The following discussion of the financial condition and results of our operations should be read in conjunction with the Consolidated Financial Statements and notes thereto included elsewhere in this Annual Report.

OVERVIEW

We generate revenues from the sale of semiconductor devices that we have designed and developed or acquired. Almost all of our revenues in any given year come from the sale of semiconductors that are developed prior to that year. For example, 99% of our revenues in 2008 came from parts developed or acquired in 2007 and earlier. After an individual product is released for production and announced it may take several years before that product generates any significant revenues.

Our current revenues are generated by a portfolio of approximately 350 products. Our diverse product portfolio services a number of key end markets: the Enterprise Networking market which includes our products and solutions that enable the high-speed interconnection of servers, switches and storage devices that comprise these systems so that large quantities of data can be stored, managed and moved securely; the Wide Area Network Infrastructure market whereby our products and solutions are used in networking equipment such as multi-service switches and edge routers that gather and process signals in different protocols, and then transmit them from to the next destination as quickly and efficiently as possible; and the Access Networks market which encompasses both wired and wireless equipment that aggregates data traffic from enterprises and homes and transmits it to the central offices in the metropolitan area of the network.

We invest a substantial amount every year for the research and development of new semiconductor devices. We determine the amount to invest in the development of new semiconductors based on our assessment of the future market opportunities for those components, and the estimated return on investment. To compete globally we must invest in businesses and technologies that are both growing in demand and are cost competitive in the geographic markets that we serve. Going forward, we plan to continue to focus on finding innovative solutions to meet our customers' needs while finding further operational efficiencies.

We continue to expand our storage product offerings. A leading OEM customer is expected to begin volume production of our 6 Gbps SAS 2 RAID-on-Chip in 2009. Additionally, our partnership with IBM for the joint development of RAID technology is progressing well and we expect the products developed through this partnership will provide future growth for our storage business in 2010. We continue to benefit from our acquisition of the Storage Semiconductor Business from Avago in 2006 as we incorporate Fibre Channel controllers that we acquired with the SAS disk-interconnect products that we designed. For example, follow on products include our 8 gigabit Fibre Channel controller products, which improve data access times that have been made more challenging by data consolidation through virtualization and fixed content storage. These products are backward compatible with our 4 Gbps Fibre Channel products, allowing our customers to preserve their software investments.

We continue to penetrate Asian markets with our Fibre-To-The-Home ("FTTH") products. While our Ethernet Passive Optical Network ("EPON") solutions are firmly entrenched in Japan, we expanded our FTTH presence into China and Korea in 2008. In China, our EPON products are gaining traction in the marketplace as some of the Chinese carriers deploy EPON field trials. In Korea, we have introduced our second generation Gigabit Passive Optical Network ("GPON") devices which will enable carriers to incorporate triple-play GPON systems into existing equipment designs.

We are also offering customers a multi-service fibre access gateway solution with an integrated GPON interface. This product will enable carriers to expand high definition video offerings to consumers through mass deployment of higher bandwidth applications such as video picture sharing, peer-to-peer and data storage.

We are closely aligning with leading OEM customers supplying carriers who are investing in their networks to enable delivery of residential video services. We are well positioned for these network upgrade opportunities with solutions that have high data throughput and require lower power for our customers.

With regard to our communications business, we continue to see the convergence of networks and build-outs driving service provider requirements and large contracts for metro-optical transport and access equipment. We are seeing growth in demand for our access products as service providers expand their wired and wireless networks around the world.

We expect our SOC solutions to continue to penetrate the laser printer market as well as the network-attached storage market for small to medium sized businesses. We will also continue to pursue ASIC design wins with our leading OEM customers in this market.

Net Revenues ($ millions)

Net revenues for 2008 increased $75.7 million, or 17%, compared to net revenues for 2007. Revenues generated from the Enterprise Networking market, which is served by our storage and microprocessor-based SOC products increased 19% compared to 2007. Revenue generated from the Wide Area Network Infrastructure ("WAN") market remained flat. Revenues generated from the Access Networks market increased by 74%.

The growth in our Enterprise Networking market was generally attributable to an increase in storage capacity upgrades and information management solutions expenditures in the market place in 2008 compared to 2007. The sales of our microprocessor-based SOC products increased in 2008 compared to 2007 primarily due to increased activity in the laser printer market. The revenues from our Access Networks market grew due to the growth driven by sales growth in Asia and the emerging markets, particularly China. In 2008, there was an increase in shipments to our Chinese customers using Ethernet Passive Optical Network devices for field trials in the China market. In addition, shipments of our FTTH products to Japan and Korea increased as carriers continue to build out their networks.

An increase in net revenue of $4.2 million is also attributable to changes in 2007 in how we conduct business with one of the international entities of a certain distributor to a sell-through basis, which is consistent with our revenue practice for business conducted with that distributor.

Net revenues for 2007 increased $24.4 million, or 6% compared to net revenues for 2006. In 2007, the products we acquired from Passave and the Storage Semiconductor Business from Avago contributed an incremental $18.2 million to our net revenues due to full versus partial year of revenues in 2006. However, there was a year over year decrease in revenues from the acquired Storage Semiconductor Business as certain products reached their end of life. We had an 8% growth in our revenues generated from the Enterprise Networking market, which is served by our storage and microprocessor-based SOC products in 2007 when compared to 2006. Revenue generated in 2007 from the WAN Infrastructure market decreased by 12% and the revenues generated in 2007 from the Access Networks market decreased by 10% when compared to 2006. A decrease in net revenues of $4.2 is also attributable to changes in 2007 in how we conduct business with one of the international entities of a certain distributor to a sell-through basis, which is consistent with our revenue practice for business conducted with that distributor, as mentioned above.

Over the past three years, we have seen significant growth in net revenues generated in Asia. Net revenues from Asia were 73% of total net revenues in 2008, 65% of total net revenues in 2007 and 57% of total net revenues in 2006. We attribute this trend primarily to our increasing presence in the FTTH market, which is concentrated in Japan, Korea, China and Taiwan, and increased manufacturing outsourcing into Asia by our OEM customers.

Gross Profit ($ millions)



                                     2008       Change      2007       Change      2006
       Gross profit                 $ 343.4         18 %   $ 291.1          5 %   $ 278.5
       Percentage of net revenues        65 %                   65 %                   66 %

Total gross profit for 2008 increased by $52.3 million over gross profit in 2007. The gross profit as a percentage of revenues was approximately 65% in 2008 and 2007.

While product mix can influence our gross profit as a percentage of revenue from period to period, our underlying gross profit percentage in 2008 remained consistent with that in 2007 as changes in average selling price decreased in approximately the same proportion as decreases in manufacturing costs.

Total gross profit for 2007 increased by $12.6 million over gross profit in 2006. The acquisitions we completed in 2006 and growth in sales of our microprocessor and organic storage products had positive impacts on our gross profit, partially offset by the impact of declines in sales of our telecommunications products on gross profit.

The most significant items impacting the change in gross margin as a percentage of net revenues from 2006 to 2007 were:

• a change in product mix away from our telecommunications products toward our storage, FTTH and SOC products, which decreased gross margin by approximately 2%;

• in 2006, we sold inventory acquired from the Storage Semiconductor Business of Avago that was valued at its selling price, less related selling costs, as opposed to the lower manufacturing cost; there was no such expense incurred in 2007 and our gross margin increased by approximately 2% compared to 2006; and

• the combined impact of increased obsolescence provision and royalty expense decreased gross margin by approximately 1%.

Other Costs and Expenses ($ millions)



                                                 2008         Change         2007         Change         2006
Research and development                        $ 157.6           (1 )%     $ 159.1            0 %      $ 158.7
Percentage of net revenues                           30 %                        35 %                        37 %

Selling, general and administrative                93.5           (7 )%       100.5           (2 )%       102.4
Percentage of net revenues                           18 %                        22 %                        24 %

Amortization of purchased intangible assets        39.3           -  %         39.3           18 %         33.4
Percentage of net revenues                            7 %                         9 %                         8 %

In-process research and development                  -            -  %           -          (100 )%        35.3
Percentage of net revenues                           -  %                        -  %                         8 %

Restructuring costs and other charges           $   0.8          (95 )%     $  14.8          143 %      $   6.1
Percentage of net revenues                           -  %                         3 %                         1 %

Research and Development Expenses

Our research and development ("R&D"), expenses were $157.6 million, or $1.5 million and 1% lower in 2008 compared to 2007. Due to restructuring activities undertaken in the first quarter of 2007, our payroll-related costs decreased $5.9 million. Offsetting these decreases, we incurred $0.8 million in higher materials costs, including higher outside consultant services due to completing more tapeouts on smaller geometries in 2008

compared to 2007, as well, the IBM RAID R&D programs which began in first quarter of 2008, added additional costs in 2008. In addition, there was a $1.9 million increase in infrastructure related expenses due to normal maintenance of equipment and design related software tools, $1.7 million increase in the amortization of purchased intangibles mainly due to increased tools relating to the IBM RAID project and an increase of $0.1 million in other costs.

Our R&D expenses were flat in 2007 compared to 2006. Payroll costs increased by approximately $0.3 million due to an increase in stock based compensation expense. Office and facilities costs increased by $0.8 million due to supporting our Israel R&D facility for a full year in 2007 compared to seven months in 2006, and operating our Shanghai R&D facility that opened in 2007. These increases were partially offset by $0.6 million in lower material costs.

Selling, General and Administrative Expenses

Our selling, general and administrative ("SG&A") expenses were $7.0 million, or 7% lower in 2008 compared to 2007. The primary reason for the net decrease in SG&A expenses is the restructuring activities undertaken in the first quarter of 2007. As a result, payroll-related costs and facilities-related costs were lower by $4.9 million and $2.5 million, respectively. Professional fees were $2.1 million lower in 2008 compared to 2007, mainly due to settlement of a litigation matter in August 2007. Other SG&A costs were $2.5 million higher in 2008 compared to 2007. The primary reasons for the increase were that in 2007 we received a credit of $2.8 million arising from the favorable settlements of both a payroll tax matter with the United Kingdom tax authorities and a capital tax refund.

Our SG&A expenses were lower by $1.9 million, or 2%, in 2007 compared to 2006.

In 2006, we accrued $2.4 million for payroll withholding taxes associated with transactions from 2000 and prior. In 2007, we settled this matter for $0.2 million and reversed the remaining accrual, thus reducing SG&A by $4.6 million compared to 2006. Partially offsetting this reduction in costs was a $2.2 million increase in professional fees related to our settlement of litigation inherited from our Passave acquisition and the ongoing examination of our historic transfer pricing practices and policies of certain companies within the PMC-Sierra group. In 2007, we also received a capital tax refund of $0.5 million.

While we incurred increased payroll-related costs during the year due to the significant increase in the Canadian dollar relative to the U.S. dollar, this was offset by decreases in our stock-based compensation expense.

Amortization of purchased intangible assets and in-process research and development

Amortization of intangible assets acquired from the Storage Semiconductor Business and Passave was $18.9 million and $20.4 million, respectively, for 2008.

Passave

A portion of the purchase price for Passave was allocated to in-process research and development ("IPR&D") projects and was expensed in the second quarter of 2006 because technological feasibility had not been established and no future alternative uses existed. Projects acquired from Passave included EPON, and Analog Front End ("AFE") products, which are based on technology that provides a low-cost method of deploying optical access lines between a carrier's central office and a customer site and which provide further enhancements and functionality to the existing EPON series, and GPON products, which are more complex and support multiple protocols and provide further enhancements to the GPON series.

At the acquisition date of Passave, early revisions of the AFE products were in the final stage of testing and had been sent out to be manufactured or taped out, with estimated costs to complete of approximately

$0.4 million. At the end of the second quarter of 2007, production testing on AFE products was complete with costs in line with expectations, and no further development efforts were required. The EPON products are also complete and released to production, with no additional costs required to complete. By the end of the third quarter of 2007, the EPON products were shipping to customers.

GPON products were in the early design and prototype stages at acquisition, with estimated costs to complete of approximately $4.5 million at the acquisition date. With costs incurred in line with expectations, we are now shipping these products to customers. Another product was incorporated with other PMC technology and was completed in 2008. This product has earned several design wins, with shipments expected to begin in 2009.

Storage Semiconductor Business

A portion of the purchase price for the Storage Semiconductor Business was allocated to IPR&D projects and was expensed in the first quarter of 2006 because technological feasibility had not been established and no future alternative uses existed. Projects acquired and expensed include three next-generation Tachyon storage protocol products.

At the acquisition date, two of the next-generation Tachyon products had been taped out, with estimated costs to complete of approximately $0.8 million. These products are now in production, with costs incurred in line with expectations.

The third next-generation Tachyon product and a multi-protocol storage controller were in the early design stage at acquisition, with estimated costs to complete of approximately $10 million. We expect the third next-generation Tachyon product to ship in production volumes in 2009. By the end of the first quarter of 2006, the multi-protocol storage controller product was in the development stage, and based on feedback from our customers, we re-directed our design resources from this project to the ROC controller for the server-attached storage market, and the 8 Gbps Fibre Channel controllers for high-performance storage systems in the SAN and NAS markets, which went into production in 2009.

Restructuring Costs and Other Charges

The activity related to excess facility and severance accruals under our
restructuring plans during the three years ended December 28, 2008, by year of
plan, were as follows:

Excess facility costs



(in thousands)                         2007          2006          2005          2003          2001         Total
Balance at December 31, 2005          $    -       $     -       $  4,871      $  3,011      $  6,866      $ 14,748

Reversals and adjustments                  -             -            776        (2,300 )         776          (748 )
New charges                                -          2,338            -             -             -          2,338
Cash payments                              -           (227 )      (1,379 )        (162 )      (2,546 )      (4,314 )

Balance at December 31, 2006               -          2,111         4,268           549         5,096        12,024

Reversals and adjustments                  23          (441 )          -           (549 )         128          (839 )
New charges                             2,768            -            450            -            850         4,068
Cash payments                            (860 )      (1,081 )      (1,389 )          -         (2,130 )      (5,460 )

Balance at December 30, 2007            1,931           589         3,329            -          3,944         9,793

Reversals and adjustments                (393 )         (51 )          -             -           (747 )      (1,191 )
New charges                               230           130         1,085            -             -          1,445
Cash payments                            (938 )        (490 )      (1,366 )          -         (1,322 )      (4,116 )

Balance at December 28, 2008          $   830      $    178      $  3,048      $     -       $  1,875      $  5,931

Severance costs

   (in thousands)                   2007         2006         2005       2003    2001     Total
   Balance at December 31, 2005   $     -      $     -      $    485     $  -    $  -    $    485

   Reversals and adjustments            -            -          (350 )      -       -        (350 )
   New charges                          -         2,968        1,562        -       -       4,530
   Cash payments                        -        (2,432 )     (1,600 )      -       -      (4,032 )

   Balance at December 31, 2006         -           536           97        -       -         633

   Reversals and adjustments           144         (409 )        (59 )      -       -        (324 )
   New charges                       9,863           -            -         -       -       9,863
   Cash payments                    (8,889 )       (127 )        (38 )      -       -      (9,054 )

   Balance at December 30, 2007      1,118           -            -         -       -       1,118

   Reversals and adjustments          (378 )         -            -         -       -        (378 )
   New charges                         696           -            -         -       -         696
   Cash payments                    (1,429 )         -            -         -       -      (1,429 )

   Balance at December 28, 2008   $      7     $     -      $     -      $  -    $  -    $      7

2007

In the first quarter of 2007, we initiated a cost-reduction plan that involved staff reductions of 175 employees at various sites and the closure of design centers in Saskatoon, Saskatchewan and Winnipeg, Manitoba. We also vacated excess office space at our Santa Clara facility. PMC continued to rationalize costs in the fourth quarter of 2007 by reducing headcount by 18 employees primarily at the Burnaby facility.

In 2008, we recorded a net reduction of our accrual for excess facilities by $0.2 million, as we fulfilled a portion of these obligations and made payments of $0.9 million related to the 2007 plan. To date, we have incurred $10.3 million in termination and relocation costs, $2.6 million for excess facilities and contract termination cost and $2.6 million in asset impairment charges.

We have made payments of $12.1 million in connection with this plan. As of December 30, 2008, $7 thousand in severance costs remained to be paid and payments related to the excess facilities may extend until 2011.

We initially expected to save approximately $16 million in payroll-related costs on an annualized basis. We achieved the prorated portion of these expected cost savings in 2008. We continued to contain costs in accordance with our 2007 restructuring plan, however, we also initiated new R&D programs in 2008 which resulted in increases in payroll-related costs of approximately $4.9 million that partially offset the cost savings anticipated by the 2007 restructuring plan.

2006

In the third quarter of 2006, we closed our Ottawa development site in order to reduce operating expenses and the space was vacated by the end of the fourth quarter of 2006. Approximately 35 positions were eliminated, primarily from research and development, resulting in one-time termination benefit and relocation costs of $2.2 million, and $2.0 million for excess facilities. We also eliminated ten positions from research and development in our Portland development site, resulting in restructuring charges of $1.4 million, comprised of $0.8 million in severance, $0.3 million for excess facilities, $0.1 million for contract termination and $0.2 million in asset impairment.

In 2008, we recorded a net addition accrual of $0.1 million for our excess facilities, as the original assumptions regarding possible sublease of the exited facilities were not realized, and made payments of $0.5 million related to the 2006 plan.

To date, we have made payments relating to these activities of $4.4 million. As of December 28, 2008, all severance costs have been paid. Payments related to the excess facilities will extend to 2010.

2005

During 2005, we completed various restructuring activities aimed at streamlining production and reducing operating expenses. In the first quarter of 2005, we recorded restructuring charges of $0.9 million in severance costs related to the termination of 24 employees across all business functions. In the second quarter of 2005, we expanded the workforce reduction activities initiated during the first quarter and terminated 63 employees from research and development located in the Santa Clara facility. In addition, we consolidated two manufacturing facilities (Santa Clara, California and Burnaby, British Columbia) into one facility (Burnaby), which involved the termination of 26 employees from production control, quality assurance, and product engineering. As a result, we recorded total second quarter restructuring charges of $7.6 million, including $6.7 million for termination benefits and a $0.9 million write-down of equipment and software assets whose value was impaired as a result of these plans. In the third quarter of 2005, we consolidated our facilities and vacated excess office space in the Santa Clara location, and recorded a restructuring charge of $5.3 million for excess facilities and an additional $0.1 million in severance costs.

In the first quarter of 2006, we continued the workforce reduction plans initiated in 2005 and recorded $1.6 million in restructuring charges related to the termination of 19 employees, primarily from research and development, in the Santa Clara facility. During the third quarter of 2006, we reduced our estimated severance accrual related to the 2005 workforce reduction activities by $0.4 million, and increased the accrual for excess facilities related to the 2005 restructuring by $0.8 million. We further increased our accrual for excess facilities by $0.5 million in the fourth quarter of 2007. In 2008, we recorded an additional accrual for excess facilities of $1.1 million, as the original assumptions regarding possible sublease of the exited facilities were not realized, and made payments of $1.4 million related to the 2005 plan.

To date, we have made payments relating to these activities of $13.4 million. As of December 28, 2008, all severance costs have been paid. Payments related to the excess facilities will extend to 2011.

2003 and 2001

In 2003 and 2001, we implemented three restructuring plans aimed at focusing development efforts on key projects and reducing operating costs in response to the severe and prolonged economic downturn in the semiconductor industry. Our assessment of the market demand for our products and the development efforts necessary to meet this demand, were key factors in the decisions to implement these restructuring plans. As end markets for our products had contracted, certain projects were curtailed in an effort to cut costs. Cost reductions in all other functional areas were also implemented, as fewer resources were required to support the reduced level of development and sales activities during these periods.

The January 2003 restructuring included the termination of 175 employees and the closure of design centers in Maryland, Ireland and India, and vacating office space in the Santa Clara facility. To date, we have recorded restructuring charges of $18.3 million in accordance with Statement of Financial Accounting Standard No. 146, Accounting for Costs Associated with Exit or Disposal Activities, including $1.5 million for asset write-downs. These charges related . . .