the other party’s claims or, in case of breach of intellectual property representations or covenants, to control the defense or settlement of any third-party claims brought against the other party. Further, the Company’s obligations under these agreements may be limited in terms of activity (typically to replace or correct the products or terminate agreement with a refund to the other party), duration and/or amounts. In some instances, the Company may have recourse against third parties and/or insurance covering certain payments made by the Company. Guarantees Product warranties Year Ended December 31, 2006 2005 (In thousands) FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Balance at the beginning of the period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 11,074 Accruals for warranties issued during the period . . . . . . . . . . . . . . . . . . . . . . 12,750 Accruals related to pre-existing warranties (including changes in estimates) . . — Settlements made during the period (in cash or in kind) . . . . . . . . . . . . . . . . . (12,499) Balance at the end of the period . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 11,325 $ 10,040 13,060 (967) (11,059) $ 11,074 Standby letters of credit. At December 31, 2006 and 2005, the Company had outstanding standby letters of credit of $2.7 and $2.4 million, respectively. These instruments are off-balance sheet commitments to extend financial guarantees for leases and certain self-insured risks and generally have one-year terms. The fair value of the letters of credit approximates the contract amount. Purchase commitments. The Company maintains certain purchase commitments primarily for raw materials with suppliers and for some non-production items. Purchase commitments for inventory materials are generally restricted to a forecasted time-horizon as mutually agreed upon between the parties. This forecasted time-horizon 93 LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) can vary among different suppliers. As of December 31, 2006, total purchase commitments were $423.5 million, which are due through 2009. Legal Matters. In February 1999, a lawsuit alleging patent infringement was filed in the United States District Court for the District of Arizona by the Lemelson Medical, Education & Research Foundation, Limited Partnership (“Lemelson”) against 88 electronics industry companies, including LSI. The case number is CIV990377PHXRGS. The patents involved in this lawsuit are alleged to relate to semiconductor manufacturing and computer imaging, including the use of bar coding for automatic identification of articles. The plaintiff has sought a judgment of infringement, an injunction, treble damages, attorneys’ fees and further relief as the court may provide. In September 1999, the Company filed an answer denying infringement and raising affirmative defenses. In addition, the Company asserted a counterclaim for declaratory judgment of non-infringement, invalidity and unenforceability of Lemelson’s patents. In December 2005, Lemelson filed a motion asking the Court to dismiss, with prejudice, all claims related to the fourteen computer imaging patents. LSI did not oppose the motion and the Court has dismissed those patents, with prejudice. On January 17, 2007, the Company entered into an agreement with Lemelson that provided for a dismissal, with prejudice, of the entire lawsuit. Although the terms of the agreement are confidential, the agreement did not have a material adverse effect on the consolidated results of operations or the Company’s financial condition. The Company and its subsidiaries are parties to other litigation matters and claims that are normal in the course of its operations. The Company aggressively defends all legal matters and does not believe, based on currently available facts and circumstances, that the final outcome of these matters, taken individually or as a whole, will have a material adverse effect on the Company’s consolidated results of operations and financial condition. However, the pending unsettled lawsuits may involve complex questions of fact and law and will likely require the expenditure of significant funds and the diversion of other resources to defend. From time to time the Company may enter into confidential discussions regarding the potential settlement of such lawsuits; however, there can be no assurance that any such discussions will occur or will result in a settlement. Moreover, the settlement of any pending litigation could require the Company to incur substantial costs and, in the case of the settlement of any intellectual property proceeding against the Company, may require the Company to obtain a license under a third party’s intellectual property rights that could require royalty payments in the future and the Company to grant a license to certain of its intellectual property rights to a third party under a cross-license agreement. The results of litigation are inherently uncertain, and material adverse outcomes are possible. Note 13 — Subsequent Events In February 2007, the Company entered into an agreement to acquire SiliconStor, Inc., a privately held company that provides silicon solutions for enterprise storage networks. SiliconStor is headquartered in Fremont, California and has approximately 30 employees. At the closing of the acquisition, the Company expects to pay approximately $55.0 million in cash for SiliconStor. The closing of the acquisition is subject to the satisfaction of customary closing conditions and is expected to occur in the first quarter of 2007. On December 3, 2006, the Company entered into an Agreement and Plan of Merger with Agere and LSI publicly announced the signing of the merger agreement on December 4, 2006. Agere is a provider of integrated circuit solutions for a variety of computing and communications applications. Some of Agere’s solutions include related software and reference designs. Agere’s solutions are used in products such as hard disk drives, mobile phones, high-speed communications systems and personal computers. Agere also licenses its intellectual property to others. Pursuant to the terms and subject to the conditions set forth in the merger agreement, Agere will become a wholly-owned subsidiary of LSI. Upon completion of the merger, each share of Agere common stock that is outstanding at the effective time of the merger will be converted into the right to receive 2.16 shares of LSI common stock. Each outstanding option to purchase Agere common stock, whether or not then vested or exercisable, shall be 94 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS LSI Logic Corporation Notes to Consolidated Financial Statements — (continued) assumed by LSI and will become exercisable for a number of shares of LSI common stock at an exercise price adjusted to reflect the exchange ratio in the merger. The completion of the proposed merger with Agere is subject to various customary conditions, including (i) obtaining the approval of the LSI and Agere stockholders, (ii) absence of any applicable law prohibiting the merger, (iii) certain regulatory approvals, (iv) subject to certain exceptions, the accuracy of the representations and warranties of each party, and (v) performance in all material respects by each party of its obligations under the merger agreement. LSI has scheduled a special meeting of its stockholders for Thursday, March 29, 2007 to vote on a proposal to approve matters related to the proposed merger. Agere has scheduled its 2007 annual meeting of stockholders for Thursday, March 29, 2007, at which Agere stockholders will vote on a proposal to approve the proposed merger, among other things. Subject to obtaining the approval of the LSI and Agere stockholders at these meetings and the satisfaction of other closing conditions, the Company expects to complete the merger soon after the stockholder meetings. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION 95 Report of Independent Registered Public Accounting Firm To the Board of Directors and Stockholders of LSI Logic Corporation: We have completed integrated audits of LSI Logic Corporation’s consolidated financial statements and of its internal control over financial reporting as of December 31, 2006, in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below. Consolidated financial statements and financial statement schedule In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) present fairly, in all material respects, the financial position of LSI Logic Corporation and its subsidiaries at December 31, 2006 and 2005, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2006 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule appearing under Item 15(a)(2) presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit of financial statements includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. As discussed in Note 3 to the Notes to Consolidated Financial Statements, the Company changed the manner in which it accounts for stock-based compensation in 2006. Internal control over financial reporting Also, in our opinion, management’s assessment, included in Management’s Report on Internal Control Over Financial Reporting appearing under Item 9A, that the Company maintained effective internal control over financial reporting as of December 31, 2006 based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated, in all material respects, based on those criteria. Furthermore, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control — Integrated Framework issued by the COSO. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express opinions on management’s assessment and on the effectiveness of the Company’s internal control over financial reporting based on our audit. We conducted our audit of internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. An audit of internal control over financial reporting includes obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we consider necessary in the circumstances. We believe that our audit provides 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 and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable 96 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely 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 of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. PricewaterhouseCoopers LLP FINANCIALS San Jose, California March 1, 2007 PROXY STATEMENT CORPORATE INFORMATION 97 Supplementary Financial Data Interim Financial Information (Unaudited) Quarter First Second Third Fourth (In thousands, except per share amounts) Year Ended December 31, 2006 Revenues. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Basic income per share: . . . . . . . . . . . . . . . . . . . . . . . . . . . . Diluted income per share: . . . . . . . . . . . . . . . . . . . . . . . . . . Year Ended December 31, 2005 Revenues. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Net income/(loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Basic income/(loss) per share: . . . . . . . . . . . . . . . . . . . . . . . Diluted income/(loss) per share: . . . . . . . . . . . . . . . . . . . . . . $475,884 204,489 13,168 $ 0.03 $ 0.03 $450,007 190,106 4,719 $ 0.01 $ 0.01 $489,635 209,207 53,847 $ 0.14 $ 0.13 $481,292 211,597 25,262 $ 0.06 $ 0.06 $492,978 214,534 43,610 $ 0.11 $ 0.11 $481,716 210,019 (73,394) $ (0.19) $ (0.19) $523,651 227,024 59,013 $ 0.15 $ 0.14 $506,235 219,970 37,790 $ 0.10 $ 0.09 FINANCIALS During the first, second, third and fourth quarters of 2006, the Company recorded charges/(benefit) for restructuring of operations and other items of approximately $5.7 million, $(21.6) million, $2.6 million and $5.0 million, respectively. See Note 2 of the Notes. PROXY STATEMENT On January 1, 2006, the Company adopted the fair value recognition provisions of SFAS 123R, “Share-Based Payments”, using the modified prospective transition method. In accordance with the modified prospective transition method, the Company began recognizing compensation expense for all share-based awards granted on or after January 1, 2006, plus unvested awards granted prior to January 1, 2006. Under this method of implementation, no restatement of prior periods has been made. The cumulative effect of adopting SFAS 123R was not significant. During the first, second, third and fourth quarters of 2005, the Company recorded charges for restructuring of operations and other items of approximately $1.5 million, $7.2 million, $100.0 million and $10.4 million, respectively. See Note 2 of the Notes. In 2005, the provision for income taxes was increased by a $5.4 million charge related to the correction of an error in a prior period associated with the carrying value of $8.3 million in deferred tax liabilities that should have been reclassified to goodwill upon adoption of SFAS No. 142, “Goodwill and Intangible Assets,” in 2002. The deferred tax liabilities were instead used as a reduction of the Company’s required valuation allowance in 2002. This was offset by tax-related liabilities of $2.9 million originally recorded in connection with these deferred tax balances, which are no longer required. The Company believes that this amount is not material to previously reported financial statements and has concluded that correcting such amounts in the fourth quarter of 2005 and the 2005 fiscal year, as opposed to restating prior periods, is appropriate in the circumstances. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Not applicable. Item 9A. Controls and Procedures Evaluation of Disclosure Controls and Procedures: The Securities and Exchange Commission defines the term “disclosure controls and procedures” to mean a company’s controls and other procedures that are designed to ensure that information required to be disclosed in the reports that it files or submits under the Securities Exchange Act of 1934 (“Exchange Act”) is recorded, processed, summarized and reported, within the time periods specified in the Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act 98 CORPORATE INFORMATION is accumulated and communicated to management, including our chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required or necessary disclosures. Our chief executive officer and chief financial officer have concluded, based on the evaluation of the effectiveness of the disclosure controls and procedures by our management, with the participation of our chief executive officer and chief financial officer, as of the end of the period covered by this report, that our disclosure controls and procedures were effective for this purpose. Management’s Report on Internal Control Over Financial Reporting: Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as defined in Rule 13a-15(f) promulgated under the Exchange Act. Internal control over financial reporting consists of policies and procedures that are designed and operated to provide reasonable assurance regarding the reliability of our financial reporting and our process for the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Our management assessed the effectiveness of our internal control over financial reporting using the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control — Integrated Framework. Based on the results of our assessment, our management concluded that our internal control over financial reporting was effective as of December 31, 2006. Our management’s assessment of the effectiveness of our internal control over financial reporting as of December 31, 2006 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report, which appears in Part II, Item 8 of this Report on Form 10-K. Changes in Internal Controls: During the fourth quarter of 2006, we did not make any change in our internal control over financial reporting that materially affected or is reasonably likely to materially affect our internal control over financial reporting. Item 9B. Other Information None. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION 99 PART III Certain information required by Part III is omitted from this Report in that the Company will file a definitive proxy statement within 120 days after the end of its fiscal year pursuant to Regulation 14A (the “Proxy Statement”) for its Annual Meeting of Stockholders to be held May 10, 2007, and certain of the information to be included therein is incorporated by reference herein. Item 10. Directors, Executive Officers and Corporate Governance. The information regarding the Company’s executive officers required by this Item is incorporated by reference from the section entitled “Executive Officers of LSI” in Part I of this Form 10-K. The information regarding the Company’s directors required by this Item is incorporated by reference from the section entitled “Election of Directors” in the Company’s Proxy Statement. FINANCIALS The information concerning Section 16(a) reporting required by this Item is incorporated by reference from the section entitled “Section 16(a) Beneficial Ownership Reporting Compliance” in the Company’s Proxy Statement. The information regarding the identification of Audit Committee members and the Audit Committee Financial Expert required by this Item is incorporated by reference from the section entitled “Corporate Governance — Board Structure and Composition — Audit Committee” in the Company’s Proxy Statement. Information regarding material changes, if any, to the procedures by which security holders may recommend nominees to the Company’s board of directors is incorporated by reference from the section entitled ‘‘Corporate Governance — Board Structure and Composition — Nominating and Corporate Governance Committee” in the Company’s Proxy Statement. PROXY STATEMENT The Company has adopted a Code of Ethics for principal executive and senior financial officers. A copy of this Code of Ethics is located on the Company’s website at www.lsi.com. The Company also intends to post any waivers of or amendments to its Code of Ethics on its website. Item 11. Executive Compensation. The information required by this Item is incorporated by reference from the sections entitled “Executive Compensation and Related Information” and “Corporate Governance — Director Compensation” in the Company’s Proxy Statement. Information regarding Compensation Committee Interlocks and Insider Participation, if any, is incorporated by reference from the section entitled “Corporate Governance — Board Structure and Composition — Compensation Committee Interlocks and Insider Participation” in the Company’s Proxy Statement. Information in the section of the Company’s Proxy Statement entitled “Compensation Committee Report” is incorporated by reference herein but shall be deemed furnished, not filed. Such information shall not be deemed to be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended. Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters. CORPORATE INFORMATION The information regarding equity compensation plans required by this Item is incorporated by reference from the section entitled “Equity Compensation Plan Information” in Part II, Item 5 of this Form 10-K. The information regarding stock ownership by principal stockholders and management required by this Item is incorporated by reference from the section entitled “Security Ownership” in the Company’s Proxy Statement. Item 13. Certain Relationships and Related Transactions, and Director Independence. The information regarding related party transactions required by this Item is incorporated by reference from the section entitled “Certain Transactions” in the Company’s Proxy Statement. The information regarding director independence required by this Item is incorporated by reference from the section entitled “Corporate Governance — Board Structure and Composition” in the Company’s Proxy Statement. 100 Item 14. Principal Accounting Fees and Services. The information regarding fees for professional services and the audit committee’s pre-approval policies and procedures required by this Item is incorporated by reference from the section entitled “Ratification of Appointment of Independent Registered Public Accounting Firm” in the Company’s Proxy Statement. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION 101 PART IV Item 15. Exhibits and Financial Statement Schedules (a) The following documents are filed as a part of this Report: 1. FINANCIAL STATEMENTS. The following Consolidated Financial Statements of LSI Logic Corporation and Report of Independent Registered Public Accounting Firm are contained in this Form 10-K: PAGE IN THE FORM 10-K Consolidated Balance Sheets — As of December 31, 2006 and 2005 . . . . . . . . . . . . . . . Consolidated Statements of Operations — For the Three Years Ended December 31, 2006, 2005 and 2004 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Consolidated Statements of Stockholders’ Equity — For the Three Years Ended December 31, 2006, 2005 and 2004 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Consolidated Statements of Cash Flows — For the Three Years Ended December 31, 2006, 2005 and 2004 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Report of Independent Registered Public Accounting Firm . . . . . . . . . . . . . . . . . . . . . . Fiscal years 2006, 2005 and 2004 were 52-week years with a December 31 fiscal year end. 54 55 56 57 58 96 CORPORATE INFORMATION PROXY STATEMENT FINANCIALS 102 2. FINANCIAL STATEMENT SCHEDULE. SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS (In millions) Column A Description Column B Balance at Beginning of Period Column C Additions Charged to Costs, Expenses or Other Accounts Column D Deductions* Column E Balance at End of Period 2006 Allowances . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2005 Allowances . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2004 Allowances . . . . . . . . . . . . . . . . . . . . . . . . . . . . $15 $10 $ 7 $13 $ 9 $ 8 $(14) $ (4) $ (5) $14 FINANCIALS $15 $10 * Deductions include write-offs of uncollectable accounts and collections of amounts previously reserved. PROXY STATEMENT CORPORATE INFORMATION 103 3. EXHIBITS: 2.1 Agreement and Plan of Reorganization dated March 26, 2001 by and among Registrant, Clover Acquisition Corporation and C-Cube Microsystems Inc. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-4 (No. 333-58862) on April 13, 2001. Agreement and Plan of Merger dated as of December 3, 2006 by and among Registrant, Atlas Acquisition Corp. and Agere Systems Inc. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-4 (No. 333-139642) on December 22, 2006. Restated Certificate of Incorporation of Registrant. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-46436) on September 22, 2000. By-laws of Registrant. Incorporated by reference to exhibits filed with the Registrant’s Current Report on Form 8-K filed on September 3, 2004. Indenture dated as of May 16, 2003, between LSI Logic Corporation and U.S. Bank, N.A., as Trustee relating to 2003 Convertible Notes. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003. Amended and Restated Preferred Shares Rights Agreement, dated as of November 20, 1998, between LSI Logic Corporation and BankBoston N.A. Incorporated by reference to exhibits filed with the Registrant’s Report on Form 8-A/A filed on December 8, 1998. Amendment No. 1 to Amended and Restated Preferred Shares Rights Agreement, dated as of February 19, 1999, between LSI Logic Corporation and BankBoston N.A. Incorporated by reference to exhibits filed with the Registrant’s Report on Form 8-A/A filed on June 17, 2003. Amendment to Amended and Restated Preferred Shares Rights Agreement, dated as of August 16, 2001, by and among LSI Logic Corporation, Fleet bank f/k/a BankBoston N.A. and EquiServe Trust Company, N.A. Incorporated by reference to exhibits filed with the Registrant’s Report on Form 8-A/A filed on June 17, 2003. See Exhibit 3.1. Form of Indemnification Agreement between Registrant and our officers, directors and certain key employees. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 1987.* Amended and Restated LSI Logic Corporation 1991 Equity Incentive Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-96543) on July 16, 2002. * 1995 Director Option Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-106205) on June 17, 2003.* LSI Logic Corporation International Employee Stock Purchase Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-115762) on May 21, 2004.* Form of LSI Logic Corporation Change of Control Severance Agreement between LSI Logic Corporation and each of its executive officers. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2003.* Technology Transfer Agreement between LSI Logic Corporation and Wafer Technology (Malaysia) Sdn. Bhd., dated September 8, 1999. Incorporated by reference to exhibits filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended September 30, 1999.+ Mint Technology, Inc. Amended 1996 Stock Option Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-34285) on August 25, 1997.* Registrant’s Amended and Restated Employee Stock Purchase Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-115762) on May 21, 2004.* Symbios Logic, Inc. 1995 Stock Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-62159) on August 25, 1998. LSI Logic Corporation 1999 Nonstatutory Stock Option Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-96549) on July 16, 2002.* SEEQ Technology, Inc. Amended and Restated 1982 Stock Option Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-81435) on June 24, 1999.* IntraServer Technology, Inc. 1998 Stock Option Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-38746) on June 7, 2000. 104 2.2 3.1 3.2 4.1 FINANCIALS 4.2 4.3 4.4 PROXY STATEMENT 4.5 10.1 10.2 10.3 CORPORATE INFORMATION 10.4 10.5 10.6 10.7 10.8 10.9 10.10 10.11 10.12 10.13 10.14 10.15 10.16 10.17 10.18 10.19 10.20 10.21 10.22 10.23 10.24 10.25 10.26 10.27 10.28 10.29 10.30 10.31 DataPath Systems, Inc. Amended 1994 Stock Option Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-42888) on August 2, 2000.* DataPath Systems, Inc. Amended and Restated 1997 Stock Option Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-42888) on August 2, 2000.* Syntax Systems, Inc. Restated Stock Option Plan of January 5, 1999. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-52050) on December 18, 2000.* C-Cube Microsystems Inc. 2000 Stock Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-62960) on June 14, 2001. Wilfred J. Corrigan Employment Agreement dated as of September 20, 2001. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2001.* Manufacturing Technology Joint Development and Foundry Supply Agreement dated as of March 30, 2001 by and between the Registrant and Taiwan Semiconductor Manufacturing Co., Ltd. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2002.+ LSI Logic Corporation 2003 Equity Incentive Plan. Incorporated by reference to exhibit filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 1, 2006.* Registration Rights Agreement between LSI Logic Corporation and Morgan Stanley & Co., Inc., dated May 16, 2003. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003. LSI Logic Corporation 1991 Equity Incentive Plan Nonqualified Stock Option Agreement. Incorporated by reference to exhibits filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 3, 2004.* Form of Notice of Grant under LSI Logic Corporation Nonqualified Stock Option Agreement. Incorporated by reference to exhibits filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 3, 2004.* LSI Logic Corporation 2003 Equity Incentive Plan Restricted Stock Unit Agreement. Incorporated by reference to exhibits filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 3, 2004.* Engenio Information Technologies, Inc. Amended and Restated 2004 Equity Incentive Plan. Incorporated by reference to exhibits filed with the Registrant’s Current Report on Form 8-K on November 4, 2004.* Engenio Information Technologies, Inc. 2004 Equity Incentive Plan Nonqualified Stock Option Agreement. Incorporated by reference to exhibits filed with the Registrant’s Current Report on Form 8-K on November 4, 2004.* Form of Notice of Grant under Engenio Information Technologies, Inc. 2004 Equity Incentive Plan Nonqualified Stock Option Agreement. Incorporated by reference to exhibits filed with the Registrant’s Current Report on Form 8-K on November 4, 2004.* Lease Agreement dated June 30, 2004, for 670 N. McCarthy Boulevard, Milpitas, California, between Engenio Information Technologies, Inc. and The Irvine Company. Incorporated by reference to exhibit filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. First Amendment, dated October 28, 2004, to the Lease Agreement (dated June 30, 2004), for 670 N. McCarthy Boulevard, Milpitas, California, between Engenio Information Technologies, Inc. and The Irvine Company. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Agreement dated December 31, 2003, for 1621 Barber Lane, Milpitas, California, between the Registrant and Limar Realty Corp. #9. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Agreement dated December 31, 2003, for 765 Sycamore Drive, Milpitas, California, between the Registrant and Limar Realty Corp. #4. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Agreement dated December 31, 2003, for 1501 McCarthy Boulevard, Milpitas, California, between the Registrant and Limar Realty Corp. #4. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. 105 FINANCIALS PROXY STATEMENT CORPORATE INFORMATION 10.32 10.33 10.34 10.35 FINANCIALS 10.36 10.37 10.38 PROXY STATEMENT 10.39 10.40 10.41 10.42 10.43 CORPORATE INFORMATION 10.44 10.45 10.46 10.47 10.48 10.49 10.50 Lease Agreement dated February 20, 2004, for 1855 Barber Lane, Milpitas, California, between the Registrant and TriNet Milpitas Associates, LLC. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Agreement dated February 20, 2004, for 560 Cottonwood Drive, Milpitas, California, between the Registrant and TriNet Milpitas Associates, LLC. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Assignment and Assumption of Lease dated May 27, 2004, for 5400 Airport Boulevard, Suites 100 and 200, Boulder, Colorado, between LakeCentre Plaza Limited, Ltd., LLLP and Engenio Information Technologies, Inc. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Modification Agreement dated June 21, 2004, for 5400 Airport Boulevard, Suites 100 and 200, Boulder, Colorado, between LakeCentre Plaza Limited, Ltd., LLLP and Engenio Information Technologies, Inc. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Form of Notice of Grant of Restricted Stock Units under LSI Logic Corporation 2003 Equity Incentive Plan. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004.* LSI Logic Corporation 2004 16(b) Executive Officer Incentive Plan. Incorporated by reference to exhibit filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004.* Summary Description of the Engenio Information Technologies, Inc. 2004 Incentive Plan. Incorporated by reference to exhibit filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004.* Summary Description of LSI Logic Corporation 2005 Semiconductor Incentive Plan. . Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on April 7, 2005.* Summary Description of Engenio Technologies, Inc. 2005 Incentive Plan. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on April 7, 2005.* Form of Annual Director Option Agreement. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on April 7, 2005.* Form of Notice of Grant of Stock Options and Option Agreement. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on April 7, 2005.* Employment Agreement with Abhijit Y. Talwalkar, effective as of May 23, 2005. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on May 24, 2005.* Amendment No. 1 to the LSI Logic Corporation 1991 Equity Incentive Stock Option Agreement dated August 15, 1997 with Wilfred J. Corrigan. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on June 17, 2005.* Amendment No. 1 to the LSI Logic Corporation 1991 Equity Incentive Stock Option Agreement dated November 20, 1998 with Wilfred J. Corrigan. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on June 17, 2005.* Standalone Stock Option Agreement issued to Abhijit Y. Talwalkar. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-126594) on July 14, 2005.* Abhijit Y. Talwalkar LSI Logic Corporation 2003 Equity Incentive Plan Nonqualified Stock Option Agreement, effective as of June 1, 2005. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 3, 2005. * Abhijit Y. Talwalkar Notice of Grant under LSI Logic Corporation 2003 Equity Incentive Plan Nonqualified Stock Option Agreement, effective as of June 1, 2005. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 3, 2005.*+ LSI Logic Corporation 2003 Equity Incentive Plan Nonqualified Stock Option “Agreement. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 3, 2005.* LSI Logic Corporation Form of Notice of Grant of Stock Options under the 2003 Equity Incentive Plan. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 3, 2005.* 106 10.51 10.52 10.53 10.54 10.55 10.56 10.57 14.1 21.1 23.1 24.1 31.1 31.2 32.1 32.2 Separation Agreement with W. Richard Marz, effective October 5, 2005. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on October 11, 2005.* Asset Purchase Agreement between the Registrant and Semiconductor Components Industries, LLC, dated as of April 5, 2006. Incorporated by reference to exhibits filed by ON Semiconductor Corporation with its Quarterly Report on Form 10-Q for the quarter ended March 31, 2007.+ Written Description of 2006 Incentive Plan. Incorporated by reference to exhibit filed with Registrant’s Current Report on Form 8-K on February 15, 2006.* LSI Logic Corporation Incentive Plan, as amended and restated on March 10, 2004. Incorporated by reference to exhibit filed with Registrant’s Current Report on Form 8-K on February 15, 2006.* Wafer Supply and Test Services Agreement between the Registrant and Semiconductor Components Industries, LLC, dated as of May 16, 2006. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 1, 2006.+ Letter Agreement dated June 13, 2005 between the Registrant and Wilfred J. Corrigan. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 2, 2006.* Agreement dated August 14, 2006, between LSI Logic Corporation and Joseph M. Zelayeta. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on August 14, 2006.* Code of Ethics for Principal Executive and Senior Financial Officers of LSI Logic Corporation. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2005. List of Subsidiaries. Consent of Independent Registered Public Accounting Firm. Power of Attorney (included on the signature page in this Annual Report on Form 10-K). Certification of the Chief Executive Officer pursuant to Securities and Exchange Act Rules 13a-15(e) and 15d-1(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. Certification of the Chief Financial Officer pursuant to Securities and Exchange Act Rules 13a-15(e) and 15de-1(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.** Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.** FINANCIALS PROXY STATEMENT CORPORATE INFORMATION * Denotes management contract or compensatory plan or arrangement. + Confidential treatment has been granted with respect to certain portions of these exhibits. Redacted versions have been filed with the Securities and Exchange Commission. ** Furnished, not filed. (b) EXHIBITS. See Item 15(a)(3), above. (c) FINANCIAL STATEMENT SCHEDULE See Item 15(a)(2), above. TRADEMARK ACKNOWLEDGMENTS The LSI Logic logo design, CoreWare, GigaBlaze, MegaRAID, RapidChip, and SeriaLink are registered trademarks of LSI Logic Corporation; Fusion-MPT and Zevio are trademarks of LSI Logic Corporation. ARM is a registered Trademark of Advanced RISC Machines Limited, used under license. All other brand and product names appearing in this report are the trademarks of their respective companies. 107 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized. LSI LOGIC CORPORATION By: /s/ ABHIJIT Y. TALWALKAR FINANCIALS Abhijit Y. Talwalkar President and Chief Executive Officer Dated: February 27, 2007 POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENT, that each person whose signature appears below constitutes and appoints Abhijit Y. Talwalkar and Andrew S. Hughes, jointly and severally, their attorneys-in-fact, each with the power of substitution, for them in any and all capacities, to sign any amendments to this Report on Form 10-K, and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or their substitute or substitutes, may do or cause to be done by virtue 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 the Registrant and in the capacities and on the dates indicated. Signature Title Date PROXY STATEMENT /s/ ABHIJIT Y. TALWALKAR (Abhijit Y. Talwalkar) /s/ BRYON LOOK (Bryon Look) President and Chief Executive Officer and Director Executive Vice President and Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) Director February 27, 2007 February 26, 2007 CORPORATE INFORMATION /s/ TIMOTHY Y. CHEN (Timothy Y. Chen) /s/ MALCOLM R. CURRIE (Malcolm R. Currie) CHARLES A. HAGGERTY (Charles A. Haggerty) /s/ JAMES H. KEYES (James H. Keyes) JOHN H. F. MINER (John H. F. Miner) February 26, 2007 Director February 27, 2007 /s/ Director February 28, 2007 Director February 27, 2007 /s/ Director February 26, 2007 108 Signature Title Date /s/ R. DOUGLAS NORBY (R. Douglas Norby) Director February 27, 2007 /s/ MATTHEW J. O’ROURKE (Matthew J. O’Rourke) /s/ GREGORIO REYES (Gregorio Reyes) Director February 26, 2007 Director March 1, 2007 FINANCIALS PROXY STATEMENT CORPORATE INFORMATION 109 INDEX TO EXHIBITS 2.1 Agreement and Plan of Reorganization dated March 26, 2001 by and among Registrant, Clover Acquisition Corporation and C-Cube Microsystems Inc. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-4 (No. 333-58862) on April 13, 2001. Agreement and Plan of Merger dated as of December 3, 2006 by and among Registrant, Atlas Acquisition Corp. and Agere Systems Inc. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-4 (No. 333-139642) on December 22, 2006. Restated Certificate of Incorporation of Registrant. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-46436) on September 22, 2000. By-laws of Registrant. Incorporated by reference to exhibits filed with the Registrant’s Current Report on Form 8-K filed on September 3, 2004. Indenture dated as of May 16, 2003, between LSI Logic Corporation and U.S. Bank, N.A., as Trustee relating to 2003 Convertible Notes. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003. Amended and Restated Preferred Shares Rights Agreement, dated as of November 20, 1998, between LSI Logic Corporation and BankBoston N.A. Incorporated by reference to exhibits filed with the Registrant’s Report on Form 8-A/A filed on December 8, 1998. Amendment No. 1 to Amended and Restated Preferred Shares Rights Agreement, dated as of February 19, 1999, between LSI Logic Corporation and BankBoston N.A. Incorporated by reference to exhibits filed with the Registrant’s Report on Form 8-A/A filed on June 17, 2003. Amendment to Amended and Restated Preferred Shares Rights Agreement, dated as of August 16, 2001, by and among LSI Logic Corporation, Fleet bank f/k/a BankBoston N.A. and EquiServe Trust Company, N.A. Incorporated by reference to exhibits filed with the Registrant’s Report on Form 8-A/A filed on June 17, 2003. See Exhibit 3.1. Form of Indemnification Agreement between Registrant and our officers, directors and certain key employees. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 1987.* Amended and Restated LSI Logic Corporation 1991 Equity Incentive Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-96543) on July 16, 2002.* 1995 Director Option Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-106205) on June 17, 2003.* LSI Logic Corporation International Employee Stock Purchase Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-115762) on May 21, 2004.* Form of LSI Logic Corporation Change of Control Severance Agreement between LSI Logic Corporation and each of its executive officers. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2003.* Technology Transfer Agreement between LSI Logic Corporation and Wafer Technology (Malaysia) Sdn. Bhd., dated September 8, 1999. Incorporated by reference to exhibits filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended September 30, 1999.+ Mint Technology, Inc. Amended 1996 Stock Option Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-34285) on August 25, 1997.* Registrant’s Amended and Restated Employee Stock Purchase Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-115762) on May 21, 2004.* Symbios Logic, Inc. 1995 Stock Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-62159) on August 25, 1998 LSI Logic Corporation 1999 Nonstatutory Stock Option Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-96549) on July 16, 2002.* SEEQ Technology, Inc. Amended and Restated 1982 Stock Option Plan. Incorporated by reference to exhibits filed with the Registrant’s Registration Statement on Form S-8 (No. 333-81435) on June 24, 1999.* IntraServer Technology, Inc. 1998 Stock Option Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-38746) on June 7, 2000. DataPath Systems, Inc. Amended 1994 Stock Option Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-42888) on August 2, 2000.* 2.2 3.1 3.2 4.1 FINANCIALS 4.2 4.3 4.4 PROXY STATEMENT 4.5 10.1 10.2 10.3 CORPORATE INFORMATION 10.4 10.5 10.6 10.7 10.8 10.9 10.10 10.11 10.12 10.13 10.14 10.15 10.16 10.17 10.18 10.19 10.20 10.21 10.22 10.23 10.24 10.25 10.26 10.27 10.28 10.29 10.30 10.31 10.32 DataPath Systems, Inc. Amended and Restated 1997 Stock Option Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-42888) on August 2, 2000.* Syntax Systems, Inc. Restated Stock Option Plan of January 5, 1999. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-52050) on December 18, 2000.* C-Cube Microsystems Inc. 2000 Stock Plan. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-62960) on June 14, 2001. Wilfred J. Corrigan Employment Agreement dated as of September 20, 2001. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2001.* Manufacturing Technology Joint Development and Foundry Supply Agreement dated as of March 30, 2001 by and between the Registrant and Taiwan Semiconductor Manufacturing Co., Ltd. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2002.+ LSI Logic Corporation 2003 Equity Incentive Plan. Incorporated by reference to exhibit filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 1, 2006.* Registration Rights Agreement between LSI Logic Corporation and Morgan Stanley & Co., Inc., dated May 16, 2003. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003. LSI Logic Corporation 1991 Equity Incentive Plan Nonqualified Stock Option Agreement. Incorporated by reference to exhibits filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 3, 2004.* Form of Notice of Grant under LSI Logic Corporation Nonqualified Stock Option Agreement. Incorporated by reference to exhibits filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 3, 2004.* LSI Logic Corporation 2003 Equity Incentive Plan Restricted Stock Unit Agreement. Incorporated by reference to exhibits filed with the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 3, 2004.* Engenio Information Technologies, Inc. Amended and Restated 2004 Equity Incentive Plan. Incorporated by reference to exhibits filed with the Registrant’s Current Report on Form 8-K on November 4, 2004.* Engenio Information Technologies, Inc. 2004 Equity Incentive Plan Nonqualified Stock Option Agreement. Incorporated by reference to exhibits filed with the Registrant’s Current Report on Form 8-K on November 4, 2004.* Form of Notice of Grant under Engenio Information Technologies, Inc. 2004 Equity Incentive Plan Nonqualified Stock Option Agreement. Incorporated by reference to exhibits filed with the Registrant’s Current Report on Form 8-K on November 4, 2004.* Lease Agreement dated June 30, 2004, for 670 N. McCarthy Boulevard, Milpitas, California, between Engenio Information Technologies, Inc. and The Irvine Company. Incorporated by reference to exhibit filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. First Amendment, dated October 28, 2004, to the Lease Agreement (dated June 30, 2004), for 670 N. McCarthy Boulevard, Milpitas, California, between Engenio Information Technologies, Inc. and The Irvine Company. Incorporated by reference to exhibits filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Agreement dated December 31, 2003, for 1621 Barber Lane, Milpitas, California, between the Registrant and Limar Realty Corp. #9. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Agreement dated December 31, 2003, for 765 Sycamore Drive, Milpitas, California, between the Registrant and Limar Realty Corp. #4. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Agreement dated December 31, 2003, for 1501 McCarthy Boulevard, Milpitas, California, between the Registrant and Limar Realty Corp. #4. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Agreement dated February 20, 2004, for 1855 Barber Lane, Milpitas, California, between the Registrant and TriNet Milpitas Associates, LLC. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION 10.33 10.34 10.35 10.36 FINANCIALS 10.37 10.38 10.39 10.40 PROXY STATEMENT 10.41 10.42 10.43 10.44 CORPORATE INFORMATION 10.45 10.46 10.47 10.48 10.49 10.50 10.51 10.52 Lease Agreement dated February 20, 2004, for 560 Cottonwood Drive, Milpitas, California, between the Registrant and TriNet Milpitas Associates, LLC. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Assignment and Assumption of Lease dated May 27, 2004, for 5400 Airport Boulevard, Suites 100 and 200, Boulder, Colorado, between LakeCentre Plaza Limited, Ltd., LLLP and Engenio Information Technologies, Inc. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Lease Modification Agreement dated June 21, 2004, for 5400 Airport Boulevard, Suites 100 and 200, Boulder, Colorado, between LakeCentre Plaza Limited, Ltd., LLLP and Engenio Information Technologies, Inc. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004. Form of Notice of Grant of Restricted Stock Units under LSI Logic Corporation 2003 Equity Incentive Plan. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004.* LSI Logic Corporation 2004 16(b) Executive Officer Incentive Plan. Incorporated by reference to exhibit filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004.* Summary Description of the Engenio Information Technologies, Inc. 2004 Incentive Plan. Incorporated by reference to exhibit filed with the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004.* Summary Description of LSI Logic Corporation 2005 Semiconductor Incentive Plan. . Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on April 7, 2005.* Summary Description of Engenio Technologies, Inc. 2005 Incentive Plan. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on April 7, 2005.* Form of Annual Director Option Agreement. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on April 7, 2005.* Form of Notice of Grant of Stock Options and Option Agreement. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on April 7, 2005.* Employment Agreement with Abhijit Y. Talwalkar, effective as of May 23, 2005. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on May 24, 2005.* Amendment No. 1 to the LSI Logic Corporation 1991 Equity Incentive Stock Option Agreement dated August 15, 1997 with Wilfred J. Corrigan. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on June 17, 2005.* Amendment No. 1 to the LSI Logic Corporation 1991 Equity Incentive Stock Option Agreement dated November 20, 1998 with Wilfred J. Corrigan. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on June 17, 2005.* Standalone Stock Option Agreement issued to Abhijit Y. Talwalkar. Incorporated by reference to exhibits filed with Registrant’s Registration Statement on Form S-8 (No. 333-126594) on July 14, 2005.* Abhijit Y. Talwalkar LSI Logic Corporation 2003 Equity Incentive Plan Nonqualified Stock Option Agreement, effective as of June 1, 2005. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 3, 2005.* Abhijit Y. Talwalkar Notice of Grant under LSI Logic Corporation 2003 Equity Incentive Plan Nonqualified Stock Option Agreement, effective as of June 1, 2005. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 3, 2005.*+ LSI Logic Corporation 2003 Equity Incentive Plan Nonqualified Stock Option “Agreement. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 3, 2005.* LSI Logic Corporation Form of Notice of Grant of Stock Options under the 2003 Equity Incentive Plan. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 3, 2005.* Separation Agreement with W. Richard Marz, effective October 5, 2005. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on October 11, 2005.* Asset Purchase Agreement between the Registrant and Semiconductor Components Industries, LLC, dated as of April 5, 2006. Incorporated by reference to exhibits filed by ON Semiconductor Corporation with its Quarterly Report on Form 10-Q for the quarter ended March 31, 2007.+ 10.53 10.54 10.55 10.56 10.57 14.1 21.1 23.1 24.1 31.1 31.2 32.1 32.2 Written Description of 2006 Incentive Plan. Incorporated by reference to exhibit filed with Registrant’s Current Report on Form 8-K on February 15, 2006.* LSI Logic Corporation Incentive Plan, as amended and restated on March 10, 2004. Incorporated by reference to exhibit filed with Registrant’s Current Report on Form 8-K on February 15, 2006.* Wafer Supply and Test Services Agreement between the Registrant and Semiconductor Components Industries, LLC, dated as of May 16, 2006. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 1, 2006.+ Letter Agreement dated June 13, 2005 between the Registrant and Wilfred J. Corrigan. Incorporated by reference to exhibits filed with Registrant’s Quarterly Report on Form 10-Q for the quarter ended July 2, 2006.* Agreement dated August 14, 2006, between LSI Logic Corporation and Joseph M. Zelayeta. Incorporated by reference to exhibits filed with Registrant’s Current Report on Form 8-K on August 14, 2006.* Code of Ethics for Principal Executive and Senior Financial Officers of LSI Logic Corporation. Incorporated by reference to exhibits filed with Registrant’s Annual Report on Form 10-K for the year ended December 31, 2005. List of Subsidiaries. Consent of Independent Registered Public Accounting Firm. Power of Attorney (included on the signature page in this Annual Report on Form 10-K). Certification of the Chief Executive Officer pursuant to Securities and Exchange Act Rules 13a-15(e) and 15d-1(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. Certification of the Chief Financial Officer pursuant to Securities and Exchange Act Rules 13a-15(e) and 15de-1(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.** Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.** FINANCIALS PROXY STATEMENT * Denotes management contract or compensatory plan or arrangement. + Confidential treatment has been granted with respect to certain portions of these exhibits. Redacted versions have been filed with the Securities and Exchange Commission. ** Furnished, not filed. CORPORATE INFORMATION (This page intentionally left blank) LSI LOGIC CORPORATION Notice of Annual Meeting of Stockholders May 10, 2007 To the Stockholders: NOTICE IS HEREBY GIVEN that the Annual Meeting of Stockholders of LSI Logic Corporation (the “Company”), a Delaware corporation, will be held on Thursday, May 10, 2007, at 9:00 a.m. local time, at the Company’s headquarters located at 1621 Barber Lane, Milpitas, California 95035, for the following purposes: 1. To elect nine directors to serve for the ensuing year and until their successors are elected. FINANCIALS 2. To ratify the appointment of PricewaterhouseCoopers LLP as the independent registered public accounting firm of the Company for its 2007 fiscal year. 3. To consider and vote upon a stockholder proposal, if properly presented. 4. To transact such other business as may properly come before the meeting and any adjournment or postponement thereof. These items of business are more fully described in the Proxy Statement accompanying this Notice. Only stockholders of record at the close of business on March 13, 2007, are entitled to notice of and to vote at the meeting. PROXY STATEMENT All stockholders are cordially invited to attend the meeting in person. However, to assure your representation at the meeting, you are urged to mark, sign, date and return the enclosed proxy card as promptly as possible in the postage-prepaid envelope enclosed for that purpose, or you may vote by Internet or telephone. Any stockholder attending the meeting may vote in person even if he or she returned a proxy card. Sincerely, CORPORATE INFORMATION /s/ Andrew S. Hughes Andrew S. Hughes Vice President, General Counsel & Corporate Secretary Milpitas, California March 30, 2007 YOUR VOTE IS IMPORTANT In order to assure your representation at the meeting, you are requested to mark, sign, and date the enclosed proxy card as promptly as possible and return it in the enclosed envelope (to which no postage need be affixed if mailed in the United States), or vote by Internet or telephone. (This page intentionally left blank) LSI LOGIC CORPORATION PROXY STATEMENT INFORMATION CONCERNING SOLICITATION AND VOTING General The enclosed proxy is solicited on behalf of LSI Logic Corporation (referred to as “LSI” or the “Company”), a Delaware corporation, for use at the Annual Meeting of Stockholders (the “Annual Meeting”) to be held on Thursday, May 10, 2007, at 9:00 a.m., local time, or at any adjournment(s) thereof, for the purposes set forth in this proxy statement and in the accompanying Notice of Annual Meeting of Stockholders. The Annual Meeting will be held at the Company’s principal executive office, located at 1621 Barber Lane, Milpitas, California 95035. The Company’s telephone number is 1-408-433-8000. These proxy solicitation materials were mailed on or about March 30, 2007, to all stockholders entitled to vote at the Annual Meeting. Record Date; Shares Outstanding Stockholders of record at the close of business on the record date of March 13, 2007 (the “Record Date”) are entitled to notice of and to vote at the Annual Meeting. As of the Record Date, 404,586,683 shares of the Company’s common stock, $0.01 par value, were issued and outstanding. On the Record Date, the closing price of the Company’s common stock on the New York Stock Exchange was $9.77 per share. How to Vote Stockholders may vote by attending the meeting and voting in person, by mailing the proxy card in the postage prepaid envelope provided by the Company, by telephone using the toll free telephone number 1-800-690-6903, or by Internet using the Internet voting site www.proxyvote.com. Stockholders will be asked to enter the 12-digit control number located on their proxy cards to proceed with voting by telephone or by Internet. Revocability of Proxies Any proxy given pursuant to this solicitation may be revoked by the person giving it at any time before its use by delivering to the Corporate Secretary of the Company at the Company’s principal executive offices a written notice of revocation or a duly executed proxy bearing a later date, or by attending the meeting and voting in person. Voting and Solicitation On all matters other than the election of directors, each share has one vote. See “Election of Directors — Required Vote.” The cost of soliciting proxies will be borne by the Company. The Company has retained the services of Georgeson & Company, Inc. to aid in the solicitation of proxies from brokers, bank nominees and other institutional owners. The Company estimates that it will pay Georgeson & Company, Inc. a fee not to exceed $10,000 for its services and will reimburse it for certain out-of-pocket expenses estimated to be $10,000. In addition, the Company may reimburse brokerage firms and other persons representing beneficial owners of shares for their expenses in forwarding solicitation material to such beneficial owners. Proxies may be solicited by some of the Company’s directors, officers and regular employees, without additional compensation, personally or by telephone. Householding In an effort to reduce printing costs and postage fees, the Company has adopted a practice approved by the Securities and Exchange Commission (“SEC”) called “householding.” Under this practice, stockholders who have the same address and last name and do not participate in electronic delivery of proxy materials will receive only one copy of the Company’s proxy materials at that address, unless one or more of these stockholders notifies the -1CORPORATE INFORMATION FINANCIALS PROXY STATEMENT Company that they wish to continue receiving individual copies. Stockholders who participate in householding will continue to receive separate proxy cards. If you share an address with another stockholder and received only one set of proxy materials and would like to request a separate copy of these materials and/or future proxy materials, please send your request to: LSI Logic Corporation, 1621 Barber Lane, MS AD-115, Milpitas, California 95035, Attn: Investor Relations or call 1-408-954-4710, or you may visit the Company’s website at www.lsi.com. You may also contact the Company if you received multiple copies of the proxy materials and would prefer to receive a single copy in the future. Quorum; Abstentions; Broker Non-Votes The required quorum for the transaction of business at the Annual Meeting is a majority of the votes eligible to be cast by holders of shares of common stock issued and outstanding on the Record Date. Shares that are voted “For,” “Against” or “Withheld From” a matter are treated as being present at the Annual Meeting for purposes of establishing a quorum and are also treated as votes cast at the Annual Meeting with respect to that matter (the “Votes Cast”). The Company intends to count abstentions for purposes of determining both the presence and absence of a quorum and the total number of Votes Cast with respect to any matter (other than the election of directors). Broker non-votes will be counted for purposes of determining the presence or absence of a quorum for the transaction of business, but will not be considered to be Votes Cast with respect to the particular proposal on which the broker has expressly not voted. Accordingly, broker non-votes will not affect the outcome of the voting on a proposal that requires a majority of the Votes Cast (such as the ratification of the appointment of the independent registered public accounting firm). CORPORATE INFORMATION PROXY STATEMENT FINANCIALS -2- PROPOSAL ONE ELECTION OF DIRECTORS Nominees A Board of nine directors is to be elected at the Annual Meeting. All directors are elected annually and serve until the next annual meeting or until their successors have been duly elected and qualified. As of the mailing date of this proxy statement, the following are directors of the Company: Timothy Y. Chen, Malcolm R. Currie, Charles A. Haggerty, James H. Keyes, John H.F. Miner, R. Douglas Norby, Matthew J. O’Rourke, Gregorio Reyes and Abhijit Y. Talwalkar. The Company entered into a merger agreement with Agere Systems, Inc. (“Agere”) in December 2006. Pursuant to the terms and subject to the conditions set forth in the merger agreement, LSI has agreed to acquire Agere pursuant to a merger. The completion of the proposed merger with Agere is subject to various customary conditions, including (i) obtaining the approval of the LSI and Agere stockholders, (ii) subject to certain exceptions, the accuracy of the representations and warranties of each party, and (iii) performance in all material respects by each party of its obligations under the merger agreement. Subject to the satisfaction or waiver of the conditions to completion of the merger, the merger is expected to be completed on April 2, 2007. Effective upon completion of our proposed merger with Agere, our Board of Directors will continue to consist of nine members, six of whom will be designated by LSI and three of whom will be designated by Agere. The Agere designees, who are directors of Agere as of the mailing date of this proxy statement, are Richard S. Hill, Michael J. Mancuso and Arun Netravali. The Agere nominees own stock and stock options of Agere as of the Record Date that will convert into LSI stock and stock options, subject to the completion of the proposed merger. Further information is set forth in “Security Ownership.” The LSI designees are Charles A. Haggerty, James H. Keyes, John H.F. Miner, Matthew J. O’Rourke, Gregorio Reyes and Abhijit Y. Talwalkar. Effective as of the completion of the proposed merger with Agere, Dr. Currie, Mr. Norby and Mr. Chen are expected to resign from the Board of Directors and will not stand for re-election. The Nominating and Corporate Governance Committee selected and the Board of Directors accepted the nine nominees named below for election to the Board at the Annual Meeting, subject to completion of the proposed merger. All nominees are expected to be directors of the Company as of the date of the Annual Meeting (assuming completion of our proposed merger with Agere). The Board of Directors expects all nominees named below to be available to serve as directors if elected. If any nominee of the Company is unable or declines to serve as a director at the time of the Annual Meeting, the proxies will be voted for a nominee designated by the current Board of Directors to fill the vacancy. If additional persons are nominated for election as directors, the proxy holders intend to vote all proxies received by them in accordance with cumulative voting so as to elect as many of the nominees listed below as possible. In such event, the proxy holders will determine the specific nominees for whom to vote. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION -3- The names of the nominees for election to the Board of Directors, and the experience and background of each, are set forth below. Ages are as of December 31, 2006. Name of Nominee Age Principal Occupation Director Since Charles A. Haggerty . . . . . . . . . . . . . . . 65 Richard S. Hill . . . . . . . . . . . . . . . . . . . James H. Keyes . . . . . . . . . . . . . . . . . . . FINANCIALS 54 66 Michael J. Mancuso. . . . . . . . . . . . . . . . John H.F. Miner . . . . . . . . . . . . . . . . . . Arun Netravali . . . . . . . . . . . . . . . . . . . Matthew J. O’Rourke . . . . . . . . . . . . . . Gregorio Reyes . . . . . . . . . . . . . . . . . . . 64 51 60 68 65 Retired Chairman and Chief Executive Officer, Western Digital Corporation; President and Chief Executive Officer, LeConte Associates Chief Executive Officer and Director of Novellus, Inc. Chairman of the Board of Directors of the Company; Retired Chairman, Johnson Controls, Inc. Retired Chief Financial Officer, General Dynamics Retired President, Intel Capital Managing Partner, OmniCapital Group LLC Consultant; Retired Partner, PricewaterhouseCoopers LLP Management Consultant; Former Chairman and Chief Executive Officer, Sunward Technologies, Inc. President, Chief Executive Officer and a Director of the Company 2006 2007* 1983 2007* 2006 2007* 1999 2001 PROXY STATEMENT Abhijit Y. Talwalkar . . . . . . . . . . . . . . . 42 2005 * Anticipated to be appointed on April 2, 2007, subject to completion of the proposed merger between the Company and Agere. There are no family relationships between or among any directors or executive officers of the Company. CORPORATE INFORMATION Mr. Haggerty has served as President and Chief Executive Officer of LeConte Associates, a consulting and investment firm, since January 2000. From 1993 to 2000, Mr. Haggerty was Chairman, President and Chief Executive Officer of Western Digital Corporation, a maker of hard drives for digital information storage. Previously he was with IBM Corporation, where he served in various general management roles including marketing, product development and operations capacities during a 28-year career. He serves on the boards of Beckman Coulter, Inc., Deluxe Corporation, Imation Corporation and Pentair, Inc. Mr. Haggerty also served as a director of Engenio Information Technologies, Inc., a former subsidiary of the Company, from April 2004 to November 2005. Mr. Hill has been Chief Executive Officer and a director of Novellus Systems, Inc., a supplier of integrated circuit manufacturing equipment, since 1993 and has been Chairman of its board of directors since 1996. Before joining Novellus, Mr. Hill spent 12 years at Tektronix, Inc., where he held a variety of positions, including President of Tektronix Development Company, Vice President of the Test and Measurement Group and President of Tektronix Components Corporation. Prior to joining Tektronix, he held engineering management and engineering positions at General Electric, Motorola and Hughes Aircraft Company. Mr. Hill is a director of Arrow Electronics, Inc. and the University of Illinois Foundation. Mr. Keyes has served as the Company’s Chairman of the Board of Directors since May 2006. He served as Chairman of Johnson Controls, Inc. from October 2002 until his retirement in December 2003. He served as Chairman and Chief Executive Officer of that company from January 1993 to October 2002. Johnson Controls, Inc. is a provider of automotive systems, batteries and facility management and control. Mr. Keyes also serves on the board of directors of Pitney Bowes, Inc. and Navistar International Corporation, and is a trustee of Fidelity Funds, a fund complex consisting of 348 funds as of March 1, 2007. -4- Mr. Mancuso is retired from General Dynamics, a supplier of business aviation and aircraft services, land and amphibious combat systems, mission-critical information systems and technologies, and shipbuilding and marine systems. He was Chief Financial Officer of General Dynamics from 1994 to 2006. Prior to joining General Dynamics in 1993, he was Vice President and Controller of UTC’s Pratt and Whitney Commercial Engine business unit. He also served 21 years with General Electric in various financial management positions. Mr. Mancuso is a director of SPX Corporation and The Shaw Group. From April 2003 to June 2005, Mr. Miner was the President of Intel Capital, a venture capital organization of Intel Corporation, a microprocessor manufacturer, and a Corporate Vice President of Intel Corporation. He retired from Intel in June 2005, concluding 22 years of service in various sales, engineering, marketing and general management roles. From October 1993 through 2001, Mr. Miner served in a general management capacity overseeing major product divisions including the Enterprise Server and Communications Products and New Products Groups. In August 2002, Mr. Miner became General Manager, Intel Capital and was named President, Intel Capital in April 2003. Since November 2004, Mr. Netravali has been Managing Partner of OmniCapital Group LLC, a venture capital firm. From January 2002 to April 2003, Mr. Netravali was Chief Scientist for Lucent Technologies Inc., a provider of services, systems and software for communications networks. From June 1999 to January 2002, Mr. Netravali was President of Bell Labs as well as Lucent’s Chief Technology Officer and Chief Network Architect. Mr. Netravali currently serves on the board of Level 3 Communications Inc. and on the advisory board of Veridicom International Inc. Mr. O’Rourke was a partner with the accounting firm Price Waterhouse LLP (a predecessor firm of PricewaterhouseCoopers LLP) from 1972 until his retirement in June 1996. Since his retirement, Mr. O’Rourke has been engaged as an independent business consultant and a corporate director. Mr. O’Rourke also served as a director of Engenio Information Technologies, Inc., a former subsidiary of the Company, from April 2004 to October 2005. Mr. Reyes has been a private investor and management consultant since 1994. He co-founded Sunward Technologies in 1985 and served as Chairman and Chief Executive Officer until 1994. Mr. Reyes serves on the board of directors of Dialog Semiconductor and Seagate Technology. Mr. Reyes also served as a director of Engenio Information Technologies, Inc., a former subsidiary of the Company, from April 2004 to October 2005. Mr. Talwalkar was appointed LSI President and Chief Executive Officer and elected to the Company’s Board of Directors in May 2005. Prior to joining the Company, Mr. Talwalkar was employed by Intel Corporation, a microprocessor manufacturer, most recently as Corporate Vice President and Co-General Manager of the Digital Enterprise Group, from January 2005 until he joined the Company in May 2005. Previously, from May 2004 to January 2005, he served as Vice President and General Manager for Intel’s Enterprise Platform Group. Prior to this role, from April 2002 to May 2004, he served as Vice President and General Manager of Intel’s Platform Products Group, within Intel’s Enterprise Platform Group. Mr. Talwalkar served as Vice President and Assistant General Manager of Intel’s Enterprise Platform Group from June 2001 to March 2002. Prior to this position, Mr. Talwalkar held the position of Vice President and General Manager of the Enterprise Platforms and Services Division at Intel. Other Directors Biographical information of directors who are expected to resign as of the effective date of the merger is set forth below: Mr. Chen, age 50, has served as Corporate Vice President and Chief Executive Officer, Greater China Region, for Microsoft Corporation, a software provider, since September 2003. Mr. Chen is the former Chairman and President of Motorola (China) Electronics, Ltd., a wireless and broadband communications company, a position he held from September 2001 until joining Microsoft Corporation in September 2003. From June 2000 until September 2001, Mr. Chen was Chief Executive Officer of 21CN CyberNet Corporation Ltd., with overall responsibility for its business in Hong Kong and Mainland China. Dr. Currie, age 79, has served as Chairman of Real Spirit USA, a manufacturer and distributor of air purification systems, since May 2005. He served as Chief Executive Officer of Currie Technologies, Inc., a -5- FINANCIALS PROXY STATEMENT CORPORATE INFORMATION manufacturer of electric propulsion systems for bicycles and other light vehicles, from February 1997 to May 2005. Dr. Currie served as Under Secretary of Defense for Research and Engineering from 1972 to 1977 and as Chairman and Chief Executive Officer of Hughes Aircraft Company from 1988 to 1993. He presently serves on the board of directors for Enova Systems, Inc., Regal One Corporation and Inamed Corporation. Mr. Norby, age 71, was Chief Financial Officer and Senior Vice President of Tessera, Inc., a semiconductor packaging technology company, from July 2003 until his retirement in January 2006. After his retirement, he served Tessera as a management consultant from January 2006 to July 2006. He worked as a management consultant with Tessera from May 2003 until July 2003. Mr. Norby was a private investor from March 2003 until May 2003. He served as Vice President and Chief Financial Officer of Zambeel, Inc., a data storage systems company, from March 2002 until February 2003, and as Chief Financial Officer of Novalux, Inc., an optoelectronics company, from December 2000 to March 2002. Prior to his tenure with Novalux, Inc., Mr. Norby served as Executive Vice President and Chief Financial Officer of the Company from November 1996 to November 2000. Mr. Norby also serves on the board of directors of Alexion Pharmaceuticals, Inc., ChipPac, Inc. and MagnaChip Semiconductor. Required Vote Directors shall be elected by a plurality vote. The nine nominees for director receiving the highest number of affirmative votes of the shares entitled to be voted for them shall be elected as directors. Votes against, votes withheld and broker non-votes have no legal effect on the election of directors due to the fact that such elections are by a plurality. Every stockholder voting in the election of directors may cumulate such stockholder’s votes and give one candidate a number of votes equal to the number of directors to be elected (nine) multiplied by the number of votes to which the stockholder’s shares are entitled, or may distribute the stockholder’s votes on the same principle among as many candidates as the stockholder sees fit, provided that votes cannot be cast for more than nine candidates. However, no stockholder shall be entitled to cumulate votes for a candidate unless the candidate’s name has been properly placed in nomination in accordance with the Company’s bylaws prior to the meeting, and the stockholder, or any other stockholder, has given notice prior to the voting of the stockholder’s intention to cumulate votes. The proxy holders will exercise discretionary authority to cumulate votes in the event that additional persons are nominated for election as directors. Board Recommendation The Board of Directors unanimously recommends a vote “FOR” the proposed slate of directors for the current year. Unless you indicate otherwise, your proxy will be voted “FOR” each of the Company’s nominees (except as otherwise noted under “Required Vote” above). PROXY STATEMENT CORPORATE INFORMATION FINANCIALS CORPORATE GOVERNANCE The Company’s Standards of Business Conduct apply to the Company’s directors, officers and employees and cover matters such as insider trading, conflict of interest, compliance with laws, rules and regulations and responsibilities for reporting illegal or unethical behavior. The Company has also adopted a Code of Ethics for the Principal Executive and Senior Financial Officers of the Company. Copies of these documents are available on the Company’s website at http://www.lsi.com/investors/corp_gov.html. You may also request a copy in print by writing to: Andrew S. Hughes Vice President, General Counsel & Corporate Secretary LSI Logic Corporation 1621 Barber Lane, MS AD-106 Milpitas, California 95035 -6- Board Structure and Composition Board of Directors The Company’s Board of Directors is the ultimate decision-making body of the Company, except with respect to those matters reserved for the approval of stockholders. The Board is responsible for selection of the executive management team, providing oversight responsibility and direction to management and evaluating the performance of this team on behalf of the stockholders. The Board has adopted Corporate Governance Guidelines (the “Guidelines”) to assist it in the performance of its responsibilities. The Guidelines were amended in February 2007 to adopt a majority voting policy for the election of directors. The Guidelines provide that, in an uncontested election, any director nominee who receives a greater number of votes “withheld” from his or her election than votes “for” such election will tender his or her resignation for consideration by the Nominating and Corporate Governance Committee. The Nominating and Corporate Governance Committee would consider the resignation offer based on the circumstances that led to the majority “withheld” vote and would make a recommendation to the Board of Directors. Thereafter, the Board would promptly disclose its decision-making process and decision regarding whether to accept the director’s resignation offer, including the reasons for rejecting the offer, if applicable. These Guidelines are available on the Company’s website at www.lsi.com, or you may request a copy in print by writing to the address set forth above. In accordance with New York Stock Exchange requirements, the Board affirmatively determines the independence of each director and nominee for election as a director. The Company uses the elements set forth in Section 303A of the New York Stock Exchange Listing Manual in determining director independence. The Board considered transactions, relationships and/or arrangements with each of the directors based on review of these regulations as well as the responses of the directors to questions regarding employment, and on discussions among the directors. The Board also reviews the relationships between the Company and the companies with which the Company’s directors are affiliated. The Board of Directors has determined that Mr. Chen, Dr. Currie, Mr. Haggerty, Mr. Keyes, Mr. Miner, Mr. Norby, Mr. O’Rourke and Mr. Reyes are independent and that the members of the Audit Committee are also “independent” for purposes of Section 10A(m)(3) of the Securities Exchange Act of 1934. The Board of Directors has determined that Mr. Talwalkar is not independent. The Board of Directors has not determined the independence of Mr. Hill, Mr. Mancuso and Mr. Netravali as of the mailing date of the proxy statement. The Board of Directors of the Company held a total of 25 meetings during the last fiscal year. Mr. James Keyes serves as the Chairman of the Board. The Board has an Audit Committee, a Compensation Committee and a Nominating and Corporate Governance Committee. The Audit, Compensation and Nominating and Corporate Governance Committees consist solely of non-employee independent directors as defined by the New York Stock Exchange. The Board appoints the members and chairs of the committees annually. All committees operate under charters approved by the Board. These charters are available on the Company’s website, or alternatively, you may request a print copy by writing to the address set forth above. Executive sessions of independent directors are held on a quarterly basis. During the last fiscal year, these sessions were led by Mr. James Keyes, who was the lead independent director until May 2006, when he was elected Chairman of the Board of Directors. You may contact the Board of Directors by sending an email to board@lsi.com. In accordance with instructions from the Board, the Corporate Secretary to the Board reviews all correspondence, organizes the communications for review by the Board, and posts communications to the full Board or individual directors as appropriate. The Company’s directors have requested that certain items that are unrelated to the Board’s duties, such as spam, junk mail, mass mailings, solicitations, resumes and job inquiries, not be posted. Although the Company does not have a policy with respect to attendance by directors at annual meetings of stockholders, the Company customarily schedules Board and committee meetings on the same day as the annual meeting of stockholders to encourage and facilitate director attendance at the annual meeting. All of the Company’s then current directors attended the Company’s annual meeting held in May 2006. -7- FINANCIALS PROXY STATEMENT CORPORATE INFORMATION During the year ended December 31, 2006, all incumbent directors attended more than 75% of the aggregate number of meetings of the Board of Directors and meetings of the committees of the Board on which they served. Audit Committee As of the mailing date of this proxy statement, the Audit Committee consists of Dr. Currie, who serves as its chairman, Mr. Haggerty, Mr. Keyes, Mr. Norby and Mr. O’Rourke. The Audit Committee held nine meetings during the last fiscal year. The Audit Committee reviews the Company’s accounting policies and practices, internal controls, financial reporting practices, contingent risks and risk management strategies and plans. The Audit Committee selects and retains the Company’s independent registered public accounting firm to examine the Company’s accounts, reviews the independence of the independent registered public accounting firm as a factor in making these determinations and pre-approves all audit and non-audit services performed by the independent registered public accounting firm. The Audit Committee regularly meets alone with the Company’s management, independent registered public accounting firm, and the director of the Company’s Internal Audit Department, and grants them free access to the Audit Committee at any time. All members of the Audit Committee are financially literate, as such qualification is interpreted by the Company’s Board of Directors in its business judgment. In addition, Messrs. Keyes, Norby and O’Rourke are designated as financial experts of the Audit Committee, as defined by SEC rules. Stockholders interested in communicating with the Audit Committee may do so by sending an email to auditchair@lsi.com. The Audit Committee has established a policy for pre-approval of audit and permissible non-audit services. The Audit Committee reviews and approves the independent registered public accounting firm’s annual audit plan and any subsequent engagements. The Audit Committee requires that all audit and permissible non-audit services be submitted to it for review and approval in advance. In addition, the Audit Committee has approved the expenditure of up to $100,000 per year on fees for PwC related to, but not contemplated by, the audit plan, provided that such expenditure is approved, in advance, by the Company’s chief financial officer, and is reported to the Audit Committee at the next regular meeting. Occasionally, a subcommittee of the Audit Committee, consisting of two members, pre-approves certain services. The entire Audit Committee ratifies the subcommittee’s pre-approval in a subsequent meeting of the Audit Committee. In 2006, the Audit Committee followed these guidelines in approving all services rendered by PricewaterhouseCoopers LLP. Compensation Committee As of the mailing date of this proxy statement, the Compensation Committee consists of Mr. O’Rourke, who serves as its chairman, Dr. Currie, Mr. Haggerty, Mr. Keyes and Mr. Reyes. The Compensation Committee held five meetings during the last fiscal year. The scope of the Compensation Committee’s authority is set forth in its charter. At least annually, the Compensation Committee establishes the Company’s overall executive compensation strategy, and, in particular, determines the compensation structure and package for the chief executive officer and other executive officers, as well as director compensation. In addition, the Compensation Committee establishes the goals of the Company’s executive officers, and amends or recommends that the Board of Directors amend these goals or arrangements if the Compensation Committee deems it appropriate. The Compensation Committee evaluates and reviews the performance of the chief executive officer and makes recommendations to the Board, as appropriate. The Compensation Committee also reviews the performance of all other executive officers in light of those aforementioned goals or arrangements on an annual basis. The Compensation Committee reviews and approves the Company’s stock option and other stock incentive award programs and reviews, as needed, executive compensation matters and significant issues that relate to executive compensation. In determining executive compensation, the Compensation Committee obtains advice and assistance from an independent consultant, Hewitt Associates LLC (“Hewitt”). The Compensation Committee provides Hewitt with information concerning executive compensation practices (base salary, target bonuses and equity compensation) for the purpose of benchmarking our practices against industry norms. Information is also compiled regarding the compensation practices of other companies from, and we contribute information to, a national survey of executive compensation practices, and provides information to Hewitt regarding certain companies that participate in the survey. Hewitt then analyzes the data in conjunction with its own internal database of information and information compiled from publicly available sources. Using this information, Hewitt develops proposed compensation recommendations and submits them to -8CORPORATE INFORMATION PROXY STATEMENT FINANCIALS the Compensation Committee. The Compensation Committee reviews the compensation recommendations and discusses them with Hewitt, and may propose changes to the recommendations prior to approving a final executive compensation package. The Compensation Committee may form subcommittees for any purpose that it deems appropriate and may delegate to such subcommittees such power and authority as the Committee deems appropriate. However, the Compensation Committee can not delegate to a subcommittee any power or authority required by any law, regulation or listing standard to be exercised by the Compensation Committee as a whole. Stockholders interested in communicating with the Compensation Committee may do so by sending an email to compensationchair@lsi.com. Compensation Committee Interlocks and Insider Participation FINANCIALS The Compensation Committee is composed entirely of independent directors, none of whom has any interlocking relationships as defined by the Securities and Exchange Commission. Nominating and Corporate Governance Committee The Nominating and Corporate Governance Committee held four meetings during the last fiscal year. As of the mailing date of this proxy statement, the Nominating and Corporate Governance Committee consists of Mr. Reyes, who serves as its chairman, Mr. Chen, Mr. Keyes, Mr. Miner and Mr. Norby. The Nominating and Corporate Governance Committee recommends individuals to the full Board of Directors qualified to serve as directors of the Company and on committees of the Board of Directors, recommends to the Board the director nominees for each annual meeting of stockholders, and is charged with advising the Board of Directors with respect to Board composition and procedures, and whether to form or dissolve committees. The Nominating and Corporate Governance Committee also advises the Board of Directors with respect to the corporate governance principles applicable to the Company and develops criteria for oversight of the evaluation of the Board and management. The Nominating and Corporate Governance Committee may retain and, in the past, has retained professionals to assist in identifying and evaluating candidates for director nominees. Although there are no specific, minimum qualifications for nominees, each nominee to the Board of Directors is considered on the basis of his or her likelihood to enhance the Board’s ability to manage and direct the affairs and businesses of the Company, including, when applicable, to enhance the ability of committees of the Board to fulfill their duties and satisfy any requirements imposed by law, regulation, or exchange listing requirements. The Nominating and Corporate Governance Committee will consider properly submitted stockholder recommendations for candidates for election to the Company’s Board of Directors at the 2008 annual meeting if received no later than December 31, 2007. The Nominating and Corporate Governance Committee uses the same criteria described above in assessing candidates recommended by stockholders. The name of any recommended candidate for director, together with a brief biography, a document indicating the candidate’s willingness to serve and evidence of the nominating person’s ownership of Company stock should be sent to the attention of the Nominating and Corporate Governance Committee at nominatingchair@lsi.com. Stockholders may use the same email address to communicate other matters to the Nominating and Corporate Governance Committee. Director Compensation During the prior fiscal year and through March 31, 2007, members of the Board of Directors, who are not employees of the Company, received an annual fee of $35,000, paid quarterly, plus $2,000 for each regular Board meeting they attend in person. Board members are also reimbursed for expenses for attendance at regular Board and committee meetings. For attendance at additional telephonic meetings, members receive a fee of $1,000 per meeting. In addition, the Chairman of the Board receives an annual fee of $5,000. Each director receives $1,000 for attending a committee meeting that is not held in conjunction with a meeting of the Board of Directors. Notwithstanding the foregoing, members of the Audit Committee receive $1,000 for each Audit Committee meeting they attend, regardless of whether it is held in conjunction with a Board of Directors meeting. In addition, -9- PROXY STATEMENT CORPORATE INFORMATION the Audit Committee’s designated financial experts receive an additional $5,000 for their services annually, and the Audit Committee chairman receives an additional annual fee of $7,000. Beginning April 1, 2007, members of the Board of Directors who are not employees of the Company will receive an annual fee of $60,000, paid quarterly. They will continue to be reimbursed for expenses for attendance at regular Board and committee meetings, and the Chairman of the Board will continue to receive an annual fee of $5,000. Members of the Audit Committee will receive an annual fee of $15,000, and members of the Compensation Committee the Nominating and Corporate Governance Committee will receive an annual fee of $10,000. Each committee chair will receive an annual fee of $7,500. Board members will no longer be entitled to fees for attending individual meetings, unless the Chairman determines that the number of meetings is extraordinary and that meeting attendance fees are appropriate. The Company’s Amended 1995 Director Option Plan, as adopted by the Board of Directors and approved by the stockholders, provides for the grant of non-statutory stock options to non-employee directors of the Company. Under a non-discretionary formula approved by the stockholders, each non-employee director is granted an initial option to purchase 30,000 shares of common stock on the date on which he or she first becomes a director. In addition, on April 1 of each year, each non-employee director is automatically granted a subsequent option to purchase 30,000 shares of common stock of the Company, if on the date of grant he or she has served on the Board of Directors for at least six months. The vesting schedule for initial options granted under the Amended 1995 Director Option Plan is set at 25% on each of the first four anniversaries of the grant date. Subsequent option grants become exercisable in full six months after the date of grant. Options may be exercised only while the optionee is a director of the Company, within 12 months after death or within three months after the optionee ceases to serve as a director of the Company for a reason other than death, but in no event after the ten-year term of the option has expired. The table below summarizes the compensation paid by the Company to each person who served as a nonemployee Director at any time during the fiscal year ended December 31, 2006. Director Compensation for Fiscal Year Ended December 31, 2006 Change in Pension Value and Nonqualified Deferred Compensation Earnings ($) (f) PROXY STATEMENT FINANCIALS CORPORATE INFORMATION Name (a) Fees Earned or Paid in Cash ($) (b) Stock Awards ($) (c) Option Awards ($) (d)(1) Non-Equity Incentive Plan Compensation ($) (e) All Other Compensation ($) (g) Total ($) (h) James H. Keyes . . Timothy Y. Chen . TZ Chu. . . . . . . . Wilfred J. Corrigan . . . . . Malcolm R. Currie . . . . . . . Charles A. Haggerty . . . . . John H. F. Miner . R. Douglas Norby . Matthew J. O’Rourke . . . . . Gregorio Reyes . . Larry W. Sonsini . . . . . . . . . . . . 80,000 21,667 42,250 19,500 72,000 36,500 32,500 69,000 79,000 61,000 8,750 — — — — — — — — — — — 106,524 7,563 0(2) 0(3) 106,524 12,461 12,461 106,524 106,524 106,524 0(4) — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — 186,524 29,230 42,250 19,500 178,524 48,961 44,961 175,524 185,524 167,524 8,750 (1) For all directors, the amounts in column (d) reflect the dollar amount recognized for financial statement reporting purposes for the fiscal year ended December 31, 2006, with respect to options held by the director, as accounted for by the Company in accordance with FAS 123(R). For an explanation of assumptions underlying the valuation of stock option grant awards, refer to Note 3 of the consolidated financial statements in the Company’s Annual Report on Form 10-K for the fiscal year ended -10- December 31, 2006, filed with the SEC on March 1, 2007. For Messrs. Chu, Corrigan, Currie, Keyes, Norby, O’Rourke and Reyes, the full grant date fair value of options granted in fiscal year 2006, computed in accordance with FAS 123(R), is $106,524. The stock options granted to the recently appointed directors in 2006, as accounted for by the Company in accordance with FAS 123(R) consists of: for Mr. Chen, $91,323, for Mr. Haggerty, $102,852 and for Mr. Miner, $102,852. At fiscal year end, the aggregate number of option awards held by each director is as follows: Timothy Y. Chen, 30,000 shares, TZ Chu, 0 shares, Wilfred J. Corrigan, 4,850,000 (pursuant to the employment agreement dated September 2001 and amendments made in 2005 to certain stock option agreements, Mr. Corrigan’s exercise period is the term of each option, which is ten years from the grant date with respect to each stock option), Malcolm R. Currie, 235,000 shares, Charles A. Haggerty, 30,000 shares, James H. Keyes, 235,000 shares, John H.F. Miner, 30,000 shares, R. Douglas Norby, 165,000 shares, Matthew J. O’Rourke, 220,000 shares, Gregorio Reyes, 170,000 shares and Larry W. Sonsini, 0 shares. (2) Mr. Chu resigned from the Board of Directors in July 2006, prior to the vesting of any stock options granted in 2006. (3) Mr. Corrigan resigned from the Board of Directors in May 2006, prior to the vesting of any stock options granted in 2006. (4) Mr. Sonsini resigned from the Board of Directors in February 2006, prior to receiving the annual grant of stock options in 2006. FINANCIALS SECURITY OWNERSHIP The following table sets forth certain information with respect to the beneficial ownership of the common stock of the Company as of the Record Date, by all persons known to the Company to be beneficial owners of more than five percent of the Company’s common stock, by all directors, nominees for director and executive officers named in the Summary Compensation Table (“Named Executive Officers”) and by all current directors and executive officers as a group. PROXY STATEMENT Name Number of Shares Beneficially Owned Approximate Percentage Owned Black Rock, Inc.(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Morgan Stanley & Co., Inc.(2) . . . . . . . . . . . . . . . . . . . . . . . . . . . . Paulsen & Co., Inc.(3) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Timothy Y. Chen . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Malcolm R. Currie(4) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Charles A. Haggerty. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Richard S. Hill(5) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . James H. Keyes(6) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Michael J. Mancuso(7). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . John H. F. Miner(8) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Arun Netravali(9) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . R. Douglas Norby(10) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Matthew J. O’Rourke(11) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Gregorio Reyes(12) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Abhijit Y. Talwalkar(13) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Bryon Look(14) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Umesh Padval(15) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . D. Jeffrey Richardson(16) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Flavio Santoni(17) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Joseph M. Zelayeta(18) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . All current directors and executive officers as a group(19) . . . . . . . * Less than 1% 47,597,360 28,886,307 23,773,922 0 566,500 30,000 38,880 330,070 51,276 7,560 64,329 187,456 235,000 225,000 594,504 1,503,949 1,265,543 191,845 420,226 178,366 7,493,459 11.8% 7.1% 5.9% * * * * * * * * * * * * * * * * * 1.8% CORPORATE INFORMATION (1) As reported in Schedule 13G/A filed February 13, 2007, with the SEC by Black Rock, Inc. (“Black Rock”). Black Rock has shared voting and shared dispositive power over all shares. The address for Black Rock is 40 East 52nd Street, New York, NY 10022. -11- (2) As reported in Schedule 13G/A filed February 15, 2007, with the SEC by Morgan Stanley & Co. Inc. (“Morgan Stanley”) and Morgan Stanley & Co. International Limited (“Morgan Stanley International”). Morgan Stanley is a parent holding company and Morgan Stanley International is a broker-dealer doing business under the laws of the United Kingdom. Morgan Stanley has sole voting power over 28,883,764 shares, sole dispositive power over 28,886,307 shares and shared voting power over 543 shares. Morgan Stanley International has sole voting power over 26,202,258 shares and sole dispositive power over 26,204,258 shares. The address for Morgan Stanley is 1585 Broadway, New York, NY 10036, and the address for Morgan Stanley International is 25 Cabot Square, Canary Wharf, London, E14 4QA, England. (3) As reported in Schedule 13G filed February 15, 2007, with the SEC by Paulsen & Co., Inc. (“Paulsen”). Paulsen has sole voting and dispositive power over all shares. The address for Paulsen is 590 Madison Avenue, New York, NY 10022. (4) Includes options held by Dr. Currie to purchase 235,000 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. FINANCIALS (5) Represents the number of shares of LSI stock issuable upon exchange of Agere stock and options beneficially owned as of March 30, 2007. This amount assumes the successful completion of the Company’s proposed merger with Agere, which is expected to occur on April 2, 2007, pursuant to which Agere stock and stock options will be converted into LSI stock and stock options at the merger exchange ratio. (6) Includes options held by Mr. Keyes to purchase 235,000 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. (7) Represents the number of shares of LSI stock issuable upon exchange of Agere stock and options beneficially owned as of March 30, 2007. This amount assumes the successful completion of the Company’s proposed merger with Agere, which is expected to occur on April 2, 2007, pursuant to which Agere stock and stock options will be converted into LSI stock and stock options at the merger exchange ratio. PROXY STATEMENT (8) As of the mail date of this proxy statement, Mr. Miner owns 3,500 shares of Agere stock. The amount in the table assumes the successful completion of the Company’s proposed merger with Agere, which is expected to occur on April 2, 2007, pursuant to which Agere stock will be converted into LSI stock and stock options. (9) Represents the number of shares of LSI stock issuable upon exchange of Agere stock and options beneficially owned as of March 30, 2007. This amount assumes the successful completion of the Company’s proposed merger with Agere, which is expected to occur on April 2, 2007, pursuant to which Agere stock and stock options will be converted into LSI stock and stock options at the merger exchange ratio. (10) Includes options held by Mr. Norby to purchase 165,000 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. CORPORATE INFORMATION (11) Includes options held by Mr. O’Rourke to purchase 220,000 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. (12) Includes options held by Mr. Reyes to purchase 170,000 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. (13) Includes options held by Mr. Talwalkar to purchase 500,000 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. (14) Includes options held by Mr. Look to purchase 1,452,500 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. (15) Includes options held by Mr. Padval to purchase 1,238,010 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. (16) Includes options held by Mr. Richardson to purchase 162,500 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. (17) Includes options held by Mr. Santoni to purchase 397,300 shares, which are currently exercisable or will become exercisable within 60 days of the Record Date. (18) Mr. Zelayeta retired from the Company in August 2006. (19) Includes options to purchase an aggregate of 6,599,012 shares of the Company held by 11 executive officers and eight outside directors, which are currently exercisable or will become exercisable within 60 days of the Record Date. Does not include data with respect to Mr. Hill, Mr. Mancuso, Mr. Netravali and Mr. Zelayeta. -12- PROPOSAL TWO RATIFICATION OF APPOINTMENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Audit Committee has selected PricewaterhouseCoopers LLP, an independent registered public accounting firm, to audit the consolidated financial statements of the Company for its 2007 fiscal year and recommends that the stockholders vote for the ratification of such appointment. A representative of PricewaterhouseCoopers is expected to be present at the Annual Meeting, will be permitted to make a statement if desired and will be available to answer appropriate questions. The Audit Committee has considered whether the non-audit services provided by PricewaterhouseCoopers are compatible with maintaining the independence of PricewaterhouseCoopers and has concluded that the independence of PricewaterhouseCoopers is maintained and is not compromised by the services provided. The following represents fees billed by PricewaterhouseCoopers for professional services provided in connection with the audit of the Company’s annual financial statements for the fiscal years 2006 and 2005, and other services during these fiscal years. Nature of Services 2006 (In millions)($) 2005 (In millions)($) FINANCIALS Audit Fees . . . . . . . . . . . . . . . . . . Audit-Related Fees(1) . . . . . . . . . . Tax Fees(2) . . . . . . . . . . . . . . . . . All Other Fees . . . . . . . . . . . . . . . .......................... .......................... .......................... .......................... 3.1 0.7 1.3 0 2.6 0 1.2 0 (1) Audit-related service fees include fees for accounting assistance primarily related to due diligence activities in connection with mergers and acquisitions. (2) Tax fees represent fees charged for services for tax advice, tax compliance and domestic and international tax planning. PROXY STATEMENT Required Vote The affirmative vote of a majority of the Votes Cast at the Annual Meeting will be required to approve PROPOSAL TWO. Board Recommendation The Board of Directors recommends a vote “FOR” the appointment of PricewaterhouseCoopers LLP as the independent registered public accounting firm for the 2007 fiscal year. Unless you indicate otherwise, your proxy will be voted “FOR” the proposal. CORPORATE INFORMATION -13- AUDIT COMMITTEE REPORT The Audit Committee reviewed and discussed with management and PricewaterhouseCoopers the audited financial statements for the year ended December 31, 2006, management’s assessment of the effectiveness of the Company’s internal control over financial reporting and PricewaterhouseCoopers’ evaluation of the Company’s internal control over financial reporting. The Audit Committee has discussed with PricewaterhouseCoopers the matters required under Statement on Auditing Standard No. 61 (Communication with Audit Committees), and has received written disclosures and the letter required by the Independence Standards Board Standard No. 1 (Independence Discussion with Audit Committees) from PricewaterhouseCoopers and has discussed with them their independence. Based on the review and discussion referred to in the preceding paragraph, the Audit Committee recommended to the Board of Directors, and the Board of Directors approved the Audit Committee’s recommendation, that the audited financial statements be included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2006, for filing with the Securities and Exchange Commission. Members of the Audit Committee Dr. Malcolm R. Currie, Chairman Charles A. Haggerty James H. Keyes R. Douglas Norby Matthew J. O’Rourke CORPORATE INFORMATION PROXY STATEMENT FINANCIALS -14- PROPOSAL THREE STOCKHOLDER PROPOSAL ENTITLED “DIRECTOR ELECTION MAJORITY VOTE STANDARD PROPOSAL” The Company has received a stockholder proposal from the United Brotherhood of Carpenters and Joiners of America (“United Brotherhood of Carpenters”), 101 Constitution Avenue, N.W., Washington, D.C. 20001. The United Brotherhood of Carpenters has requested that the Company include the following proposal and supporting statement in its proxy statement for the 2007 Annual Meeting, and if properly presented, this proposal will be voted on at the Annual Meeting. The United Brotherhood of Carpenters beneficially owns 6,200 shares of Company common stock. The stockholder proposal is quoted verbatim in italics below. Management of the Company does not support the adoption of the resolution proposed below and asks stockholders to consider management’s response, which follows the stockholder proposal. Vote Required Approval of the stockholder proposal requires the affirmative vote of a majority of the Votes Cast. Stockholder Proposal FINANCIALS Director Election Majority Vote Standard Proposal Resolved: That the shareholders of LSI Logic Corporation (“Company”) hereby request that the Board of Directors initiate the appropriate process to amend the Company’s governance documents (certificate of incorporation or bylaws) to provide that director nominees shall be elected by the affirmative vote of the majority of votes cast at an annual meeting of shareholders, with a plurality vote standard retained for contested director elections, that is, when the number of director nominees exceeds the number of board seats. Supporting Statement: In order to provide shareholders a meaningful role in director elections, our Company’s director election vote standard should be changed to a majority vote standard. A majority vote standard would require that a nominee receive a majority of the votes cast in order to be elected. The standard is particularly well-suited for the vast majority of director elections in which only board nominated candidates are on the ballot. We believe that a majority vote standard in board elections would establish a challenging vote standard for board nominees and improve the performance of individual directors and entire boards. Our Company presently uses a plurality vote standard in all director elections. Under the plurality vote standard, a nominee for the board can be elected with as little as a single affirmative vote, even if a substantial majority of the votes cast are “withheld” from the nominee. In response to strong shareholder support for a majority vote standard in director elections, an increasing number of companies, including Intel, Dell, Motorola, Texas Instruments, Wal-Mart, Safeway, Home Depot, Gannett, Marathon Oil, and General Electric, have adopted a majority vote standard in company by-laws. Additionally, these companies have adopted director resignation policies in their bylaws or corporate governance policies to address post-election issues related to the status of director nominees that fail to win election. Other companies have responded only partially to the call for change by simply adopting post-election director resignation policies that set procedures for addressing the status of director nominees that receive more “withhold” votes than “for” votes. At the time of the submission of this proposal, our Company and its board has not taken either action. We believe the critical first step in establishing a meaningful majority vote policy is the adoption of a majority vote standard in Company governance documents. Our Company needs to join the growing list of companies that have taken this action. With a majority vote standard in place, the board can then consider action on developing post election procedures to address the status of directors that fail to win election. A combination of a majority vote standard and a post-election director resignation policy would establish a meaningful right for shareholders to elect directors, while reserving for the board an important post-election role in determining the continued status of -15PROXY STATEMENT CORPORATE INFORMATION an unelected director. We feel that this combination of the majority vote standard with a post-election policy represents a true majority vote standard. Statement in Opposition to Stockholder Proposal This proposal requests that the Company adopt a majority voting standard for director elections. The Company uses a plurality voting standard, the default standard under Delaware law. This voting standard provides that nominees who receive the most affirmative votes are elected to serve as directors. The Board of Directors recently amended the Company’s Corporate Governance Guidelines (the “Guidelines”) in a manner that the Board believes addresses many of the proponent’s concerns. The recent amendments to the Company’s Guidelines provide that in an uncontested election, any director nominee who receives a greater number of votes “withheld” from his or her election than votes “for” such election will tender his or her resignation for consideration by the Nominating and Corporate Governance Committee. The Nominating and Corporate Governance Committee would consider the resignation offer based on the circumstances that led to the majority “withheld” vote and would make a recommendation to the Board of Directors. Thereafter, the Board would promptly disclose its decision-making process and decision regarding whether to accept the director’s resignation offer, including the reasons for rejecting the offer, if applicable. A copy of the Guidelines is located on the Company’s website at www.lsi.com. The Board believes that the plurality voting standard that it uses for the election of directors is compatible with the cumulative voting provisions in the Company’s certificate of incorporation, which allow stockholders to aggregate their votes for a single director nominee, and, therefore, provide stockholders with a meaningful ability to express their preferences in the election of directors. PROXY STATEMENT FINANCIALS The Board also believes that it has a strong corporate governance process that is designed to identify and propose independent director nominees who will serve the best interests of the Company and its stockholders. The Nominating and Corporate Governance Committee, which is composed solely of independent directors, evaluates and recommends nominees for election based on their professional experience and their likelihood to enhance the Board’s ability to manage and direct the affairs and businesses of the Company. Relying on that process, the Company’s stockholders have historically elected strong and highly qualified directors, not only by a plurality, but by a substantial majority of the votes cast. Board Recommendation CORPORATE INFORMATION The Board unanimously recommends a vote “AGAINST” the stockholder proposal. Unless you indicate otherwise, your proxy will be voted “AGAINST” the proposal. -16- EXECUTIVE COMPENSATION AND RELATED INFORMATION COMPENSATION DISCUSSION AND ANALYSIS Objectives of Compensation Program and Overview Our compensation program is intended to provide each of our executive officers with a comprehensive compensation package based on performance that will motivate each of them to drive the achievement of our corporate objectives. In 2006, our principal corporate objectives were (i) to exceed our financial goals and strengthen our financial foundation and ability to increase stockholder value, and (ii) to expand and strengthen our product portfolio and customer relationships in our targeted storage and consumer electronics markets. Our compensation program is designed: • to align the interests of our executive officers with the long-term interests of our stockholders; • to pay market-competitive compensation that allows us to compete for top executive talent in the high technology industry; and • to attract, retain and reward individuals who contribute to our success. To meet these objectives, we have adopted the following guidelines for our executive officer compensation program: • We seek to establish base salary levels and employee benefit programs that are based on competitive executive compensation practices. We do not, as a general rule, seek to be trendsetters in the marketplace with respect to executive compensation; but due to our stature as a medium-sized company competing with larger companies for scarce executive talent, we feel compelled to set compensation in a manner that maintains our attractiveness and competitiveness in the high-technology industry. • We seek to utilize short-term cash incentives that are paid based upon our achievement of specified corporate financial goals and that vary according to an individual’s contribution to our performance. These cash incentive programs result in a substantial portion of the aggregate annual cash compensation of our executive officers being contingent upon our performance and upon the individual contributions of our executive officers to our success. • We seek to offer equity opportunities that create long-term incentives for improving total stockholder return. We believe that offering our executive officers the ability to acquire ownership of our common stock through receipt of stock options and restricted stock units aligns the interests of our executives with the long-term interests of our stockholders. Compensation Committee The Compensation Committee of our Board of Directors administers our executive officer compensation programs. The Compensation Committee determines the appropriate levels of compensation for each executive officer and the appropriate allocations between long-term and short-term compensation and between cash and noncash elements of compensation. In determining appropriate executive compensation levels and compensation elements, the Compensation Committee considers our corporate objectives and the objectives of our executive officer compensation programs and approves and recommends the chief executive officer compensation structure to the Board of Directors. The members of the Compensation Committee are selected by our Board of Directors. As of the mailing date of the proxy statement, the Compensation Committee consists of five non-employee, independent members of the Board of Directors: Mr. Matthew J. O’Rourke (Chairman), Dr. Malcolm R. Currie, Mr. Charles A. Haggerty, Mr. James H. Keyes and Mr. Gregorio Reyes. None of the Compensation Committee members has any interlocking relationships as defined by the Securities and Exchange Commission. Each Compensation Committee member qualifies as an “outside” director under Section 162(m) of the Internal Revenue Code and as a “non-employee” director under Rule 16b-3 under the Securities Exchange Act of 1934. The Compensation Committee has available -17FINANCIALS PROXY STATEMENT CORPORATE INFORMATION to it such external compensation advice and data as the Compensation Committee deems appropriate (and as described below for 2006). During 2006, the Compensation Committee held four (4) formal sessions to review our compensation programs and policies, which were held on the same dates as regular meetings of our Board of Directors. In addition, the Compensation Committee held a telephonic meeting in December 2006 to discuss, among other things, the bonus pool for 2006. The Compensation Committee also signed a unanimous written consent in May 2006 to grant Andrew S. Hughes equity awards in connection with his appointment by the Board of Directors to the position of General Counsel of the Company. Although the Compensation Committee acts independently, the entire Board of Directors often attends the meetings of the Compensation Committee, as well as the meetings of other committees of the Board of Directors. The Compensation Committee also invites the Board’s employee benefits counsel (a member of Wilson Sonsini Goodrich & Rosati) to attend most of the Compensation Committee meetings. The Compensation Committee occasionally calls executive sessions during which members of management and/or non-independent directors are excluded from attendance. Compensation Consultant The Compensation Committee engaged Hewitt, an independent compensation consulting firm, to assist the Compensation Committee in its review of proposed 2006 compensation for the executive officers. Hewitt has been providing consulting services to the Compensation Committee since late 2005. Hewitt has not provided any consulting services to LSI other than the services that it has provided as a consultant to the Compensation Committee. External Benchmarks of Competitive Compensation Practices In analyzing our executive officer compensation programs, the Compensation Committee reviews benchmarks established from an analysis of the executive compensation practices of a designated peer group of companies. For 2006, our designated peer group included 25 high technology companies, including semiconductor, storage systems, storage components and networking companies. This group of companies was selected by our management and reviewed and approved by the Compensation Committee, which believes that these companies are generally similar to us in terms of size, revenue and business objectives and that they are the principal companies with whom we compete for talent. The companies in the peer group for 2006 were: Adaptec, Inc. Advanced Micro Devices, Inc. Agere Systems Inc. Altera Corporation Analog Devices, Inc. Applied Materials, Inc. Atmel Corporation Broadcom Corporation Brocade Communications Systems Conexant Systems, Inc. Cypress Semiconductor Corporation EMC Corporation Fairchild Semiconductor International KLA-Tencor Corporation Lam Research Corporation Linear Technology Corporation Marvell Technology Group Ltd. Micron Technology, Inc. National Semiconductor Corporation Network Appliance, Inc. NVIDIA Corporation QLogic Corporation Qualcomm, Inc. Sun Microsystems, Inc. Xilinx, Inc. CORPORATE INFORMATION PROXY STATEMENT FINANCIALS This peer group of companies is the same as the group of companies that was used by our management and the Compensation Committee to benchmark compensation information for 2005, with the exception that Sun Microsystems, Inc. was substituted for Storage Technology Corporation in the 2006 list after Storage Technology Corporation was acquired by Sun Microsystems. -18- The Compensation Committee provided Hewitt with information concerning our executive compensation practices (base salary, target bonuses and equity compensation) for the purpose of benchmarking our practices against industry norms. Information is also compiled regarding the compensation practices of other companies from, and we contribute information to, a national survey of executive compensation practices called the “Radford Executive Survey.” Of the 25 peer group companies listed above, 22 of the companies participated in the Radford Executive Survey. Hewitt analyzed the data in the Radford Executive Survey regarding the 22 companies that participated in the Radford Executive Survey, in conjunction with its own internal database of information and information compiled from publicly available sources, such as corporate proxy statements. For the three peer group companies that did not participate in the Radford Executive Survey, Hewitt compiled compensation data solely from publicly available information. Using this information, Hewitt developed proposed compensation recommendations, and presented the information and its proposed recommendations to the Compensation Committee. The benchmarking studies conducted by our management and Hewitt provided information for each of base salary, target bonus and equity compensation, as well as total compensation. We typically aim to have the aggregate of base salary, bonus and equity compensation fall within the 3rd quartile (that is, between the 50th and 75th percentiles) of our designated peer group. The Compensation Committee considers the recommendations presented by Hewitt, but the Compensation Committee acts independently and is not bound to accept, and does not always accept, Hewitt’s recommendations. For 2006, the Compensation Committee reviewed, discussed and proposed certain changes to Hewitt’s recommendations. The Compensation Committee reviewed and approved the total compensation package of all of our executive officers, including each of the elements of compensation discussed below, and determined the amounts to be reasonable and competitive for the high technology industry and within our designated peer group of companies. In addition, the Compensation Committee reviewed and recommended for approval to the Board of Directors the chief executive officer’s compensation package. Elements of Compensation Our executive officer compensation program includes a number of elements of compensation. The principal elements of our executive officer compensation program include: • base salary; • bonus incentives, which consisted of a cash bonus for Mr. Talwalkar, which for part of the year was guaranteed at the time of his 2005 hiring and paid in 2006, and cash incentive bonuses for Mr. Talwalkar and our other executive officers based on 2006 organizational and personal performance goals (which were paid in early 2007); • stock options; • restricted stock units; • executive perquisites, and • benefits that are generally available to all of our employees. Our executive officers do not receive deferred compensation, retirement benefits or any other benefits other than eligibility to participate in the same programs and on the same basis as all of our other employees. Other than with respect to generally available benefits, the Compensation Committee reviews each element of compensation separately and total compensation as a whole. The Compensation Committee determines the appropriate mix of elements with a view to furthering our compensation objectives and to ensuring that we remain competitive with the executive officer compensation practices of our designated peer group of companies. The overall compensation packages for the Named Executive Officers in 2006 was not materially increased nor materially decreased from 2005. -19CORPORATE INFORMATION FINANCIALS PROXY STATEMENT In determining the extent of the use and the weight of each element of compensation, the Compensation Committee considers the effect and importance of each element in meeting our compensation objectives. For example, base salary, executive perquisites and generally available benefits allow us to remain competitive in the marketplace in order to continue to attract top talent. Bonuses based on the achievement of organizational and personal performance goals provide incentives to our executive officers to achieve our business goals and improve stockholder return, while allowing us to stay competitive in the marketplace. Stock options and restricted stock units also provide incentives to our executive officers to increase stockholder value, as well as to remain with LSI. The Compensation Committee generally considers whether a proposed mix of all of the elements of a compensation package meet our compensation objectives when taken as a whole. Although our executive officers are entitled to certain severance and change-in-control benefits (as described below), the Compensation Committee generally does not consider such benefits to be elements of compensation for purposes of its annual review of the compensation of our executive officers, because such benefits may not ever become payable to our executive officers and receipt of such benefits may not be, in whole or in part, within the control of our executive officers. In determining annual executive compensation, the Compensation Committee also does not typically take into consideration amounts realizable from prior grants of equity compensation or gains on such compensation, as the Compensation Committee believes that this could impair the achievement of the compensation goals for the current fiscal year. Base Salary The Compensation Committee reviews and determines the base salaries of our executive officers on an annual basis, in connection with the hiring of a new executive officer and in connection with changes in the job responsibility or title of an executive officer. The Compensation Committee typically conducts its annual review of base salaries in February of each year. To maintain competitiveness, we target total compensation, including base salary, target bonus percentage and equity compensation, within the 3rd quartile of our designated peer group. This target, and our need to stay competitive among our peer group, is the primary determinant of base salary, although the Compensation Committee also takes into account an individual’s performance and the base salary levels of our other executive officers. For the last three years (including 2006), the Compensation Committee has budgeted base salary increases of three percent (3%) or four percent (4%) per year for our executive officers, although actual salary increases have varied from such amount and our executive officers have not necessarily received a salary increase every year. The actual salary increases for some of our Named Executive Officers has deviated from this three percent (3%) or four percent (4%) budget in some cases, but not materially. Mr. Talwalkar did not receive an increase in base salary for 2006. Bonus Incentives We have a cash incentive plan that provides for payments of annual cash bonuses to our executive officers (other than the Chief Executive Officer) and to other members of our senior management based on corporate performance and personal performance goals, subject to a maximum aggregate budget for all awards under the plan. The Compensation Committee establishes bonus targets for each executive officer as a percent of such executive officer’s base salary. We do not target the cash incentive bonus element of our executive officer compensation programs at a specific percentile of the bonuses paid by our designated peer group companies, but we do target that aggregate compensation (the combination of base salary, target bonuses and equity compensation) should fall within the 3rd quartile (that is, between the 50th and 75th percentiles) of aggregate compensation for our designated peer group of companies. For each year, the Compensation Committee establishes certain minimum financial goals that we must meet before bonuses will be paid under our cash incentive plan, as well as certain maximum levels of aggregate bonus payments. For 2006, the Compensation Committee established certain minimum operating income thresholds that needed to be achieved before any payments would be made to any of our employees under our cash incentive plan, with higher minimum operating income thresholds being established before any bonus payments would be made to any of our executive officers. The Compensation Committee selected operating income as the basis for the targeted corporate performance goals because the Compensation Committee deemed operating income to be the best -20- CORPORATE INFORMATION PROXY STATEMENT FINANCIALS expression of our financial success for these purposes. For 2006, the Compensation Committee also determined that total payouts under our cash incentive plan with respect to 2006 should not exceed eight percent (8%) of our operating income for 2006. The Compensation Committee generally seeks to establish corporate performance goals that are achievable, but that are set at a level such that the achievement of the goals will take significant effort by the executive officers and is not assured. For 2006, the initial corporate performance goals were established by the Compensation Committee in February 2006. At the time when the 2006 corporate operating income goals were set, the Compensation Committee believed that it would be difficult to fully meet the goals as determined by internal Company methodology from internal management reports. Later in the year, the Compensation Committee reviewed the initially-established 2006 operating income targets and determined that such targets were no longer realistic under then current business conditions. As a result, the Compensation Committee modified the minimum required operating income levels in August 2006, but left the proposed maximum aggregate size of the bonus pool the same. We exceeded these modified minimum required operating income levels for 2006. In addition to the corporate performance goals, the Compensation Committee also considers an executive officer’s individual performance against specific performance goals for such executive officer in determining bonus payments for each executive officer. The Compensation Committee made final determinations of 2006 cash incentive bonus payments for our executive officers at its February 2007 meeting. At this same meeting, the Compensation Committee determined Mr. Talwalkar’s bonus for 2006. Equity Awards PROXY STATEMENT FINANCIALS We currently grant both stock options and restricted stock units to our executive officers under our stockholderapproved equity incentive plans. We believe that granting a mix of stock options and restricted stock units will maintain strong emphasis on corporate performance while meeting our employee retention objectives. The Compensation Committee grants stock options and restricted stock units annually, at pre-scheduled meetings, to the Named Executive Officers, except with respect to promotions and new hires. Since awards are typically granted only at pre-scheduled meetings, the release of material non-public information does not affect the timing of awards. During 2006, the Compensation Committee granted equity awards to our executive officers at the Compensation Committee’s meeting in February 2006. In addition, the Compensation Committee granted equity awards to Andrew S. Hughes in May 2006 by unanimous written consent, in connection with Mr. Hughes’ promotion to the position of General Counsel of the Company. Stock options are granted at an exercise price equal to the fair market value of our common stock on the date of grant. Stock Options With respect to stock options, the Compensation Committee maintains a set of guidelines for grants to individual executive officers. The Compensation Committee’s guidelines specify different levels of recommended option grants to our Chief Executive Officer, our Executive Vice Presidents, our Senior Vice Presidents and our Vice Presidents. The guidelines were developed by our management, and were reviewed and approved by the Compensation Committee after consultation with Hewitt and review of the same benchmarking data obtained by us or Hewitt regarding our designated peer group of companies as described above. Stock option grants were made to certain of our executive officers during 2006 by reference to the guidelines. The Compensation Committee sometimes deviates from the guidelines in specific cases and often limits the size of equity grants to limit dilution. We do not separately target the equity element of our executive officer compensation programs at a specific percentile of the equity compensation granted by our designated peer group companies, but, as noted earlier, we do target that aggregate compensation (the combination of base salary, target bonuses and equity compensation) should fall within the 3rd quartile (that is, between the 50th and 75th percentiles) of aggregate compensation for our designated peer group of companies. Accordingly, the Compensation Committee determines the appropriate level of stock option and restricted stock unit compensation with a view to establishing an overall competitive compensation package. In setting equity award levels, we also take into consideration the impact of equity-based awards on the dilution of our stockholder’s interests in our common stock. -21- CORPORATE INFORMATION FINANCIALS Our stock options generally have a seven-year maximum term and typically are scheduled to vest in equal annual installments over a four-year period. However, one-half of the stock options that were granted to Mr. Talwalkar in 2005 are scheduled to vest in full only after he has been in service to the Company for six years, subject to acceleration if he meets certain performance goals. The Compensation Committee felt that it was appropriate to apply this vesting schedule to Mr. Talwalkar to provide a tighter correlation between our performance and his individual compensation, since Mr. Talwalkar is in a unique position to affect and direct our business and operations. The general seven-year maximum term of our stock options was implemented recently with the thenproposed adoption of FAS(R) (previously our stock options provided for a ten-year term) because it reduces the accounting costs associated with stock options having longer terms and it also assists us in managing the “overhang” associated with outstanding stock options. “Overhang” is the number of options outstanding divided by the Company’s total shares outstanding. A high “overhang” indicates that there are a large number of unexercised stock options outstanding, which, if exercised, could dilute the value of our common stock. Stock options are awarded with exercise prices equal to the fair market value of the underlying stock as of the date of grant. We grant stock options because we believe that they provide effective incentives to increase long-term stockholder value. Since stock options provide value to an option holder only if the value of our common stock increases over the exercise price of the stock option, stock options encourage employees to work to increase the value of our stock. As a result, stock options are a “pay for performance” tool that rewards the recipients for helping to achieve increases in the value of our stock, as well as a retention tool to maintain executive commitment to the Company as stock option value grows. Restricted Stock Units PROXY STATEMENT Restricted stock units are awards that are paid in shares of our common stock upon vesting. Restricted stock units typically vest in equal annual installments over a four-year period, although we awarded restricted stock units to Mr. Talwalkar in 2005 that vest in equal annual installments over three years. Restricted stock units differ from stock options in that the primary purpose of restricted stock units is to encourage retention with the Company, as opposed to the primary incentive purpose of a stock option. Restricted stock units have immediate value to recipients because they generally are paid in shares as soon as the award vests and the shares have no or little out-ofpocket cost to the recipient. Executive Perquisites CORPORATE INFORMATION In addition to benefits generally available to all of our employees as described below, we provide the following perquisites to the Named Executive Officers. We provide these perquisites to offer market-competitive compensation and to attract top executive talent. • Car Allowance: We pay a car allowance of $1,000 per month in cash to our Chief Executive Officer and $800 per month in cash to our other executive officers, which amounts are included in the total cash compensation for each Named Executive Officer. This car allowance is intended to cover all incidental expenses associated with a Named Executive Officer’s use of a personal automobile for business purposes. As such, the Named Executive Officers are not reimbursed for personal car mileage, gas or any costs associated with the upkeep or maintenance of their personal automobile. • Annual Tax and Financial Counseling: We reimburse the Named Executive Officers for expenses incurred for tax planning and preparation, up to a maximum of $3,500 annually for our Chief Executive Officer and up to $2,500 annually for the other Named Executive Officers. • Estate Tax Planning: We reimburse the Named Executive Officers a lifetime maximum of up to $5,000 of legal expenses incurred by a Named Executive Officer for estate and trust planning expenses. • Executive Physical: examination. We reimburse the Named Executive Officers for the cost of an annual physical We reimburse the Named Executive Officers for the cost of one annual airline • Travel Lounge Membership: club membership fee. -22- • Travel/Living Expense: We pay an annual housing allowance of $60,000 to our Chief Executive Officer and we make lease payments for an apartment in California that is used by two other executive officers who do not reside in California. We also reimburse our Chief Executive Officer and these two other executive officers for certain airfare, car rental and other travel-related expenses. We agreed to provide these perquisites to our Chief Executive and certain other executive officers in order to attract them to join us at a time when they did not live in California. Historically, the Compensation Committee has also retained the discretion to award continuation of companypaid medical coverage to certain highly-ranked employees from the time of their retirement from the Company until they and their eligible dependants reach the age of 65. In 2006, this coverage was offered to Mr. Joseph M. Zelayeta, our former Executive Vice President, Corporate Initiatives, and Mr. David G. Pursel, our former General Counsel. In November 2006, the Compensation Committee decided that it would not offer this coverage to any other executives in the future. We also offer our executive officers the opportunity to enter into Rule 10b5-1 stock trading plans pursuant to which the executive officers can establish pre-determined programs for the purchase or sale of Company shares. This type of stock trading plan allows executive officers, at a time when he or she has no material non-public information, to schedule future sales or purchases of our common stock without causing a violation of our insider trading policy or applicable securities laws. Other Benefits The Named Executive Officers also participate in the same medical, dental, life insurance, disability coverage and other benefits that are provided to all of our US-based employees, as described below. • Medical, Dental, Vision, Employee Assistance Program, Flexible Spending and Disability Coverage: We make benefits such as medical, dental, vision, employee assistance program, flexible spending accounts and disability coverage available to all of our U.S.-based employees through our active employee benefit plans. Under these generally available plans, the Named Executive Officers are eligible to receive up to $15,000 per month in long-term disability coverage on the same basis as the rest of our U.S. salaried employees. The value of these benefits provided to the Named Executive Officers is not required to be included in the Summary Compensation Table since these benefits are made available on a companywide basis to all of our U.S. salaried employees. The cost to the Company of these benefits in 2006 for the Named Executive Officers was as follows: Officer Cost of Active Benefits FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Abhijit Y. Talwalkar . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . President and Chief Executive Officer Bryon Look . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Executive Vice President and Chief Financial Officer Umesh Padval . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Executive Vice President, Consumer Products Group D. Jeffrey Richardson . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Executive Vice President, Custom Solutions Group Flavio Santoni . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Executive Vice President, Worldwide Storage Sales and Marketing Joseph M. Zelayeta . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Former Executive Vice President, Corporate Initiatives -23- $11,177.30 $12,969.74 $13,041.14 $11,177.30 $12,969.74 $ 8,343.97 • Life and Travel Accident Insurance: We provide life insurance coverage to the Named Executive Officers in an amount up to four times the executive’s annual salary (up to a maximum of $1,500,000). In case of accidental death, the benefit amount is doubled. The Named Executive Officers may purchase supplemental life insurance to a maximum benefit of $750,000 at their own expense. The Named Executive Officers are also covered by a business travel accident policy of $300,000. The life and travel accident insurance coverage that is provided to our Named Executive Officers is two times what is generally available to our other U.S.-based employees. • Company 401(k) Plan: We maintain a 401(k) plan for the benefit of all of our U.S. employees in order to allow our employees to accumulate savings for retirement. We make a contribution to our 401(k) plan each year based on our profitability during the year, subject to the maximum contributions and other rules prescribed by Federal law governing such plans. Our Named Executive Officers are eligible to participate in our 401(k) plan and receive employer contributions on the same basis as any other U.S.-based employee. FINANCIALS • Employee Stock Purchase Plan: We maintain a Section 423 qualified Employee Stock Purchase Plan that provides our employees the opportunity to purchase our common stock through payroll deductions at 85% of the fair market value of the stock at the beginning of the one-year offering period or at the end of each 6-month purchase period. This benefit is made available to the Named Executive Officers on the same basis as it is offered to all of our employees. • Other Paid Time-Off Benefits: We also provide vacation and other paid holidays to all of our employees, including the Named Executive Officers, which are comparable to those provided at our designated peer group of companies. PROXY STATEMENT We do not have any pension plans or supplemental executive retirement plans for the Named Executive Officers or for any of our other U.S.-based employees. Severance and Change-in-Control Agreements We have entered into change-in-control agreements with our executive officers (other than Mr. Talwalkar, who has a different agreement). These agreements were designed to help ensure the continued services of our executive officers in the event that a change-in-control of the Company becomes a possibility, and to assist our executive officers in transitioning out of the Company if, as a result of a change-in-control, they lose their positions. We believe that the benefits and payments that our executive officers may become eligible to receive in connection with a change-in-control will help to ensure that our management team is able to evaluate objectively whether a potential change-in-control of the Company is in the best interests of the Company and its stockholders. The Compensation Committee reviewed prevalent market practices in determining the severance amounts and the basis for selecting events triggering payments in the agreements. A summary of the change-in-control severance agreements is set forth in “Executive Compensation — Change-in-Control and Employment Agreements — Change-in-Control Agreements.” The Compensation Committee reviewed the executive officers’ change-in-control agreements with Hewitt in 2006. Hewitt presented the Compensation Committee with data that indicated that our change-in-control agreements are generally in line with market practices, although they may be more egalitarian than the practices of many other companies. We have generally provided the same change-in-control agreements to most of our executive officers and have not differentiated the arrangements among executive officer positions as much as many other companies. The Compensation Committee intends to periodically review the total potential change-in-control costs to ensure that it and the Board of Directors understand the potential costs in various termination scenarios. Compensation of our Chief Executive Officer On May 23, 2005, the Company entered into an employment agreement with our newly appointed President and Chief Executive Officer, Abhijit Y. Talwalkar. Mr. Talwalkar has not entered into the form of change-in-control severance agreement to which each of the other executive officers is a party. In order to attract and to retain Mr. Talwalkar, and due to the higher level of responsibility that he has as our President and Chief Executive Officer (as compared to the other executive officers), Mr. Talwalkar’s benefits and payments pursuant to his employment -24- CORPORATE INFORMATION agreement in connection with his separation from employment with the Company (whether or not in connection with a change-in-control) differ from the benefits and payments that the other executive officers are eligible to receive under their change-in-control severance agreements. A summary of Mr. Talwalkar’s employment agreement is set forth in “Executive Compensation — Change-in-Control and Employment Agreements — CEO Employment Agreement.” Stock Ownership Guidelines We do not currently have any stock ownership guidelines for our directors or executive officers. In 2006, the Compensation Committee consulted with Hewitt regarding the benefits and drawbacks associated with stock ownership guidelines, but determined not to implement stock ownership guidelines at this time. Accounting and Tax Considerations In designing our executive compensation programs, we consider the accounting and tax effects that each component of the program will or may have on the Company and our executive officers. For instance, the seven-year maximum term that typically applies to stock options was implemented because, among other reasons, it reduces the accounting costs associated with stock options with longer terms. For incentive-based compensation, the Compensation Committee considers the desirability to qualify for deductibility by the Company under Section 162(m) of the Internal Revenue Code, as amended. Section 162(m) provides that non-performance-based compensation in excess of $1 million paid to certain executive officers is not deductible by the Company for tax purposes. The Compensation Committee balances the desirability to qualify for such deductibility with our need to maintain flexibility in compensating executive officers in a manner designed to promote our corporate goals as described above. As a result, the Compensation Committee has not adopted a policy that all compensation must be deductible. For example, although we decided to include Mr. Talwalkar’s bonus under our shareholder-approved incentive plan to allow the bonus amounts to be deductible for Section 162(m) purposes, the Compensation Committee paid the bonuses to the other Named Executive Officers outside of this plan. In addition, the restricted stock units granted to our executive officers are not designed to qualify for this deduction. The aggregate amount of compensation in 2006 that will not qualify for Section 162(m) deductibility will be approximately $1.6 million. COMPENSATION COMMITTEE REPORT The Compensation Committee of the Board of Directors of the Company has reviewed and discussed the Compensation Discussion and Analysis with management. Based on this review and discussion, the Compensation Committee has recommended to the Board of Directors that the Compensation Discussion and Analysis be included in this proxy statement. Members of the Compensation Committee Matthew J. O’Rourke, Chairman Dr. Malcolm R. Currie Charles A. Haggerty James H. Keyes Gregorio Reyes FINANCIALS PROXY STATEMENT CORPORATE INFORMATION -25- EXECUTIVE COMPENSATION Summary Compensation Table The following table sets forth the total compensation paid or earned by each of the Named Executive Officers for the fiscal year ended December 31, 2006. Change in Pension Value and Non-Equity Nonqualified Incentive Plan Deferred All Other Compensation Compensation Compensation ($)(4) Earnings ($) ($)(5) (g) (h) (i) Name and Principal Position (a) Year (b) Stock Option Salary ($) Bonus ($) Awards ($)(1) Awards ($)(2) (c) (d) (e) (f) Total ($) (j) Abhijit Y. Talwalkar . . . President and Chief Executive Officer Bryon Look . . . . . . . . . Executive Vice President and Chief Financial Officer Umesh Padval . . . . . . . Executive Vice President, Consumer Products Group D. Jeffrey Richardson . . Executive Vice President, Custom Solutions Group Flavio Santoni . . . . . . . Executive Vice President, Worldwide Storage Sales & Marketing Joseph M. Zelayeta. . . . Former Executive Vice President, Corporate Initiatives(6) 2006 800,000 2006 400,000 — 1,020,734 3,590,908(3) — 126,639 752,079 800,000 170,000 — — 147,180 25,831 6,358,822 1,474,549 FINANCIALS 2006 368,174 — 177,828 665,970 100,000 — 27,997 1,339,969 2006 400,000 — 361,184 607,715 190,000 — 81,281 1,640,180 PROXY STATEMENT 2006 347,074 — 122,266 529,671 170,000 — 23,071 1,192,082 2006 402,923 85,000 67,454 622,675 N/A — 227,784(7) 1,405,836 CORPORATE INFORMATION (1) The amounts in column (e) reflect the dollar amount recognized for financial statement reporting purposes for the fiscal year ended December 31, 2006 in accordance with FAS 123(R) for restricted stock units granted in and prior to 2006. The assumptions used in these calculations are set forth in Note 3 to the Company’s audited financial statements for the fiscal year ended December 31, 2006, which are included in the Company’s Annual Report on Form 10-K filed with the SEC on March 1, 2007. As a result of Mr. Zelayeta’s retirement from the Company, 275,000 unvested stock options were forfeited. (2) The amounts in column (f) reflect the dollar amounts recognized for financial statement reporting purposes for the fiscal year ended December 31 2006, in accordance with FAS 123(R) for stock options granted in and prior to 2006. The assumptions used in these calculations are set forth in Note 3 to the Company’s audited financial statements for the fiscal year ended December 31, 2006, which are included in the Company’s Annual Report on Form 10-K filed with the SEC on March 1, 2007. As a result of Mr. Zelayeta’s retirement from the Company, 30,000 unvested restricted stock units were forfeited. (3) This amount includes a pro-rata fair value determination of certain performance-based shares that were granted to Mr. Talwalkar at hire in 2005. The shares subject to such option will vest based on Mr. Talwalkar attaining certain performance criteria determined by the Compensation Committee of the Board of Directors. The shares subject to such option are scheduled to fully vest six years after the date of grant, whether or not the performance goals are met, subject to Mr. Talwalkar’s continued employment with the Company on each scheduled vesting date. No portion of these shares vested in the last fiscal year. (4) These amounts were paid in February 2007. (5) The table below entitled “Components of All Other Compensation” provides a breakdown for the amounts provided in column (i). (6) Mr. Zelayeta retired from the Company in August 2006. Upon his retirement, 275,000 unvested stock options and 30,000 unvested restricted stock units were forfeited and reverted to the Company’s stock plans from which they were granted originally. In addition, 1,270,000 vested stock options remained unexercised within 90 days of the termination date and were -26- forfeited and reverted to the Company’s stock plans from which they were granted originally. The amounts in the table reflect all stock that vested prior to his retirement. (7) For Mr. Zelayeta, “All Other Compensation” includes an additional amount of $207,500, paid pursuant to an agreement dated August 14, 2006 between the Company and Mr. Zelayeta, a copy of which was filed as an exhibit to a Current Report on Form 8-K with the Securities and Exchange Commission on August 14, 2006. The following table sets forth components of all other compensation paid or earned by each of the Named Executive Officers for the fiscal year ended December 31, 2006. Components of All Other Compensation Annual Annual Life Tax & Premium Premium Travel 401(k) Insurance Auto Financial Estate Basic Life AD&D Lounge Matching Premium Allowance Planning Planning Insurance Insurance Membership Contributions ($)(b) ($)(c) ($)(d) ($)(e) ($)(f) ($)(g) ($)(h) ($)(i) Travel/ Living Expense ($)(j) Name (a) Annual Profit Physical Sharing ($)(k) ($)(l) FINANCIALS Abhijit Y. Talwalkar . . . Bryon Look . . . . . . . . . Umesh Padval . . . . . . . . D. Jeffrey Richardson . . Flavio Santoni . . . . . . . Joseph M. Zelayeta(C) . . . . . . . . 840 12,000 980 0 1,932 9,600 0 0 1,260 9,600 2,500 0 840 9,600 850 0 1,260 9,600 475 4,000 3,625 6,400 0 0 1,080 1,080 1,080 1,080 1,009 720 216 216 216 216 202 144 300 0 350 300 350 0 10,169 10,246 9,941 9,708 4,761 9,395 116,518(A) 0 5,077 0 1,142 1,615 0 1,531 1,519 57,072(B) 0 1,615 0 0 1,414 0 0 0 (A) For Mr. Talwalkar, the amount in column (j) reflects $60,000 in housing allowance, $9,284 in other related travel expenses and $47,234 as an incremental amount of income tax gross-up to cover the housing allowance and commuting expenses. (B) For Mr. Richardson, the amount in column (j) reflects $19,798 in airfare, car rental and airport parking fees, $17,042 in payments for an apartment located in California that was leased in the Company’s name for use by Mr. Richardson (and one other executive officer) and $20,232 as an incremental amount of income tax gross-up to cover the apartment rental and commuting fees. (C) See also footnote (7) to the Summary Compensation Table for additional amounts paid to Mr. Zelayeta under “All Other Compensation.” PROXY STATEMENT CORPORATE INFORMATION -27- Grants of Plan-Based Awards for Fiscal Year Ended December 31, 2006 All All Other Other Option Stock Awards: Exercise or Grant Awards: Date Fair Base Number of Number of Value of Price Shares of Securities Underlying of Option Stock and Stock Option Awards Options or Units Awards ($/Sh) (#)(2) (#)(1) (i) (j) (k) (l) Name (a) Grant Date (b) Estimated Future Payouts Under Estimated Future Payouts Under Non-Equity Incentive Plan Awards Equity Incentive Plan Awards Threshold Target Maximum Threshold Target Maximum ($) ($) ($) (#) (#) (#) (c) (d) (e) (f) (g) (h) Abhijit Y. Talwalkar . . . . . . . . Bryon Look . . . . . . . . . . . . . FINANCIALS N/A N/A 2/8/06 2/20/06 D. Jeffrey Richardson . . . . . . . N/A 2/8/06 2/20/06 Umesh Padval . . . . . . . . . . . Flavio Santoni . . . . . . . . . . . Joseph M. Zelayeta(3) . . . . . . . N/A 2/8/06 N/A 2/8/06 N/A 0 0 — — 0 — — 0 — 0 — 0 800,000 2,000,000 220,000 440,000 — — — — 220,000 440,000 — — — — 206,938 — 192,610 — 228,250 413,876 — 385,220 — 456,500 — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — 40,000 — — 50,000 — — — — — — — 150,000 — — 150,000 — — 100,000 — 125,000 — — — 9.39 — — 9.39 — — 9.39 — 9.39 — — — 502,185 380,000 — 502,185 475,000 — 334,790 — 418,488 — (1) Represents restricted stock units granted under the Company’s 2003 Equity Incentive Plan (the “2003 Plan”). (2) Represents stock options granted under the Company’s 1991 Equity Incentive Plan (the “1991 Plan”). (3) Mr. Zelayeta retired from the Company in August 2006. He did not receive any payout under a non-equity incentive plan award for fiscal year 2006. Further, he did not receive any stock options or restricted stock units in fiscal year 2006. For a description of the terms of Mr. Talwalkar’s employment agreement, see “Executive Compensation — Change-in-Control and Employment Agreements — CEO Employment Agreement.” Under the 1991 Plan, the Company may grant stock options to employees, officers and consultants, with an exercise price that is no less than the fair market value of the stock on the date of grant. The term of each option is determined by the Board of Directors and, for options granted on or after February 12, 2004, the term of the options is generally seven years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. With respect to shares previously approved by stockholders, no incentive stock options may be granted under this plan after March 2001. The 2003 Plan was approved by stockholders in May 2003. Under this plan, the Company may grant stock options or restricted stock to employees, officers and consultants. Stock options have an exercise price that is no less than the fair market value of the stock on the date of grant. The term of each option or restricted stock award is determined by the Board of Directors and, for option grants on or after February 12, 2004, is generally seven years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. Restricted stock awards may be granted with the vesting requirements determined by the Board of Directors. CORPORATE INFORMATION PROXY STATEMENT -28- OUTSTANDING EQUITY AWARDS AT DECEMBER 31, 2006 Option Awards Equity Incentive Plan Awards: Number of Number of Number of Shares or Securities Securities Units of Underlying Underlying Stock That Option Unexercised Unexercised Option Unearned Exercise Expiration Have Not Options (#) Vested (#) Date Unexercisable Options (#) Price ($) (c) (d) (e) (f) (g) Stock Awards Equity Equity Incentive Incentive Plan Plan Awards: Awards: Market or Number of Market Payout Value of Unearned Value of Unearned Shares or Shares, Units Shares, Units or or Other Units of Other Rights Stock That Rights That That Have Not Have Not Have Not Vested ($) Vested (#) Vested ($) (h) (i) (j) Name (a) Number of Securities Underlying Unexercised Options (#) Exercisable (b) Abhijit Y. Talwalkar . . . Bryon Look . . . . . . . . Umesh Padval . . . . . . D. Jeffrey Richardson . . Flavio Santoni . . . . . . 0 125,000 375,000 0 37,500 100,000 187,500 200,000 300,000 50,000 100,000 120,000 70,000 20,000 80,000 0 50,000 50,000 50,000 37,500 100,000 100,000 91,560 683,950 0 125,000 0 18,800 94,000 56,250 37,500 75,000 — 2,000,000(1) 375,000(2) 1,125,000(3) 150,000(5) 112,500(6) 100,000(7) 62,500(8) 0 0 0 0 0 0 0 0 100,000(10) 150,000(11) 150,000(12) 50,000(13) 12,500(14) 0 0 0 0 150,000(16) 375,000(17) 125,000(19) 18,800(20) 94,000(21) 18,750(22) 12,500(23) 25,000(24) — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — 7.38 6.13 6.13 9.39 6.23 10.70 5.06 18.69 18.19 40.13 52.13 29.44 9.47 11.50 20.94 9.39 7.38 6.23 4.50 9.46 12.80 22.37 9.79 7.55 9.39 7.94 9.39 6.39 10.64 9.46 5.06 5.06 — 6/1/2012 5/23/2012 5/23/2012 2/8/2013 2/10/2012 2/12/2011 3/20/2013 11/15/2011 12/4/2010 8/18/2010 2/17/2010 8/13/2009 8/14/2008 11/14/2007 5/5/2007 2/8/2013 6/1/2012 2/10/2012 8/12/2011 8/13/2013 5/1/2012 8/16/2011 4/2/2009 9/10/2008 2/8/2013 6/13/2012 2/8/2013 10/29/2011 2/12/2011 8/13/2013 3/20/2013 3/20/2013 — 333,334(4) 3,000,006 — — — — 60,000(9) 540,000 — — — — — — — — — — — — — — — — — — — — — — 75,000(15) 675,000 — — — — — — — — — — — — — — — — 116,667(18) 1,050,003 — — 45,000(25) 405,000 — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Joseph M. Zelayeta (26) . . . . . (1) On June 1, 2005, Mr. Talwalkar was granted nonstatutory stock options to purchase 2,000,000 shares of the Company’s common stock under the 2003 Equity Incentive Plan. The shares subject to such option are scheduled to vest based on Mr. Talwalkar attaining certain performance criteria determined by the Compensation Committee of the Board of Directors. The shares subject to such option are scheduled to fully vest six years after the date of grant, whether or not the performance goals are met and subject to Mr. Talwalkar’s continued employment with the Company on each scheduled vesting date. No portion of the Additional Option vested in the last fiscal year. (2) The option was granted on May 23, 2005. Assuming continued employment with the Company on each scheduled vesting date, 125,000 shares will vest on May 23 of each of 2007, 2008 and 2009. (3) The option was granted on May 23, 2005. Assuming continued employment with the Company on each scheduled vesting date, 375,000 shares will vest on May 23 of each of 2007, 2008 and 2009. (4) The restricted stock units were granted on May 23, 2005. The shares will be converted on a one-to-one basis into shares of Company common stock immediately upon vesting. Assuming continued employment with the Company on each scheduled vesting date, 166,667 shares will vest on May 23 of each of 2007 and 2008. (5) The option was granted on February 8, 2006. Assuming continued employment with the Company on each scheduled vesting date, 37,500 shares will vest on February 8 of each of 2007, 2008, 2009 and 2010. -29- (6) The option was granted on February 10, 2005. Assuming continued employment with the Company on each scheduled vesting date, 37,500 shares will vest on February 10 of each of 2007, 2008 and 2009. (7) The option was granted on February 12, 2004. Assuming continued employment with the Company on each scheduled vesting date, 50,000 shares will vest on February 12 of each of 2007 and 2008. (8) The option was granted on March 20, 2003. Assuming continued employment with the Company on each scheduled vesting date, 62,500 shares will vest on March 20, 2007. (9) The restricted stock units were granted on February 20, 2006 and August 12, 2004. The shares will be converted on a one-to-one basis into shares of Company common stock immediately upon vesting. Assuming continued employment with the Company on each scheduled vesting date, 10,000 shares will vest on February 20 of each of 2007, 2008, 2009 and 2010 and 10,000 units will vest on August 12 of each of 2007 and 2008. (10) The option was granted on February 8, 2006. Assuming continued employment with the Company on each scheduled vesting date, 25,000 shares will vest on February 8 of each of 2007, 2008, 2009 and 2010. FINANCIALS (11) The option was granted on June 1, 2005. Assuming continued employment with the Company on each scheduled vesting date, 50,000 shares will vest on June 1 of each of 2007, 2008 and 2009. (12) The option was granted on February 10, 2005. Assuming continued employment with the Company on each scheduled vesting date, 50,000 shares will vest on February 10 of each of 2007, 2008 and 2009. (13) The option was granted on August 12, 2004. Assuming continued employment with the Company on each scheduled vesting date, 25,000 shares will vest on August 12 of each of 2007 and 2008. (14) The option was granted on August 13, 2003. Assuming continued employment with the Company on each scheduled vesting date, 12,500 shares will vest on August 13, 2007. PROXY STATEMENT (15) The restricted stock units were granted on June 20, 2005, February 20, 2005 and August 12, 2004. The shares will be converted on a one-to-one basis into shares of Company common stock immediately upon vesting. Assuming continued employment with the Company on each scheduled vesting date, 12,500 shares will vest on June 20 of each of 2007, 2008 and 2009, 7,500 shares will vest on February 20 of each of 2007, 2008 and 2009 and 7,500 shares will vest on August 12 of each of 2007 and 2008. (16) The option was granted on February 8, 2006. Assuming continued employment with the Company on each scheduled vesting date, 37,500 shares are scheduled to vest on February 8 of each of 2007, 2008, 2009 and 2010. (17) The option was granted on June 13, 2005. Assuming continued employment with the Company on each scheduled vesting date, 125,000 shares will vest on June 13 of each of 2007, 2008 and 2009. (18) The restricted stock units were granted on February 20, 2006 and June 20, 2005. The shares will be converted on a one-to-one basis into shares of Company common stock immediately upon vesting. Assuming continued employment with the Company on each scheduled vesting date, 12,500 shares will vest on February 20 of each of 2007, 2008, 2009 and 2010, 33,333 shares will vest on June 20, 2007 and 33,334 shares will vest on June 20, 2008. (19) The option was granted on February 8, 2006. Assuming continued employment with the Company on each scheduled vesting date, 31,250 shares will vest on February 8 of each of 2007, 2008, 2009 and 2010. (20) The option was granted on October 29, 2004. Assuming continued employment with the Company on each scheduled vesting date, 9,400 shares will vest on October 29 of each of 2007 and 2008. (21) The option was granted on February 12, 2004. Assuming continued employment with the Company on each scheduled vesting date, 47,000 shares are scheduled to vest on February 12 of each of 2007 and 2008. (22) The option was granted on August 13, 2003. Assuming continued employment with the Company on each scheduled vesting date, 18,750 shares will vest on August 13, 2007. (23) The option was granted on March 20, 2003. Assuming continued employment with the Company on each scheduled vesting date, 12,500 shares will vest on March 20, 2007. (24) The option was granted on March 20, 2003. Assuming continued employment with the Company on each scheduled vesting date, 25,000 will vest on March 20, 2007. (25) The restricted stock units were granted on December 20, 2005 and October 20, 2005. The shares will be converted on a one-to-one basis into shares of Company common stock immediately upon vesting. Assuming continued employment with the Company on each scheduled vesting date, 10,000 shares will vest on December 20 of each of each of 2007, 2008 and 2009 and 5,000 shares will vest on October 20 of each of 2007, 2008 and 2009. (26) Mr. Zelayeta retired from the Company in August 2006. CORPORATE INFORMATION -30- Options Exercises and Stock Vested for Fiscal Year Ended December 31, 2006 Option Awards Number of Shares Acquired on Value Realized Exercise (#) on Exercise ($) (b) (c) Stock Awards Number of Shares Acquired on Value Realized Vesting (#) on Vesting ($) (d) (e) Name (a) Abhijit Y. Talwalkar . . . . . . . . . Bryon Look . . . . . . . . . . . . . . . Umesh Padval . . . . . . . . . . . . . D. Jeffrey Richardson . . . . . . . . Flavio Santoni . . . . . . . . . . . . . Joseph M. Zelayeta . . . . . . . . . — — — — — 195,000 — — — — — 600,448 166,666 10,000 27,500 33,333 15,000 15,000 1,631,660 78,200 237,400 286,664 135,900 117,300 FINANCIALS Change-in-Control and Employment Agreements CEO Employment Agreement On May 23, 2005, Mr. Abhijit Y. Talwalkar joined the Company as President and Chief Executive Officer and entered into an employment agreement with the Company (the “Talwalkar Agreement”). The Talwalkar Agreement provides the following: Term of Talwalkar Agreement. The Talwalkar Agreement has an initial term of two (2) years. It provides that the initial term will be automatically extended each year for an additional one (1) year term unless the other party provides written notice of non-renewal at least 120 days prior to the date of automatic renewal that the other party is electing not to extend the term. The Talwalkar Agreement may be terminated at any time by either party with or without cause. Salary. The Talwalkar Agreement set Mr. Talwalkar’s annual salary at $800,000, effective as of May 23, 2005 (the “Effective Date”). In addition, Mr. Talwalkar received a signing bonus of $500,000 within 30 days of the Effective Date. Annual Incentive. The Talwalkar Agreement provides that Mr. Talwalkar will be eligible to receive annual cash incentives payable for the achievement of performance goals to be established by the Board of Directors or a committee of the Board of Directors. Mr. Talwalkar’s annual incentive target will be at least 100% of his base salary, and 100% of the target payout was guaranteed for his first year of employment. Equity Incentives. On May 23, 2005, Mr. Talwalkar was granted nonstatutory stock options to purchase 1,500,000 shares of Company common stock under the Company’s 1991 Equity Incentive Plan at an exercise price of $6.13 per share, the closing price on the New York Stock Exchange (“NYSE”) for the common stock of the Company on the Effective Date. The shares subject to such option vest at a rate of 25% on each anniversary of the grant over four years assuming Mr. Talwalkar’s continued employment with the Company on each scheduled vesting date. Mr. Talwalkar was also granted nonstatutory stock options to purchase 500,000 shares of Company common stock pursuant to a non-shareholder approved arrangement at an exercise price of $6.13 per share, which was the closing price per share on the NYSE for the Common Stock of the Company on May 23, 2005. Subject to the provisions of the Talwalkar Agreement, the terms and conditions of this grant are materially similar to those of the grant made under the Company’s 1991 Equity Incentive Plan and vest at a rate of 25% on each anniversary of the grant over four years assuming Mr. Talwalkar’s continued employment with the Company on each scheduled vesting date. In addition, Mr. Talwalkar was granted 500,000 restricted stock units under the Company’s 2003 Equity Incentive Plan. The restricted stock units will vest at a rate of 1/3 on each anniversary of the grant over three years assuming Mr. Talwalkar’s continued employment with the Company on each scheduled vesting date. Any portion of this grant that becomes vested will be settled in shares of Company common stock promptly after vesting. -31- PROXY STATEMENT CORPORATE INFORMATION On June 1, 2005, Mr. Talwalkar was also granted nonstatutory stock options to purchase 2,000,000 shares of the Company’s Common Stock under the 2003 Equity Incentive Plan at an exercise price of $7.38 per share (the “Additional Option”). The shares subject to the Additional Option vest based on Mr. Talwalkar attaining certain performance criteria determined by the Compensation Committee of the Board of Directors. The shares subject to such option are scheduled to fully vest six years after the date of grant, whether or not the performance goals are met and subject to Mr. Talwalkar’s continued employment with the Company on each scheduled vesting date. Relocation Benefits. The Company will maintain an office for Mr. Talwalkar in both Gresham, Oregon and Milpitas, California. During the first three months after the Effective Date, the Company reimbursed Mr. Talwalkar for all reasonable and actual costs associated with leasing a furnished apartment. In addition, during the first two years after the Effective Date, the Company will provide Mr. Talwalkar with a $5,000 per month housing allowance; and if Mr. Talwalkar sells his home located in the state of Oregon and purchases a new home in the San Jose, California area (or any other location in proximity to the Company’s then corporate headquarters) within the first two years from the Effective Date, the Company will reimburse Mr. Talwalkar for his reasonable and documented closing costs (including the reasonable cost of a broker’s commission) associated with such sale and/or purchase provided that Mr. Talwalkar complies with the Company’s then existing relocation policy, if applicable, and provided that Mr. Talwalkar uses a third party reasonably satisfactory to the Company to handle such sale, which has not occurred at this time. Severance. In the event that the Company terminates Mr. Talwalkar’s employment without cause or Mr. Talwalkar resigns for good reason, and such termination is not in connection with a change of control, Mr. Talwalkar will receive continued payment of base salary and health benefits for 18 months; payments in an amount equal to 150% of Mr. Talwalkar’s target bonus for the year in which the termination occurs; and 18 months accelerated vesting with respect to Mr. Talwalkar’s then outstanding, unvested equity awards with any such awards that have annual time-based installment vesting instead deemed to vest (for this purpose only) in monthly installments at the same overall rate and with such vesting acceleration to be measured beginning from the day immediately following the immediately preceding annual vesting date (notwithstanding the foregoing, the number of shares subject to the Additional Option that will vest will equal 25% of the total number of shares subject to the Additional Option less the number of shares that actually vest prior to the termination date) and with a post-termination exercise period equal to the earlier of (a) 12 months from the date of termination or (b) the applicable scheduled expiration date of such award as set forth in the award agreement. In the event that the Company terminates Mr. Talwalkar’s employment without cause or Mr. Talwalkar resigns for good reason, and such termination is in connection with a change of control, Mr. Talwalkar will receive continued payment of Mr. Talwalkar’s base salary and health benefits for 24 months; the then current year’s target incentive compensation pro-rated to the date of termination, with such pro-rated amount to be calculated by multiplying the current year’s target incentive compensation by a fraction with a numerator equal to the number of days between the start of the current calendar year and the date of termination and a denominator equal to 365; continued payments in an amount equal to 200% of Mr. Talwalkar’s target bonus for the year in which the termination occurs; and full accelerated vesting with respect to Mr. Talwalkar’s then outstanding unvested equity awards with post-term exercise period equal to the earlier of (a) 12 months from the date of termination or (b) the applicable scheduled expiration date of such award as set forth in the award agreement. For purposes of the Talwalkar Agreement, the following terms are defined as follows: “Cause” means: (i) Mr. Talwalkar’s willful and continued failure to perform the duties and responsibilities of his position following written demand and 30 days to cure; (ii) Any act of personal dishonesty taken by Mr. Talwalkar in connection with his responsibilities as an employee of the Company with the intention or reasonable expectation that such action may result in substantial personal enrichment of Mr. Talwalkar; -32- CORPORATE INFORMATION PROXY STATEMENT FINANCIALS (iii) Mr. Talwalkar’s conviction of, or plea of nolo contendre to, a felony that the Board reasonably believes has had or will have a material detrimental effect on the Company’s reputation or business; or (iv) A breach of any fiduciary duty owed to the Company by Mr. Talwalkar that has a material detrimental effect on the Company’s reputation or business. “Change of Control” means the occurrence of any of the following events: (i) The consummation by the Company of a merger or consolidation of the Company with any other corporation, other than a merger or consolidation that would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity) more than 50% of the total voting power represented by the voting securities of the Company or such surviving entity outstanding immediately after such merger or consolidation; (ii) The approval by stockholders of the Company, or if stockholder approval is not required, approval by the Board, of a plan of complete liquidation of the Company or an agreement for the sale or disposition by the Company of all or substantially all of the Company’s assets; (iii) Any “person” (as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934, as amended) becoming the “beneficial owner” (as defined in Rules 13d-3 under said Act), directly or indirectly, of securities of the Company representing 50% or more of the total voting power represented by the Company’s then outstanding voting securities; or (iv) A change in the composition of the Board, as a result of which fewer than a majority of the directors are Incumbent Directors. “Incumbent Directors” will mean directors who either (a) are directors of the Company as of the date hereof, or (b) are elected, or nominated for election, to the Board with the affirmative votes of at least a majority of those directors whose election or nomination was not in connection with any transactions described in subsections (i), (ii), or (iii) or in connection with an actual or threatened proxy contest relating to the election of directors of the Company. For purposes of the Talwalkar Agreement, “Good Reason” means the occurrence of any of the following without Mr. Talwalkar’s express written consent: (i) A significant reduction of Mr. Talwalkar’s duties, position or responsibilities; (ii) A substantial reduction by the Company, without good business reasons, of the facilities and perquisites (including office space and location) available to Mr. Talwalkar; (iii) A material reduction in the kind or level of employee benefits to which Mr. Talwalkar is entitled, with the result that Mr. Talwalkar’s overall benefits package is significantly reduced, other than pursuant to a one-time reduction that is also applied to substantially all other executive officers of the Company and that reduces the level of employee benefits by no more than 10%; (iv) A reduction in Mr. Talwalkar’s base salary or annual cash incentive, other than pursuant to a onetime reduction that is also applied to substantially all other executive officers of the Company and which onetime reduction reduces the base salary and/or annual cash incentive by no more than 10%; (v) The relocation of Mr. Talwalkar to a facility or location more than 25 miles from his current place of employment; or (vi) The failure of the Company to obtain the assumption of the Talwalkar Agreement by a successor. The severance payments, continued benefits and accelerated vesting will be subject to Mr. Talwalkar entering into (and not subsequently revoking): (1) a separation agreement and release of claims in a form satisfactory to the Company; (2) a non-compete and non-solicitation agreement that would be in effect during the period in which Mr. Talwalkar receives continuing salary from the Company; and (3) a non-disparagement agreement that would be in effect during the period in which Mr. Talwalkar receives continuing salary from the Company. -33CORPORATE INFORMATION PROXY STATEMENT FINANCIALS The following table shows the potential payments made upon termination or a change of control of the Company for Abhijit Y. Talwalkar, the Company’s President and Chief Executive Officer as of December 31, 2006. Dollar amounts have been calculated assuming that the termination occurred on December 31, 2006, when the closing stock price on the New York Stock Exchange was $9.00 per share. Termination Without Cause or Resignation For Good Reason (No Change in Control) ($) Termination Without Cause or Resignation For Good Reason and Change of Control ($) Executive Benefits & Payments Upon Separation Continued Base Salary Bonus FINANCIALS $1,200,000 — the equivalent of 18 months base salary $1,200,000 — the equivalent of 150% of target bonus payment for one year Continuation of Health Benefits Accelerated Vesting of Stock Options(1) PROXY STATEMENT Accelerated Vesting of Restricted Stock Units(2) Excise Tax Gross-Up $22,128 — the cost of 18 months of continued health benefits $3,680,000 — the value of accelerated vesting of stock options which would vest within 18 months of the date of termination $3,000,006 — the value of accelerated vesting of restricted stock units which would best within 18 months of the date of termination $3,200,000 $1,600,000 — the equivalent of 24 months base salary Up to $800,000 — the equivalent of 100% of target prorated to the date in which the change of control event occurs plus $1,600,000 — the equivalent of 200% of target bonus payment for one year $29,504 — the cost of 24 months of continued health benefits $7,545,000 — the value of accelerated vesting of all stock options $3,000,006 — the value of accelerated vesting of all restricted stock units $3,200,000 (1) Calculated as the intrinsic value per option, multiplied by the number of options that would have immediately vested on December 31, 2006. The intrinsic value per option is calculated as the excess of the closing market price on December 31, 2006, over the exercise price of the option. CORPORATE INFORMATION (2) Calculated as the intrinsic value of the restricted stock unit that would become immediately vested on December 31, 2006. The intrinsic value per restricted stock unit is the closing market price on December 31, 2006. Change-in-Control Agreements In November 2003, and periodically thereafter, the Company entered into change-in-control severance agreements with the Company’s executive officers, except Mr. Talwalkar, to help ensure the continued services of management to the Company. For purposes of the change-in-control agreements made with the Named Executive Officers, a change in control of the Company is defined substantially in the same manner as is the Talwalkar Agreement described above. Under the change-in-control agreements, if the executive officer’s employment is terminated involuntarily at any time within 12 months after a change in control, the executive officer will receive a lump sum payment equal to the sum of two years’ base salary plus 200% of the executive officer’s target bonus for the year in which the change in control occurs, and continued health-care benefits during the two years following the termination. In addition, the vesting and exercisability of all unexpired options, unvested restricted stock and any other unexpired equity-based compensation awards that were granted at least six months prior to the change in control shall be automatically accelerated and fully vested and exercisable at the date of the involuntary termination. An additional payment will be made to an executive officer in order to offset the effect of any excise taxes on payments made to the executive officer under the change-in-control agreement, if applicable. These agreements shall terminate in November 2008 -34- and are expected to be renewed at that time, unless a change in control occurs, in which case the agreements shall terminate upon the date that all obligations of the parties have been satisfied. The following table shows the potential payments made upon involuntary termination within 12 months after a change in control of the Company to the Named Executive Officers, other than Mr. Talwalkar and Mr. Zelayeta, as of December 31, 2006. Accelerated Vesting of Accelerated Vesting of Lump Sum Severance Continuation Stock Options Granted Restricted Stock Units Payment (Two Years’ of Health at Least Six Months Granted at Least Six Salary Plus 200% of Benefits for Prior to Change in Months Prior to Excise Tax Target Bonus) Two Years Control Change in Control Gross-Up ($) ($) ($)(1) ($)(2) ($) Name Bryon Look . . . . . . . . . . . . . Umesh Padval . . . . . . . . . . . D. Jeffrey Richardson . . . . . Flavio Santoni . . . . . . . . . . . 1,240,000 1,166,376 1,240,000 1,085,620 29,504 29,504 29,504 29,504 557,875 883,500 397,500 196,818 540,000 675,000 1,050,003 405,000 620,000 583,188 620,000 542,810 FINANCIALS (1) Calculated as the intrinsic value per option, multiplied by the number of options that become immediately vested upon a change in control. The intrinsic value per option is calculated as the excess of the closing market price on the New York Stock Exchange on December 31, 2006 over the exercise price of the option. (2) Calculated as the intrinsic value per restricted stock unit, multiplied by the number of restricted stock units that become immediately vested upon a change in control. The intrinsic value per restricted stock unit is the closing market price on the New York Stock Exchange on December 31, 2006, which was $9.00 per share. PROXY STATEMENT Certain Transactions The Board of Directors monitors and reviews issues involving potential conflicts of interest and reviews and approves all related-party transactions. The Board of Directors monitors such matters as issues are brought to the attention of the Board pursuant to a review of completed director and officer questionnaires and annual director assessment questionnaires. Section 16(a) Beneficial Ownership Reporting Compliance Section 16(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), requires the Company’s directors, officers and beneficial owners of more than 10% of the Company’s common stock to file with the SEC initial reports of ownership and reports of changes in ownership of common stock and other equity securities of the Company. Based solely on its review of the copies of such reports received by it, or written representations from reporting persons, the Company believes that during the fiscal year ended December 31, 2006, its officers, directors and holders of more than 10% of the Company’s common stock complied with all Section 16(a) filing requirements. CORPORATE INFORMATION Deadline for Receipt of Stockholder Proposals Proposals of stockholders of the Company that are intended to be presented by such stockholders at the Company’s 2008 annual meeting and that stockholders desire to have included in the Company’s proxy materials relating to such meeting must be received by the Company no later than December 1, 2007, which is 120 calendar days prior to the anniversary of this year’s mail date, and must be in compliance with applicable laws and regulations in order to be considered for possible inclusion in the proxy statement and form of proxy for that meeting. Stockholder proposals that are not intended to be included in the proxy materials for such meeting, but that are to be presented by the stockholder from the floor are subject to advance notice provisions described below under “Other Matters.” -35- Other Matters According to the Company’s bylaws, in order to be properly brought before the meeting, a proposal not intended for inclusion in the Company’s proxy materials for the 2008 annual meeting of stockholders must be received by the Company no later than December 31, 2007, which is 90 calendar days prior to the anniversary of this year’s mail date, and the notice must set forth the following: (a) a brief description of the proposed matter and the reasons for conducting such business at the meeting; (b) any material interest of the stockholder in such business; (c) the name and address of such stockholder as they appear on the Company’s books; (d) the class and number of shares of the Company that are beneficially owned by the stockholder; and (e) all other information relating to such person that is required to be disclosed pursuant to Regulation 14A of the Securities Exchange Act of 1934. If the notice does not comply with the requirements set forth in the Company’s bylaws, the presiding officer of the meeting may refuse to acknowledge the matter. FINANCIALS Other than the action items contained in this proxy statement, the Company has not received advance notice of any stockholder proposals to be presented at the Annual Meeting. The Board of Directors March 21, 2007 CORPORATE INFORMATION PROXY STATEMENT -36- BOARD OF DIRECTORS As of March 30, 2007 Timothy Y. Chen Corporate Vice President and CEO, Greater China Region, Microsoft Corporation Mr. Chen is currently the Corporate Vice President and CEO, Greater China Region of Microsoft Corporation. From 2000 to 2001, Mr. Chen was CEO of 21CN CyberNet Corporation Ltd. From 1992 to 2000, he held various management and executive positions with Motorola China and was additionally named a Motorola Corporate Vice President in 1999. Previously, Mr. Chen was with the Bell Labs arm of Lucent Technologies (formerly AT&T, Inc.) in the United States, serving in a number of technical and marketing management capacities. Dr. Malcolm R. Currie Chairman, Real Spirit USA, Inc. Dr. Currie has served as Chairman of Real Spirit USA since May 2005. Prior to that time, he served as Chief Executive Officer of Currie Technologies, Inc. Dr. Currie served as Under Secretary of Defense for Research and Engineering from 1972 to 1977. He presently serves on the board of directors for Enova Systems, Inc., Regal One Corporation and Inamed Corporation. Charles A. Haggerty Retired Chairman and CEO, Western Digital Corporation President and CEO, LeConte Associates Mr. Haggerty is currently the President and Chief Executive Officer of LeConte Associates, a consulting and investment company. From 1993 to 2000, Mr. Haggerty was Chairman, President and Chief Executive Officer of Western Digital Corporation. Mr. Haggerty also serves on the board of directors of Beckman Coulter, Inc., Deluxe Corporation, Imation Corporation and Pentair, Inc. James H. Keyes Chairman of the Board; Retired Chairman — Johnson Controls, Inc. Mr. Keyes was elected as the Chairman of the Board of LSI Logic in May 2006. He served as Chairman of Johnson Controls, Inc. from October 2002 until his retirement in December 2003. He served as Chairman and CEO of that company from January 1993 to October 2002. Mr. Keyes also serves on the boards of directors of Pitney Bowes, Inc. and Navistar International Corporation. John H.F. Miner Retired President of Intel Capital Mr. Miner served as President of Intel Capital and Corporate Vice President of Intel Corporation until his retirement in 2005, concluding 22 years of service with Intel Corporation. From 1993 through 2001, Mr. Miner served in a general management capacity overseeing major product divisions including the enterprise server and communications products group at Intel. Additionally, he was named a corporate officer in 1996. Mr. Miner became General Manager, Intel Capital and was named President in 2004. Matthew J. O’Rourke Consultant; Retired Partner — Price Waterhouse LLP Mr. O’Rourke was a partner with the accounting firm Price Waterhouse LLP from 1972 until his retirement in June 1996. Since his retirement, Mr. O’Rourke has been engaged as an independent business consultant. R. Douglas Norby Private Investor; Retired Senior Vice President & CFO of Tessera Technologies, Inc. Mr. Norby served as Senior Vice President & Chief Financial Officer of Tessera Technologies, Inc. until his retirement in January 2006. He served as Vice President and Chief Financial Officer of Zambeel, Inc. from March 2002 until February 2003, and as Chief Financial Officer of Novalux, Inc. from December 2000 to March 2002. Prior to his tenure with Novalux, Inc., Mr. Norby served as Executive Vice President and Chief Financial Officer of LSI Logic from November 1996 to November 2000. Mr. Norby also serves on the board of directors of Alexion Pharmaceuticals, Inc., and ChipPac, Inc. FINANCIALS PROXY STATEMENT CORPORATE INFORMATION Gregorio Reyes Management Consultant; Former Chairman and CEO — Sunward Technologies, Inc. Mr. Reyes has been a private investor and management consultant since 1994. He co-founded Sunward Technologies in 1985 and served as Chairman and Chief Executive Officer until 1994. Mr. Reyes serves on the board of directors of Dialog Semiconductor and Seagate Technology. Abhijit Y. Talwalkar Chief Executive Officer, LSI Logic Corporation Mr. Talwalkar was appointed LSI Logic President and Chief Executive Officer, and elected to the company’s Board of Directors in May 2005. Mr. Talwalkar joined LSI Logic from Intel Corporation, where he served as Vice President and Co-General Manager of the Digital Enterprise Group, which is comprised of Intel’s Business Client, Server, Storage and Communications businesses. Previously, he served as Vice President and General Manager for Intel’s Enterprise Platform Group. In this position, he focused on developing, marketing and supporting Intel’s business strategies for enterprise computing. Prior to joining Intel in 1993, Mr. Talwalkar held senior engineering and marketing management positions at Sequent Computer Systems (now part of IBM), Bipolar Integrated Technology Incorporated and Lattice Semiconductor Inc. Mr. Talwalkar received his bachelor’s degree in Electrical Engineering from Oregon State University in 1985. CORPORATE INFORMATION PROXY STATEMENT FINANCIALS LSI LOGIC CORPORATION BOARD OF DIRECTORS & COMMITTEE MEMBERS As of March 30, 2007 Board of Directors Timothy Y. Chen Dr. Malcolm R. Currie Charles A. Haggerty Audit Committee Compensation Committee Nominating & Corporate Governance Committee Dr. Malcolm R. Currie Dr. Malcolm R. Currie Timothy Y. Chen (Chairman) Charles A. Haggerty *James H. Keyes Charles A. Haggerty James H. Keyes Matthew J. O’Rourke (Chairman) James H. Keyes John H.F. Miner FINANCIALS James H. Keyes (Chairman) *R. Douglas Norby John H.F. Miner R. Douglas Norby Matthew J. O’Rourke Gregorio Reyes R. Douglas Norby Gregorio Reyes (Chairman) *Matthew J. O’Rourke Gregorio Reyes PROXY STATEMENT Abhijit Y. Talwalkar * Financial Expert CORPORATE INFORMATION EXECUTIVE OFFICERS As of March 30, 2007 Abhijit Y. Talwalkar President & Chief Executive Officer Philip G. Brace Senior Vice President Corporate Planning & Marketing Philip W. Bullinger Senior Vice President Engenio Storage Group FINANCIALS Donald J. Esses Executive Vice President Worldwide Operations Jon R. Gibson Vice President Human Resources Andrew S. Hughes Vice President, General Counsel & Corporate Secretary Bryon Look Executive Vice President & Chief Financial Officer Umesh Padval Executive Vice President Consumer Products Group D. Jeffrey Richardson Executive Vice President Custom Solutions Group Flavio Santoni Executive Vice President Worldwide Storage Sales & Marketing William J. Wuertz Senior Vice President Storage Components Group CORPORATE INFORMATION PROXY STATEMENT CORPORATE INFORMATION HEADQUARTERS ADDRESS LSI Logic Corporation 1621 Barber Lane Milpitas CA 95035 ANNUAL MEETING The Annual Meeting of Stockholders of LSI Logic Corporation will be held at 9:00 am local time on May 10, 2007 at: LSI Logic Corporation 1621 Barber Lane Milpitas CA 95035 SAFE HARBOR FOR FORWARD-LOOKING STATEMENTS This annual report contains for ward-looking statements regarding LSI Logic Corporation as well as forward-looking data provided by third parties. Actual results may differ materially due to a number of factors, such as risks associated with projections of growth in new and existing markets, projected growth in the global semiconductor industry and other risks described in the company’s report on Form 10-K included in this document. REGISTRAR & TRANSFER AGENT Computershare Trust Company, NA Stockholder Services P.O. Box 43023 Providence RI 02940-3023 1.877.498.8865 http:// www.computershare.com STOCKHOLDER INQUIRIES To notify LSI Logic of address changes, lost certificates or transfers of stock, stockholders of record should contact the company’s Registrar and Transfer Agent, Computershare Trust Company. Stockholders of record who receive more than one copy of this annual report can contact Computershare to arrange to have their accounts consolidated. Stockholders who own LSI Logic stock through a brokerage can contact their broker to request consolidation of their accounts. INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM PricewaterhouseCoopers LLP 10 Almaden Blvd San Jose CA 95113 LEGAL COUNSEL Wilson, Sonsini, Goodrich & Rosati 650 Page Mill Road Palo Alto CA 94304 INQUIRIES CONCERNING THE COMPANY Questions regarding LSI Logic’s operations, historical performance or recent results may be directed to: LSI Logic Corporation 1621 Barber Lane 408.954.4710. Milpitas CA 95035 Investor Relations Department PROXY STATEMENT FINANCIAL LITERATURE Publications of interest to current and potential investors, including copies of the company’s current 10-K filed with the Securities and Exchange Commission, are available without charge by calling 408.954.4710 Financial information is also available on the Internet at: http://www.lsi.com/investors FINANCIALS CORPORATE INFORMATION LSI Logic, the LSI Logic logo, CoreWare, DoMiNo, GigaBlaze, MegaRAID, RapidChip and ZSP are registered trademarks and Fusion-MPT and Zevio are trademarks of LSI Logic Corporation. All other brand and product names may be trademarks of their respective companies. EEO/AA Employer © 2007 LSI Logic Corporation Printed in USA (This page intentionally left blank) (This page intentionally left blank) (This page intentionally left blank) FI NANC I AL H I GHLI GH TS In thousands, except per share amounts F o r F isca l Ye a r s Op e r a t ing Re sult s Revenues Net income/(loss) Net income/(loss) per share Basic Diluted F ina ncia l P o sit io n Cash and short-term investments Total assets Stockholders’ equity Working capital 2006 $ 1,982,148 169,638 $ 0.43 0.42 2005 $ 1,919,250 (5,623) $ (0.01) (0.01) 938,909 2,796,066 1,627,950 877,350 2004 $ 1,700,164 (463,531) $ (1.21) (1.21) 814,585 2,874,001 1,618,046 969,007 2003 $ 1,693,070 (308,547) $ (0.82) (0.82) 813,689 3,447,901 2,042,450 998,786 2002 $ 1,816,938 (292,440) $ (0.79) (0.79) 989,976 4,012,736 2,300,355 1,228,242 $ 1,008,937 2,852,144 1,895,738 1,108,966 $ $ $ $ STOC K I NFOR M ATI ON 2006 Low $ 8.16 $ 8.46 $ 7.46 $ 8.05 $ 7.46 2005 Low $ 5.02 $ 5.11 $ 9.12 $ 7.70 $ 5.02 Stock Price Range Fiscal Calendar First Quarter Second Quarter Third Quarter Fourth Quarter Year High $11.56 $11.66 $ 9.06 $10.94 $11.66 High $ 6.47 $ 8.69 $10.48 $ 9.91 $10.48 At December 31, 2006, there were 3,236 owners of record of the company’s common stock. Symbol: LSI Exchange: NYSE Actual Shares Outstanding 12/31/06: 403,679,797 Average Daily Volume Stock Price Movement / $ per share 12 10 8 6 4 2 0 ‘05 JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC ‘06 JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC for 2006: 5,327,889 300 Trading Volume / millions of shares 275 250 225 200 175 150 125 100 75 50 25 0 ‘05 ‘06 JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC L S I LSI Logic Corporation 1621 Barber Lane Milpitas, CA 95035 USA TEL 866.574.5741 (inside U.S. and Canada) TEL +1.408.433.8000 (outside U.S. and Canada) www.lsi.com L O G I C 2 0 0 6 A N N U A L R E P O R T A N D P R O X Y S T A T E M E N T 0307-WQ-122K-10091