10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

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

For the quarterly period ended October 1, 2006

OR

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

For the transition period from                       to                      

Commission file number 000-31337

WJ COMMUNICATIONS, INC.

(Exact name of registrant as specified in its charter)

DELAWARE	94-1402710
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)
401 River Oaks Parkway, San Jose, California	95134
(Address of principal executive offices)	(Zip Code)
(408) 577-6200
(Registrant’s telephone number, including area code)

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

Indicate by check mark whether 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 o    Accelerated filer x    Non-accelerated filer  o

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

As of November 1, 2006 there were 68,032,873 shares outstanding of the registrant’s common stock, $0.01 par value.

SPECIAL NOTICE REGARDING FORWARD-LOOKING STATEMENTS

This quarterly report on Form 10-Q, our Annual Report on Form 10-K, our shareholders’ annual report, press releases and certain information provided periodically in writing or orally by our officers, directors or agents contain certain forward-looking statements within the meaning of the federal securities laws that also involve substantial uncertainties and risks. These forward-looking statements are not historical facts but rather are based on current expectations, estimates and projections about our industry, our beliefs and our assumptions. Words such as “may,” “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks” and “estimates” and variations of these words and similar expressions, are intended to identify forward-looking statements. These statements are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond our control, are difficult to predict and could cause actual results to differ materially from those expressed, implied or forecasted in the forward-looking statements. In addition, the forward-looking events discussed in this report might not occur. These risks and uncertainties include, among others, those described in the section of this report and our Annual Report on Form 10-K for the year ended December 31, 2005 filed with the Securities and Exchange Commission on March 31, 2006 entitled “Risk Factors.” Readers should also carefully review the risk factors described in the other documents that we file from time to time with the Securities and Exchange Commission. We assume no obligation to update or revise the forward-looking statements to reflect events or circumstances after the date of this report or to reflect the occurrence of unanticipated events.

WJ COMMUNICATIONS, INC.
QUARTERLY REPORT ON FORM 10-Q
THREE MONTHS AND NINE MONTHS ENDED OCTOBER 1, 2006
TABLE OF CONTENTS

		Page
PART I	FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited)
	Condensed Consolidated Statements of Operations for the Three and Nine Months ended October 1, 2006 and October 2, 2005	2
	Condensed Consolidated Statements of Comprehensive Loss for the Three and Nine Months ended October 1, 2006 and October 2, 2005	3
	Condensed Consolidated Balance Sheets at October 1, 2006 and December 31, 2005	4
	Condensed Consolidated Statements of Cash Flows for the Nine Months ended October 1, 2006 and October 2, 2005	5
	Notes to Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	19
Item 3.	Quantitative and Qualitative Disclosure About Market Risks	33
Item 4.	Controls and Procedures	34
PART II	OTHER INFORMATION
Item 1A.	Risk Factors	35
Item 4.	Submission of Matters to a Vote of Security Holders	40
Item 6.	Exhibits	42
	Signatures	43

PART I — FINANCIAL INFORMATION

Item 1.  FINANCIAL STATEMENTS

WJ COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)

	Three Months Ended						Nine Months Ended
	October 1,			October 2,			October 1,			October 2,
	2006			2005			2006			2005
Net sales	$	12,741		$	8,094		$	37,494		$	19,891
Cost of goods sold	5,648			3,774			17,501			10,992
Gross profit	7,093			4,320			19,993			8,899
Operating expenses:
Research and development	4,235			4,451			14,024			13,591
Selling and administrative	4,423			3,632			13,680			11,644
Acquired in-process research and development	—			—			—			3,400
Total operating expenses	8,658			8,083			27,704			28,635
Loss from operations	(1,565		)	(3,763		)	(7,711		)	(19,736		)
Interest income	327			272			914			773
Interest expense	(14		)	(29		)	(60		)	(77		)
Other income—net	2			3			6			11
Loss before income taxes	(1,250		)	(3,517		)	(6,851		)	(19,029		)
Income tax benefit	(77		)	(123		)	(1,366		)	(123		)
Net loss	$	(1,173	)	$	(3,394	)	$	(5,485	)	$	(18,906	)
Basic and diluted net loss per share	$	(0.02	)	$	(0.05	)	$	(0.08	)	$	(0.30	)
Basic and diluted average shares	66,687			64,516			66,135			63,860

See notes to condensed consolidated financial statements.

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WJ COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In thousands)
(Unaudited)

	Three Months Ended						Nine Months Ended
	October 1,			October 2,			October 1,			October 2,
	2006			2005			2006			2005
Net loss	$	(1,173	)	$	(3,394	)	$	(5,485	)	$	(18,906	)
Other comprehensive income (loss):
Unrealized holding gains (losses) on securities arising during the period net of reclassification adjustments	4			(5		)	11			1
Comprehensive loss	$	(1,169	)	$	(3,399	)	$	(5,474	)	$	(18,905	)

See notes to condensed consolidated financial statements.

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WJ COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
(Unaudited)

	October 1,			December 31,
	2006			2005
ASSETS
CURRENT ASSETS:
Cash and cash equivalents	$	14,661		$	14,169
Short-term investments	12,387			16,052
Receivables (net of allowances of $377 and $122, respectively)	7,860			7,135
Inventories	3,939			4,826
Other	1,879			2,632
Total current assets	40,726			44,814
PROPERTY, PLANT AND EQUIPMENT, net	7,089			7,919
Goodwill	6,834			6,806
Intangible assets, net	1,028			1,884
Other assets	181			221
	$	55,858		$	61,644
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts payable	$	3,136		$	4,220
Accrued liabilities	4,197			3,811
Income tax contingency liability	418			1,818
Deferred margin on distributor inventory	4,295			3,217
Restructuring accrual	2,906			3,386
Total current liabilities	14,952			16,452
Restructuring accrual	11,883			13,390
Other long-term obligations	613			685
Total liabilities	27,448			30,527
STOCKHOLDERS’ EQUITY:
Preferred stock	—			—
Common stock	688			675
Treasury stock	(20		)	(19		)
Additional paid-in capital	207,413			205,320
Accumulated deficit	(179,673		)	(174,187		)
Deferred stock compensation	—			(663		)
Other comprehensive gain/(loss)	2			(9		)
Total stockholders’ equity	28,410			31,117
	$	55,858		$	61,644

See notes to condensed consolidated financial statements.

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WJ COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)

	Nine Months Ended
	October 1,			October 2,
	2006			2005
OPERATING ACTIVITIES:
Net loss	$	(5,485	)	$	(18,906	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization	2,463			2,329
Acquired in-process research and development	—			3,400
Amortization of deferred financing costs	23			31
Net gain on disposal of property, plant and equipment	(140		)	(8		)
Non-cash restructuring charges (reversals)	(18		)	52
Intangible assets impairment	637			—
Stock based compensation	1,293			836
Provision for allowance for doubtful accounts	18			19
Asset retirement obligations	(109		)	—
Amortization of net premiums on short-term investments	(15		)	173
Net changes in:
Receivables	(771		)	1,593
Inventories	887			81
Other assets	759			867
Restructuring liabilities	(1,969		)	(2,011		)
Income tax contingency liability	(1,400		)	(129		)
Deferred margin on distributor inventory	1,078			3,650
Accruals and accounts payable	(797		)	29
Net cash used in operating activities	(3,546		)	(7,994		)
INVESTING ACTIVITIES:
Purchase of short-term investments	(19,353		)	(27,887		)
Proceeds from sale and maturities of short-term investments	23,050			33,580
Purchases of property, plant and equipment	(1,330		)	(473		)
Acquisition of Telenexus and related costs	—			(3,218		)
Acquisition of EiC and related costs	—			(37		)
Proceeds on disposal of property, plant and equipment	214			398
Net cash provided by investing activities	2,581			2,363
FINANCING ACTIVITIES:
Payments on long-term borrowings	(32		)	(47		)
Repurchase of common stock	(96		)	(214		)
Net proceeds from issuances of common stock	1,585			1,123
Net cash provided by financing activities	1,457			862
Net increase (decrease) in cash and cash equivalents	492			(4,769		)
Cash and cash equivalents at beginning of period	14,169			24,392
Cash and cash equivalents at end of period	$	14,661		19,623
Other cash flow information:
Income taxes paid	$	45		$	6
Interest paid	37			46
Noncash investing and financing activities:
Increase in accounts payable related to property, plant and equipment purchases	12			—
Issuance of common stock for Telenexus acquisition	—			8,190

See notes to condensed consolidated financial statements.

5

WJ COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1.     BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation have been included, which are considered to be normal and recurring in nature. Operating results for the three and nine month periods ended October 1, 2006 are not necessarily indicative of the results that may be expected for the year ending December 31, 2006.  The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements of WJ Communications, Inc. (the “Company”) for the fiscal year ended December 31, 2005, which are included in the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 31, 2006. The balance sheet at December 31, 2005 has been derived from the audited consolidated financial statements at that date but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.

STOCK-BASED COMPENSATION – Effective January 1, 2006, the Company adopted the provisions of, and accounts for stock-based compensation in accordance with, the Financial Accounting Standards Board’s (“FASB”) Statement of Financial Accounting Standards No. 123 - revised 2004 (“SFAS 123R”), “Share-Based Payment” which replaced Statement of Financial Accounting Standards No. 123 (“SFAS 123”), “Accounting for Stock-Based Compensation” and supersedes APB Opinion No. 25 (“APB 25”), “Accounting for Stock Issued to Employees.” Under the fair value recognition provisions of this statement, stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense on a straight-line basis over the requisite service period, which is the vesting period. The Company elected the modified-prospective method, under which prior periods are not revised for comparative purposes. The valuation provisions of SFAS 123R apply to new grants and to grants that were outstanding as of the effective date and are subsequently modified. Estimated compensation for grants that were outstanding as of the effective date will be recognized over the remaining service period using the compensation cost estimated for the SFAS 123 pro forma disclosures adjusted for estimated forfeitures.

The adoption of SFAS 123R had a significant impact on our consolidated financial position, results of operations and statements of cash flows. See Note 8 for further information regarding our stock-based compensation assumptions and expenses, including pro forma disclosures for prior periods as if the Company had recorded stock-based compensation expense.

2.REVENUE RECOGNITION

Effective for the second quarter ended July 3, 2005, the Company recognizes revenue from its distribution channels only when its distributors have sold the product to the end customer. Although revenue is deferred until resale, title of products sold to distributors transfers upon shipment.  Accordingly, shipments to distributors are reflected in the consolidated balance sheets as accounts receivable and a reduction of inventories at the time of shipment.  Deferred revenue and the corresponding cost of sales on shipments to distributors are reflected in the consolidated balance sheets on a net basis as “Deferred margin on distributor inventory.”

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Historically, revenues from the Company’s distributors were recognized upon shipment based on the following factors:  the Company’s sales prices were fixed or determinable by contract at the time of shipment, payment terms were fixed at shipment and were consistent with terms granted to other customers, the distributors have full risk of physical loss, the distributors had separate economic substance, the Company had no obligation with respect to the resale of the distributors’ inventory, and the Company believed it could reasonably estimate the potential returns from its distributors based on their history and its visibility to the distributors’ success with its products and into the market place in general. The Company accrued for distributor right of return based on known events and historical trends in accordance with Financial Accounting Standards Board (“FASB”) Statement No. 48 “Revenue Recognition When Right of Return Exists,” and for price protection in accordance with Emerging Issues Task Force Issue No. 01-9, “Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the Vendor’s Products)”. Through the Company’s first quarter ended April 3, 2005 the amount of those reserves had not been material.  The Company accrued a reserve based on its reasonable estimate of future returns based on historical trends and contractual limitations.

The Company had historically received stock rotation requests from its distributors that were within the amounts estimated and contractually allowed with the only exception being the stock rotation in February, 2004 which was approximately $37,000 in excess of the amount contractually allowed.  However, the request from its distributor for stock rotation within the Company’s second quarter ended July 3, 2005 was again higher than the amount contractually allowed by approximately $51,000. Management, with the concurrence of the Company’s Audit Committee, believes the increasing percentage of new products introduced by the Company makes it likely that stock rotation reserves will continue to be difficult to estimate based on historical patterns and contractual provisions. Based on this change in facts and circumstances and management’s future expectations, the Company believes that it can no longer reasonably estimate the amount of future returns from its distributors as of July 3, 2005.  Accordingly, beginning in our second quarter of 2005, recognition of revenue and associated cost of sales on shipments to distributors is deferred until the resale to the end customer.  This change in application resulted in a $4.1 million revenue deferral in the Company’s second quarter of 2005 which is reflected in the accompanying unaudited condensed consolidated statements of operations for the  nine month period ending October 2, 2005.

As this change in the application of the Company’s revenue recognition policy is the result of a change in current facts and circumstances, in accordance with Accounting Principles Board Opinion No. 20 “Accounting Changes” paragraph 8, the Company accounted for the change within its second quarter ended July 3, 2005.

3.     ACQUISITIONS

EiC Acquisition

On June 18, 2004, the Company completed its acquisition of the wireless infrastructure business and associated assets from EiC. The aggregate purchase price was $13.3 million.  In connection with the acquisition, $1.5 million in cash and 294,118 shares of common stock were held in escrow as security against certain financial contingencies. On March 30, 2005, the Company made a claim against the escrow account for unpaid invoices issued under the supply agreement.  The Company received those funds on May 4, 2005.  The uncontested amount was released to EiC on April 5, 2005 per the escrow agreement and the residual balance of the $1.5 million was released to EiC on May 4, 2005. On March 24, 2006 the Company made a claim against 147,059 of the 294,118 shares in the escrow account pending resolution of claims made by a vendor regarding a pre-acquisition contract and released the uncontested 147,059 shares from escrow.  The Company reached a settlement with EiC on May 25, 2006 and the remaining 147,059 shares were released from escrow on June 16, 2006.

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The EiC acquisition agreement contained contingency clauses which could have required the Company to pay further compensation of up to $14.0 million if specific revenue and gross margin targets were achieved by March 31, 2005 and March 31, 2006 of which $7.0 million of additional compensation related to the period ended March 31, 2005. The Company determined that the revenue and the gross margin targets were not met for the period ending March 31, 2005, and this was communicated to EiC on May 31, 2005.  EiC subsequently notified the Company that it disagreed with the Company’s conclusions. While the Company believes EiC’s assertions are without merit and have notified EiC of such, there can be no assurance as to the eventual outcome of this matter. The remaining $7.0 million of potential additional consideration relates to the period ended March 31, 2006 and the Company has determined that the revenue targets were also not met for this period. The Company has communicated its conclusion to EiC and EIC has also contested this calculation. The Company believes EiC’s assertions are without merit and is preparing a response.  There can be no assurance as to the eventual outcome of this matter.  The $7.0 million would have been payable 10% in cash and, at the Company’s election, 90% in shares of its common stock. If the targets were fully attained and the Company elected to pay in shares of common stock, the number of additional shares issued would have been 2,540,323 computed at $2.48 per share which represents the average closing price of the Company’s stock on The Nasdaq Global Market (“NASDAQ”) during the ten day period prior to the end of the earnout period.  If the Company is ultimately required to pay such consideration, the amounts would be recorded as an increase to goodwill.

Telenexus Acquisition

On January 28, 2005, the Company completed its acquisition of Telenexus, Inc. (“Telenexus”). Telenexus designs, develops, manufactures and markets radio frequency identification (“RFID”) reader products for a broad range of industries and markets.  By virtue of the merger, the Company purchased all of the assets necessary for the conduct of the RFID business of Telenexus, consisting primarily of, and including, but not limited to RFID modules, baseband processing algorithm technology, applications software and realizations of several reader product designs. The consideration paid by the Company on the closing date in connection with the merger consisted of cash in the amount of $3.0 million and 2,333,333 shares of the Company’s common stock valued at $8.2 million at the closing date.  Including acquisition costs of $230,000, the aggregate purchase price for the net assets of Telenexus totaled $11.4 million.  Of the closing consideration, cash in the amount of $500,000 and 333,333 shares of the Company’s common stock were held in escrow with respect to any indemnification matter under the merger agreement. The outstanding cash balance of the escrow account less any properly noticed unpaid or contested amounts was to be distributed within two days after October 28, 2005.  The Company released the full amount of the cash balance of the escrow account on October 31, 2005. The 333,333 shares in the escrow account have been fully distributed. The fair value of the Company’s common stock was determined based on the average closing price per share of the Company’s common stock over a five day period beginning two trading days before and ending two trading days after the amended terms of the acquisition were agreed to and announced (January 31, 2005). In addition to the closing consideration, the selling shareholders would have been entitled to further compensation of up to $2.5 million in cash and up to 833,333 shares of the Company’s common stock if the Company had achieved certain revenue targets by July 28, 2006.  The Company has determined that the revenue targets were not met and has communicated its conclusion to the selling shareholders.   Any additional consideration to the selling shareholders would have changed the amount of the purchase price allocable to goodwill.  The acquisition was accounted for using the purchase method of accounting in accordance with SFAS 141, and accordingly the Company’s consolidated financial statements from January 28, 2005 include the impact of the acquisition.  A portion of the purchase price was allocated to developed and core technology and in-process research and development.  Developmental projects that had not reached technological feasibility and had no future alternative uses were classified as in-process research and development.  The $3.4 million value allocated to projects that were identified as in-process research and development was charged to acquired in-process research and development in the accompanying condensed consolidated statements of operations for the nine months ended October 2, 2005.

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4.             GOODWILL AND INTANGIBLE ASSETS

In connection with the acquisition of the wireless infrastructure business and associated assets from EiC on June 18, 2004, the Company recorded $1.8 million of goodwill. Adjustments to the EiC goodwill subsequent to the EiC acquisition date resulted in 2005 from a $576,000 benefit from the termination settlement of the associated supply agreement with EiC and partially offset by $152,000 of additional registration statement related expenses.  In connection with the acquisition of Telenexus acquisition on January 28, 2005, the Company recorded $5.5 million of goodwill.  Adjustments to the Telenexus goodwill through September 2006, subsequent to the Telenexus acquisition date, resulted from collection of a previously unrecognized pre-acquisition account receivable partially offset by the write-off of a pre-acquisition accounts receivable and finalization of direct acquisition costs.  This goodwill was based upon the values assigned to the transactions at the time they were announced in accordance with SFAS 142. The changes in the carrying value of goodwill as of October 1, 2006 are as follows (in thousands):

	EiC		Telenexus		Total
Balance as of December 31, 2005	$	1,405	$	5,401	$	6,806
Adjustments to goodwill	—		28		28
Balance as of October 1, 2006	$	1,405	$	5,429	$	6,834

The Company periodically evaluates its goodwill in accordance with SFAS 142 for indications of impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors the Company considers important that could trigger an impairment review include significant under-performance relative to historical or projected future operating results, significant changes in the manner of the Company’s use of the acquired assets or the strategy for the Company’s overall business, or significant negative industry or economic trends.  If these criteria indicate that the value of the goodwill may be impaired, an evaluation of the recoverability of the net carrying value is made.  Irrespective of the aforementioned circumstances where impairment indicators are present, the Company is required by SFAS 142 to test its goodwill for impairment at least annually.  The Company has chosen the end of its fiscal month of May as the date of its annual impairment test.  The Company has determined its goodwill was not impaired as of May 28, 2006.

Intangible assets are recorded at cost, less accumulated amortization. During the quarter ended April 2, 2006, the Company determined that it would no longer use the Telenexus trademarks and trade names and would instead market its RFID products under the WJ Communications brand.  As such, the remaining unamortized balance of $637,000 was expensed as “Selling and administrative” which is reflected in the accompanying unaudited condensed consolidated statements of operations for the nine month period ended October 1, 2006. The following tables present details of the Company’s purchased intangible assets (in thousands):

As of October 1, 2006:

Description	Useful Life	Gross		Accumulated Amortization		Net
EiC acquisition
Purchased developed technology	5 years	$	200	$	90	$	110
Telenexus acquisition
Purchased developed technology	1.2 years	40		40		—
Customer relationships	7 years	900		217		683
Non-competition agreements	4 years	400		165		235
Total identified intangible assets		$	1,540	$	512	$	1,028

As of December 31, 2005:

	Useful			Accumulated
Description	Life	Gross		Amortization		Net
EiC acquisition
Purchased developed technology.	5 years	$	200	$	60	$	140
Telenexus acquisition
Purchased developed technology.	1.2 years	40		32		8
Customer relationships	7 years	900		118		782
Trademarks and trade names	12 years	700		54		646
Non-competition agreements	4 years	400		92		308
Total identified intangible assets		$	2,240	$	356	$	1,884

In the three and nine months ended October 1, 2006, amortization of purchased intangible assets included in cost of goods sold was $10,000 and $38,000 respectively, $19,000 and $53,000 in the three and nine months ended October 2, 2005 respectively. In the three and nine months ended October 1, 2006, amortization of purchased intangible assets included in operating expense was approximately $57,000 and $180,000, respectively, $72,000 and $193,000 in the three and nine months ended October 2, 2005, respectively.  The intangible assets related to purchased developed technology is amortized to cost of goods sold.  The intangible assets related to customer relationships, trademarks and trade names and non-competition agreements with sales/engineering personnel are amortized to operating expense.  Amortization is computed using the straight-line method over the estimated useful life of the intangible asset. The Company expects that annual amortization of acquired intangible assets to be as follows (in thousands):

Fiscal year:	EiC		Telenexus		Total
2006 (remaining three months)	$	10	$	57	$	67
2007	40		229		269
2008	40		229		269
2009	20		136		156
2010	—		129		129
2011 and beyond	—		138		138
Total amortization	$	110	$	918	$	1,028

5.     RECENT ACCOUNTING PRONOUNCEMENTS

In July 2006, the FASB issued FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109.” This interpretation clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” The interpretation prescribes a recognition threshold and measurement attribute for a tax position taken or expected to be taken in a tax return and also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. The provisions of FIN 48 are effective for fiscal years beginning after December 15, 2006. We are currently evaluating what impact, if any, this statement will have on our consolidated financial statements.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”), which provides guidance for using fair value to measure assets and liabilities. The pronouncement clarifies (1) the extent to which companies measure assets and liabilities at fair value; (2) the information used to measure fair value; and (3) the effect that fair value measurements have on earnings. SFAS 157 will apply whenever another standard requires (or permits) assets or liabilities to be measured at fair value. SFAS 157 is effective for the Company as of January 1, 2008. The Company is currently evaluating the impact this statement will have on our consolidated financial statements.

6.INVENTORIES

Inventories are stated at the lower of cost, using an average-cost basis, or market. Cost of inventory items is based on purchase and production cost including labor and overhead. Write-downs, when required, are made to reduce excess inventories to their estimated net realizable values. Such estimates are based on assumptions regarding future demand and

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market conditions. These write-downs were $62,000 and $1.3 million in the three and nine month periods ended October 1, 2006, respectively, $164,000 and $334,000 in the three and nine month periods ended October 2, 2005, respectively and $975,000 in the year ended December 31, 2005.  If actual conditions become less favorable than the assumptions used, an additional inventory write-down may be required.  Inventories at October 1, 2006 and December 31, 2005 consisted of the following (in thousands):

	October 1,		December 31,
	2006		2005
Finished goods	$	1,207	$	1,683
Work in progress	1,296		1,697
Raw materials and parts	1,436		1,446
	$	3,939	$	4,826

7.CONCENTRATION OF CREDIT RISK

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash, cash equivalents, short-term investments and trade receivables. The Company maintains cash in bank deposit accounts, which, at times, may exceed federally insured limits. The Company has not experienced any losses in such accounts. The Company invests in a variety of financial instruments such as money market funds, commercial paper and high quality corporate bonds, and, by policy, limits the amount of credit exposure with any one financial institution or commercial issuer. At October 1, 2006, two customers represented 31% and 20% of the total accounts receivable balance, respectively. At December 31, 2005, these two customers represented 32% and 13% of the total accounts receivable balance, respectively, and a third customer represented 15% of the total accounts receivable balance. The Company performs ongoing credit evaluations and maintains an allowance for doubtful accounts based upon the expected collectibility of receivables.

8.STOCK-BASED COMPENSATION

STOCK OPTION PLANS — The Company’s stock option program is a long-term retention program that is intended to attract, retain and provide incentives for employees, officers and directors, and to align stockholder and employee interests. The Company considers its option programs critical to its operation and productivity; essentially all of our employees participate. Currently, the Company grants options from the 1) 2000 Stock Incentive Plan, as amended, under which the Company may grant incentive awards in the form of options to purchase shares of the Company’s common stock, restricted shares, common stock and stock appreciation rights to participants, which include officers and employees and consultants, 2) the 2000 Non-Employee Director Stock Compensation Plan, as amended, under which options are granted to non-employee directors and 3) 2001 Employee Stock Incentive Plan under which the Company may grant incentive awards in the form of options to purchase shares of the Company’s common stock, restricted shares, common stock and stock appreciation rights to participants, which include employees which are not officers and directors of the Company and consultants.  The Company’s stock option plans provide that options granted will have a term of no more than 10 years and have vesting periods ranging from two to four years. The provisions of the stock option plans provide that under certain circumstances, such as a change in control, the achievement of certain performance objectives, or certain liquidity events, outstanding options may be subject to accelerated vesting.  As of October 1, 2006 the number of shares available for future grants under the above plans was 3,170,561.

On June 1, 2006, the Company’s Board of Directors approved the adoption of an amendment to the Company’s “Amended and Restated 2000 Non-Employee Director Compensation Plan” to increase the number of shares of common stock authorized for issuance from 800,000 to 1,000,000, which was approved by the Company’s stockholders on July 20, 2006 at the Company’s Annual Meeting of Stockholders.

On August 10, 2006, the Compensation Committee of the Board of Directors awarded 1,643,940 Performance Accelerated Restricted Stock Units to employees.  1,069,590, of the Performance Accelerated Restricted Stock Units were issued under the Amended and Restated 2000 Stock Incentive Plan and 574,350 of the Performance Accelerated Restricted Stock Units were issued under the 2001 Employee Stock Incentive Plan.  The Performance Accelerated Restricted Stock Units vest upon the achievement of performance targets that are determined by the Compensation

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Committee of the Board of Directors.  Any Performance Accelerated Restricted Stock Units that do no vest upon the achievement of performance targets cliff vest at the end of four years.

Combined Incentive Plan Information

Option and Performance Accelerated Restricted Stock Unit activity under the Company’s stock incentive plans for the nine months ended October 1, 2006 is set forth below (in thousands except per share amounts):

					Weighted
					Average
			Weighted		Remaining
			Average		Contractual Term
	Shares		Exercise Price		(in years)
Outstanding at December 31, 2005	9,366,759		$	1.87
Grants	3,771,940		$	1.18
Exercised	(1,021,657	)	$	1.30
Forfeited/expired/cancelled	(1,603,158	)	$	1.92
Outstanding at October 1, 2006	10,513,884		$	1.67	6.02

The total intrinsic value of options exercised during the period was $563,000. The aggregate intrinsic value of options outstanding and options exercisable as of October 1, 2006 was $4.3 million and $1.9 million, respectively.  The intrinsic value is calculated as the difference between the market value as of October 1, 2006 and the exercise price of the shares that were in-the-money at October 1, 2006. The market value as of September 29, 2006 was $2.16 as reported by NASDAQ.

Restricted stock activity under the Company’s stock incentive plans for the nine months ended October 1, 2006 is set forth below (in thousands except per share amounts):

			Weighted
			Average
			Grant Date Fair
	Shares		Value per Share
Unvested at December 31, 2005	430,560		$	1.49
Grants	595,000		$	1.65
Vested	(124,992	)	$	1.49
Forfeited/expired/cancelled	—		—
Unvested at October 1, 2006	900,568		$	1.59

The total intrinsic value of restricted stock vested during the nine months ended October 1, 2006 was $270,000. Based on the closing price of the Company common stock of $2.16 on September 29, 2006, the total intrinsic value of all unvested restricted stock was $2.0 million.

EMPLOYEE STOCK PURCHASE PLAN (“ESPP”) — The Company has an employee stock purchase plan for all eligible employees. Under the plan, employees may purchase shares of the Company’s common stock at six-month intervals at 85% of fair market value (calculated in the manner provided under the plan). Employees purchase such stock using payroll deductions, which may not exceed 15% of their total cash compensation.  The plan imposes certain limitations upon an employee’s right to acquire common stock, such as no employee may be granted rights to purchase more than $25,000 worth of common stock for each calendar year in which such rights are at any time outstanding. At October 1, 2006, 323,812 shares were available for future issuance under this plan.

On June 1, 2006, the Company’s Board of Directors approved the adoption of an amendment to the Company’s “2001 Employee Stock Purchase Plan” to increase the number of shares of common stock authorized for issuance from 1,500,000 to 2,250,000, which was approved by the Company’s stockholders on July 20, 2006 at the Company’s Annual Meeting of Stockholders.

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STOCK-BASED COMPENSATION — Effective January 1, 2006, the Company adopted SFAS 123R. See Note 1 for a description of our adoption of SFAS 123R. The Company currently uses the Black-Scholes option pricing model to determine the fair value of stock options and employee stock purchase plan shares. The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by the Company’s stock price as well as assumptions regarding a number of complex and subjective variables. These variables include the Company’s expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, risk-free interest rate and expected dividends.

The Company estimates the expected term of options granted by reviewing annual historical employee exercise behavior of option grants with similar vesting periods and the expected life assumptions of semiconductor peer companies.  The Company’s estimate of pre-vesting option forfeitures is based on historical pre-vest termination rates and those of semiconductor peer companies and it records stock-based compensation expense only for those awards that are expected to vest. The Company considered (along with its own actual experience) the forfeiture rates of semiconductor peer companies due to its lack of extensive history.  The Company’s volatility assumption is forecasted based on its historical volatility over the expected term. The Company bases the risk-free interest rate that it uses in the option pricing model on U.S. Treasury zero-coupon issues with remaining terms similar to the expected term on the options. The Company does not anticipate paying any cash dividends in the foreseeable future and therefore uses an expected dividend yield of zero in the option pricing model. The Company is required to estimate forfeitures at the time of grant and revise those estimates in subsequent periods if actual forfeitures differ from those estimates. All share based payment awards are amortized on a straight-line basis over the requisite service periods of the awards, which are generally the vesting periods.

Prior to the adoption of SFAS 123R, the Company recognized the estimated compensation cost of restricted stock over the vesting term. The estimated compensation cost is based on the fair value of the Company’s common stock on the date of grant. We will continue to recognize the compensation cost, net of estimated forfeitures, over the vesting term.

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The assumptions used to value option grants and employee stock purchase rights are as follows:

	Three Months Ended						Nine Months Ended
	October 1,			October 2,			October 1,			October 2,
	2006			2005			2006			2005
Employee Stock Option Plans:
Fair value	$	0.94		$	0.91		$	1.35		$	1.09
Dividend yield	0.0		%	0.0		%	0.0		%	0.0		%
Volatility	84.56		%	79.00		%	84.83		%	79.00		%
Risk free interest rate at the time of grant	4.99		%	3.98		%	4.63		%	3.93		%
Expected term to exercise (in years from the grant date)	4.42			4.0			4.22			4.0
Employee Stock Purchase Plan:
Fair value	$	0.85		$	0.56		$	0.50		$	0.61
Dividend yield	0.0		%	0.0		%	0.0		%	0.0		%
Volatility	64.23		%	70.55		%	60.76		%	69.82		%
Risk free interest rate at the time of grant	4.89		%	3.88		%	4.50		%	3.05		%
Expected term to exercise (in years from the grant date)	0.49			0.49			0.49			0.49

The following table presents details of stock-based compensation expense by functional line item (in thousands):

	Three Months Ended				Nine Months Ended
	October 1,		October 2,		October 1,		October 2,
	2006		2005		2006		2005
Cost of goods sold	$	103	$	13	$	217	$	48
Research and development	142		50		337		160
Selling and administrative	514		50		739		628
	$	759	$	113	$	1,293	$	836

The amounts included in the three and nine months period ended October 1, 2006 reflect the adoption of SFAS 123R. In accordance with the modified prospective transition method, the Company’s unaudited condensed consolidated statements of operations for prior periods have not been restated to reflect, and do not include, the impact of SFAS 123R.  The impact on basic and diluted net loss per share for the three and nine months ended October 1, 2006 from the adoption of SFAS 123R was $0.01 and $0.02 respectively.

Subsequent to October 1, 2006, and subject to Compensation Committee approval, 150,000 shares of performance vested restricted stock granted to an officer vested upon the satisfaction of certain performance targets.  Approximatey $248,000 of stock-based compensation was recognized in the three month period ended October 1, 2006 related to the probable achievement of this award.

On August 10, 2006, the company issued 1,643,940 Performance Accelerated Restricted Stock Units to officers and employees.  Approximately $159,000 of stock-based compensation was recognized in the three month period ended October 1, 2006 related to these awards.

The following table illustrates the effect on net loss and net loss per share had compensation cost for all of the Company’s stock option plans been determined based upon the fair value at the grant date for awards under these plans, and amortized to expense over the vesting period of the awards consistent with the methodology prescribed under SFAS 123 and using the Black-Scholes option pricing model instead of applying the guidelines provided by APB 25 (in thousands, except per share amounts):

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	October 2, 2005
	Three Months			Nine Months
	Ended			Ended
Reported net loss	$	(3,394	)	$	(18,906	)
Add: Total stock-based employee compensation expense included in reported net loss	113			836
Deduct: Total stock-based employee compensation expense	988			(1,019		)
Pro forma net loss	$	(2,293	)	$	(19,089	)
Net loss per basic and diluted share
As reported	$	(0.05	)	$	(0.30	)
Pro forma	$	(0.04	)	$	(0.30	)

The adoption of SFAS 123R will continue to have an adverse impact on the Company’s reported results of operations, although it will have no impact on its overall financial position. As of October 1, 2006, there was $4.7 million of unrecognized compensation cost, adjusted for estimated forfeitures, related to non-vested stock-based payments granted to employees and non-employee members of the Board of Directors.  If there are any modifications or cancellations of the underlying unvested securities, the Company may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense. Future stock-based compensation expense and unearned stock-based compensation will increase to the extent that the Company grants additional equity awards to employees or assumes unvested equity awards in connection with acquisitions.

9.     NET LOSS PER SHARE CALCULATION

Per share amounts are computed based on the weighted average number of basic and diluted (dilutive stock options) common and common equivalent shares outstanding during the respective periods. The net loss per share calculation is as follows (in thousands, except per share amounts):

	Three Months Ended						Nine Months Ended
	October 1,			October 2,			October 1,			October 2,
	2006			2005			2006			2005
Net loss	$	(1,173	)	$	(3,394	)	$	(5,485	)	$	(18,906	)
Denominator for basic and diluted net loss per share:
Weighted average shares outstanding	67,600			64,875			67,049			63,979
Less weighted average shares subject to repurchase	(913		)	(359		)	(914		)	(119		)
Weighted average shares outstanding	66,687			64,516			66,135			63,860
Basic and diluted net loss per share	$	(0.02	)	$	(0.05	)	$	(0.08	)	$	(0.30	)

For the periods ended October 1, 2006, the incremental shares from the assumed exercise of 10,513,884 of the Company’s stock options outstanding and 110,124 shares related to contributions under the Employee Stock Purchase Plan for pending purchases were excluded from the calculation of diluted earnings per share because operations resulted in a loss and the effect of such assumed conversion would be anti-dilutive. For the periods ended October 2, 2005, the incremental shares from the assumed exercise of 10,568,167 of the Company’s stock options outstanding and 222,168 shares related to contributions under the Employee Stock Purchase Plan for pending purchases were excluded from the calculation of diluted earnings per share because operations resulted in a loss and the effect of such assumed conversion would be anti-dilutive.

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10.          RESTRUCTURING CHARGES

During fiscal 2002 and 2001, the Company recorded significant restructuring charges representing the direct costs of exiting certain product lines or businesses and the costs of downsizing the Company’s business. Such charges were established in accordance with Emerging Issues Task Force Issue 94-3 (“EITF 94-3”) “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring)” and Staff Accounting Bulletin No. 100, “Restructuring and Impairment Charges.” These charges include abandoned leased properties comprised of future lease payments net of anticipated sublease income, broker commissions and other facility costs, and asset impairment charges on tenant improvements deemed no longer realizable as detailed in Note 14 of the Company’s Annual Report on Form 10-K as of December 31, 2005. In determining these estimates, the Company makes certain assumptions with regards to our ability to sublease the space and reflect offsetting assumed sublease income in line with our best estimate of current market conditions.  There were no changes in the estimated liability for the three and nine month periods ended October 1, 2006 and October 2, 2005 other than payments against those amounts previously accrued.  As of October 1, 2006, the maximum potential amount of the lease loss for these properties is $15.6 million which is partially offset by $641,000 of minimum sublease income commitments under noncancellable sublease rental agreements and $217,000 of estimated net sublease income.

The following table summarizes the historical restructuring accrual activity recorded during the years 2001 through  October 1, 2006 (in thousands):

	Q3 2001
	Restructuring
	Plan			Q3 2002 Restructuring Plan									Q4 2002 Restructuring Plan
				Workforce						Asset			Workforce						Asset
	Lease Loss			Reduction			Lease Loss			Impairment			Reduction			Lease Loss			Impairment			Total
Q3 2001 charge to expense	$	9,797		$	—		$	—		$	—		$	—		$	—		$	—		$	9,797
Non-cash charges (1)	(2,503		)	—			—			—			—			—			—			(2,503		)
Cash payments	(463		)	—			—			—			—			—			—			(463		)
Balance at December 31, 2001	6,831			—			—			—			—			—			—			6,831
Q3 2002 charge to expense	—			507			13,841			4,087			—			—			—			18,435
Q4 2002 charge to expense	—			—			—			—			279			4,285			4,277			8,841
2002 additional charge	6,283			—			674			—			—			—			—			6,957
Non-cash charges (2)	(22		)	—			(2,930		)	(4,087		)	—			—			(4,277		)	(11,316		)
Cash payments	(1,002		)	(437		)	(290		)	—			—			—			—			(1,729		)
Balance at December 31, 2002	12,090			70			11,295			—			279			4,285			—			28,019
2003 additional charge (credit)	203			(21		)	(23		)	151			—			(364		)	—			(54		)
Non-cash charges	—			—			(15		)	(151		)	—			—			—			(166		)
Cash payments	(782		)	(49		)	(1,316		)	—			(26		)	—			—			(2,173		)
Balance at December 31, 2003	11,511			—			9,941			—			253			3,921			—			25,626
2004 additional charge (credit)	538			—			(377		)	—			(85		)	(3,921		)	—			(3,845		)
Non-cash charges	12			—			30			—			—			—			—			42
Cash payments	(1,003		)	—			(1,233		)	—			(168		)	—			—			(2,404		)
Balance at December 31, 2004	11,058			—			8,361			—			—			—			—			19,419
2005 additional charge (credit)	—			—			—			—			—			—			—			—
Non-cash charges	46			—			8			—			—			—			—			54
Cash payments	(1,420		)	—			(1,277		)	—			—			—			—			(2,697		)
Balance at December 31, 2005	9,684			—			7,092			—			—			—			—			16,776
2006 additional charge (credit)	—			—			—			—			—			—			—			—
Non-cash charges	(10		)	—			(8		)	—			—			—			—			(18		)
Cash payments	(1,000		)	—			(969		)	—			—			—			—			(1,969		)
Balance at October 1, 2006	$	8,674		$	—		$	6,115		$	—		$	—		$	—		$	—		$	14,789

(1)Non-cash charges related to the Q3 2001 Restructuring Plan lease loss represents $2.5 million of tenant improvements deemed no longer realizable.

(2)Non-cash charges related to the Q3 2002 Restructuring Plan lease loss represents $3.2 million of tenant improvements deemed no longer realizable net of a $310,000 write-off of accrued deferred rent.

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Of the accrued restructuring charge at October 1, 2006, the Company expects $2.9 million of the lease loss to be paid out over the next twelve months. As such, this amount is recorded as a current liability and the remaining $11.9 million to be paid out over the remaining life of the lease of approximately four years is recorded as a long-term liability.

11.  BUSINESS SEGMENT REPORTING

The Company currently has one reportable segment. The Company’s Chief Operating Decision Maker (“CODM”) is the CEO. While the Company’s CODM monitors the sales of various products, operations are managed and financial performance evaluated based upon the sales and production of multiple products employing common manufacturing and research and development resources; sales and administrative support; and facilities. This allows the Company to leverage its costs in an effort to maximize return. Management believes that any allocation of such shared expenses to various products would be impractical, and currently does not make such allocations internally.

Sales to individual customers representing greater than 10% of Company consolidated sales during at least one of the periods presented are as follows (in thousands):

	Three Months Ended				Nine Months Ended
	October 1,		October 2,		October 1,		October 2,
	2006		2005		2006		2005
Customer A (1)	$	5,634	$	4,968	$	16,591	$	8,638
Customer B	2,288		777		6,927		2,781

(1)Customer A is the sole worldwide distributor of the Company’s complete line of RF semiconductor products.

Sales to unaffiliated customers by geographic area are as follows (in thousands):

	Three Months Ended				Nine Months Ended
	October 1,		October 2,		October 1,		October 2,
	2006		2005		2006		2005
United States	$	5,958	$	5,667	$	17,591	$	11,352
Export sales from United States:
China	3,201		1,234		7,795		4,354
Thailand	1,299		58		4,208		760
Europe	1,464		355		3,683		1,089
Republic of Korea	263		410		1,740		1,181
Other	556		370		2,477		1,155
Total	$	12,741	$	8,094	$	37,494	$	19,891

Long-lived assets located outside of the United States are not significant.

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12.          INCOME TAXES

In accordance with SFAS No. 5 “Accounting for Contingencies,” the Company has established certain reserves for various federal, state and international income tax exposures.  During the nine months ended October 1, 2006, the Company recorded a tax benefit of $1.4 million resulting from a revision of its estimated tax liability based on the statute of limitations expiration of certain estimated state tax exposures during the first nine months of 2006.  As of  October 1, 2006 the balance of the contingent income tax liability is $418,000.

13.CONTINGENCIES

Environmental Remediation

Our current operations are subject to federal, state and local laws and regulations governing the use, storage, disposal of and exposure to hazardous materials, the release of pollutants into the environment and the remediation of contamination.   The Company has an accrued liability of $62,000 as of October 1, 2006 to offset estimated program oversight, remediation actions and record retention costs.  Expenditures charged against the provision totaled $4,000 and $2,000 for the nine month periods ended October 1, 2006 and October 2, 2005, respectively.

The Company continues to be in compliance with the remedial action plans being monitored by various regulatory agencies at its former Palo Alto and Scotts Valley sites.  The Company has entered into funded fixed price remediation contracts and obtained cost-overrun and unknown pollution conditions insurance coverage.  The Company believes that it is remote that it would incur any liability beyond that which it has recorded.  The Company does ultimately retain responsibility for these environmental liabilities in the unlikely event that the environmental firm and the insurance company do not meet their obligations.

With respect to our remaining current or former production facilities, either no contamination of significance has been identified or reported to us or the regulatory agency involved has granted closure with respect to the identified contamination. Nevertheless, we may face environmental liabilities related to these sites in the future.

Indemnification

As part of the Company’s normal ongoing business operations and consistent with industry practice, the Company enters into numerous agreements with other parties, which apportion future risks among the parties to the transaction or relationship governed by the agreements. One method of apportioning risk is the inclusion of provisions requiring one party to indemnify the other against losses that might otherwise be incurred by the other party in the future. Many of the Company’s agreements contain an indemnity or indemnities that require us to perform certain acts, such as remediation, as a result of the occurrence of a triggering event or condition. 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 the context of contracts entered into by the Company, under which the Company customarily agrees to hold the other party harmless against losses arising from a breach of representations and covenants related to such matters as title to assets sold, certain IP rights, specified environmental matters, and certain income taxes. In each of these circumstances, payment by the Company is conditioned on the other party making a claim pursuant to the procedures specified in the particular contract, which procedures typically allow the Company to challenge the other party’s claims. Further, the Company’s obligations under these agreements may be limited in terms of time and/or amount, and in some instances, the Company may have recourse against third parties for certain payments made by the Company.

The nature of these numerous indemnity obligations are diverse and each has different terms, business purposes, and triggering events or conditions. Consistent with customary business practice, any particular indemnity obligation incurred is the result of a negotiated transaction or contractual relationship for which we have accepted a certain level of risk in return for a financial or other type of benefit. In addition, the indemnities in each agreement vary widely in their definitions of both triggering events and the resulting obligations contingent on those triggering events.  It is not possible to predict the maximum potential amount of future payments under these or similar agreements due to the conditional nature of the Company’s obligations and the unique facts and circumstances involved in each particular agreement.

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Historically, payments made by the Company under these agreements have not had a material effect on the Company’s business, financial condition or results of operations and the Company is unable to estimate the maximum potential impact of these indemnification provisions on its future results of operations.

As permitted under Delaware law, the Company has agreements whereby we indemnify our officers and directors for certain events or occurrences while the officer or director is, or was serving, at our request in such capacity. The indemnification period covers all pertinent events and occurrences during the officer’s or director’s lifetime. The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is unlimited; however, the Company has director and officer insurance coverage that reduces its exposure and enables it to recover a portion of any future amounts paid. The Company believes the estimated fair value of these indemnification agreements in excess of applicable insurance coverage is minimal.

Other Contingencies

In addition to the above matters, the Company is involved in various legal actions which arose in the ordinary course of its business activities. Management does not currently believe that the final resolution of these matters will ultimately have a material impact on the Company’s results of operations or financial position.

14.SUBSEQUENT EVENTS

On October 30, 2006, the Company’s Board of Directors committed the Company to a restructuring plan to close and exit the Company’s Milpitas fabrication facility (“fab”) during the first quarter of 2007. The Milpitas fab currently produces some of the Company’s gallium arsenide semiconductor products and has substantial excess capacity. The Company’s lease of the fab expires November 14, 2006 and in accordance with the terms of the lease the Company plans to continue the lease on a month-to-month basis until the closure is complete.

The Company recently formed a strategic foundry relationship with Global Communication Semiconductors, Inc. (“GCS”) to second-source the manufacturing of its GaAs and InGaP HBT wafers and GCS will become the sole source for these products after closing of the Milpitas fab. The Company plans to produce additional wafer inventory from its Milpitas fab to be used as a buffer in the event of delayed qualifications from customers or ramp-up issues with GCS.

The total amount of costs expected to be incurred are estimated at $1,346,000 which consists of $376,000 for employee retention and termination costs, $320,000 for demobilization costs, $250,000 for rent, utilities and insurance related costs during the demobilization period and $400,000 related to impaired assets. The Company also anticipates selling a portion of the equipment it owns at the fab and does not anticipate an impairment loss associated with this equipment.

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Item 2.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND THE RESULTS OF OPERATIONS

Special Notice Regarding Forward-Looking Statements. The following discussion and analysis contains forward-looking statements including financial projections, statements as to the plans and objectives of management for future operations, and statements as to our future economic performance, financial condition or results of operations. These forward-looking statements are not historical facts but rather are based on current expectations, estimates, projections about our industry, our beliefs and our assumptions. Words such as “may,” “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks” and “estimates” and variations of these words and similar expressions are intended to identify forward-looking statements. Our actual results may differ materially from those projected in these forward-looking statements as a result of a number of factors, including, but not limited to, the continuation or worsening of poor economic and market conditions in our industry and in general, technological innovation in the wireless communications markets, the availability and the price of raw materials and components used in our products, the demand for wireless systems and products generally as well as those of our customers and changes in our customer’s product designs. Readers of this report are cautioned not to place undue reliance on these forward-looking statements.

The following discussion should be read in conjunction with our unaudited condensed consolidated financial statements and related notes and other disclosures included elsewhere in this Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2005 filed with the SEC on March 31, 2006. Except for historic actual results reported, the following discussion may contain predictions, estimates and other forward-looking statements that involve a number of risks and uncertainties. See “Special Notice Regarding Forward-looking Statements” above and the “Risk Factors” section of this Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2005 filed with the SEC on March 31, 2006 for a discussion of certain factors that could cause future actual results to differ from those described in the following discussion.

OVERVIEW

We are a radio frequency (“RF”) semiconductor company providing RF product solutions worldwide to communications equipment companies. We design, develop and manufacture innovative, high performance products for both current and next generation wireless and wireline networks, and RF identification (“RFID”) systems. Our RF product solutions are comprised of advanced, highly functional RF semiconductors, components and integrated assemblies which address the radio frequency challenges of these various systems.  We currently generate the majority of our revenue from our products utilized in wireless and wireline networks.  Our revenue from our products used in RF identification systems represents a less significant portion of our current revenue, however, we believe these systems represent a future growth opportunity.  The RF challenge is to create product designs that function within the unique parameters of various wireless system architectures. Our solution is comprised of design expertise, advanced device technology and manufacturability. Our communications products are used by telecommunication and broadband cable equipment manufacturers supporting and facilitating mobile communications, enhanced voice services and data and image transport. Our objective is to be the leading supplier of innovative RF semiconductor products.

We have augmented our existing technology base and design capabilities from time to time through acquisitions.  On January 28, 2005, we acquired Telenexus, Inc. (“Telenexus”), which designs, develops, manufactures and markets radio frequency identification reader products for a broad range of industries and markets. We believe the addition of Telenexus’ RFID products and technology enhances our RFID reader offerings to further capitalize on the market opportunity. On June 18, 2004, we completed our acquisition of the wireless infrastructure business and associated assets from EiC Corporation, a California corporation, and EiC Enterprises Limited (together “EiC”).  We believe that the addition of EiC’s technical expertise further enhanced our strategy of offering customers what we believe to be industry leading products for the wireless infrastructure market.

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WJ Communications, Inc. (formerly Watkins-Johnson Company, “we,” “us,” “our” or the “Company”) was founded in 1957 in Palo Alto, California, and for many years we focused on RF microwave devices for defense electronics and space communications systems. Beginning in the 1990s, we began applying our RF design, semiconductor technology and integration capabilities to address the growing opportunities for commercial communications products. We believe that our track record of designing high quality, reliable products and our long-standing relationships with industry-leading customers are important competitive advantages. We were originally incorporated in California and reincorporated in Delaware in August 2000.

Our principal executive offices are located at 401 River Oaks Parkway, California 95134, and our telephone number at that location is (408) 577-6200. Our Internet address is www.wj.com. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, amendments to those reports and other Securities and Exchange Commission, or SEC, filings are available free of charge through our website as soon as reasonably practicable after such reports are electronically filed with, or furnished to, the SEC. The information contained on our website is not intended to be part of this report. Our common stock is listed on The Nasdaq Global Market (“NASDAQ”) and traded under the symbol “WJCI”.

Acquisitions

We have completed two acquisitions in connection with the implementation of our business strategy to acquire and develop new and complementary technologies.

On January 28, 2005 we completed our acquisition of Telenexus, Inc. (“Telenexus”).  Telenexus designs, develops, manufactures and markets radio frequency identification (“RFID”) reader products for a broad range of industries and markets.  We purchased all of the assets necessary for the conduct of the RFID business of Telenexus, consisting primarily of, and including, but not limited to RFID modules, baseband processing algorithm technology, applications software and realizations of several reader product designs.  The consideration we paid on the closing date in connection with the merger consisted of cash in the amount of $3.0 million, which was paid out of our cash reserves on the closing date, and 2,333,333 shares of our common stock valued at $8.2 million at the closing date.  Including acquisition costs of $230,000, the aggregate purchase price for the net assets of Telenexus totaled $11.4 million.  The 333,333 shares in the escrow account have been fully distributed.  In addition to the closing consideration, the selling shareholders would have been entitled to further compensation of up to $2.5 million in cash and up to 833,333 shares of our common stock if we had achieved certain revenue targets by July 28, 2006.  We have determined that the revenue targets were not met and we have communicated our conclusion to the selling shareholders.  Any additional consideration to the selling shareholders would change the amount of the purchase price allocable to goodwill.  The acquisition was accounted for using the purchase method of accounting in accordance with SFAS No. 141, Business Combinations (“SFAS No. 141”).

On June 18, 2004, we completed our acquisition of the wireless infrastructure business and associated assets from EiC Corporation, a California corporation and EiC Enterprises Limited (together “EiC”). The aggregate purchase price was $13.3 million. In connection with the acquisition, $1.5 million in cash and 294,118 shares of common stock were held in escrow as security against certain financial contingencies. On March 30, 2005, we made a claim against the escrow account for unpaid invoices issued under the supply agreement.  We received those funds on May 4, 2005.  The uncontested amount was released to EiC on April 5, 2005 per the escrow agreement and the residual balance of the $1.5 million was released to EiC on May 4, 2005.  On March 24, 2006 we made a claim against 147,059 of the 294,118 shares in the escrow account pending resolution of claims made by a vendor regarding a pre-acquisition contract.  The uncontested 147,059 shares have been released from escrow.  We reached a settlement with EiC on May 25, 2006 and the remaining 147,059 shares were released from escrow on June 16, 2006.

The EiC acquisition agreement contained contingency clauses which could have required us to pay further compensation of up to $14.0 million if specific revenue and gross margin targets are achieved by March 31, 2005 and March 31, 2006 of which $7.0 million of additional compensation related to the period ended March 31, 2005. We calculated that the revenue and the gross margin targets were not met for the period ending March 31, 2005, and this was communicated to EiC on May 31, 2005.  EiC subsequently notified us that it disagreed with our conclusions. While we believe EiC’s assertions are without merit and we have notified EiC of such, there can be no assurance as to the eventual outcome of this matter. The remaining

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$7.0 million of additional compensation relates to the period ended March 31, 2006 and we have determined that the revenue targets were also not met for this period. We have communicated our conclusion to EiC and they have also contested this calculation.  We believe EiC’s assertions are without merit and we are preparing a response.  There can be no assurance as to the eventual outcome of this matter.  The $7.0 million would have been payable 10% in cash and, at our election, 90% in shares of our common stock. If the targets were fully attained and we elected to pay in shares of common stock, the number of additional shares issued would have been 2,540,323 computed at $2.48 per share which represents the average closing price of our stock on NASDAQ during the ten day period prior to the end of the earnout period.  If the Company is ultimately required to pay such consideration, the amounts would be recorded as an increase to goodwill. The fair value of our common stock was determined based on the average closing price per share of our common stock over a 5-day period beginning two trading days before and ending two trading days after the amended terms of the acquisition were agreed to and announced (June 21, 2004). The acquisition was accounted for using the purchase method of accounting in accordance with SFAS No. 141, Business Combinations (“SFAS No. 141”).

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On a continuous basis, we evaluate all our significant estimates including those related to doubtful accounts receivable, inventory valuation, impairment of long-lived assets, income taxes, restructuring including accruals for abandoned lease properties, contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstance, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions and such differences could be material.

We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements.

Business Combinations

We allocate the purchase price of acquired companies to the tangible and intangible assets acquired and in-process research and development based on their estimated fair values. Such valuations require management to make significant estimations and assumptions, especially with respect to intangible assets.

Critical estimates in valuing certain intangible assets include but are not limited to: future expected cash flows from acquired developed technologies and patents, expected costs to develop the in-process research and development into commercially viable products and estimating cash flows from the projects when completed, customer contracts, customer lists, distribution agreements, also the brand awareness and the market position of the acquired products and assumptions about the period of time the brand will continue to be used in the combined company’s product portfolio. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable.

Revenue Recognition

We recognize revenue in accordance with SEC Staff Accounting Bulletin (“SAB”) No. 104, “Revenue Recognition.”  This SAB requires that four basic criteria must be met before revenue can be recognized:  (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services rendered; (3) the fee is fixed or determinable; and (4) collectibility is reasonably assured. Determination of criteria (3) and (4) are based on management’s judgments regarding the fixed nature of the fee charged for products delivered and the collectibility of those fees.

Effective for our second quarter ended July 3, 2005, we changed the application of our revenue recognition policy regarding our distributors. We had previously recognized revenue upon shipment to our distributors less estimated

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reserves for distributor right of return, authorized price reductions for specific end-customer sales opportunities and price protection based on known events and historical trends. Effective for our second quarter ended July 3, 2005, we recognize revenue from our distribution channels when our distributors have sold the product to the end customer.  Historically, we have received stock rotation requests from our distributors that were within the amounts estimated and contractually allowed with only one exception of an insignificant amount.  However, the request for stock rotation during our second quarter ended July 3, 2005 was higher than the amount contractually allowed.  Our management, with the concurrence of our Audit Committee, believes the increasing percentage of new products introduced by us makes it likely that stock rotation reserves will continue to be difficult to estimate based on historical patterns and contractual provisions. Based on this change in facts and circumstances and our management’s future expectations, we believe that we can no longer reasonably estimate the amount of future returns from our distributors as of July 3, 2005.  Accordingly, beginning in our second quarter of 2005, recognition of revenue and associated cost of sales on shipments to distributors is deferred until the resale to the end customer.  This change in application resulted in a $4.1 million revenue deferral in our second quarter of 2005. Although revenue is deferred until resale, title of products sold to distributors transfers upon shipment.  Accordingly, shipments to distributors are reflected in the consolidated balance sheets as accounts receivable and a reduction of inventories at the time of shipment.  Deferred revenue and the corresponding cost of sales on shipments to distributors are reflected in the consolidated balance sheet on a net basis as “Deferred margin on distributor inventory.”  For further discussion, see Note 2 to the unaudited condensed consolidated financial statements included elsewhere in this Form 10-Q.

Through the quarter ended April 3, 2005, revenues from our distributors were recognized upon shipment based on the following factors:  our sales price is fixed or determinable by contract at the time of shipment, payment terms are fixed at shipment and are consistent with terms granted to other customers, the distributor has full risk of physical loss, the distributor has separate economic substance, we have no obligation with respect to the resale of the distributor’s inventory, and we believed we could reasonably estimate the potential returns from our distributor based on their history and our visibility in the distributor’s success with its products and into the market place in general.  In accordance with Financial Accounting Standards Board (“FASB”) Statement No. 48 “Revenue Recognition When Right of Return Exists”, we accrued a reserve based on our reasonable estimate of future returns based on historical trends and contractual limitations. Due to our change in application of our revenue recognition policy regarding our distributors, we no longer accrue a distributor stock rotation reserve.  As of April 3, 2005, our distributor stock rotation reserve was $178,000.

Beginning in September 2003, we entered into a program where the distributor would receive a credit if it sold specific product at a reduced price to specific end-customers pre-authorized by us.  We maintain a log of all such pre-authorized price reductions which we accrue as a reduction to revenue in the period that the pre-authorization occurs per issue 4 of EITF 01-9 “Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the Vendor’s Products).”  Through the quarter ended April 3, 2005, the Ship & Debit Allowance was offset solely by an offset to revenue.  Since we began recognizing revenue from our distribution channels only when our distributors have sold the product to the end customer, the Ship & Debit allowance will offset revenue only when the products with pre-authorized price reductions have shipped to the end-customer otherwise it will offset “Deferred margin on distributor inventory.” As of October 1, 2006 and October 2, 2005, our Ship & Debit Allowance was $171,000 and $19,000, respectively.

If we reduce the prices of our products as negotiated with the distributor, the distributor may receive a credit for the difference between the price paid by the distributor and the reduced price on applicable unsold products remaining in the distributor’s inventory on the effective date of the price reduction assuming that inventory is less than 24 months old as determined by the original invoice date.  When we recognized revenue upon shipment to our distributors, we reserved for distributor price protection per issue 4 of EITF 01-9 based on specific identification of our initiated price reductions and the associated reported distributor inventory.  There were no such price reductions in the three and nine month periods ended October 1, 2006 or October 2, 2005.

We may enter into contracts to perform research and development for others meeting the requirements of Statement of Financial Accounting Standards No. 68 “Research and Development Arrangements”.  Revenue under these development agreements is recognized when applicable contractual non-refundable milestones have been met, including deliverables, and in any case, does not exceed the amount that would be recognized using the percentage-of-completion accounting method based on the actual physical completion of work performed and the ratio of costs incurred to total estimated costs to complete the contract in accordance with Accounting Research Bulletin 45 “Long-Term Construction Type Contracts”

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using the relevant guidance in the American Institute of Certified Public Accountants Statement of Position (“SOP”) 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts. Given the duration and nature of these development contracts, we believe that recognizing revenue under the percentage completion method best represents the legal and economic results of contract performance on a timely basis.  Losses on contracts are recognized when determined. Revisions in estimates are reflected in the period in which the conditions become known. These development contracts with customers have enabled us to accelerate our own product development efforts. Such development revenues have only partially funded our product development activities, and we generally retain ownership of the products developed under these arrangements. As a result, we classify all development costs related to these contracts as research and development expenses. The achievement of contractual milestones is evidenced by written documentation provided by the customer in accordance with the applicable terms and conditions of each contract.  In any period, progress on the contract is based on input measures (direct labor dollars, direct material costs and direct outside processing costs) in the ratio of costs incurred to total estimated costs.  Estimated costs to complete are provided by engineering personnel directly involved in the development program and are reviewed by management and finance personnel for reasonableness given the known facts and circumstances.  A number of internal and external factors can affect our estimates, including labor rates, utilization and efficiency variances and specification and testing requirement changes. If different conditions were to prevail such that accurate estimates could not be made, then the use of the completed contract method would be required and the recognition of all revenue and costs would be deferred until the project was completed. Such a change could have a material impact on our results of operations. If we bill the customer prior to performing services under the development agreement, the amounts are recorded as deferred revenue.  We recorded revenue of $183,000 and $681,000 under development agreements in the three and nine months ended October 1, 2006, respectively.  We recorded revenue of $64,000 and $692,000 under development agreements in the three and nine months ended October 2, 2005, respectively.  Our balance of deferred revenue was nil at October 1, 2006 and December 31, 2005.

Stock-based Compensation

We adopted the provisions of, and account for stock-based compensation in accordance with, SFAS 123R effective January 1, 2006. We elected the modified-prospective method, under which prior periods are not revised for comparative purposes. Under the fair value recognition provisions of this statement, stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense on a straight-line basis over the requisite service period, which is the vesting period.

We currently use the Black-Scholes option pricing model to determine the fair value of stock options and employee stock purchase plan shares. The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by our stock price as well assumptions regarding a number of complex and subjective variables. These variables include our expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, risk-free interest rate and expected dividends.

We estimate the expected term of options granted by reviewing annual historical employee exercise behavior of option grants with similar vesting periods and the expected life assumptions of semiconductor peer companies.  Our estimate of pre-vesting option forfeitures is based on historical pre-vest termination rates and those of semiconductor peer companies and we record stock-based compensation expense only for those awards that are expected to vest. We considered (along with our own actual experience) the forfeiture rates of semiconductor peer companies due to our lack of extensive history.  Our volatility assumption is forecasted based on our historical volatility over the expected term. We base the risk-free interest rate that we use in the option pricing model on U.S. Treasury zero-coupon issues with remaining terms similar to the expected term on the options. We do not anticipate paying any cash dividends in the foreseeable future and therefore use an expected dividend yield of zero in the option pricing model. We are required to estimate forfeitures at the time of grant and revise those estimates in subsequent periods if actual forfeitures differ from those estimates. All share based payment awards are amortized on a straight-line basis over the requisite service periods of the awards, which are generally the vesting periods.

If factors change and we employ different assumptions for estimating stock-based compensation expense in future periods or if we decide to use a different valuation model, the future periods may differ significantly from what we have recorded in the current period and could materially affect our operating loss, net loss and net loss per share.  In addition, we have

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issued options and restricted stock whose vesting is based on the achievement of specified performance targets.  Stock-based compensation expense for these awards is recognized when achievement of the performance targets is probable.  As a result of the unpredictability of the vesting of the performance based options and restricted stock, our stock-based compensation expense is subject to fluctuation. The guidance in SFAS 123R and SAB 107 is relatively new. The application of these principles may be subject to further interpretation and refinement over time. There are significant differences among valuation models, and there is a possibility that we will adopt different valuation models in the future. This may result in a lack of consistency in future periods and materially affect the fair value estimate of stock-based payments. It may also result in a lack of comparability with other companies that use different models, methods and assumptions.

See Notes 1 and 8 to the unaudited condensed consolidated financial statements for further information regarding the SFAS 123R disclosures.

Write-down of Excess and Obsolete Inventory

We write down our inventory for estimated obsolete or unmarketable inventory for the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. Management specifically identifies obsolete products and analyzes historical usage, forecasted production generally based on a rolling twelve month demand forecast, current economic trends and historical write-offs when evaluating the valuation of our inventory. Due to rapidly changing customer forecasts and orders, additional write-downs of excess or obsolete inventory, while not currently expected, could be required in the future. Alternatively, the sale of previously written down inventory could result from unforeseen increases in customer demand.

Valuation of Intangible Assets and Goodwill

We periodically evaluate our intangible assets and goodwill in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets,” for indications of impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Intangible assets include goodwill and purchased technology. Factors we consider important that could trigger an impairment review include significant under-performance relative to historical or projected future operating results, significant changes in the manner of our use of the acquired assets or the strategy for our overall business, or significant negative industry or economic trends. If these criteria indicate that the value of the intangible asset may be impaired, an evaluation of the recoverability of the net carrying value of the asset over its remaining useful life is made. If this evaluation indicates that the intangible asset is not recoverable, the net carrying value of the related intangible asset will be reduced to fair value, and the remaining amortization period may be adjusted. Any such impairment charge could be significant and could have a material adverse effect on our reported financial statements if and when an impairment charge is recorded. If an impairment charge is recognized, the amortization related to intangible assets would decrease during the remainder of the fiscal year.

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Income Taxes

In accordance with SFAS No. 5 “Accounting for Contingencies,” the Company has established certain reserves for various federal, state and international income tax exposures.  The reserves represent our best estimate of the probable amount for our liability of income taxes, interest and penalties. The actual liability could differ significantly from the amount of the reserve, which could have a material effect on our results of operations. The tax benefit for the nine months ended October 1, 2006 of $1.4 million resulted from a revision of our estimated tax liability based on the statute of limitations expiration of certain estimated state tax exposures during the first nine months of 2006. As of October 1, 2006 the balance of the contingent income tax liability is $418,000.

In addition, as part of the process of preparing our consolidated financial statements, we are required to estimate our income tax provision (benefit) in each of the jurisdictions in which we operate. This process involves us estimating our current income tax provision (benefit) together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheet.

We record a valuation allowance to reduce our deferred tax assets to the amount that is more likely than not to be realized. While we have considered future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for the valuation allowance, in the event we were to determine that we would be able to realize our deferred tax assets in the future in excess of our net recorded amount, an adjustment to the deferred tax asset would increase income in the period such determination was made. Likewise, should we determine that we would not be able to realize all or part of our net deferred tax asset in the future, an adjustment to the deferred tax asset would be charged to income in the period such determination was made.

Restructuring

During fiscal 2002 and 2001, we recorded significant restructuring charges representing the direct costs of exiting certain product lines or businesses and the costs of downsizing our business. Such charges were established in accordance with Emerging Issues Task Force Issue 94-3 (“EITF 94-3”) “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring)” and Staff Accounting Bulletin No. 100, “Restructuring and Impairment Charges.” These charges include abandoned leased properties comprised of future lease payments net of anticipated sublease income, broker commissions and other facility costs, and asset impairment charges on tenant improvements deemed no longer realizable. In determining these estimates, we make certain assumptions with regards to our ability to sublease the space and reflect offsetting assumed sublease income in line with our best estimate of current market conditions. Should there be a further significant change in market conditions, the ultimate losses on these could be higher and such amount could be material. Except for changes in the sublease estimates we have made from time to time, actual results to date have been consistent, in all material respects, with our assumptions at the time of the restructuring charges.

On October 30, 2006, the Company’s Board of Directors committed the Company to a restructuring plan to close and exit the Company’s Milpitas fabrication facility (“fab”) during the first quarter of 2007. The Milpitas fab currently produces some of the Company’s gallium arsenide semiconductor products and has substantial excess capacity. The Company’s lease of the fab expires November 14, 2006 and in accordance with the terms of the lease the Company plans to continue the lease on a month-to-month basis until the closure is complete.

The Company recently formed a strategic foundry relationship with Global Communication Semiconductors, Inc. (“GCS”) to second-source the manufacturing of its GaAs and InGaP HBT wafers and GCS will become the sole source for these products after closing of the Milpitas fab. The Company plans to produce additional wafer inventory from its Milpitas fab to be used as a buffer in the event of delayed qualifications from customers or ramp-up issues with GCS.

The total amount of costs expected to be incurred are estimated at $1,346,000 which consists of $376,000 for employee retention and termination costs, $320,000 for demobilization costs, $250,000 for rent, utilities and insurance related costs during the demobilization period and $400,000 related to impaired assets. The Company also anticipates selling a portion of the equipment it owns at the fab and does not anticipate an impairment loss associated with this equipment.

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Impairment of Long-Lived Assets

In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” we review long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. Factors we consider that could trigger an impairment review include the following: significant underperformance relative to expected historical or projected future operating results; significant changes in the manner of our use of the acquired assets or the strategy for our overall business; significant negative industry or economic trends; or significant technological changes, which would render equipment and manufacturing processes obsolete. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of these assets to future undiscounted cash flows expected to be generated by these assets. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets.

Significant management judgment is required in the forecasting of future operating results which are used in the preparation of projected cash flows and should different conditions prevail, material write downs of our long-lived assets could occur.

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CURRENT OPERATIONS

For The Period Ended October 1, 2006 Compared to October 2, 2005

Sales – We recognized $12.7 million and $8.1 million in sales for the three months ended October 1, 2006 and October 2, 2005 respectively, and $37.5 million and $19.9 million in sales for the nine months ended October 1, 2006 and October 2, 2005, respectively. Total sales increased 57% in the comparable three month period and 88% in the comparable nine month period due to the substantial increase in demand for our products in the the wireless infrastructure market particularly related to the growth of 3G systems. This increased demand was particularly strong in Asia where sales increased 172% and 119% in the respective three and nine month periods and Europe where sales increased 312% and 238% in the respective three and nine month periods.  Part of the sales growth in Asia and Europe is attributable to our direct shipments to our distributor’s newly established overseas stocking hubs rather than shipping through the distributor’s stocking hub in the United States which gives us greater visibility to end customer demand.  Over the comparable nine month periods, we have experienced an approximate 5% decrease in the mix weighted average selling price of our semiconductor products.  Units shipped during the three and nine months ended October 1, 2006 increased to 7.0 million and 19.7 million units from 4.0 million and 11.2 million units in the three and nine months ended October 2, 2005.   Sales in the comparable periods in 2005 were also impacted by the change in application of our revenue recognition policy regarding sales to our distributors resulting in a $4.1 million revenue deferral in our second quarter of 2005.  For further discussion, see Note 2 to the unaudited condensed consolidated financial statements included elsewhere in this Form 10-Q.  Excluding this change, total sales increased 56% in the nine months ended October 1, 2006, respectively, which is more indicative of the current trend in our business.

Cost of Goods Sold – Our cost of goods sold for the three months ended October 1, 2006 was $5.6 million, an increase of $1.9 million or 50% as compared with cost of goods sold of $3.8 million in the three months ended October 2, 2005.  For the nine months ended October 1, 2006 our cost of goods sold was $17.5 million an increase of $6.5 million or 59% as compared with cost of goods sold of $11.0 million in the nine months ended October 2, 2005.  The increase in cost of goods sold in the three and nine months ended October 1, 2006 is related to increased direct and variable indirect costs due to our increased sales over the corresponding prior year periods.  During the three months and nine months ended October 1, 2006, cost of goods sold were 44% and 47% as a percentage of sales which compares to 47% and 55% in the corresponding prior year periods.  The decrease in our cost of goods sold as a percentage of sales during the three and nine months ended October 1, 2006 reflects a favorable change in our product sales mix to higher margin semiconductor products.  This decrease was partially offset by inventory write-downs to reduce excess inventories to their estimated net realizable values amounting to $62,000 and $1.3 million in the three and nine month periods ended October 1, 2006, respectively.  The majority of the excess inventory write-down related to a faster than anticipated industry transition to lead-free parts.  The decrease in our cost of goods sold as a percentage of sales for nine months comparable periods in 2006 was also impacted by the revenue deferral resulting from the change in application of our revenue recognition policy regarding sales to our distributors in our second quarter of 2005 relative to the unabsorbed fixed overhead costs.  Excluding this change, cost of goods sold as percentage of sales would have been 46% in the corresponding prior year period.

We continue to experience unabsorbed overhead costs related to underutilization of our wafer fabrication facility. While prior restructuring programs have mitigated some of our unabsorbed overhead through the write down of excess facilities and equipment, we still have fixed manufacturing costs that these efforts will not impact until we can further reduce excess capacity. We typically generate a lower gross margin on new product introductions which we expect to be a higher percentage of our sales mix going forward. Over time, we typically become more efficient relative to new products through learning and increased volumes as well as through improved yields. New product lines also contain a greater degree of inventory risk due to uncertainty regarding a lack of visibility and predictability of customer demand and potential competition.

Research and Development – Our research and development expense for the three months ended October 1, 2006 was $4.2 million, a decrease of $216,000 or 5% as compared with research and development expense of $4.5 million in the three months ended October 2, 2005.  For the nine months ended October 1, 2006 our research and development expense was $14.0 million, an increase of $433,000 or 3% as compared with research and development expense of $13.6 million

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over the same period last year. The slight decrease for the three months period ended October 2, 2006 was due to lower labor and material. The increase for the nine months periods ended October 2, 2006 was related to additional effort on engineering development agreements, increased spending on design consulting services and engineering wafer processing at outside foundries and stock compensation expense related to the adoption of SFAS 123R which was partially offset by a decrease in overall overhead. During the three months and nine months ended October 2, 2006, research and development expenses were 33% and 37% as a percentage of sales which compares to 55% and 68% in the corresponding prior year periods. As a percentage of sales, the decrease in research and development expense in 2006 reflects the increase in sales in the same relative periods partially offset by the increased expense. Product research and development is essential to our future success and we expect to continue to make investments in new product development and engineering talent. For the remainder of 2006 we will focus our research efforts and resources on RF semiconductor development targeting multiple potential growth markets such as Base Station Power, RFID and WiMAX while expanding our addressable market opportunities in wireless communications. We may also explore process capabilities of third party foundries and develop products under new process technologies such as SiGe BiCMOS.

Selling and Administrative – Selling and administrative expense for the three months ended October 1, 2006 was $4.4 million or 35% of sales, an increase of $791,000 or 22% as compared with selling and administrative expense of $3.6 million or 45% of sales in the three months ended October 2, 2005.  For the nine months ended October 1, 2006 selling and administrative expenses were $13.7 million or 36% of sales, an increase of $2.0 million or 17% as compared with selling and administrative expense of $11.6 million or 59% of sales in the nine months ended October 2, 2005. The increase in expense in the relative three month periods resulted from a $464,000 increase in stock compensation expense related to the adoption of SFAS 123R, $220,000 increase in salaries and wages due to increase in staffing, $123,000 increase in traveling expenses due to increased focus on customer connection and $99,000 increase in external sales representatives commission due to the increase in semiconductor sales over the prior year’s period, the increase was partially offset by a $194,000 reduction in professional service fees as a result of the change in the Company’s filer status and $35,000 reduction in severance.  The increase in expense in the relative nine month periods resulted from a $637,000 intangible asset write-off related to our decision to cease the use of the Telenexus trademark and trade names intangible asset in favor of using the WJ Communications brand to market our RFID products, $660,000 in professional service fees, $195,000 increase in traveling expenses due to increased focus on customer connection, $171,000 increase in external sales representatives commission due to the increase in semiconductor sales over the prior year’s period, $151,000 increase in recruiting fees related to staffing turnover, $111,000 increase of stock compensation expense related to the adoption of SFAS 123R and partially offset by $182,000 decrease in severance payments to realign our workforce to our current objectives.

The three and nine month period ended October 2, 2005 included a $1.2 million charge related to a former CEO separation agreement, $547,000 of professional fees related to a potential strategic business combination which we decided not to consummate and a $100,000 reduction in the accrued liability for environmental remediation when it was determined that the probability of an assessment for a prior violation was remote.  As a percentage of sales, the decrease in selling and administrative expense in the three and nine month periods of 2006 reflects the increase in sales in the same relative periods.

Acquired In-process Research and Development Expenses– During the first quarter of 2005, $3.4 million of the purchase price for the acquisition of Telenexus, Inc. was allocated to acquired in-process research and development (“IPRD”). Projects that qualify as in-process research and development are expensed as they represent projects that have not yet reached technological feasibility and have no future alternative use. Technological feasibility is defined as being equivalent to a beta-phase working prototype in which there is minimal remaining risk relating to the development which these projects did not possess at the time of the acquisition. The value assigned to IPRD expense comprised the following projects:  multi-protocol readers ($1.3 million), Smart readers ($900,000) and Class 3 readers ($1.2 million).  We continue to work on the development of these projects.  As of October 1, 2006, the estimated aggregate cost to complete these projects was $32,000, $883,000 and $537,000, respectively which is expected to occur during remainder of 2006. The value of these projects was determined by estimating the discounted net cash flows from the anticipated sale of the products resulting from the completion of the projects, reduced by the portion of the revenue attributable to developed technology and the percentage of completion of the project.  The assumptions consisted of expected completion dates for

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the IPRD projects, estimated costs to complete the projects, and revenue and expense projections for the products once they would have entered the market.

The nature of the efforts to develop the acquired in-process research and development into commercially viable products principally relates to the completion of all prototyping and testing activities that are necessary to establish that the product can meet its design specification including function, features and technical performance requirements. Therefore, the amount allocated to in-process research and development was charged to operations during the first quarter of 2005.

Interest Income – Interest income represents interest earned on cash equivalents and short-term available-for-sale investments. Our interest income in the three months ended October 1, 2006 was $327,000, an increase of $55,000 or 20% as compared with interest income of $272,000 in the three months ended October 2, 2005.  Our interest income in the nine months ended October 1, 2006 was $914,000, an increase of $141,000 or 18% as compared with interest income of $773,000 in the nine months ended October 2, 2005. This relative dollar increase in both comparative periods resulted from an increase in interest rates offsetting a decrease in average funds available for investment.

Interest Expense – Our interest expense for the three months ended October 1, 2006 was $14,000, a decrease of $15,000 or 52% as compared with interest expense of $29,000 for the three months ended October 2, 2005.  For the nine months ended October 1, 2006 our interest expense was $60,000, a decrease of $17,000 or 22% as compared with interest expense of $77,000 for the nine months ended October 2, 2005.  Interest expense for all periods relates to maintenance fees associated with our revolving credit facility and outstanding letters of credit.

Income Tax Benefit – During the nine months ended October 1, 2006, we recorded a tax benefit of $1.4 million resulting from a revision of our estimated tax liability based on the statute expiration of certain estimated state tax exposures during 2006.  As of October 1, 2006 the balance of the contingent income tax liability was $418,000.

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LIQUIDITY AND CAPITAL RESOURCES

Cash, cash equivalents and short-term investments at October 1, 2006 totaled $27.0 million, a decrease of $3.2 million or 11% compared to the balance of $30.2 million at December 31, 2005.

On December 27, 2005, we entered into the fourth amendment (the “Amendment”) to our Amended and Restated Loan and Security Agreement between Comerica Bank and us dated September 23, 2003 and as amended June 13, 2005, July 12, 2005 and September 28, 2005.  The effective date of the Amendment is December 22, 2005.  Under the new terms, the revolving credit facility (“Revolving Facility”) provides for a maximum credit extension of $10.0 million, with a $5.0 million sub-limit to support letters of credit, a $250,000 sub-limit for foreign exchange transactions and a $200,000 sub-limit for corporate credit cards. The Revolving Facility expires on December 21, 2006.  Interest rates on outstanding borrowings are periodically adjusted based on certain financial ratios and are initially set, at our option, at LIBOR plus 2.0% or Prime. The Revolving Facility requires us to maintain certain financial ratios and contains limitations on, among other things, our ability to incur indebtedness, pay dividends and make acquisitions without the bank’s permission.  The Revolving Facility is secured by substantially all of our assets. We were in compliance with the covenants as of October 2, 2006.  As of October 1, 2006 and December 31, 2005, there were no outstanding borrowings under the Revolving Facility. We have letters of credit of $3.2 million available as of October 1, 2006 against which no amounts have been drawn.

Net Cash Used in Operating Activities – Net cash used in operations was $3.5 million and $8.0 million in the nine months ended October 1, 2006 and October 2, 2005, respectively. Net loss in the nine months ended October 1, 2006 and October 2, 2005 was $5.5 million and $18.9 million, respectively.

The most significant cash item impacting the difference between net loss and cash flows used in operations in the first nine months of 2006 was $2.3 million used by working capital. The $2.3 million used by working capital relates to a $797,000 decrease in accruals and accounts payable and a $2.0 million decrease in restructuring liabilities which were partially offset by a $887,000 decrease in inventories. The $797,000 decrease in accruals and payables relates to the timing of invoice payments relative to our quarter end. The $2.0 million decrease in restructuring liabilities relates to payments against the remaining lease loss accrual.  The $887,000 decrease in inventories resulted from decreased cycle time in our wafer fabrication process and a $1.3 million write-down to reduce excess inventories to their estimated net realizable values.  Non-cash items included in net loss in the nine months ended October 1, 2006 included $1.4 million related to a decrease in our income tax liability, $2.5 million of depreciation and amortization and $1.3 million of stock based compensation expense.  The $1.4 million decrease in our income tax liability resulted from a revised estimate based on the statute expiration of certain estimated state tax exposures during April and October 2006.

The most significant cash item impacting the difference between net loss and cash flows used in operations in the first nine months of 2005 was $482,000 provided by working capital. The $482,000 provided by working capital relates to a $864,000 decrease in other assets and a $1.6 million decrease in receivables which were partially offset by a $2.0 million decrease in restructuring liabilities. The $864,000 decrease in other assets resulted from the collection of $576,000 contract termination settlement and the collection of $489,000 interest receivable (primarily purchased interest) related to our investment in marketable securities and short-term available-for-sale investments. Our receivables decreased $1.6 million as our shipments during the first nine months of 2005 were more evenly distributed throughout the period, allowing for increased collections within the period. The $2.0 million decrease in restructuring liabilities relates to payments against the remaining lease loss accrual. Non-cash items included in net loss in the nine months ended October 2, 2005 included $2.3 million of depreciation and amortization, $3.4 million of IPRD related to our acquisition of Telenexus, Inc. and $3.7 million related to an increase in our deferred margin on distributor inventory due to our change in the application of our revenue recognition policy regarding sales to our distributors during our second quarter ending July 3, 2005.  For further discussion, see Note 2 to the unaudited condensed consolidated financial statements included elsewhere in this Form 10-Q.

Net Cash Provided by Investing Activities – Net cash provided by investing activities was $2.6 million and $2.4 million in the nine months ended October 1, 2006 and October 2, 2005, respectively.  In the first nine months of 2006, we realized $23.0 million in proceeds from the sale and maturities of our short-term investments which was partially offset by $19.4

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million used to purchase short-term investments and $1.3 million to invest in property, plant and equipment.  In the first nine months of 2005, we realized $33.6 million in proceeds from the sale and maturities of our short-term investments which was partially offset by $27.9 million used to purchase short-term investments and $3.2 million to acquire Telenexus, Inc. including associated acquisition costs. During 2006, we expect to invest approximately $2.0 million to $3.0 million in capital expenditures of which $1.3 million was purchased in the first nine months. We have funded our capital expenditures from cash, cash equivalents and short-term investments and expect to continue to do so throughout 2006.

In conjunction with our recent acquisitions, we may be required to pay further consideration in the EiC acquisition of up to $7.0 million in cash (10%) and shares (90%) if specific revenue targets were achieved by March 31, 2006 and in the Telenexus acquisition, of up to $2.5 million in cash and up to 833,333 shares if certain revenue targets are achieved by October 28, 2006.  We expect to fund these payments, if earned, from our cash, cash equivalents and short-term investments, cash flows and borrowings to the extent available.  Regarding the EiC additional compensation, we have determined that the revenue targets were not met for this period. We have communicated our conclusion to EiC and they have notified us that they disagree with our conclusions.  We believe EiC’s assertions are without merit and we are preparing a response.  There can be no assurance as to the eventual outcome of this matter.  Regarding the Telenexus additional compensation, we have determined that the revenue targets were not met and we have communicated our conclusion to the selling shareholders.  They have thirty days to review and possibly contest our calculation.

Net Cash Provided by Financing Activities – Net cash provided by financing activities totaled $1.5 million and $862,000 in the nine months ended October 1, 2006 and October 2, 2005, respectively.  In the first nine months of 2006, we received net proceeds of $1.6 million from the sale of our common stock to employees through our employee stock purchase and option plans and paid $32,000 of financing costs associated with our revolving credit facility. In the first nine months of 2005, we received net proceeds of approximately $1.1 million from the sale of our common stock to employees through our employee stock purchase and option plans. Other cash items included $200,000 used to repurchase our common stock from our former CEO to cover the income tax withholding on his purchase of 328,500 shares of restricted stock.

Based on our current plans and business conditions, we believe that our existing cash, cash equivalents and short-term investments together with available borrowings under our line of credit will be sufficient to meet our liquidity and capital spending requirements for at least the next twelve months. Thereafter, we will utilize our cash, cash flows and borrowings to the extent available and, if desirable or necessary, we may seek to raise additional capital through the sale of debt or equity. There can be no assurances, however, that future borrowings and capital resources will be available on favorable terms or at all. Our cash flows are highly dependent on demand for our products, timing of orders and shipments with key customers and our ability to manage our working capital, especially inventory and accounts receivable, as well as controlling our production and operating costs in line with our revenue.

Contractual Obligations

Our contractual obligations and the effect those obligations are expected to have on our liquidity and cash flows are set forth in “Management’s Discussion and Analysis of Results of Operations and Financial Condition” of our annual report on Form 10-K for the year ended December 31, 2005.

Off-Balance Sheet Arrangements

We do not have any special purpose entities or off-balance sheet financing arrangements except for certain operating leases discussed in Note 12 to the consolidated financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2005.

Change in Filer Status

Commencing with the Company’s annual report on Form 10-K for fiscal year 2006, it will no longer be deemed an accelerated filer because the Company’s public float was below the required threshold as of the last business day of it’s most recently completed second fiscal quarter. As a result of becoming a non-accelerated filer, the Company is permitted to elect to suspend its Sarbanes-Oxley Section 404 obligations to provide a management’s report on internal control over

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financial reporting and related auditor attestation report until the annual report on Form 10-K for fiscal year 2007.  The Company has elected to suspend its reporting obligations under Section 404 which election was approved by the audit committee. During the period the Company is permitted to suspend its reporting obligations under Section 404, the Company estimates that such election will save approximately $175,000 annually in external costs.

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Item 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

The following discussion about our market risk disclosures involves forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements. We are exposed to market risk related to changes in interest rates. We do not use derivative financial instruments for speculative or trading purposes.

Cash, Cash Equivalents and Investments – Cash and cash equivalents consist of money market funds and commercial paper acquired with remaining maturity periods of 90 days or less and are stated at cost plus accrued interest which approximates market value. Short-term investments consist primarily of high-grade debt securities (A rating or better) with maturity greater than 90 days from the date of acquisition and are classified as available-for-sale. Short-term investments classified as available-for-sale are reported at fair market value with unrealized gains or losses excluded from earnings and reported as a separate component of stockholders’ equity, net of tax, until realized. These available-for-sale securities are subject to interest rate risk and will rise or fall in value if market interest rates change. They are also subject to short-term market risk. We have the ability to hold our fixed income investments until maturity, and therefore we would not expect our operating results or cash flows to be affected to any significant degree by the effect of a sudden change in market interest rates on our investment portfolio.

The following table provides information about our investment portfolio and constitutes a “forward-looking statement.” For investment securities, the table presents principal cash flows and related weighted average interest rates by expected maturity dates.

			Weighted
	Expected Maturity		Average Interest
Expected Maturity Dates	Amounts		Rate
	(in thousands)
Cash equivalents:
2006	$	13,314	4.93	%
Short-term investments:
2006	12,387		5.32	%
Fair value at October 1, 2006	$	25,701

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Item 4.CONTROLS AND PROCEDURES

Attached as exhibits 31.1 and 31.2 to this Form 10-Q are certifications of WJ Communication’s Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), which are required in accordance with Rule 13a-14 of the Securities Exchange Act of 1934, as amended. This “Controls and Procedures” section includes information concerning the controls and controls evaluation referred to in the certifications, and it should be read in conjunction with the certifications for a more complete understanding of the topics presented.

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures, as such term is defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”), that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. We conducted an evaluation (the “Evaluation”), under the supervision and with the participation of our CEO and CFO, of the effectiveness of the design and operation of our disclosure controls and procedures (“Disclosure Controls”) as of the end of the period covered by this report pursuant to Rule 13a-15 of the Exchange Act. Based on this Evaluation, our CEO and CFO concluded that our Disclosure Controls were not effective as of the end of the period covered by this report due to the following material weakness.

During the preparation of the Company’s financial statements for the quarterly period ended October 1, 2006, the Company determined that it had not properly accrued cash bonuses earned under employment agreements, including executive officers.  As a result, management concluded, after discussions with the Audit Committee of the Company’s Board of Directors, that the Company should restate the Company’s previously filed financial statements for the quarterly periods ended April 2, 2006 and July 2, 2006 in order to correct these errors.  As a result of the Company’s determination that the errors should be corrected and that previously filed financial statements should be restated, management has concluded that there is a material weakness in the Company’s internal control over financial reporting.  The Company is currently assessing the actions necessary to remediate such material weakness.

Notwithstanding this material weakness, we believe that the consolidated financial statements included in this report fairly present our consolidated financial position and the consolidated results of operations for the quarterly period ended October 1, 2006.

Changes in Internal Controls

We have evaluated our internal control over financial reporting (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act), and there have been no changes in our internal control over financial reporting during the most recent fiscal quarter, other than as described above, that have materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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PART II — OTHER INFORMATION

Item 1A.  RISK FACTORS

You should carefully consider the risks described in the “Risk Factors” section of our Annual Report on Form 10-K for the year ended December 31, 2005 filed with the SEC on March 31, 2006 and described herein below before making an investment in our securities.  Set forth below are the specific risk factors which have been updated or included to reflect material changes from the risk factors previously disclosed in our Form 10-K for the year ended December 31, 2005 in response to Item 1A. to Part I of Form 10-K.  There have been no other material changes from the risk factors previously disclosed in our Form 10-K for the year ended December 31, 2005.  The forward-looking statements in this Quarterly Report on Form 10-Q involve risks and uncertainties and actual results may differ materially from the results we discuss in the forward-looking statements. If any of the risks we have described in the “Risk Factors” section and elsewhere in our SEC filings actually occur, our business, financial condition or results of operations could be materially adversely affected. In that case, the trading price of our stock could decline, and you may lose all or part of your investment.

We have a history of losses, we may incur future losses, and if we are unable to achieve profitability our business will suffer and our stock price may decline.

We have not recorded operating income since 1999 and we may not be able to achieve revenue or earnings growth or obtain sufficient revenue to sustain profitability. In the nine months ended October 1, 2006 our sales were $37.5 million and we incurred an operating loss of $7.7 million compared to sales of $19.9 million and an operating loss of $19.7 million for the nine months ended October 2, 2005.  In addition, our sales for 2005 were $31.6 million and we incurred an operating loss of $22.1 million compared to sales of $32.3 million and an operating loss of $17.3 million for 2004.  Our accumulated deficit was $179.7 million at October 1, 2006.

We expect that reduced end-customer demand compared to our prior history will, and other factors could, adversely affect our operating results in the near term, and we anticipate incurring additional losses in the future. Other factors that could negatively impact our results include, but are not limited to:

·production overcapacity in the industry, which could reduce the price of our products adversely affecting our sales and margins;

·rescheduling, reduction or cancellation of significant customer orders, which could cause us to lose sales that we had anticipated;

·any loss of a key customer;

·the ability of our customers to manage their inventories, which if not properly managed could cause our customers to reschedule, reduce or cancel significant orders or return our products; and

·political and economic instability, foreign conflicts involving or the impact of regional and global infectious illnesses (such as outbreaks of SARS and bird flu) in the countries of our vendors, manufacturers, subcontractors and customers, particularly in the countries of China, South Korea, Malaysia and The Philippines.

We may incur losses for the foreseeable future, particularly if our revenues do not increase substantially or if our expenses increase faster than our revenues. In order to return to profitability, we must achieve substantial revenue growth and reduce expenses, and we currently face an environment of uncertain demand in the markets our products address.

We depend on our sole worldwide distributor for distribution of our RF semiconductor products and the loss of this relationship could materially reduce our sales.

Richardson Electronics is the sole worldwide distributor of our complete line of RF semiconductor products. This sole distributor is our largest semiconductor customer, and our sales to Richardson Electronics represent 44% and 43% of our total sales for the nine months ended October 1, 2006 and October 2, 2005, respectively.  We cannot assure you that this exclusive relationship will improve sales of our semiconductor products or that it is the most effective method of distribution.  If

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Richardson Electronics fails to successfully market and sell our products, our semiconductor sales could materially decline. Our agreement with this distributor does not require it to purchase our products and is terminable at any time. If this distribution relationship is discontinued, our RF semiconductor sales could decline significantly.

We depend upon a small number of customers that account for a high percentage of our sales and the loss of, or a reduction in orders from, a significant customer could result in a reduction of sales.

We depend on a small number of customers for a majority of our sales. We currently have two customers, Customer A and Customer B, which each accounted for more than 10% of our sales and in aggregate accounted for 62% of our sales for the nine months ended October 1, 2006.  We had two customers, Customer A and Customer B, which each accounted for more than 10% of our sales and in aggregate accounted for 57% of our sales for the nine months ended October 2, 2005.  Sales to Customer A accounted for 44% and 43% of our sales for the nine months ended October 1, 2006 and October 2, 2005, respectively.  Sales to Customer B accounted for 18% and 14% of our sales for the nine months ended October 1, 2006 and October 2, 2005, respectively.

The increase in our sales to Customer A during the nine months ended October 1, 2006 is attributable to the substantial increase in demand for our products in the wireless infrastructure market particularly related to the growth of 3G systems.  In addition, in the nine months ended October 2, 2005 our revenue from Customer A was adversely effected by a change in the application of our revenue recognition policy from revenue recognition upon shipment to revenue recognition when our distributors have sold the product to the end customer.  This change in application resulted in a $4.0 million revenue deferral in our second quarter of 2005. For further discussion, see Note 2 to the unaudited condensed consolidated financial statements included elsewhere in this Form 10-Q.  The increase in our sales to Customer B during the nine months ended October 1, 2006 is also related to the substantial increase in demand for our products in the wireless infrastructure market particularly related to the growth of 3G systems as well as an increasing business practice of original equipment manufacturers to outsource a greater percentage of their manufacturing.

In addition, most of our sales result from purchase orders or from contracts that can be cancelled on short-term notice. Moreover, it is possible that our customers may develop their own products internally or purchase products from our competitors. Also, events that impact our customers, for example wireless equipment manufacturers consolidation and/or wireless carrier consolidation, can adversely affect our sales. We expect that our key customers will continue to account for a substantial portion of our revenue in 2006. The loss of, or a reduction in orders from, a significant customer for any reason could cause our sales to decrease.

If we or our outsourced manufacturers fail to accurately forecast component and material requirements, we could incur additional costs or experience product delays.

We use rolling forecasts based on anticipated product orders to determine our component requirements. It is important that we accurately predict both the demand for our products and the lead times required to obtain the necessary products and/or components and materials. Lead times for components and materials that we, or our outsourced manufacturers, order can vary significantly and depend on factors such as specific supplier requirements, the size of the order, contract terms and current market demand for the components. To the extent that we rely on outsourced manufacturers, many of these factors will be outside of our direct managerial control. For substantial increases in production levels, our outsourced manufacturers and some suppliers may need nine months or more lead time. As a result, we may be required to make financial commitments in the form of purchase commitments. We lack visibility into the finished goods inventories of our customers and the end-users. This lack of visibility impacts our ability to accurately forecast our requirements. If we overestimate our component, material and outsourced manufactured requirements, we may have excess inventory, which would increase our costs. An additional risk for potential excess inventory results from our volume purchase commitments with certain material suppliers, which can only be reduced in certain circumstances. Additionally, if we underestimate our component, material, and outsourced manufactured requirements, we may have inadequate inventory, which could interrupt and delay delivery of our products to our customers. Any of these occurrences would negatively impact our sales and profitability. We have incurred, and may in the future incur, charges related to excess and obsolete inventory. These charges amounted to $1.3 million and $334,000 in the nine month periods ended October 1, 2006 and October 2, 2005, respectively and $975,000, $670,000 and $251,000 in 2005, 2004 and 2003, respectively. While these charges may be partially offset by subsequent sales of previously written-down inventory, there can be no assurance that any such sales will be significant. As we broaden our product lines we must

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outsource the manufacturing of or purchase a wider variety of components. In addition, new product lines contain a greater degree of uncertainty due to a lack of visibility of customer acceptance and potential competition. Both of these factors will contribute a higher level of inventory risk in our near future.

We rely on the significant experience and specialized expertise of our executive management in our industry and must retain and attract qualified engineers and other highly skilled personnel in a highly competitive job environment to maintain and grow our business.

Our performance is substantially dependent on the continued services and on the performance of our executive management and our highly qualified team of engineers. We have recruited a completely new executive management team during the last year, including most recently a new Chief Financial Officer, R. Gregory Miller, on April 10, 2006. The loss of the services of any of our executive officers or of a number of our engineers could harm our ability to maintain and build our business. We have no “key man” life insurance policies.

Our future success also depends on our ability to identify, attract, hire, train, retain and motivate highly skilled technical, managerial, sales, marketing and customer service personnel. If we fail to attract, integrate and retain the necessary personnel, our ability to maintain and build our business could suffer significantly. Additionally, California State law can create unique difficulties for a California based company attempting to enforce covenants not to compete with employees, which could be a factor in our future ability to retain key management and employees in a competitive environment.

There are inherent risks associated with sales to our foreign customers.

We sell a significant portion of our product to customers outside of the United States. Sales to customers outside of the United States accounted for 53% and 43% of our sales in the nine month periods ended October 1, 2006 and October 2, 2005, respectively and 44%, 35% and 32% of our sales in 2005, 2004 and 2003, respectively. We expect that sales to customers outside of the United States will continue to account for a significant portion of our sales. Although all of our foreign sales are denominated in U.S. dollars, such sales are subject to certain risks, including, among others, changes in regulatory requirements, the imposition of tariffs and other trade barriers, the existence of political, legal and economic instability in foreign markets, language and cultural barriers, seasonal reductions in business activities, our ability to receive timely payment and collect our accounts receivable, currency fluctuations, and potentially adverse tax consequences, which could adversely affect our business and financial results.

Our dependence on a foundry partner exposes us to a risk of manufacturing disruption or uncontrolled price changes.

On October 30, 2006, our board of directors committed us to a restructuring plan to close and exit our Milpitas fabrication facility during the first quarter of 2007. The Milpitas fabrication facility produced some of our gallium arsenide semiconductor products and our second source for wafers is Global Communication Semiconductors, Inc., our foundry partner who will become our sole source as a result of the fab closure.

If the operations of our foundry partner should be disrupted, or if they should choose not to devote capacity to our products in a timely manner, our business could be adversely impacted as we might be unable to manufacture some of our products on a timely basis. In addition, the cyclicality of the semiconductor industry has periodically resulted in disruption of supply. We may not be able to find sufficient capacity at a reasonable price or at all if such disruptions occur. As a result, we face significant risks, including:

·reduced control over delivery schedules and quality;

·longer lead times;

·the potential lack of adequate capacity during periods when industry demand exceeds available capacity;

·difficulties finding and integrating new subcontractors;

·limited warranties on products supplied to us;

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·potential increases in prices due to capacity shortages, currency exchange fluctuations and other factors; and

·potential misappropriation of our intellectual property.

We determined that we had material weaknesses in our internal control over financial reporting as of October 1, 2006, which caused us to restate our first and second fiscal quarter financial results. This material weakness, and any future restatements to our financial statements which may result from it, could result in a loss of investor confidence in our financial reports and have an adverse effect on our stock price and potentially limit our access to financial markets.

On November 1, 2006 management concluded, after discussions with the Audit Committee of the Company’s Board of Directors, that the Company should restate the Company’s previously filed financial statements for the quarterly periods ended April 2, 2006 and July 2, 2006 in order to record an accrual during such periods for cash bonuses earned under employment agreements, including executive officers, as well as compensation expense related to a market condition included in restricted stock previous granted to the Chief Executive Officer.

As a result of the Company’s determination that the errors should be corrected and that previously filed financial statements should be restated, management has concluded that there is a material weakness in the Company’s internal controls over financial reporting and that the disclosure controls and procedures are not effective.

Should we discover that we have a material weakness in our internal control over financial reporting in the future, especially considering that we have had material weaknesses in the past, investors could lose confidence in the accuracy and completeness of our financial reports, which could have an adverse effect on our stock price and could limit our access to financial markets.

The lease of our fabrication facility is due to expire and because we plan to hold-over in order to complete our fab closure we may be at risk for termination of the use of the facility by the landlord.

On October 30, 2006, our board of Directors committed us to a restructuring plan to close and exit our Milpitas fabrication facility during the first quarter of 2007. The Milpitas fabrication facility currently produces some of our gallium arsenide semiconductor products and has substantial excess capacity. Our lease of the fabrication facility expires November 14, 2006 and in accordance with the terms of the lease we plan to hold over, whereby the lease converts to a month to month lease, until the closure is complete. We plan to produce additional wafer inventory at the fabrication facility until closure. During this holdover period, we are at risk for termination of our use of the facility before such time as we complete our closing and exiting of the fabrication facility. If this should occur, we might not have enough additional wafer inventory to buffer any delayed qualifications from customers or ramp-up issues with Global Communication Semiconductors, Inc.

Risks Related to Our Stock

Sales of substantial amounts of our common stock by Fox Paine, selling stockholders in connection with shares we have issued in recent acquisitions and certain other stockholders could adversely affect the market price of our common stock

We filed a registration statement on Form S-3 to register 25,492,044 shares for resale by Fox Paine Capital Fund, L.P., FPC Investors, LP, WJ Coinvestment Fund I, LLC, WJ Coinvestment Fund III, LLC and WJ Coinvestment Fund IV, LLC (together the “FP Entities”), pursuant to an agreement providing for registration rights, which was declared effective by the Securities and Exchange Commission on May 12, 2006.  The Fox Paine Entities are collectively our largest stockholder.  As of October 1, 2006, the Fox Paine Entities beneficially owned 38.1% of our common stock which represents approximately 25.5 million of our 66.9 million outstanding shares of common stock.  As a result of  the registration statement, the Fox Paine Entities will not be restricted by the Rule 144 volume limitations on sales otherwise applicable to affiliates and will have the ability to sell a large number of shares at one time if it so desires. Furthermore, we have issued an aggregate of 2,442,882 shares of our common stock to date in connection with our recent EiC and Telenexus acquisitions. Our stock is not heavily

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traded and our stock prices can fluctuate significantly.  As such, sales of substantial amounts of our common stock into the public market by the Fox Paine Entities, or selling stockholders in connection with the EiC and Telenexus acquisitions or certain other stockholders, or perceptions that significant sales could occur, could adversely affect the market price of our common stock.

Also, we may be obligated to issue additional shares of our common stock in connection with the EiC and Telenexus acquisitions. The EiC acquisition agreement contained contingency clauses which could have required us to pay further compensation of up to $14.0 million if specific revenue and gross margin targets are achieved by March 31, 2005 and March 31, 2006 of which $7.0 million of additional compensation related to the period ended March 31, 2005. We calculated that the revenue and the gross margin targets were not met for the period ending March 31, 2005, and this was communicated to EiC on May 31, 2005.  EiC subsequently notified us that it disagreed with our conclusions. While we believe EiC’s assertions are without merit and we have notified EiC of such, there can be no assurance as to the eventual outcome of this matter. The remaining $7.0 million of potential additional consideration relates to the period ended March 31, 2006 and we have determined that the revenue targets were not met for this period.  We have communicated our conclusion to EiC and they have also contested this calculation. We believe EiC’s assertions are without merit and we are preparing a response.  There can be no assurance as to the eventual outcome of this matter.  The $7.0 million would have been payable 10% in cash and, at our election, 90% in shares of our common stock. If the targets were fully attained and we elected to pay in shares of common stock, the number of additional shares issued would have been 2,540,323 computed at $2.48 per share which represents the average closing price of our stock on NASDAQ during the 10 day period prior to the end of the earnout period. In the Telenexus acquisition, up to $2.5 million in cash and 833,333 shares would have been required to be paid if certain revenue targets are achieved by October 28, 2006.  We have determined that these revenue targets were not met and have communicated our conclusion to the selling shareholders.

Furthermore, future sales of substantial amounts of common stock by certain others such as our officers, directors and Kopp Investment Advisors, LLC, the beneficial owners of approximately 16.3% of our outstanding common stock as of  October 1, 2006, in the public market or otherwise or the awareness that a large number of shares is available for sale, could adversely affect the market price of our common stock.

In addition to the adverse effect a price decline would have on holders of our common stock, a price decline in our common stock could impede our ability to raise capital through the issuance of additional shares of common stock or other equity or convertible debt securities. A price decline in our common stock below the NASDAQ minimum bid requirements due to substantial sales of our common stock could result in our common stock being delisted from NASDAQ. Delisting could in turn reduce the liquidity of our common stock and inhibit or preclude our ability to raise capital.

The concentration of ownership of our common stock could prevent other stockholders from influencing or affecting the outcome of significant matters and our arrangements with Fox Paine could conflict with the interests of our other stockholders

Ownership of our common stock is highly concentrated. As of October 1, 2006, Fox Paine & Company, LLC (“Fox Paine”) is the indirect beneficial owner of 38.1% of our outstanding share capital. As a result, Fox Paine has and will continue to have significant influence over the outcome of matters requiring stockholder approval, including:

·election of all our directors and the directors of our subsidiaries;

·amending our charter or by-laws; and

·agreeing to or preventing mergers, consolidations or the sale of all or substantially all our assets or our subsidiaries’ assets.

Additionally, our second largest stockholder, Kopp Investment Advisors, LLC, beneficially owned approximately 16.3% of our common stock as of October 1, 2006. As such, our two largest stockholders own over 50% of our outstanding common stock and if they chose to act collectively would hold enough voting power to determine the outcome of any matters requiring stockholder approval. Our largest stockholders may have interests that differ from those of our other stockholders and may take actions or influence our operations in a manner contrary or adverse to the interests of our other stockholders. The concentration of ownership interest of our common stock could delay, prevent or cause a change in control relating to us which could adversely affect the market price of our common stock.

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Fox Paine’s significant ownership interest could also subject us to a class action lawsuit which could result in substantial costs and divert our management’s attention and financial resources from more productive uses. Fox Paine, on September 18, 2002, made a proposal to acquire all of the shares held by unaffiliated stockholders, which was subsequently withdrawn on March 27, 2003. Prior to Fox Paine’s withdrawal of such proposal, four lawsuits, three of which were purported class action lawsuits, were filed against us and Fox Paine in connection with such proposal. Among other things, these lawsuits sought an injunction against the consummation of the proposal and an award of unspecified compensatory damages. These lawsuits were voluntarily dismissed after Fox Paine’s withdrawal of such proposal without any consideration being required to be paid to the plaintiff’s and each party was obligated to bear its own attorney’s fees, costs and expenses. We can make no assurance, however, that Fox Paine will not at some point in the future make another proposal regarding us and, if so, what the terms and outcome of such proposal might be. If Fox Paine were in the future to make a proposal involving us , depending on the terms of such proposal, the resulting transaction could result in litigation which could adversely affect our business or our stock price.

In addition, members of Fox Paine serve on our Board of Directors pursuant to a shareholders’ agreement which entitles Fox Paine to board seats proportionate to its percentage ownership of our stock and Fox Paine provides services to us pursuant to a management agreement. The loss of Fox Paine’s services to us as well as the services of members of Fox Paine on our board of directors could adversely affect our business. Our obligation to pay management fees to Fox Paine could influence their decisions regarding us. Under our management agreement with Fox Paine, we are obligated to pay Fox Paine a fee in the amount of 1% of the prior year’s income before interest expense, interest income, income taxes, depreciation and amortization and equity in earnings (losses) of minority investments, calculated without regard to the fee. However, due to the losses we have incurred in past we have not been required to pay management fees to Fox Paine since 2001.

Fox Paine may in the future make significant investments in other communications companies. Some of these companies may be our competitors. Fox Paine and its affiliates are not obligated to advise us of any investment or business opportunities of which they are aware, and they are not restricted or prohibited from competing with us.

Item 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

At our Annual Meeting of Stockholders held on July 20, 2006 our stockholders:

(a)Elected each of the following nine nominees as directors, each to serve for a one-year term and to hold office until their successors are duly elected and qualified. The vote for each director was as follows:

Nominee	For	Withheld
W. Dexter Paine, III	56,036,461	5,020,510
Bruce W. Diamond	60,334,257	722,714
Herald Y. Chen	60,315,629	741,342
Patrice M. Daniels	60,542,524	514,447
Michael E. Holmstrom	60,562,524	494,447
Catherine P. Lego	57,466,071	3,590,900
Jack G. Levin	60,339,629	717,342
Liane J. Pelletier	56,043,905	5,013,066
Robert Whelton	60,555,741	501,230

(b)Approved an amendment to the Company’s 2000 Amended and Restated Non-Employee Director Stock Compensation Plan by the votes indicated:

For	Against	Abstain	Broker non-vote
46,631,198	2,204,467	170,437	12,050,869

(c)Approved an amendment to the Company’s 2001 Employee Stock Purchase Plan by the votes indicated:

For	Against	Abstain	Broker non-vote
44,774,679	4,054,501	176,922	12,050,869

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(d)Ratified the appointment of Deloitte & Touche LLP as the Company’s independent registered public accounting firm for the fiscal year 2006 by the votes indicated:

For	Against	Abstain	Broker non-vote
60,877,860	99,926	79,185	-0-

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Item 6.  EXHIBITS

The exhibits listed on the following index to exhibits are filed as part of this Form 10-Q.

		Incorporated by Reference
Exhibit					Filing	Filed
Number	Exhibit Description	Form	File No	Exhibit	Date	Herewith
10.1+	Wafer Manufacturing and Supply Agreement between Registrant and Global Communication Semiconductors, Inc					X
31.1	Certification of Bruce W. Diamond, Chief Executive Officer (principal executive officer), pursuant to Rule 13a-14/15d-14(a) of the Securities Exchange Act of 1934.					X
31.2	Certification of R. Gregory Miller, Chief Financial Officer (principal financial officer), pursuant to Rule 13a-14/15d-14(a) of the Securities Exchange Act of 1934.					X
32.1	Certification of Bruce W. Diamond, Principal Executive Officer, Pursuant To 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002.					X
32.2	Certification of R. Gregory Miller, Principal Financial Officer, Pursuant To 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002.					X

+         Confidential treatment has been requested with respect to the redacted portions of the referenced exhibit.

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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, in the City of San Jose, State of California, on the 17th day of November 2006.

				WJ COMMUNICATIONS, INC.
				(Registrant)
Date		November 17, 2006	By:	/s/ BRUCE W. DIAMOND
				Bruce W. Diamond
				President and Chief Executive Officer
				(principal executive officer)
Date	November 17, 2006		By:	/s/ R. GREGORY MILLER
				R. Gregory Miller
				Vice President and Chief Financial Officer
				(principal financial officer)

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EX-10.1

Exhibit 10.1

“CONFIDENTIAL TREATMENT OF CERTAIN INFORMATION CONTAINED IN THIS DOCUMENT HAS BEEN REQUESTED BY WJ COMMUNICATIONS, INC. THE CONFIDENTIAL PORTIONS OF THIS DOCUMENT INDICATED WITH ASTERISKS (***) HAVE BEEN OMITTED AND HAVE BEEN FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION.”

Wafer Manufacturing and Supply Agreement

This Wafer Manufacturing and Supply Agreement (“Agreement”) is made and entered into this        day of December      , 2005, by and between Global Communication Semiconductors, Inc., a California corporation having its principal place of business at 23155 Kashiwa Court Torrance, California 90505 (hereinafter “GCS”) and WJ Communications, Inc., a Delaware corporation having its principal place of business at 401 River Oaks Parkway San Jose, CA 95134 (hereinafter  “WJ”). (WJ and GCS shall also sometimes be referred to herein together as the “Parties” or individually as a “Party”).

WITNESSETH:

WHEREAS, GCS is a semiconductor foundry that manufactures semiconductor products in volume;

WHEREAS, WJ desires to pay GCS to manufacture and supply WJ with wafers utilizing WJ’s wafer production processes;

WHEREAS, WJ has developed certain proprietary process technology associated with wafer production products, and desires to provide such technology to GCS solely for the purpose of manufacturing wafers for WJ;

WHEREAS, GCS is willing to manufacture and supply wafers to WJ utilizing WJ’s wafer production processes; and

WHEREAS, the Parties desire to establish the terms and conditions for the manufacture of wafers by GCS and the purchase of wafers by WJ.

NOW, THEREFORE, in consideration of the mutual promises and agreements of the Parties contained herein, and other good and valuable consideration the receipt and sufficiency of which are hereby acknowledged, the Parties agree as follows:

1. DEFINITIONS

1.1 “Confidential Information means any and all information (in any and every form and media) not generally known in the relevant trade or industry, which was obtained from any Party in connection with this Agreement or the respective rights and obligations of the Parties hereunder, including, without limitation, (a) information relating to trade secrets of such Party, (b) information relating to existing or contemplated products, services, technology, ideas, designs, processes, formulae, research and development (in any and all stages) of such Party, (c) information relating to the Wafers or any of the patents, trade secrets, know-how, and other technology and information relating to the Wafers and their design, and (d) information relating to forecasts, projections, sales, business plans, methods of doing business, sales or marketing methods, current and contemplated markets, current and potential customers, strategic partners, acquirers or investors, customer lists, customer usages and/or requirements and supplier information of such Party.

1.2 “Copyrights” means: (a)  any rights in original works of authorship fixed in any tangible medium of expression as set forth in the United States Copyright Act, 17 U.S.C. § 101 et. seq.; (b)  all registrations and applications to register the foregoing anywhere in the world; (c)  all foreign counterparts and analogous rights anywhere in the world; and (d)  all rights in and to any of the foregoing.

1.3“Die” means an individual integrated circuit or components which when completed create an integrated circuit.

1.4“Embedded Third Party Technology” means third Party software or hardware embedded as part of the WJ Technology and/or in Improvements thereto.

1.5 “Facilities” means GCS’s physical fabrication facilities located at 23155 Kashiwa Court, Torrance, California 90505.

1.6 “GCS Services” has the meaning set forth in Section  2.1.

1.7 “GCS Technology” has the meaning set forth in Section 11.2.

1.8 “Gross Die per Wafer” (“GDW”) means the total quantity of Die candidates on each Wafer, whether or not the Die is operational when the Wafer has completed the manufacturing process.

1.9 “Improvements” means with respect to any Technology, all discoveries, innovations, improvements, enhancements, derivative works, or modifications of or to such Technology.

1.10 “Intellectual Property Rights” means any and all: (a)  Copyrights, mask work rights, trademarks, and Patents; (b)  rights relating to innovations, know-how, trade secrets, and confidential, technical, and non-technical information; (c)  moral rights, author’s rights, and rights of publicity; and (d)  other industrial, proprietary and intellectual property related rights anywhere in the world, and all applications for, renewals and extensions of the foregoing now or hereafter filed, regardless of whether or not such rights have been registered with the appropriate authorities in such jurisdictions in accordance with the relevant legislation.

1.11 “Jointly Developed Technology” means Technology that is written, created, or otherwise made or acquired not solely by one or more employees of one Party but is created jointly by employees or contractors of WJ together with employees or contractors of GCS during and in the course of the transactions contemplated by this Agreement provided that: (a)  with respect to copyrightable material, each contributing Party prepared the work with the intention that their contributions be merged into inseparable or interdependent parts of a unitary whole; (b)  with respect to inventions subject to patent protection, each contributing Party made some original contribution to the inventive thought and to the final solution; and (c)  with respect to matter subject to trade secret protection, each contributing Party made substantial contributions to such matter.

1.12 “Knowledge” shall mean the actual knowledge of the officers, directors, and director-level employees of GSC.

1.13 “Lot” means a group of Wafers which are processed simultaneously. Each Lot will be assigned a specific alpha/numeric identification that distinguishes it from any other group that contains the same type of Die so that each Lot can be separately identified.

1.14 “Minimum Yield” means, with respect to a particular Wafer, the minimum acceptable Yield for such Wafer as per the Specifications.

1.15 “Net Die per Wafer” (“NDW”) means the net number of functional Die on each Wafer after the Wafer has completed the wafer probe testing.

1.16 “Patents” means: (a)  patents and patent applications, worldwide, including all divisions, continuations, continuing prosecution applications, continuations in part, reissues, renewals, reexaminations, and extensions thereof and any counterparts worldwide claiming priority therefrom; utility models, design patents, patents of importation/confirmation, and certificates of invention and like statutory rights; and (b) all rights in and to any of the foregoing.

1.17 “Process” the proprietary wafer manufacturing processes of WJ to be provided by WJ to GCS for implementation by GCS in its Facilities to manufacture the Wafers exclusively for WJ.

1.18 “Process Qualification” shall have the meaning set forth in Section 4.1.

1.19 “Project Manager” has the meaning set forth in Section  3.2.

1.20 “Qualify” or “Qualification” means that the Process has been approved by WJ for volume manufacturing of the Wafers at the Facilities because the Wafers have been produced pursuant to the Process with predictable yields acceptable to WJ, in each case in excess greater than the Minimum Yield, and have passed all tests required by WJ.

1.21 “Purchase Order” has the meaning set forth in Section  9.1.

1.22 “Quality and Reliability Standards” has the meaning set forth in Section 4.1.

1.23 “Scrap” means any Wafer or Die, in any stage of completion, without regard to its ability to function, that is not in conformance with the requirements of the Specification for Wafers to be sold to WJ.

1.24 “Specifications” mean the technical specifications provided by WJ for the Process and the manufacture of the Wafers by GCS including the specifications described in Appendix A.

1.25 “Target Yield” means, with respect to a particular Wafer, the Target Yield for such Wafer as set forth in Appendix B. Notwithstanding the foregoing, the Target Yield is subject to post qualification confirmation and adjustment pursuant to Section  4.4 and Appendix B.

1.26 “Technical Information” means the technical information and materials provided or to be provided by WJ to GCS.

1.27 “Technology” means any and all technical information, specifications, drawings, records, documentation, works of authorship or other creative works, ideas, algorithms, models, databases, ciphers/keys, systems architecture, network protocols, research, development, and manufacturing information, software (including object code and source code), application programming interfaces (APIs), innovations, mask works, logic designs, circuit designs, technical data, processes and methods.

1.28 “Term” has the meaning set forth in Section 16.1.

1.29 “Verification Test Program” has the meaning set forth in Section 5.2(b).

1.30 “Wafers” means the GaAs (gallium arsenide) Wafers described in Appendix B which will be manufactured by GCS for WJ using the Process.

1.31 “WJ Technology” has the meaning set forth in Section 11.1.

1.31 “Yield” means the percentage represented by Net Die per Wafer (NDW) divided by Gross Die per Wafer (GDW).

2GCS SERVICES AND FACILITIES

2.1GCS Services. GCS shall implement the Process in accordance with the Specifications provided by WJ for the manufacture of the Wafers in accordance with the Process responsibilities set forth in Appendix D, manufacture the Wafers at its Facilities utilizing the Process provided by WJ, and sell and deliver to WJ the Wafers, all in accordance with the terms and conditions set forth in this Agreement. GCS shall not outsource or delegate to any third party the manufacture of the Wafers.

2.2Facilities. All manufacturing of Wafers shall take place at the Facilities. If GCS desires to relocate the manufacturing of the Wafers at another facility, it shall provide WJ with at least  *************************** days prior notice of its intent to relocate to a proposed new facility. If WJ notifies GCS within *** **** days of its objection to the new location, GCS shall not transfer the manufacture of the Wafers to the new facility and shall continue to manufacture the Wafers at the Facilities. Approval to relocate shall not be unreasonably withheld.

3PROCESS IMPLEMENTATION AND ASSISTANCE

3.1 Process Implementation.

(a) Process – W J desires to have GCS manufacture the Wafers at the Facilities using the Process which meet the Specifications. The Parties agree to work together to implement the Process in accordance with the Process responsibilities of each Party described in Appendix D, as it may be amended by mutual consent.  The Process shall be implemented at the Facilities in accordance with the time schedule set forth in Appendix D and GCS shall use its commercially reasonable efforts to successfully establish the Process within the time schedule set forth in Appendix D.  GCS acknowledges that the implementation of the Process will require significant capital expenditures and resources on its part and GCS covenants that it will make the required capital expenditures for implementing the Process as described in Appendix D and that it currently has, and will continue to allocate during the Term of this Agreement, the financial and other resources necessary to carry out its obligations under this Agreement .

(b) Process Delays – Each Party shall promptly provide the other with notice as soon as possible after it has reason to believe it will be unable to timely perform any of its obligations under this Agreement (including without limitation delivering any deliverable) together with the reason for such delay and the date on which such Party reasonably expects to perform such obligation. The Party that is not the cause of the delay shall not be precluded from exercising its termination rights hereunder. The Parties agree that this Section shall not be construed to relieve either Party of its obligation to continue in the performance of its responsibilities under this Agreement notwithstanding any delay. In the event of a delay or delinquency by a Party of more than ninety (90) days in the implementation of the Process, the other Party shall have the immediate right to terminate this Agreement.

3.2 Transfer Project Managers.

(a) Project Manager Designation – Each Party shall identify a principal contact to whom all communications between the Parties with respect to the applicable project shall be directed (each a “Project Manager”) and shall provide the

other Party the addresses, e-mail, telephone numbers and fax numbers for such Project Managers. Each Party may replace or substitute its designated Project Manager from time to time upon written notice to the other Party. Each Party shall also provide the other Party from time to time with the names and telephone numbers of additional specific contact persons to communicate specific information or manage specific project matters when such direct contact is preferable.

(b) Project Manager Responsibilities — The Project Managers shall: (i)  serve as the primary point of contact between the Parties; (ii)  coordinate the Parties’ undertakings and activities in connection with this Agreement, including, without limitation, defining and tracking the implementation of the Process and facilitating reviews; (iii)  address technical and resource allocation issues arising, and (iv) have first tier responsibility for resolving disputes arising under this Agreement, subject to any corporate governance requirements of the Party.

3.3 Wafer Technical Information.

(a) WJ will provide the Technical Information and assistance relating to the Wafers to GCS in accordance with the timeline set forth in Appendix D.

(b) GCS will use the Technical Information solely for performing GCS Services relating to the manufacture of the Wafers for WJ. After any Process Qualification, GSC will not make any changes or modifications to the qualified process without WJ’s prior written approval.

1WJ Technology Improvements by GCS. GCS shall provide WJ with prompt written notice with respect to any Technology or Intellectual Property Rights conceived, developed or reduced by or on behalf of GCS or any other Person that constitutes an Improvement to any WJ Technology.  Thereafter, at WJ’s request, GCS shall make available to WJ appropriate personnel with suitable knowledge and understanding of such Improvement to describe and explain such Improvement to designated WJ personnel and to otherwise provide such WJ personnel with sufficient information and materials satisfactory to WJ.

2PRE-PRODUCTION – QUALIFICATION AND ACCEPTANCE

4.1 Qualification of Process. GCS shall demonstrate and verify that the applicable Process as implemented at the Facilities for all Wafers, meets the Specifications and the parametric, electrical, process flow, quality, and reliability specifications, as well as other standards or requirements that may be necessary for manufacturing the Wafers as WJ reasonably deems necessary (the “Quality and Reliability Standards” as specified in Appendix E). Thereafter, GCS will execute Qualification plan for such Wafers (the “Process Qualification”).

4.2 Qualification Sample Lots. GCS will produce and transfer to WJ the number of Process Qualification sample Lots of the Wafers requested by WJ. WJ will evaluate each Lot of Process Qualification samples and will issue a notice of approval or disapproval of the Process Qualification Lots within thirty (30)  days of WJ’s receipt of the Wafers. If WJ rejects Qualification of the sample Lot(s), GCS shall cooperate in developing a corrective action plan reasonably acceptable to WJ. Based on such plan, GCS will manufacture additional Lot(s) of sample Process Qualification Wafers for WJ’s evaluation. WJ will purchase all Process Qualification Wafers that conform to the Specifications. GCS will not ship production quantities of Lots to WJ until GCS receives written notice of qualification of the Wafers from WJ. GCS shall ship production quantities of particular Wafers per WJ’s orders after the applicable Specifications are achieved.

4.3  Pre-Production Termination. At any time prior to successful completion of Process Qualification, WJ may terminate fabrication of any Qualification Process Wafers by giving GCS written notice, which shall specify whether such Wafers should be delivered to WJ or scrapped. Upon receipt of such notice, GCS shall stop related fabrication at the conclusion of the manufacturing step in process. In such case, (i) WJ will pay for any partially completed Wafers, pro-rated based on percentage completed and (ii) GCS shall pay all other expenses and costs related to the termination of fabrication of any Qualification Process Wafers.

4.4  Baseline Establishment. After notice of Qualification has been sent by WJ to GCS:

(a)The Process baseline process may be further refined by mutual agreement. GCS will obtain written approval of WJ before making any modifications to the baseline manufacturing process, materials, or tooling. Approval shall not be unreasonably withheld.

(b)The Parties shall confirm the Target Yield and Minimum Yield for the Wafers as is acceptable to WJ.

(c)Compliance with the Target Yield standards is a performance obligation of GCS under this

Agreement. Without limiting the foregoing, WJ shall have the right to reject any individual Wafer or its entire Lot which do not meet the Minimum Yield pursuant to the Specifications and Section 5.8.

5. PRODUCTION QUALITY, RELIABILITY AND CONTROL

5.1 Quality Culture. The GCS systems shall be not only ISO qualified to WJ’s reasonable satisfaction but shall also promote and drive a quality culture within the factory. GCS’s quality systems shall include Statistical Process Control (SPC) with statistically valid limits. GCS will establish a culture which responds to established limits, and will stop the manufacturing line if these limits are found out of tolerance.

5.2 Specification Testing and Compliance. GCS will produce Wafers for WJ that meet the Specifications. In that regard:

(a) GCS shall conduct in line process monitoring according to testing procedures and use test equipment reasonably acceptable to WJ. GCS must have sufficient testing capability to handle testing requirements, including the provision of engineering analysis of test Wafers sufficient to (i)  identify potential product issues (i.e. any failure to fully meet Specifications or achieve Minimum Yields) at the earliest possible stage and (ii)  make necessary adjustments to the Wafers.

(b) After Wafer completion, GCS shall conduct testing in accordance with the Specifications (“Verification Test Program”), and inspect and confirm that the Wafers conform to the applicable Specifications.

GCS shall neither ship nor bill WJ for any Wafer that to the Knowledge of GCS fails to meet the Minimum Yield and Quality and Reliability Standards unless specifically instructed in writing by WJ to do so. GCS shall notify WJ of any Wafer that is below the Minimum Yield, and WJ may, at its discretion, agree to accept delivery of such Wafer at a mutually agreed upon price. GCS must notify WJ in advance of shipment of those Wafers that do not comply with the foregoing criteria.

(c) If GCS or WJ detects any wafer fabrication related defects in any Wafers, GCS shall provide WJ with a corrective action plan to correct the failure mechanisms and/or defects. WJ may review GCS’s quality measurement and control systems at any time.

(d) From time to time WJ may desire to update, revise or modify the Specifications for the Wafers. GCS will use reasonable efforts to implement all revisions, updates, or modifications as soon as practicable. If such changes impact Wafer Yield, the Parties shall re-set Target Yields using the same procedure as initially used by WJ. GCS shall advise WJ of any cost and schedule impact, and the date and lot number of implementation of the revision, update or modification, all of which shall be subject to WJ’s written approval. Any requalification required as a result of the revisions, updates, or modifications will be the responsibility of WJ.

(e) The results from GCS testing processes shall be accessible and available to WJ for review and download to WJ records at the conclusion of each test lot.

5.3 Failure and Defect Reporting. The Parties shall notify each other of any detected failure mechanisms and/or defects which are present, or which they suspect might be present, in completed Wafers. GCS shall use reasonable efforts to correct such failure mechanisms and/or defects as promptly as possible within a time frame acceptable to WJ and reasonable to GCS.

5.4 Reliability Records and Data.

Without limitation of any requirements in the Quality and Reliability Standards, GCS agrees to provide the following information relating to the quality or reliability of the Wafers and the quality systems used to comply with these standards and specifications.

(a) GCS will maintain Lot history records for a period of five (5)  years. WJ shall have access to all Lot history records concerning all Wafers at any time.

(b) GCS agrees to provide reliability data which demonstrates the ability of the Process used for all Wafers to meet WJ’s Quality and Reliability Standards as set forth in Appendix E. Any exceptions to these criteria will be reviewed on a product-by-product basis. WJ shall have the right to use reliability data concerning Wafers for the purposes of preparing sales and promotional information concerning Wafers. GCS’s reliability testing methods and conditions shall be subject to the review of WJ, and shall be changed upon WJ’s request, and agreed to by GCS, such agreement not to be unreasonably withheld.

(c) WJ may conduct an on-site inspection and audit of the process and manufacturing records relevant to the Wafers during normal business hours upon twenty four (24) hours advance notice to GCS.  Any inspection or audit will be conducted at WJ sole expense.

(d) GCS agrees to maintain sufficient documentation regarding all Wafers sold to WJ for five (5) years after shipment. All Wafers shall be traceable to the assigned Lot. Lot traceability for Wafers shall be maintained throughout the

entire process from fabrication through verification testing, packing and shipment. Traceability and full history for Wafers shall include applicable wafer fabrication process recipes, substrate vendor identification and lot number, quality control data, process deviation notes and probe data as well as assembly records and deviations, verification test results, visual inspection results, burn-in conditions, and final test data. WJ shall have the right to limit and approve substrate and other materials suppliers.  Supplier approval will not be unreasonably withheld and rejection must be based on objective documented criteria showing how the substrate and material suppliers will cause GCS to fail to meet the Specifications.

5.5 Process Control Information, On-Line Information Access. Upon WJ’s written request, GCS shall provide WJ with process control information as set forth in the Specifications. Such information may include: Process and electrical test yield results, calibration schedules and logs for equipment, environmental monitor information for air, gases and DI water, documentation of operator qualification and training, documentation of traceability, process verification information, and trouble report currently available from GCS’s document control center in a format pursuant to GCS’s standard document retention policy. WJ shall have on-line web access to the foregoing information and reports, and other GCS information, to the extent that such access is customarily provided by GCS to other customers.

5.6 Scrap Disposal. GCS shall return Scrap which cannot be reclaimed to WJ at WJ’s request, or otherwise destroy and properly dispose of all Scrap in order to prevent any unauthorized sale or other disposition of any Wafers. GCS will maintain Scrap procedures and will record all products scrapped including Lot history, reason for scrap and WJ’s approval for scrap. WJ shall have the rights to audit the scrap procedures and to witness scrap of the material.

5.7 Manufacturing Metrics. GCS agrees to provide pertinent manufacturing metrics to WJ, including but not limit to data regarding process yield, cycle time and Process development.  WJ shall upon request receive in a timely manner raw data for these metrics such that the data could be calculated using WJ standard formulas as listed in the Specifications.

5.8 Deficiency Expectations. WJ expects consistent, high quality wafer fabrication processing and services from GCS, such that a die yield expectation can be predicted for WJ’s products based on the area of a particular die. It is understood that WJ’s design and specifications also influence this metric. The functional test yields expected by WJ are equal to or greater than the yields that WJ has experienced in the past for their products of identical design to the products produced in this Agreement.  WJ shall provide GCS data illustrating the yield performance and die size for each device.  A Target Yield will be established on a per device basis using WJ’s historical data (see Appendix B).

WJ will inform GCS of material exhibiting unexpectedly low yields. GCS is willing to assist WJ at no additional cost in the evaluation of the low Yield, and in identification of the necessary activities to correct such low Yields.

WJ agrees to pay full price for wafer lots that exceed the target functional test Yield percentage of historical performance as follows:

0-3 months after Qualification: **% Target Yield

3-9 months after Qualification: **% Target Yield

>9 months after Qualification: **% Target Yield

Pricing of Wafer Lots between the Target Yield and **%  Target Yield will be pro-rated.  Pro-ration will be calculated and credited on a quarterly basis. Should the average yield of a device (excluding rejected wafers) meet or exceed the Target Yield, no credit will be issued for lots normally subject to pro-ration.

Pricing of Wafers below **% of the Target Yield may be rejected and WJ will request and be granted a return material authorization for the full value of such Wafers.

6. PARTIES’ ACTIVITIES

6.1 Site Inspections. WJ and its current employees, customers, strategic partners, investors and acquirers shall have the right to visit GCS’s Facilities to inspect the Facilities and fabrication of the Wafers, as well as conduct other activities contemplated by this Agreement as long as such WJ personnel comply with GCS’s security policies and sign a non-disclosure agreement acceptable to GCS. Such visits shall be conducted during GCS’s normal working hours and may be stopped by GCS, if disruptive to GCS operations. WJ may also assign WJ employees to work at the Facilities manufacturing the Wafers on an as needed or other mutually agreed basis. GCS shall grant these employees full access to employee parking facilities and appropriate sections of the Facilities including clean room where the Wafers are manufactured or placed. GCS shall provide such WJ employees with secured office space and full access to conference room, food and break facilities. GCS shall allow WJ employees to be full and active participants on problem solving teams

with respect to the manufacturing of the Wafers.

6.2 Records Inspections. In addition to WJ’s other inspection rights set forth elsewhere in this Agreement, WJ shall have the right to inspect the books and records (whether maintained in documentary form or as computer files) of GCS related to this Agreement during normal business hours upon one week’s written advance notice to GCS.

1Financial Reports and Notification of Financial Impairment . GCS agrees, for so long as the Agreement remains in effect, to furnish to WJ:  (i) within 90 days after the end of each fiscal year, audited annual financial statements, setting forth in comparative form the figures for the previous year (or if not yet completed, then a draft thereof, followed by the final thereof as soon a available); (ii) within 45 days of each of the first three fiscal quarters of each year, the quarterly unaudited financial statements, setting forth in comparative form the figures for the previous year; (iii) within 30 days after the end of each month, the monthly unaudited financial statements which shall be limited to the monthly cash balance and revenue for the period, setting forth in comparative form the figures for the previous year as well as performance versus budget; (iv) within 30 days after the end of each quarter, a rolling twelve month forecast of cash flow; and (v) within 60 days after the first day of each fiscal year, an annual budget. GCS further agrees to immediately notify WJ if (i) based on GCS’s then current three month forecast of cash flow, all or substantially all of GCS’s available cash balance for working capital would be reasonably likely to be consumed or (ii) GCS suffers any material adverse change in its financial condition that is reasonably likely to impair GCS’s ability to perform its obligations under this Agreement.

2PRICING AND PAYMENTS

7.1 Wafer Pricing.  The price for Wafers ordered and accepted by WJ and delivered by GCS in accordance with this Agreement shall be as set forth in Appendix C.

7.2 Invoicing and Payment Terms. GCS shall invoice WJ upon shipment of the Wafers. GCS’s invoices shall set forth the amounts due from WJ to GCS for such shipment, and shall contain sufficient detail to allow WJ to determine the accuracy of the amount(s) billed. The invoice shall be dated and delivered as of the date of shipment and payments shall be on thirty  (30) days net terms. All payments will be in United States of America dollars. WJ shall have the right to offset any disputed claims or other amounts due from GCS against WJ’s payment obligations under any invoice.  Upon resolution of any dispute, payment is due immediately from WJ.  If WJ pays invoices after thirty (30) days from delivery, interest shall apply at the lesser of the CoMerica Bank prime rate plus 2%, compounded annually, or the highest rate allowable by law.

7.3 Taxes. GCS is responsible for all taxes related to the Wafers and this Agreement except for taxes on WJ’s income, customs duties, sales tax, value added tax, use tax, and excise tax.

8. CAPACITY PLANNING AND FORECASTING

8.1 Forecasts.  In order to allow GCS to plan its foundry capacity and to order raw materials in due time, WJ shall give to GCS a non-binding twelve (12) month forecast for its estimated monthly Wafer requirements per product based on reasonably available information. WJ will provide an updated non-binding twelve (12) month forecast no later than ten (10) days before the end of each calendar quarter. WJ will also provide a non-binding six (6) month rolling forecast of its estimated Wafer requirements no later than ten (10) business days before the end of the applicable calendar month.

8.2 Capacity Commitment.

(a) GCS shall reserve the capacity and agrees to maintain the ability to manufacture, at the stated lead times, the minimum volume of Wafers per year as described in Appendix C.  Such capacity will be available in equal quarterly installments of the entire capacity. GCS also agrees to reserve capacity to meet the forecasted volumes as set forth in Section 8.1.

(b) Within ten (10) days after receipt of WJ’s forecast, GCS shall provide WJ with a written plan detailing GCS’s manufacturing capacity commitments for the forecast period. GCS shall allocate sufficient capacity to be able to provide up to ******************** percent (***%) of the forecast and shall use reasonable efforts to provide additional capacity as requested.

(c) GCS shall provide current-quarter weekly wafer output updates to the forecast. This weekly update would comprehend anticipated changes to forecast related to deviations from planned cycle-time. WJ will use the weekly updates to direct GCS activities, including the disposition of Wafers for shipping.

(d) GCS shall provide WJ prompt written notice if GCS becomes aware of any circumstance which may constrain its capacity to manufacture Wafers in accordance with the then current forecast.

9. ORDER, DELIVERY AND ACCEPTANCE

9.1 Order Placement and Firm Orders.  WJ shall place written orders for the Wafers to be purchased under this Agreement via a purchase order in a form acceptable to WJ (each, a “Purchase Order”). The Purchase Order shall include delivery instructions included thereon or issued in connection with the written order that reference the applicable written order and provide detail regarding the mix, quantities and requested delivery date for the Wafers. Firm Purchase Orders will be placed monthly, no later than ten (10) business days prior to the end of each calendar month. WJ may adjust the device mix prior to GCS starting material, but the total volume of Wafers cannot be decreased without the consent of GCS after the Purchase Order has been accepted. Modifications to the mix and quantity of Wafers to be started in any given week may be requested in writing by WJ no later than Thursday of the previous week. GCS shall accept any Purchase Order that is within the volume of the most recent six (6) month forecast or up to **% greater.

9.2 Order Acceptance.

(a) GCS shall acknowledge all Purchase Orders and confirm all delivery schedules and instructions therein within two (2)  business days following its receipt of Purchase Order. GCS may not reject Purchase Orders based on ordering instructions that conform to the terms of this Agreement and GCS may not reject the Purchase Order based on the quantity of Wafers ordered unless, and then only to the extent that, the quantity is more than **% over the most recent six (6) months forecast.

(b) GCS shall deliver the quantity of Wafers stipulated in the relevant Purchase Order and delivery shall be considered timely only if on or before the scheduled delivery date. In the event delivery is more than seven(7) days after the scheduled delivery date, WJ shall be entitled to a reduction in the price of the delayed Wafers in the amount of *% per week up to a maximum reduction of **% and after thirty (30) days, WJ shall have the right to cancel any undelivered Wafers at no charge. WJ agrees to accept deliveries of *** percent (**%) above the Purchase Order quantities.  WJ also agrees to allow Purchase Orders to be delivered short provided the deliveries are within *** percent (**%) of the Purchase Order Quantity.

9.3 Cancellations and Schedule Changes.

(a) WJ may, in its discretion, cancel, suspend or modify any Purchase Order, even if GCS has begun manufacture of the Wafers so ordered within the stated lead time. Upon cancellation of the complete or partial Purchase Order for which GCS has begun manufacturing Wafers, WJ agrees to pay GCS a percentage of the applicable selling price set forth in the applicable Purchase Order based on the stage of completion of the applicable Wafer Lot.  GCS may not terminate any accepted Purchase Order, even if GCS terminates this Agreement for default by WJ.

(b) Changes to the Purchase Order may be made at any time by WJ. GCS shall use reasonable efforts to accommodate WJ’s requested changes. GCS will notify WJ at the earliest indication of any interruption in supply of the Wafers or other Facility difficulty that may affect the availability of Wafers under this Agreement. WJ may request GCS to hold and delay shipment of any Wafers for up to one hundred twenty (120)  days. WJ agrees to pay GCS ***** percent (**%) of the Purchase Order price for shipments delayed for thirty (30) days or more at WJ’s request.

9.4 Wafer Shipment. GCS shall deliver the Wafers to the destination set out by WJ in the relevant Purchase Order. WJ will acknowledge to GCS the receipt of each shipment of Wafers stating quantity, type and damages existing at delivery, within seven (7) days.  GCS shall bear the risk of loss with respect to the Wafers until WJ accepts delivery of the Wafers at which time title shall pass to WJ upon GCS’s receipt of payment in full.

9.5 Wafer Acceptance Testing. Acceptance testing of the Wafers delivered to WJ will be performed within fifteen (15) days of receipt.  After this period, WJ will be deemed to have accepted the Wafers.  GCS will certify to WJ with each shipment that the Wafers contained in the shipment have successfully passed the Quality and Reliability Standards.  If WJ rejects any Wafer, and GCS verifies that a Wafer has a different NDW than certified by GCS, then WJ and GCS will confer and determine the reason for the rejection or the inaccurate count of NDW. GCS shall immediately exercise its reasonable efforts to develop and implement a corrective action plan for any errors, including manufacturing errors or defects identified in its systems. All Wafers that are properly rejected due to failure to meet Wafer Standards may be returned to GCS for a refund of the purchase price, plus WJ’s shipping cost, or may be retained by WJ subject to an agreed upon credit being issued by GCS. For such properly rejected Wafers that WJ returns to GCS for a refund of the purchase price, GCS will be responsible for WJ’s shipping cost, customs and export costs and insurance. Title and risk of loss or damage of returns will pass to GCS at WJ’s docks. Rejected Wafers shall be subject to the scrap disposal procedures set forth in Section 5.6 herein. WJ will provide documentation for all rejected Wafers.

10. PRODUCT WARRANTIES AND FAILURES

10.1 Product Warranty. GCS warrants that, at the time of delivery to WJ, all Wafers will comply with the Specifications and the Quality and Reliability Standards and be free of liens, encumbrances and defects. WJ shall advise GCS in writing of any claims involving failure to meet the Specifications.

10.2 Persistent Failure. In the event repeated field failures occur with respect to Wafers, or a significant field failure occurs which requires immediate attention, GCS shall take all commercially reasonable action required to promptly resolve the matter.

1Product Failure. In the event that any Wafer fails to pass WJ’s inspection, or WJ otherwise determines that any Wafer fails to meet the Wafer Standards, WJ will give GCS notice of the defective Wafer and GCS shall use commercially reasonable efforts to resolve the matter.  WJ shall have no financial responsibility for defective Wafers.

2INTELLECTUAL PROPERTY OWNERSHIP

11.1 Technology Owned by WJ. WJ shall own all right, title and interest (including all Intellectual Property Rights) in and to any and all:

(a) Pre-Existing Technology — Technology developed or acquired by WJ prior to or independently of this Agreement, including but not limited to Technology embodied in or used to practice the Process together with any and all improvements, enhancements, modifications, alterations, additions or applications thereof, all proprietary information and know-how provided to GCS by WJ that relate to WJ’s Process(es) for the manufacture of Wafers, WJ’s specifications for Wafers, WJ’s performance criteria for Wafers, WJ’s applications for Wafers and all other matters relating to Wafers and their manufacture, which has been provided to GCS by WJ for the specific purpose of manufacturing Wafers;

(b) New Technology — Technology developed during the Term solely by or for WJ (e.g., a commissioned work) that does not constitute an Improvement to any of the Technology in (a) above or in Section 11.2 below;

(c) Improvements — Improvements to any of Technology in (a)  or (b)  above during the Term if such Improvements (i)  are developed solely by or for WJ (e.g., a commissioned work), (ii)  constitute Jointly Developed Technology; or (iii)  are developed solely by or for GCS where such Improvement is based upon or derived in whole or in part from WJ Confidential Information or from Technology in (a) or (b)  above.

(All of (a), (b)  and (c)  above, collectively, “WJ Technology”.)

11.2 Technology Owned by GCS. GCS shall own all right, title and interest (including all Intellectual Property Rights) in and to any and all:

(a) Pre-Existing Technology — Technology developed or acquired by GCS prior to or independently of this Agreement;

(b) New Technology — Technology developed during the Term solely by or for GCS (e.g., a commissioned work) that does not constitute an Improvement to any of the Technology in (a)  above or in Section 11.1 above;

(c) Improvements — Improvements to any of Technology in (a)  or (b)  above during the Term if such Improvements (i)  are developed solely by or for GCS (e.g., a commissioned work); (ii)  constitute Jointly Developed Technology; or (iii)  are developed solely by or for WJ where such Improvement is based upon or derived in whole or in part from GCS Confidential Information or from Technology in (a)  or (b)  above.

(All of (a), (b)  and (c)  above, collectively, “GCS Technology”.)

1 Assignment of Rights. To the extent that the allocation of right, title and interest in and to any Intellectual Property specified in this Section 11 do not automatically vest in the applicable Party, the other Party (the “Assignor”) hereby assigns, transfers and conveys (and agrees to assign, transfer and convey) to the other Party (the “Assignee”) such of the Assignor’s right, title and interest in and to all such Intellectual Property as is necessary to achieve such allocation. The Assignor will provide, at the Assignee’s expense, all assistance reasonably required by the Assignee to consummate, record and perfect the foregoing assignment, including, but not limited to, signing all papers and documents necessary to register and/or record such assignment with the United States Patent  & Trademark Office, United States Copyright Office, other state and federal agencies and all corresponding government agencies and departments in all other countries, where applicable. Assignor hereby appoints Assignee as its attorney-in-fact to act as Assignor to execute and file the papers and documents specified in

this Section 11 if Assignor is unwilling or unable to comply with the foregoing sentence of this Section 11.3. Each Party shall have the right, in its sole discretion, to apply for and maintain Intellectual Property Rights (including registrations therefore) with respect to the Technology owned by such Party (as described above).

2INTELLECTUAL PROPERTY LICENSES

12.1 GCS Technology License. GCS acknowledges and agrees that no GCS Technology will be utilized to manufacture the Wafers for WJ. However, to the extent that may be necessary for any reason and subject to the terms and conditions of this Agreement, GCS hereby grants to WJ, as a partial remedy for breach of the prior sentence, a limited worldwide, non-exclusive, perpetual, royalty-free, paid-up and sublicensable license under all Intellectual Property Rights in the GCS Technology to use, manufacture, have manufactures, sell, offer for sale, offer for sale, import, reproduce, prepare derivative works of, distribute or otherwise exploit the Wafers.

12.2 WJ Interface License. With respect to any and all software and hardware interfaces or other adaptations developed or acquired by or for GCS, that are specific to the WJ Technology, and which GCS has the right to license to WJ without payment of royalties to any third party (each a “WJ Interface”), to the extent GCS has the right to grant a license, GCS hereby grants to WJ a limited, worldwide, non-exclusive, perpetual, royalty-free, paid-up and sublicensable license to: (a)  use, reproduce, perform, display and create derivative works of such WJ Interface; and (b)  make, have made, import and otherwise use such WJ Interface.

12.3 WJ Technology License. Subject to the terms and conditions of this Agreement, WJ hereby grants to GCS a worldwide, non-transferable, non-exclusive, perpetual, non-sublicensable, royalty-free, paid-up license during the Term solely to use the WJ Technology to make (but not have made) products for WJ at the Facilities. GCS shall not (and shall not permit any third party to): (a)  modify, reverse-engineer or create derivative works of the WJ Technology or any components thereof except as specifically permitted hereunder; (b)  remove or alter any patent, trademark, copyright or other proprietary legend in WJ Technology; or (c)  sell, loan, lease, assign, encumber or otherwise transfer any rights to WJ Technology.

12.4 Embedded Third Party Technology. GCS acknowledges and agrees that WJ may incorporate or otherwise include Embedded Third Party Technology. Embedded Third Party Technology may only be used as part of the WJ Technology, and subject to any terms applicable thereto.  WJ represents and warrants that it has the right to use the Embedded Third Party Technology and will defend and hold GCS harmless if a claim is made for GCS’s use of the Embedded Third Party Technology consistent with this Agreement.

12.5  Retained Rights. WJ reserves all rights in WJ Technology, and related Intellectual Property Rights not expressly granted to GCS.

13PROTECTION OF TECHNOLOGY AND INTELLECTUAL PROPERTY

13.1 Protection of WJ Technology. GCS will take steps to avoid benefit to WJ’s competitors from WJ Technology, as follows:

(a) GCS will create a firewall between (i)  products, processes and other activities on behalf of WJ, and (ii)  all personnel, products and processes of (1)  competitors of WJ and (2) other product customers of GCS.

(b) The Parties will cooperate to prevent the unauthorized distribution, use or access, or the unauthorized disclosure of WJ’s Intellectual Property by GCS.

(c) If a security compromise related to the WJ Technology is caused by or results primarily from the acts or omissions of GCS or any of its subsidiaries, vendors, employees or sublicensees or their failure to comply with the agreed security procedures, GCS will be responsible for responding to and containing such security compromise

13.2Know-How Preservation. GCS will not use any Intellectual Property of WJ (including without limitation Confidential Information), for any purpose inside or outside GCS, except for the direct and sole benefit of WJ.

14INDEMNIFICATION AND INSURANCE

14.1 Intellectual Property Indemnification by GCS.

(a) GCS agrees to defend at its expense any suits brought by a third party against WJ based upon a claim that the process used by GCS to manufacture Wafers and the GCS Technology used in such process infringes any Intellectual Property Rights, and to pay costs, including attorneys fees, and damages finally awarded in any such suit against WJ. GCS has no obligations under this Section to the extent arising from GCS’s use of the Process.  WJ will promptly notify GCS in

writing of any claim or suit. GCS will have control of such claim or suit to defend or settle at its expense. WJ will provide reasonable assistance for GCS’s defense of such claim or suit.

(b) If the use and sale of any of the Wafers is prohibited by court order as a result of a suit within the scope of Section 14.1(a), GCS, at its option and at no expense to WJ, will obtain for WJ the right to use and sell the Wafers or will substitute an equivalent method for performing the GCS Services which are acceptable to and qualified by WJ.

14.2 Intellectual Property Indemnification by WJ. WJ agrees to defend at its expense any suit brought against GCS by a third party based upon a claim that the Wafers produced by GCS for WJ infringe any Intellectual Property Rights, if such infringement arises from GCS’s use of the Process, WJ Technology, WJ’s instruction in connection with the manufacture of the Wafers or compliance with WJ’s Specifications and to pay costs, including attorneys fees, and damages finally awarded in such suit against GCS, provided that WJ is notified within thirty (30) days in writing of the suit and at WJ’s request and at its expense is given and opportunity to control of said suit and all requested reasonable assistance for defense of such claim.

14.3 Damage Mitigation. If a third party notifies either party that the Technology, processes, specifications or formula of the other party infringes or violates the rights of such third party, then the parties will cooperate to assure that their actions will respect properly asserted third party intellectual property rights and address such allegations of infringement or other claims in a reasonable manner.

14.4 SOLE INFRINGEMENT LIABILITY. THE FOREGOING PROVISIONS STATE THE ENTIRE LIABILITY OF EITHER PARTY TO THE OTHER WITH RESPECT TO THIRD PARTY INFRINGEMENT CLAIMS OF ANY TYPE BROUGHT AGAINST A PARTY REGARDING PERFORMANCE OF THIS AGREEMENT. WITHOUT LIMITING THE OBLIGATIONS OF EITHER PARTY UNDER SUCH FOREGOING PROVISIONS, IN NO EVENT SHALL EITHER PARTY BE LIABLE FOR ANY SPECIAL, INCIDENTAL, OR CONSEQUENTIAL DAMAGES OF ANY NATURE WHATSOEVER (INCLUDING, WITHOUT LIMITATION, LOST PROFITS) ARISING FROM INFRINGEMENT OR ALLEGED INFRINGEMENT OF THIRD PARTY INTELLECTUAL PROPERTY RIGHTS.

14.5 Other Indemnification by GCS. All work to be performed by GCS under this Agreement shall be at GCS’s sole risk. GCS shall indemnify and hold harmless WJ, its officers, directors, employees, affiliates and representatives from and against any claims, demand, cause of action, debt or liability, including litigation costs and reasonable attorney’s fees, relating to or arising from this Agreement, except for any claims attributable to WJ design defects, or the gross negligence or intentional misconduct of WJ.

14.6 Insurance. GCS shall acquire and maintain at its sole cost and expense (i) statutory workers’ compensation insurance and employer’s liability insurance, (ii) all risk insurance coverage for physical loss or damage to Wafers while at the Facility or under its control, and until title passes to WJ, and to the tangible personal property provided to GCS in connection with the Process and (iii) product liability, bodily injury, business interruption, casualty and property damage insurance, in a form reasonably acceptable to WJ with a reputable insurance company reasonably acceptable to WJ. The insurance policy shall provide for combined single limit coverage of not less than $********** and WJ shall be named as an additional insured and loss payee. GCS shall submit certificates of such insurance to WJ (which shall include an agreement by the insurer not to cancel such coverage except upon thirty (30) days prior written notice to WJ) for its approval. GCS shall maintain such insurance coverage in effect for WJ’s benefit throughout the term of this Agreement and for a period of one (1) year from the date of the last delivery of wafers to WJ hereunder. If GCS fails to furnish such certificates of insurance or any required insurance is cancelled for any reason, WJ may, at its option, immediately terminate this Agreement.

15. CONFIDENTIALITY

15.1 Confidentiality Obligations. The parties recognize that the Confidential Information of one another constitutes valuable confidential and proprietary information. Accordingly, the Parties agree on behalf of themselves and their respective officers, directors, employees and agents that during the term of this Agreement and for a period of ten (10) years after the termination or expiration hereof for any reason, they shall hold in confidence all Confidential Information of the other party (including the existence of this Agreement and the terms hereof) and not use the same for any purpose other than as set forth in this Agreement nor disclose the same to any other Person except to the extent that it is necessary for a Party to enforce its rights under this Agreement or if required by law or any governmental authority at the discretion of a Party (including, without limitation, the Securities and Exchange Commission and any stock exchange or quotation system upon which a Party’s shares or other equity securities may be traded); provided, however, if a Party shall be required by law to disclose any such Confidential Information to any other Person, such party shall give prompt written notice thereof to the other party and shall minimize such disclosure to the amount required. The Parties acknowledge that violation of this Section 15.1 could

cause the other Party irreparable harm and as such each Party agrees and acknowledges that remedies at law for any breach of its obligations under this Section 15.1 are inadequate and that in addition thereto the other party shall be entitled to seek equitable relief, including injunction and specific performance, in the event of any such breach, without the necessity of demonstrating the inadequacy of monetary damages. Processes, data and other information provided, created or discovered prior to or during the term of this Agreement relating to the Wafers and/or the Process(es) or methods for the manufacture of the Wafers whether provided, created or discovered solely by WJ or GCS or jointly by the parties shall, for purposes of this Agreement, be deemed Confidential Information solely owned by WJ and furnished by WJ to GCS hereunder and GCS further agrees that such specific Confidential Information shall be accessible on a “need to know” basis only to those GCS employees working on the manufacture of the Wafers. GCS warrants and represents to WJ that no Confidential Information of WJ will be disclosed to any director of GCS who is a commercial competitor of WJ, the director’s employee, officer, agent or any of its affiliates or subsidiaries.

The board members of GCS agree to be bound by the confidentiality provisions of this Agreement. Any GCS board member who is a competitor of WJ agrees to recuse themselves from any meeting where Confidential Information is discussed as long as it is not in conflict with their fiduciary responsibility as a board member.

15.2Excluded Information. The obligations of a Party under Section 15.1 shall not apply to any information which (a) at the time of disclosure, is generally known to the public, (b) after disclosure, becomes part of the public knowledge (by publication or otherwise) other than by breach of this Agreement by the receiving party, (c) the receiving Party can verify by written documentation was in its possession at the time of disclosure and which was not obtained, directly or indirectly, from the other Party, (d) the receiving Party can verify by written documentation results from research and development by the receiving Party thereof independent of disclosures by the other Party thereof or (e) the receiving Party can prove was obtained from any Person who had the legal right to disclose such information, provided that such information was not obtained to the knowledge of the receiving Party thereof by such Person, directly or indirectly, from the other Party thereof on a confidential basis. Notwithstanding the foregoing, a Party may disclose Confidential Information of the other Party (a) to its attorneys, accountants and other professional advisors under an obligation of confidentiality to the other Party, (b) to banks or other financial institutions or venture capital sources for the purpose of raising capital or borrowing money or maintaining compliance with agreements, arrangements and understandings relating thereto, and (c) to any Person who proposes to purchase or otherwise succeed (by merger, operation of law or otherwise) to all of a Party’s right, title and interest in, to and under this Agreement, if such Person is specifically identified to the other Party in advance and such Person agrees in writing to maintain the confidentiality of such Confidential Information. The Party disclosing Confidential Information to any third party as permitted by this Agreement shall also be responsible for any failure of such third party to maintain the confidentiality of such Confidential Information. The standard of care required to be observed hereunder shall be not less than the degree of care which a Party uses to protect its own information of a confidential nature.

16TERM AND TERMINATION

16.1 Term of Agreement. The term of this Agreement shall be one (1) year from the date the Process is qualified hereunder, unless earlier terminated pursuant to the provisions of this Agreement (the “Term”). The Term is renewable annually for additional consecutive terms of one year each at WJ’s option. GCS shall have the right to reject automatic renewal after a period of three years if the total demand for Wafers drops below **** wafers per year.

16.2 Termination.

(a) This Agreement may be terminated immediately by a Party if the other Party defaults on any of its material obligations or conditions of this Agreement which remain uncured for thirty (30)  calendar days, if capable of being cured, after written notice to the defaulting Party specifying the nature of the default, the non-defaulting Party will have the right to terminate this Agreement by giving written notice of termination to the defaulting Party.

(b) A Party shall have the right to immediately terminate this Agreement by giving written notice of termination to the other Party at any time upon or after: (i)  the filing by the other Party of a petition in bankruptcy or insolvency; (ii)  any adjudication that the other Party is bankrupt or insolvent; (iii)  the filing by the other Party under any law relating to bankruptcy or insolvency; (iv)  the appointment of a receiver for all or substantially all of the property of the other Party; (v)  the making by the other Party of any assignment or attempted assignment for the benefit of creditors; or (vi)  the institution of any proceedings for the liquidation or winding up of the other Party’s business or for the termination of its corporate existence.

(c) This Agreement may, upon sixty (60) days notice, be terminated by WJ if (i) GCS receives audited financial statements with a “going concern” or similar qualification or exception by its auditors, , (ii) GCS engages in fraudulent or material intentional misconduct (iii) GSC is in breach of its lease agreement related to the Facility (without securing a substitute lease agreement for an alternate Facility), (iv) there is a change in control of GCS of **% or more of the board of directors of GCS or its equity share ownership, or (v) WJ is otherwise specifically entitled to immediately terminate this

Agreement under any term or provision of this Agreement.

(d) This Agreement may be terminated by WJ at any time upon ninety (90) days written notice to GCS.

16.3 Effect of Termination.

(a) If WJ terminates this Agreement, WJ may, at WJ’s sole discretion, terminate delivery of all undelivered, and delivered but unaccepted, Wafers. WJ must compensate GCS for all costs and expenses incurred for work-in-process Wafers.

(b) In the event of termination or cancellation of this Agreement for any reason, GCS shall promptly return to WJ the WJ Technology and processes, photomasks, equipment, tools and other property of WJ used to manufacture the Wafers, immediately cease the use thereof and certify to WJ in writing that the same are no longer in use provided, however, in the event of termination or cancellation of this Agreement for any reason, WJ may require GCS to continue to honor the terms of this Agreement for up to twelve (12) additional months to allow WJ and GCS to effect an efficient transition of the WJ Technology, processes, photomasks, equipment, tools and other property to WJ or a third party designated by WJ.

(c) If WJ terminates this Agreement pursuant to Section 16.2(c)(ii) (fraud) or Section 16.2(c) (iii)(loss of lease), GCS shall be liable to WJ for any reasonable cover costs incurred by WJ in re-procuring the Wafers which shall include all direct costs incurred by WJ to procure the Wafers from another supplier, including all nonrecurring expenses. GCS shall also be responsible for any indirect costs incurred by WJ. GCS’s liability under this Section 16.3 shall be limited to $*********.  WJ must exercise commercially reasonable efforts to mitigate damages.

16.4 Liquidated Damages.

(a) If within twelve (12) months after the date of this Agreement WJ elects to terminate this Agreement without cause as set forth in Section 16.2(d), WJ agrees to pay GCS liquidated damages of $*******.  Liquidated damages will be offset by any payments made to GCS pursuant to Appendix D; provided that no amount shall be payable under this clause (b) unless all amounts called for under Section 16.3(c) are first paid in full.

(b) If within twelve (12) months after the date of this Agreement WJ terminates this Agreement pursuant to Section 16.2(c)(ii) (fraud) or Section 16.2(c)(iii)(loss of lease), GCS agrees to pay WJ liquidated damages of $******* plus any payments made to GCS pursuant to Appendix D. GCS agrees that such damages would be difficult to estimate but that the foregoing is a reasonable estimate of the actual damages that WJ would incur.

1Survival. The provisions of this Section and Sections  11, 12, 13.1, 13.2, 14, 15, 16.3, 16.4, 17, 18, 19 and 20 shall survive any expiration or termination of this Agreement.

2DISPUTE RESOLUTION

17.1 Mediation. WJ and GCS shall attempt to settle any claim or controversy, except those related to intellectual property, through consultation and negotiation in good faith and a spirit of mutual cooperation. If those attempts fail, then the dispute will be mediated by a mutually acceptable mediator to be chosen by WJ and GCS within twenty (20) days after written notice by a Party demanding mediation.  Neither Party may unreasonably withhold consent to the selection of a mediator, and WJ and GCS will share the cost of the mediation equally.

17.2 Arbitration. Any dispute, claim or controversy arising out of or relating to this Agreement or the breach, termination, enforcement, interpretation or validity thereof, including the determination of the scope or applicability of this agreement to arbitrate, that is not resolved through negotiation or mediation within thirty (30) days of the date of the initial demand by either Party, shall be determined by arbitration in San Jose, California before one arbitrator. The arbitration shall be administered by JAMS pursuant to its Streamlined Arbitration Rules and Procedures. Judgment on the Award may be entered in any court having jurisdiction. This clause shall not preclude parties from seeking provisional remedies in aid of arbitration from a court of appropriate jurisdiction. The arbitrator may, in the Award, allocate all or part of the costs of the arbitration, including the fees of the arbitrator and the reasonable attorneys’ fees of the prevailing party.

18. LIMITATION OF LIABILITY

18.1 DISCLAIMER. EXCEPT AS EXPRESSLY STATED IN THIS AGREEMENT, NEITHER PARTY MAKES ANY ADDITIONAL WARRANTIES, EXPRESS, IMPLIED OR STATUTORY, ARISING FROM COURSE OF DEALING OR USAGE OF TRADE. IN PARTICULAR, ANY AND ALL WARRANTIES OF MERCHANTABILITY, FITNESS FOR A PARTICULAR PURPOSE AND NON-INFRINGEMENT ARE HEREBY EXPRESSLY DISCLAIMED.

18.2 LIMITATION OF LIABILITY. EXCEPT FOR BREACH OF OBLIGATIONS RELATING TO FAILURE TO RETURN THE PROCESS OR WJ TECHNOLOGY TO WJ UNDER THE TERMS OF THIS AGREEMENT,

INFRINGEMENT OR VIOLATION OF A PARTY’S INTELLECTUAL PROPERTY RIGHTS ON A BREACH OF OBLIGATIONS RELATING TO CONFIDENTIAL INFORMATION, (1)  IN NO EVENT WILL EITHER PARTY BE LIABLE TO THE OTHER PARTY, CUSTOMERS OR ANY THIRD PARTIES FOR ANY INDIRECT, SPECIAL, INCIDENTAL, PUNITIVE, CONSEQUENTIAL OR SIMILAR DAMAGE OF ANY KIND OR CHARACTER, REGARDLESS OF WHETHER EITHER PARTY HAS BEEN ADVISED OF THE POSSIBILITY OF SUCH DAMAGES AND (2)  THE AGGREGATE LIABILITY OF A PARTY FOR ALL CLAIMS HEREUNDER SHALL NOT EXCEED ************************************ DOLLARS ($************).  THIS IS AN ABSOLUTE LIMITATION ON DAMAGES AND MAY NOT BE INCREASED BY ANY OTHER SECTION OF THIS AGREEMENT, INCLUDING, BUT NOT LIMITED TO SECTION 16.

19****************

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20 MISCELLANEOUS

20.1 Applicable Law. The law of the state of California shall govern this Agreement without regard to choice of law provisions. The Parties agree that the UN Convention for the International Sale of Goods shall not apply. Jurisdiction and venue for litigation of any dispute, controversy or claim arising out of or in connection with this Agreement will be only in a United States federal court for the Northern District of California or a California state court having subject matter jurisdiction located in San Jose, California or San Francisco, California. Each of the Parties hereby expressly submits to the personal jurisdiction of the foregoing courts located in California, and waives any objection or defense based on personal jurisdiction or venue that might otherwise be asserted to proceedings in such courts.

20.2 Assignment. GCS shall not assign, sublicense or otherwise transfer this Agreement or any rights or obligations arising under this Agreement without the prior written approval of WJ and GCS shall not delegate or subcontract its performance of this Agreement to any third party without the prior written approval of WJ.  WJ may assign or transfer this Agreement with the prior written consent of GCS provided that the assignee or transferee is bound by law or written agreement to WJ’s obligations under this Agreement.

20.3 Notification. All notices specifically required to be given under the terms of this Agreement will be in writing and sent to the addresses stated below or to such other address, which is designated in writing by the Party to receive notice. All notices will be deemed to have been given when received by the addressee.

As to GCS:

Name: Wing Yau    Jerry Curtis
Function: VP and Director Foundry Services    President and CEO
Tel. no.: 310-530-7274 X107 310-530-7274 X202
Fax no.: 310-517-8200 310-517-8200
Address: 23155 Kashiwa Court 23155 Kashiwa Court

Torrance, CA 90505    Torrance, CA 90505

E-mail wyau@gcsincorp.com jcurtis@gcsincorp.com

Such persons listed above shall be subject to change at any time by GCS with prior written notification to WJ.

As to WJ:

Name:   Mark Knoch   Bruce Diamond
Function: VP of Operations    CEO & President

Tel. no.: (408) 577-6229 (408) 577-6222
Fax no.:  (408) 577-6229 (408) 577-6229
Address: 401 River Oaks Parkway 401 River Oaks Parkway

San Jose, CA 95134    San Jose, CA 95134

E-mail   Mark.knoch@wj.com    Bruce.diamond@wj.com

20.4 Entire Agreement/Superseded Agreements. This Agreement, which includes the appendixes and other exhibits and attachments hereto, supersedes all prior discussions and writings and constitutes the entire and only contract between the Parties relating to the activities to be performed hereunder.

20.5 No Modification. This Agreement may not be changed, altered or amended except in writing and signed by duly authorized representatives of all of the Parties

20.6 Environmental Matters. GCS will indemnify and hold WJ harmless from and against any liability, claim, damage, injury, expense, suit, or cause of action, including, but not limited to, reasonable attorneys fees, arising from or caused by any toxic or hazardous substances or chemicals, as those terms are defined by applicable environmental health or safety laws or regulations, which are used in performance of this Agreement by GCS, present in Scrap disposed of or destroyed by GCS, or present on any of the Facilities in or during GCS’s performance of this Agreement. GCS will maintain compliance of the Facility with all applicable laws and have all necessary permits, operating licenses or authorizations necessary to operate its Facilities under applicable environmental safety or health laws or regulations. WJ is solely responsible for environment compliance on its facilities.

20.7 Waiver. The failure of any Party to enforce, at any time, or for any period of time, any provision of this Agreement, to exercise any election or option provided herein, or to require, at any time, performance of any of the provisions hereof, will not be construed to be a waiver of such provision, or in any way affect the validity of this Agreement, or any part thereof, or the right of any Party thereafter to enforce each and every such provision.

20.8 Compliance with Laws. GCS agrees to comply with all applicable and reasonable local, state, and Federal laws and executive orders and regulations and agrees to defend, indemnify and hold WJ harmless against any loss, cost, damage, expense (including attorney’s fees), or liability by reason of GCS’s violation.

20.9 Independent Contractor. It is agreed that GCS is an independent contractor for the performance of services under this Agreement, and that for accomplishment of the desired result WJ is to have no control over the methods and means of accomplishment thereof, except as specifically set forth in this Agreement. There is no relationship of agency, partnership, joint venture, employment or franchise between the Parties.

20.10 Export Control and Governmental Approval.

(a) The Parties acknowledge that each must comply with all applicable rules and laws in the performance of their respective duties and obligations including, but not limited to, those relating to restrictions on export and to approval of agreements. GCS will be responsible for obtaining and maintaining all approvals and licenses, including export licenses, permits and governmental authorizations from the appropriate governmental authorities as may be required, to enable such GCS to fulfill its obligations under this Agreement.

(b) Each Party agrees that, unless prior written authorization is obtained from the United States Bureau of Industry and Security, it will not export, re-export, or transship, directly or indirectly, any products or technical information that would be in contravention of the Export Administration Regulations then in effect as published by the United States Department of Commerce.

20.11 Non-Solicitation of Employees.

(a) During the term of this Agreement, and for a period of six (6) months following expiration or termination, neither WJ nor GCS shall solicit any employee of the other who is or was employed by any organizational unit of the other Party involved with the performance of this Agreement for employment, either directly through any of its employees, or indirectly through any agent or third party such as an recruiting agency or headhunter; provided, however, that if any such employee first contacts a Party seeking employment, the restrictions of this section shall not apply.

(b) Before making an offer of employment to any individual who is or was employed by any organizational unit of the other Party involved with the performance of this Agreement, a Party shall provide notice of its intent to make such an

offer to the Project Manager of the other Party, and the Parties shall then discuss the circumstances which led to the Party’s potential employment offer and the impact on their business relationship should any offer be made by the Party and accepted by such individual. Should a Party fail to comply with this obligation, such Party shall pay the other Party for the reasonable costs the other Party incurs in hiring a qualified replacement for such individual.

20.12 Force Majeure. Notwithstanding the insurance requirements under Section 14.6 of this Agreement, neither Party shall be liable to pay damages during the term of this Agreement for any delay or failure in performance, provided such delay or non-performance is due to circumstances outside its reasonable control, including but not limited to, decrees or restraints of government, acts of God or nature, strikes or other labor disturbances, war, riot, sabotage, fire, earthquake, flooding, power failures or any other cause which cannot reasonably be controlled by such party (a “Force Majeure Event”). However, the aforesaid shall apply with the restriction that the Party not claiming the Force Majeure Event shall be entitled to terminate this Agreement in writing if the delay or nonperformance of the other Party as a result of the Force Majeure Event should last for more than 3 months.  For a Party to claim a Force Majeure Event hereunder, it must notify the other Party within five (5) days of commencement of the Force Majeure Event specifying the nature of the Force Majeure Event and the anticipated length of the Force Majeure Event.  The Party claiming a Force Majeure Event shall use commercially reasonable efforts to investigate, eliminate or prevent the Force Majeure Event so as to continue performing its obligations under this Agreement.  Any delay or non-performance due to Force Majeure Event will result in a pro-rated delay of the minimum purchase requirements, pro-rated for the time of non-performance or delay. Under no circumstances shall a Force Majeure event delay WJ’s obligation to pay GCS.

20.13 Section Titles. Section titles as to the subject matter of particular sections herein are for convenience only and are in no way to be construed as part of this Agreement or as a limitation of the scope of the particular sections to which they refer.

20.14 Counterparts and Facsimiles.  This Agreement may be executed in several counterparts and by facsimile, each of which shall be deemed to be an original, but all of which shall constitute one and the same instrument.

IN WITNESS WHEREOF, the Parties have caused this Agreement to be signed by duly authorized representations on the date first set forth above.

GLOBAL COMMUNICATION SEMICONDUCTORS, INC.				WJ COMMUNICATIONS, INC.
BY:	/s/ Jerry Curtis		BY:		/s/ Mark Knoch
TITLE:		President & CEO	TITLE:			VP OPERATIONS
						Bruce Diamond
						President & CEO

APPENDIXES

APPENDIX A- WJ PROCESSES TO BE PROVIDED TO GCS

APPENDIX B- LIST OF PRODUCTS (WAFERS)

APPENDIX C- VOLUMES AND PRICES FOR WAFERS

APPENDIX D- PROCESS RESPONSIBILITIES AND TIME SCHEDULE

Appendix A

WJ Processes to be Provided to GCS

The table below contains the valid WJ Process Specifications. Each modification or change of a parameter leads to a new release of the Process Specification.  This change must be performed in written form and signed by GCS and WJ, respectively.

	Full	Derivative
Description	Development	Development
MESFET 0.5um gate	X
MESFET 0.7um gate	X
HFET 0.5um gate	X	X
HBT 5V InGaP	X
HBT 28V InGaP		X

PCM Measurement Conditions, Pass/Fail-Selection

GCS will perform a PCM test at all lots, each wafer, performed on the process control monitor structure (PCM) located in the scribe line or special test inserts.

A wafer will be classified as having passed if each individual pass/fail parameter listed in the process specification passes on **% of the mutually agreed upon number of test sites. The pass/fail limits for electrical tests performed on the PCM for each wafer are listed in the relevant process documentation.

If a Wafer fails the acceptance criteria, the Wafer may not be shipped to WJ unless WJ requests that it be shipped.

Appendix B

List of Products (Wafers)

Products	Process	Die X(um)	Die Y(um)	Area(mm^2)	Target Yield
*****	MESFET	***	***	*****	****
*****	MESFET	***	***	*****	****
*****	MESFET	***	***	*****	****
*****	MESFET	***	***	*****	****
*****	MESFET	***	***	*****	****
*****	MESFET	***	***	*****	****
*****	MESFET	***	***	*****	****
*****	MESFET	***	***	*****	****
*****	MESFET	***	***	*****	*****
*****	MESFET	***	***	*****	*****
*****	MESFET	***	***	*****	*****
*****	HFET	***	***	*****	*****
*****	HFET	***	***	*****	*****
*****	HFET	***	***	*****	*****
*****	Passive	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****
*****	HBT 5V	***	***	*****	*****

Appendix C

Volumes and Prices for Wafers

All prices under this agreement are to be quoted, billed, and paid for in U.S. Dollars. USD ($). Prices listed below are quoted per wafer and include the raw wafer cost and all other costs, but not IC probing.

	Price/Wafer by Process Technology
Semiannual Quantity	MESFET	HFET	5V HBT	28V HBT
*****	*****	*****	*****	*****
*****	*****	*****	*****	*****
*****	*****	*****	*****	*****

Volume pricing will be established using the values in the pricing table based on the 6-month forecast.  The price band will be set for 6-month periods of time on January 1st and July 1st of each year. All volume numbers are based on the total four (4) inch wafer starts in the 6-month forecast period. Minimum purchasing volume will for the first year be based on ***** wafers.

Lead-Times

Process lead-times from GCS will be *** days/level.  Device mix releases will be started in the week following receipt.

Hot lots (if lots in-line exceed 3/1) have a ***** cost factor.  Cycle time on hot lots is (GCS – **** days/level)

Hand-Carry lots require written acceptance of the wafer fab, and have a **** cost factor.  Cycle time on hand-carry lots is (GCS – **** days/level)

Priority lots are subject to acceptance by GCS according to their internal limits.

Appendix D

Process Responsibilities and Time Schedule

1.WJ agrees to pay the following NRE to GCS with **% payable upon completion of the Process freeze and the remaining **% payable upon completion of the first yielding qualification lot per Process.

Process                                                                                                         0;                             Amount Payable

MESFET $**** (50% payable 6 months from contract date assuming completion therein) HFET $**** (50% payable 6 months from contract date assuming completion therein) 5V HBT $**** (50% payable 8 months from contract date assuming completion therein) 28V HBT $**** (50% payable 9 months from contract date assuming completion therein)

1WJ is responsible to provide all documentation and engineering support to enable GCS to use WJ’s processes in its manufacture of the Wafers.

2WJ is responsible for direct material cost of epi-wafers, qualification wafers, masks, and analysis required for the manufacture of the Wafers.

3WJ is responsible for reliability and qualification test costs for all WJ’s products.

4WJ is responsible for WJ tools, WJ de-installation costs, and WJ tool modifications required for the manufacture of the Wafers.

5WJ is responsible for providing photomask sets or GDS II data of acceptable quality for each device to GCS.  If any photomasks require replacement prior to use by GCS, WJ is responsible for replacement.  Any future photomask replacement due to normal wear or damage is the responsibility of GCS.

6Each Party is responsible for the travel and related expenses for their respective team members.

7GCS is responsible for all internal process development costs at both locations.

8GCS is responsible for processing wafers and supporting tools to implement the manufacture of the Wafers.

9GCS is responsible for replacement wafer costs for qualification failures due to GCS’s fault.

10 GCS is responsible for tool installation, government permits, and facility costs.

11GCS is responsible for tools ongoing maintenance and operating costs.

12GCS is responsible for any tools needed strictly for capacity expansion associated with the manufacture of the Wafers.

13WJ will consign the below list of equipment which has been determined needed to install the process capability at GCS (which equipment will be returned to WJ upon termination or cancellation of this Agreement by either Party for any reason).  It is GCS’s responsibility to cover the cost of installation of this equipment and to maintain the equipment to the same conditions as it was delivered.  GCS is also responsible for replacement cost insurance for this equipment.  Any additional requests for equipment must be completed within ** days of the signing of this agreement. GCS shall be responsible for the costs of preparing and filing any UCC statements required by WJ.

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15. The initial high level time schedule for successfully establishing the Process shall be as follows and more detailed time schedules shall be provided in the future as approved by WJ in writing which shall be deemed incorporated into and a part of this Agreement :

Equipment Transfer Complete	****************
MESFET Process Frozen	***************
HBT Process Frozen	************
MESFET Risk Wafer Starts	************
HBT Risk Wafer Starts	**********
MESFET Process Qualified	**********
HBT Process Qualified	***********

Appendix E

Appendix E –  Qualification Requirements

Process Qualification requirements:  each process technology has specific failure modes unique to that technology and/or methodology. Other failure modes are generic to materials & structures common in all semiconductor processes.   Process Qualification requires evaluation of the following:

·Failure modes specific to the individual technology

·Three-temperature DC life test

·RF operational endurance test

·Passive element tests

·Mechanical integrity tests

Documents containing very detailed requirements for MESFET, HFET, and 5V HBT processes have been previously provided to GCS.

Product Qualification requirements: the following products cover the combinations of process technologies and packaging materials/methods. Each product listed will require a full Product Qualification.  

Process	Products to qualify
MESFET	*************
	*************
	***********
5V HBT	****************
	*****************
HFET	**************

Full Product Qualification testing consists of performing and passing the following tests:

Test	# lots tested	reference
HTOL (1000 hours)	3	JESD22-A108
HAST	3	JESD22-A110
Autoclave	3	JESD22-A102
Temperature cycle	3	JESD22-A104
HTB	1	JESD22-A103
ESD	3	MIL-STD883, method 3015

EX-31.1

Exhibit 31.1

CERTIFICATION

I, Bruce W. Diamond, certify that:

1.I have reviewed this quarterly report on Form 10-Q of WJ Communications, Inc.;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15(d) – 15(f) for the registrant and we have:

a.Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b.Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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;

c.Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d.Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

a.All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b.Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Dated:	November 17, 2006	By:	/s/ BRUCE W. DIAMOND
		Bruce W. Diamond
		President and Chief Executive Officer
		(principal executive officer)

EX-31.2

Exhibit 31.2

CERTIFICATION

I, R. Gregory Miller, certify that:

1.I have reviewed this quarterly report on Form 10-Q of WJ Communications, Inc.;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have:

a.Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b.Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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;

c.Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d.Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

a.All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b.Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Dated:	November 17, 2006	By:	/s/ R. GREGORY MILLER
		R. Gregory Miller
		Vice President and Chief Financial Officer
		(principal financial officer)

EX-32.1

Exhibit 32.1

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report of WJ Communications, Inc. (the “Company”) on Form 10-Q for the period ended October 1, 2006 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Bruce W. Diamond, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. § 906 of the Sarbanes-Oxley Act of 2002, that:

(1)           The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)           The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

A signed original of this written certification required by Section 1350 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.

/s/ BRUCE W. DIAMOND

Bruce W. Diamond

President and Chief Executive Officer

(principal executive officer)

November 17, 2006

EX-32.2

Exhibit 32.2

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report of WJ Communications, Inc. (the “Company”) on Form 10-Q for the period ended October 1, 2006 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, R. Gregory Miller, Principal Financial Officer of the Company, certify, pursuant to 18 U.S.C. § 906 of the Sarbanes-Oxley Act of 2002, that:

(1)           The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)           The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

A signed original of this written certification required by Section 1350 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.

/s/ R. GREGORY MILLER

R. Gregory Miller

Vice President and Chief Financial Officer

(principal financial officer)

November 17, 2006