Annual Report

10-K 1 sigma_10k-012806.htm ANNUAL REPORT Annual Report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)
x Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended: January 28, 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 000-15116

SIGMA DESIGNS, INC.
(Exact name of Registrant as specified in its charter)

California		94-2848099
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)

1221 California Circle Milpitas, California		95035
(Address of principal executive offices)		(Zip code)

Registrant’s telephone number, including area code: (408) 262-9003

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act: Common Stock (Title of Class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes [ ] No [X]

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.

Yes [ ] No [X]

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 [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ]

Indicate by check mark whether the registrant is a large accelerated filer, or an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule12b-2 of the Exchange Act. (Check one):

Large accelerated filer [ ] Accelerated filer [X] Non-accelerated filer [ ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).

Yes [ ] No [X]

As of July 30, 2005, the last business day of the Registrant’s most recently completed second fiscal quarter, there were 21,318,567 shares of the Registrant’s common stock outstanding, and the aggregate market value of such shares held by non-affiliates of the Registrant (based on the closing sale price of such shares on the Nasdaq National Market on July 29, 2005) was approximately $155,906,164. Shares of the Registrant’s outstanding common stock held by each executive officer and director and by each entity known to the Registrant to own 5% or more of the Registrant’s outstanding common stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

There were 22,045,875 shares of the Registrant’s Common Stock issued and outstanding on March 30, 2006.

DOCUMENTS INCORPORATED BY REFERENCE

Certain sections of Sigma Designs, Inc.’s definitive Proxy Statement for the 2006 Annual Meeting of Shareholders to be held on June 16, 2006 are incorporated by reference in Part III of this Form 10-K to the extent stated herein. The Proxy Statement will be filed within 120 days of the Registrant’s fiscal year ended January 28, 2006.

Exhibit Index is on Page E-1

Total number of pages is 93

Sigma Designs, Inc.

2006 ANNUAL REPORT ON FORM 10-K

TABLE OF CONTENTS

PART I	Page No
Item 1. Business	2
Item 1A. Certain Factors Affecting Business, Operating Results, and Financial Condition	11
Item 1B. Unresolved Staff Comments	20
Item 2. Properties	20
Item 3. Legal Proceedings	20
Item 4. Submission of Matters to a Vote of Security Holders	21

PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters	22
Item 6. Selected Financial Data	22
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations	23
Item 7A. Quantitative and Qualitative Disclosures About Market Risk	40
Item 8. Consolidated Financial Statements and Supplementary Data	40
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	40
Item 9A. Controls and Procedures	40
Item 9B. Other Matters	45

PART III
Item 10. Directors and Executive Officers of the Registrant	45
Item 11. Executive Compensation	45
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	45
Item 13. Certain Relationships and Related Transactions	46
Item 14. Principal Accounting Fees and Services	46

PART IV
Item 15. Exhibits, Financial Statement Schedules	46

Signatures	47

FORWARD-LOOKING INFORMATION

Throughout this report, we refer to Sigma Designs, Inc., together with its subsidiaries, as “we,” “us,” “our company,” “Sigma” or “the Company.”

THIS FORM 10-K FOR THE YEAR ENDED JANUARY 28, 2006, CONTAINS FORWARD-LOOKING STATEMENTS, INCLUDING STATEMENTS ABOUT THE CONTINUED STRENGTH OF OUR BUSINESS AND OPPORTUNITIES FOR FUTURE GROWTH, EXPECTED RESULTS OF OPERATIONS, ANTICIPATED REVENUES, GROSS MARGINS AND EXPENSES, OUR ABILITY TO REMEDIATE OUR INTERNAL CONTROLS AND OUR AVAILABLE CASH RESOURCES. IN SOME CASES, YOU CAN IDENTIFY FORWARD-LOOKING STATEMENTS BY TERMINOLOGY SUCH AS “MAY”, “WILL”, “SHOULD”, “EXPECT”, “PLAN”, “INTEND”, “ANTICIPATE”, “BELIEVE”, “ESTIMATE”, “PREDICT”, “POTENTIAL”, OR “CONTINUE”, THE NEGATIVE OF SUCH TERMS OR OTHER COMPARABLE TERMINOLOGY. WE BELIEVE THAT OUR EXPECTATIONS ARE REASONABLE AND ARE BASED ON REASONABLE ASSUMPTIONS. HOWEVER, SUCH FORWARD-LOOKING STATEMENTS BY THEIR NATURE INVOLVE RISKS AND UNCERTAINTIES.

WE CAUTION THAT A VARIETY OF FACTORS, INCLUDING BUT NOT LIMITED TO THE FOLLOWING, COULD CAUSE OUR BUSINESS AND FINANCIAL RESULTS TO DIFFER MATERIALLY FROM THOSE EXPRESSED OR IMPLIED IN FORWARD-LOOKING STATEMENTS: OUR DEPENDENCE ON THE EXPANSION OF EVOLVING SEGMENTS OF THE COMSUMER ELECTRONICS MARKET; FLUCTUATING OPERATING RESULTS; PRICING PRESSURES; OUR ABILITY TO ATTRACT AND RETAIN QUALIFIED PROFESSIONALS; INDUSTRY COMPETITION; CHANGES IN INTERNATIONAL REGULATIONS; MONETARY AND FISCAL POLICIES; AND OTHER FACTORS DISCUSSED MORE FULLY IN MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS AND RISK FACTORS BELOW, AS WELL AS IN OTHER REPORTS SUBSEQUENTLY FILED FROM TIME TO TIME WITH THE SECURITIES AND EXCHANGE COMMISSION. WE ASSUME NO OBLIGATION TO UPDATE ANY FORWARD-LOOKING STATEMENTS.

PART I

ITEM 1. BUSINESS

We specialize in silicon-based digital media processors for consumer products. Our highly-integrated chipsets provide high-quality decoding of H.264, MPEG-4, MPEG-2, MPEG-1 and Windows® Media Video 9 (WMV9) content. MPEG or Moving Picture Experts Group, is an international standards body.

Complementing our core technology, we have developed chip and software solutions for emerging convergence products, including DVD playback, digital TV (DTV) reception, video over IP, personal video recording (PVR) and video-on-demand (VOD). We sell our products into consumer electronic devices and products. Our products are sold worldwide through a direct sales force and distributors. Our common stock, publicly traded since 1986, is listed on the NASDAQ National Market under the symbol SIGM. Our corporate headquarters are located in Milpitas, California, and we also have a research and development center in France as well as sales offices in China, Europe, Hong Kong, Japan and Taiwan.

We were founded in 1982, and became a pioneer in the MPEG hardware decoder market in 1993 with the introduction of our REALmagic card, a MPEG playback card for personal computers, or PCs. In April 1997, we announced our entry into the DVD market. During the past few years, we have expanded well beyond our PC card beginnings and work with consumer electronics manufacturers and network service providers to deploy Internet Protocol Television (IPTV) services, digital media adapters, next generation high-definition DVD players, and high definition television. These opportunities have led to technology investments in media processor chips, streaming video software, digital rights management, and a number of other technologies.

At the end of 2001, we introduced a DVD resolution MPEG-4 decoder chip for set-top appliances, establishing a unique position to contribute to the deployment of next generation capabilities. Since then, we have secured numerous design wins and are shipping this product for applications including IP-based set-top boxes for video over DSL, fiber to the home, and next generation high-definition DVD players.

In January 2003 we launched our first high definition television (HDTV) decoder chips with MPEG-4. In January 2004 we announced the EM8620L, the first media processor to support WMV9, an advanced video compression technology from Microsoft Corp. In January 2005, we announced the SMP8630, the one of first media processor to integrate H.264, WMV9 and MPEG decoding in one chip.

In February 2006, we acquired Blue7 Communications (“Blue7”) (see Note 17 “Subsequent Event”) which was a privately-held California corporation. Our subsidiary, Blue7, will focus on the development of advanced wireless technologies and Ultra-Wideband (UWB) semiconductor products.

We were incorporated in California in January 1982. Our principal executive office is located at 1221 California Circle, Milpitas, California 95035. Our telephone number is (408) 262-9003, and our Internet website address is www.sigmadesigns.com; however, the information in, or that can be accessed through, our website is not part of this report. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to such reports are available, free of charge, on our website under “Investors,” as soon as reasonably practicable after we have electronically filed such material with, or have furnished it to, the United States Securities and Exchange Commission, or SEC. The public may also read and copy any materials we filed with the SEC at the SEC’s Public Reference Room at 450 Fifth Street, N.W., Washington D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site (www.sec.gov) that contains reports, proxy and information statements and other information regarding us that we filed electronically with the SEC.

Principal Markets

Our primary focus is to develop and market media processor chipsets for four general types of consumer appliances, which are IP video technology, connected media players, high-definition television and PC add-in and other markets. Many of our chipset products are designed to be used in a wide range of applications within these appliances.

IP Video Technology

Video delivered and distributed over Internet Protocol (IP) is emerging as an important product category for a growing number of consumer equipment makers. This technology can be further divided into two primary sub-segments, IPTV over DSL and digital media adapters (DMAs).

We believe broadband Internet connectivity, highly compressed digital media, and a fundamental demand for entertainment alternatives are paving the way for IPTV delivered over DSL. New set-top boxes, many based on advanced codecs such as H.264 or WMV9 and advanced digital rights management (DRM), are being developed by telecommunications companies around the world to tap into the potential revenues streams that may be created by these products. Many international regions currently lack the cable infrastructure that exists in the U.S., thus creating demand for reliable high quality video delivery. We attempt to meet this demand by offering a chip with a set of features including high performance silicon and streaming video software.

DMAs are a new consumer product category which supports distribution of video/audio content to television sets throughout the home using wired or wireless connectivity. DMAs typically work in conjunction with a centralized media center or gateway to offer ubiquitous digital media in home. We provide chipset solutions for DMAs, utilizing the same feature set, and streaming video software developed for the IPTV market.

Companies such as D-Link, Pinnacle, Sharp, I/O Data and LG Electronics, are preparing and providing IP video appliances for the consumer market using our silicon solutions. In addition, the new Microsoft TV platforms being planned for shipment by AT&T and British Telecom are currently being designed around our SMP8634 media processor chips.

Connected Media Players

Connected media players are a range of devices such as high-definition DVD players (Blu-ray, HD-DVD, and others), portable media devices, and multi-function media centers.

We believe high-definition DVD players with advanced video codecs have been a product of choice for entertainment enthusiasts for over two years. We introduced the first DVD decoder chips supporting playback of MPEG-4 and DivX video, and have followed up with the support for WMV9, an important new feature for downloading content. We are a supplier in this segment and provide chips with the latest codecs (H.264 and VC-1), support for networking and local hard drives, and high-definition video output. We are engaged in readying Blu-ray product launches with five consumer electronics manufacturers and a sixth one for HD-DVD.

We also sell our chipsets for use in portable media devices. With ongoing technology improvements in media compression, wireless communications, and small form-factor storage, portable media players have quickly become the media-on-the-go equivalent of the cell phone. The trend toward hand-held players has already moved to the mainstream for audio, while new advanced video compression schemes are enabling the addition of movies, personal video and photos, for use on the road and within the home. We serve this market by selling media processors that offer the latest codecs in a highly integrated package along with low power consumption.

High Definition Television

HDTV sets represent a substantial and growing product category, currently selling in the millions of units, led by the U.S. market and moving overseas. New widescreen HDTV sets are being offered in an increasing array of forms using three primary technologies, which are liquid crystal display (LCD), plasma and projection, each providing its own set of advantages. We offer a growing line of high-definition media processors designed for flat panel displays and offer advanced display-processing features.

Our EM8620 series of digital media processor has been selected for use in high-definition plasma television sets from such customers as LG Electronics.

PC add-in and other markets

The PC add-in and other markets consists of PC add-in board and chipset products, engineering support services for both hardware and software, engineering development for customization of chipsets and other accessories.

Industry Alliances

To meet customer needs for a complete system solution, we have developed strong relationships with leading suppliers of chipsets, system software and video servers/encoders. Companies that provide live encoders and server systems enable original equipment manufacturers to deliver complete solutions for IP video streaming applications. Our set-top appliance reference designs, in some cases, depend on vendors of processors, graphics controllers, video encoders, wireless controllers, and DTV tuners. Furthermore, stand-alone consumer appliances require a substantial amount of software and middleware, from vendors such as Digital 5, Syabas, or Microsoft, with which we also have strong working relationships.

Sigma Business Strategy

Our objective is to provide digital media processing chipsets that offer advanced features, high video quality, and rapid time-to-market for our target applications. We continue to invest in technology development as well as utilize our fundamental advantages.

We believe that our field-proven, decoder technology, now in our fourth generation of silicon and equivalent evolution of software, represents one of our competitive advantages. We continue to invest and build on six primary technology foundations to provide the highest quality digital video/audio solutions possible:

·	Digital video decoding including MPEG-1, -2 and -4 H.264 and WMV9;

·	Digital audio decoding including MPEG-1, -2 and proprietary formats, including Dolby® Digital and Windows® Media Audio (WMA);

·	Advanced scene composition including advanced video scaling, adaptive deinterlacing, adaptive flicker filtering and prioritized alpha mixing;

·	Secure media processing for effectively protecting content and processing DRM algorithms, transport handling and conditional access;

·	Software clients for VOD and IP multicast and navigation software for DVD-video, DVD-audio, SVCD, VCD, CD and HDD playback; and

·	Standard-definition (SD) and high-definition (HD) solutions that share a common hardware and software architecture.

Recent Acquisition:

On February 16, 2006, we acquired Blue7 Communications (“Blue7”), which was a privately-held California corporation. Our subsidiary, Blue7, will focus on the development of advanced wireless technologies and Ultra-Wideband (UWB) semiconductor products.

We believe demand for wireless communication solutions continues to increase and escalate, and encompasses an increasing portion of the consumer electronics environment. While WiFi (802.11) solutions have largely satisfied the need for medium bandwidth data communications, it has failed to address the needs of an audio/video entertainment network which requires, enough bandwidth to handle multiple high-definition video streams while remaining within the price range of mainstream adoption. Ultra-Wideband (UWB) technology may offer such a solution, supporting a maximum data rate of 480 Mbps with high QoS, low power consumption and competitive pricing. We believe that our focus on IP video and networked consumer products, the addition of wireless communication products and technologies from Blue7 will enable us to address broader solutions and increase our value-add in each product.

Sigma Products

We offer chip-level products that enable digital media processing solutions for consumer appliances. We believe our line of digital media processing chips features high video quality. We complement our silicon technology with embedded software, portable to a wide range of operating environments. Featuring VOD and media navigation clients, our software is available under Windows, Linux and WinCE operating systems. In addition, we develop and sell reference platforms designed around our silicon and software as application examples for customer development.

The following chipset products are sold primarily into the consumer appliance market:

·	The EM8400 series provides MPEG-4, -2 and -1 video and audio decoding for broadband interactive set-top boxes, including companies such as Fujitsu-Siemens, Acer and Samsung. The EM8400 Series represents one of the first MPEG-4 silicon solutions for the set-top box market.

The EM8500 series is the first solution for DVD players, portable media players and video endpoints to support MPEG-4 and DivX™. It is also the first to feature high-quality scaling to HDTV resolutions and support for DVI/HDCP. The unique features of the EM8500 series enabled the availability of networked DVD players and low-cost video endpoints, such as digital media adaptors and broadband network devices.

The EM8610 series represents the first HDTV decoder silicon solutions to also support MPEG-4 and IP video streaming. Designed for HDTVs and advanced set-top boxes, it also offers advanced audio and video processing and progressive DVD playback. The software-compatible EM8610L series addresses the more cost-sensitive SDTV and video endpoint markets.

The EM8620L series represents the first HD WMV9 decoder silicon solution and also supports DVD and HD MPEG-4/-2 decoding. Designed for video endpoints, such as digital media adaptors and broadband IP video set-top boxes, DVD receivers and advanced DVD players, the EM8620L series offers advanced audio and video processing.

·	The SMP8630 series is one of the first chips to offer integrated support for H.264, WMV9, and MPEG decoding in a single system-on-chip solution. It is designed for IPTV set-top boxes, high-definition DVD players, HDTV television, and DMAs.

We also offer a series of PC-based solutions, under the NetStream and REALmagic Xcard brand names, that are sold into the commercial streaming market and PC add-in market respectively:

·	The NetStream 4000 and 2000TV are PC add-in cards featuring high-performance MPEG-4 and -2 decoding, bringing streaming video to most PC-based systems.

·	The REALmagic Xcard™ is a desktop PC add-in solution that plugs into a standard PCI slot, providing high quality DVD, MPEG-4 and DivX™ Video playback onto a standard TV or HDTV.

Marketing and Sales

We currently sell most of our products through our direct sales force. We augment these sales through a select set of distributors and manufacturer representatives operating in different regions of the world. Our U.S. distributor is Ingram Micro, Inc. Our original equipment manufacturers, or OEMs, have included Fujitsu-Siemens, Cisco-Linksys, LG Electronics, Lite-On and Samsung. Our international distributors are strategically located in many countries around the world.

We generally maintain products for distribution through corporate markets based on forecasts rather than firm purchase orders. Purchase orders for delivery after 30 days are typically cancelable without substantial penalty from such OEM customers. We currently place non-cancelable orders to purchase semiconductor products from our suppliers on an eight to twelve week lead-time basis. Consequently, if, as a result of inaccurate forecasts or canceled purchase orders, anticipated sales and shipments in any quarter do not occur when expected, expenses and inventory levels could be disproportionately high, requiring more working capital and resulting in more pressure on our operating results.

International customers accounted for 89%, 86% and 86% of our total net revenues in fiscal 2006, 2005 and 2004, respectively. Revenues from our customers in Asia accounted for 82%, 65% and 65% of our total net revenues in fiscal 2006, 2005 and 2004, respectively.

Sales to distributors are typically subject to contractual rights of inventory rotation and price protection. Regardless of particular contractual rights, the failure of one or more distributors or OEMs to achieve sustained sell-through products could result in product returns or delayed or uncollectable receivables, contributing to significant fluctuations in our operating results.

Research and Development

As of January 28, 2006, we had a staff of 89 research and development personnel. These research and development personnel conduct all of our product development with the assistance of a number of independent contractors and consultants. We focus our development efforts primarily on three aspects: decoder technologies, including all forms of MPEG, H.264, VC-1, and a wide range of audio codecs; secure media processing, including DRM, conditional access, and secure data path; and fully integrated system-on-chip (SOC) solutions.

To achieve and maintain technological leadership, we must continue to make technological advancements in the areas of video and audio compression and decompression. These advancements include maintaining compatibility with emerging standards and multiple platforms, and making improvements to the current architecture.

During fiscal 2006, 2005, and 2004, our research and development expenses were approximately $14.0 million, $11.6 million, and $10.0 million, respectively. We plan to continue to devote substantial resources to research and development of future generations of MPEG and other multimedia products.

Competition

The market for digital media processors is highly competitive. Rival companies include Analog Devices, ATI Technologies, Broadcom, Conexant Systems, ESS Technology, LSI Logic, Mediatek, Philips, Pixelworks, STMicroelectronics, Texas Instruments and Zoran Corporation. Many of these companies have higher profiles, larger financial resources, and greater marketing resources than we do and may develop a competitive product that may inhibit the wide acceptance of our products’ technology. We believe that other manufacturers are developing MPEG products that will compete directly with our products in the near future.

We believe that the principal competitive factors in the market for digital media processors include time to market for new product introductions, product performance, industry standards compatibility, price, and marketing and distribution resources. We believe that we compete favorably with respect to time to market, product performance and industry standards compatibility, and we may not be able to compete favorably with respect to price and marketing and distribution resources.

Licenses, Patents and Trademarks

We continually seek patent protection for certain software and hardware features and intend to do so for future versions. We currently have seven pending patent applications for our technology. Twenty-seven patents have been issued to us. The termination dates of these patents range from 6 to 15 years. We cannot assure you that more patents will be issued or that such patents, even if issued, or our existing patents will provide adequate protection for our competitive position. We also attempt to protect our trade secrets and other proprietary information through agreements with customers, suppliers and employees and other security measures. Although we intend to protect our rights vigorously, we cannot assure you that these measures will be successful.

Manufacturing

To reduce overhead expenses, along with capital and staffing requirements, we currently use third-party contract manufacturers to fulfill all of our manufacturing needs, including chipset manufacturing and board-level assembly. All of the chips used by us to develop our decoding products are manufactured by outside suppliers and foundries. Each of these suppliers is our sole source of supply for the respective chips produced by such supplier and we do not have guaranteed price or quantity commitments.

Our reliance on independent suppliers involves several risks, including the potential absence of adequate capacity and reduced control over delivery schedules, manufacturing yields and costs. Any delay or interruption in the supply of any of the components required for the production of products could seriously harm our sales of products and, thus, our operating results.

Backlog

Since our customers typically expect quick deliveries, we seek to ship products within a few weeks of receipt of a purchase order. However, the customer may reschedule delivery of products or cancel the purchase order entirely without significant penalty. Historically, our backlog has not been reflective of future sales, because of the short period of time between customer order and delivery of product.

Employees

As of January 28, 2006, we had 160 full-time employees worldwide, including 89 in research and development, 42 in marketing, sales and support, 9 in operations, and 20 in finance and administration. As a result of our acquisition of Blue7 on February 16, 2006, we have an additional 21 full-time employees.

Our future success will depend, in part, on our ability to continue to attract, retain and motivate highly qualified technical, marketing, engineering and management personnel, who are in great demand. Our employees are not represented by any collective bargaining unit, and we have never experienced a work stoppage. We believe that our employee relations are satisfactory.

Executive Officers of the Registrant

The following table sets forth certain information concerning our executive officers as of April 1, 2006:

Name	Age	Position
Thinh Q. Tran	53	Chairman of the Board, President, and Chief Executive Officer
Silvio Perich	58	Senior Vice President, Worldwide Sales
Jacques Martinella	50	Vice President, Engineering
Kenneth Lowe	50	Vice President, Strategic Marketing
Kit Tsui	57	Chief Financial Officer, and Secretary

Mr. Tran, a founder of Sigma, has served as President, Chief Executive Officer, and Chairman of the Board of Directors since February 1982. Prior to joining Sigma, Mr. Tran was employed by Amdahl Corporation and Trilogy Systems Corporation, both of which were involved in the IBM-compatible mainframe computer market.

Mr. Perich joined Sigma in September 1985 as Director, Sales. In September 1992, Mr. Perich became Senior Vice President, Worldwide Sales. Mr. Perich was a co-founder of Costar Incorporated, a manufacturers’ representative organization for high technology products, where he served as partner from October 1979 to September 1985. From September 1972 until September 1979, Mr. Perich served in several sales management roles at Siliconix Inc, a specialty semiconductor manufacturer.

Mr. Martinella joined Sigma in May 1994 as Director, VLSI Engineering. In December 1995, Mr. Martinella became Vice President, Engineering. From June 1990 to April 1994, Mr. Martinella served in engineering and management positions at Weitek, a microchip manufacturer. In addition, Mr. Martinella was an engineer at National Semiconductor, a semiconductor manufacturer, from June 1982 to June 1990.

Mr. Lowe joined Sigma in May 2000 as Vice President, Marketing. In December 2000, Mr. Lowe became Vice President, Strategic Marketing. Prior to joining Sigma, Mr. Lowe served as the Director of Multimedia Marketing for Cadence Design Systems. From 1996 to 1998, Mr. Lowe served as the Vice President of Marketing for Chrontel. Prior to 1996, Mr. Lowe held various marketing management positions at Sierra Semiconductor, Datquest, Personal CAD Systems, Performix and Gould-Biomation. In the late 1980’s, Mr. Lowe served as Product Marketing Director of Sigma.

Ms. Tsui joined Sigma in November 1982 as its Accounting Manager. Ms. Tsui was promoted to Director of Finance in February 1990, acting Chief Financial Officer and Secretary in December 1996, Chief Accounting Officer in January 2000 and Chief Financial Officer in January 2001.

There is no family relationship among any of our directors and executive officers.

ITEM 1A. CERTAIN FACTORS AFFECTING BUSINESS, OPERATING RESULTS, AND FINANCIAL CONDITION

You should carefully consider the risks described below before making an investment decision. The risks and uncertainties described below are not the only ones facing Sigma Designs. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our business operations.

If any of the following risks actually occur, our business, financial condition and results of operations could be materially adversely affected. In such case, the trading price of our common stock could decline, and you could lose all or part of your investment.

The average selling prices of our products have historically decreased rapidly and will likely do so in the future, which could harm our revenues and gross margins.

Some of our markets, especially the DVD segments, are characterized by intense price competition. The willingness of customers to design our chips into their products depends to a significant extent upon our ability to sell our products at competitive prices. We expect the average selling price of our existing products to decline significantly over the life of each product as the markets for our products mature, new technologies emerge, and competition increases. If we are unable to reduce our costs sufficiently to offset declines in product prices or are unable to introduce more advanced products with higher margins in a timely manner, we could see declines in our market share or gross margins.

Our business is highly dependent on the expansion of young and rapidly evolving segments of the consumer electronics market.

Our business is highly dependent on the sale of IP video set-top boxes, connected media players, and high definition televisions, all of which are developing segments of the consumer electronics market. We expect the majority of our revenues for the foreseeable future to come from the sale of chipsets for use in these emerging consumer applications. Our ability to sustain and increase revenues is in large part dependent on the continued growth of these young and rapidly evolving market segments, whose future is largely uncertain. Many factors could impede or interfere with the expansion of these consumer market segments, including general economic conditions, other competing consumer electronic products, delays in the deployment of telecommunications video services and insufficient interest in new technology innovations. In addition, even if these consumer market segments expand, manufacturers of products in these segments may not choose to utilize our products in their products, but rather the products of our competitors. Moreover, market acceptance of the products of manufacturers that do utilize our products may not occur as expected. In any such case, our business would likely be harmed.

We have a history of operating losses and we could sustain future losses. We cannot assure you that we will continue to be profitable and if we lose money, our business may not be financially viable.

We incurred significant operating losses in fiscal 1995, 1996, 1998, 2001, 2002 and 2003 and had negative cash flow in fiscal 1995, 1998, 2002 and 2003. Since our introduction of the REALmagic® MPEG product line in November 1993, we have made significant investments in marketing and technological innovation for our REALmagic products. As a result of our investments, we experienced significant losses through fiscal 1996. Fiscal 1995, 1996 and 1998 also included significant losses associated with products other than those related to our REALmagic technology. Fiscal 2001, 2002 and 2003 included significant losses associated with a decline in demand for our REALmagic products. In recent years, we made significant investments in our development efforts primarily on three aspects: decoder technologies, including all forms of MPEG, H.264, VC-1, and a wide range of audio codecs; secure media processing, including DRM, conditional access, and secure data path; and fully integrated system-on-chip (SOC) solutions. We may not recognize the benefits of these investments. We turned profitable for the fiscal year ended January 31, 2004. However, we cannot assure that we will continue to be profitable. Since our inception through January 28, 2006, our total accumulated deficit is $57.2 million. We may incur operating losses in future periods or fiscal years, which in turn could cause the price of our common stock to decline.

Our operating results are subject to significant fluctuations due to many factors and any of these factors could adversely affect our stock price

Our operating results have fluctuated in the past and may continue to fluctuate in the future due to a number of factors, including but not limited to:

·	new product introductions by us and our competitors;

·	changes in our pricing models and product sales mix;

·	unexpected reductions in unit sales, average selling prices and gross margins, particularly if they occur precipitously;

·	expenses related to compliance with Section 404 of the Sarbanes-Oxley Act of 2002;

·	market acceptance of the technology embodied in our products generally and our products in particular;

·	the level of acceptance of our products by our OEM customers, and acceptance of our OEM customers’ products by their end user customers;

·	shifts in demand for the technology embodied in our products generally and our products in particular and those of our competitors;

·	the loss of one or more significant customers;

·	the timing of, and potential unexpected delays in, our customer orders and product shipments;

·	inventory obsolescence;

·	write-downs of accounts receivable;

·	an interrupted or inadequate supply of semiconductor chips or other materials included in our products;

·	technical problems in the development, ramp up, and manufacturing of products which could cause shipping delays;

·	availability of third-party manufacturing capacity for production of certain products; and

·	the impact of potential economic instability in the Asia-Pacific region.

Our industry is highly competitive and we cannot assure you that we will be able to effectively compete. If we fail to compete effectively, our growth could be substantially affected.

The market for digital media processors is highly competitive and includes embedded processors provided by multiple companies. Processors have, in recent years, included increased graphics functionality. Other companies with more experience and financial resources may develop a competitive product that could inhibit future growth in sales of our products. Increased competition may be generated from several major computer product manufacturers that have developed products and technologies that could compete directly with our products. These competitors include:

·	Analog Devices;

·	ATI Technologies;

Broadcom;

·	Conexant Systems;

·	ESS Technology;

·	LSI Logic/C-Cube;

Mediatek;

Philips;

·	Pixelworks;

·	STMicroelectronics;

·	Texas Instruments; and

·	Zoran Corporation.

Most of our competitors have substantial experience and expertise in audio, video and multimedia technology and in producing and selling consumer products through retail distribution and OEM channels. These companies also have substantially greater engineering, marketing and financial resources than we have. Our competitors could form cooperative relationships that could present formidable competition to us. We cannot assure you that our technology will continue to achieve commercial success or that it will compete effectively against other interactive multimedia products, services and technologies that currently exist, are under development, or may be announced by competitors. Also, we anticipate that our competitors will, over time, introduce features that have historically been unique to Sigma Designs, such as WMV9 decoding. We cannot assure you that we will not lose market share or suffer price erosion in each of our market segments as a result of the introduction of competitive products with similar features.

The requirements of Section 404 of the Sarbanes-Oxley Act will increase our operating expenses, and the identification of material weaknesses in our internal controls as reported in our management assessment could adversely affect the market price of our stock.

Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley”), we are required to include a report of management's assessment of the design and effectiveness of our internal controls as part of our Annual Report on Form 10-K. Our independent registered public accounting firm is required to attest to, and report on, our management's assessment. In order for management to evaluate, conclude, and report their assessment of effectiveness of internal control over financial reporting, we documented both the design and testing of our internal controls in extensive detail. This includes a material weakness, which resulted in an adverse opinion on the effectiveness of our internal controls, related to inadequate controls to ensure that financial information is adequately analyzed to detect misstatements including the lack of understanding of generally accepted accounting principles, or GAAP, and Securities Exchange Commission, or SEC, reporting matters. We are evaluating and taking additional steps and actions needed to improve our financial infrastructure and to eliminate the significant deficiencies and weaknesses identified. If we fail to remediate our existing material weakness or identify any new material weaknesses, we may be unable to prevent a material misstatement in our reported financial information and investors may lose confidence in our reported financial information, which could have a negative effect on the trading price of our common stock.

Sales risks and volatility of OEM customer sales and resale distribution may harm our business.

Our ability to increase sales and achieve continued profitability depends substantially on our ability to achieve a sustained high level of sales to our OEM customers. Our customers are not under any obligation to purchase any minimum quantity of our products. Also, even if we achieve new design wins, we cannot assure you that these manufacturers will purchase our products in substantial volumes. Sales to any particular OEM customer fluctuate significantly from quarter to quarter and are subject to severe price pressures by competitors. Any reductions in those sales could seriously harm our business. We expect that our sales to OEM customers will continue to experience significant fluctuations, which will cause our operation results to fluctuate as well.

We may engage in investments in and acquisitions of other businesses and technologies, which could divert management’s attention and prove difficult to integrate with our existing business and technology.

We continue to consider investments in and acquisitions of other businesses, technologies or products, to improve our market position, broaden our technological capabilities and expand our product offerings. For example, we recently completed the acquisition of Blue7 Communications in February 2006. However, we may not be able to acquire, or successfully identify, the companies, products or technologies that would enhance our business. Once we identify a strategic opportunity, the process to consummate a transaction could divert management’s attention from the operation of our business causing our financial results to decline.

In addition, if we are able to acquire companies, products or technologies, we could experience difficulties in integrating them. Integrating acquired businesses involves a number of risks, including but not limited to:

the potential disruption of our ongoing business,

unexpected costs or incurring unknown liabilities,

the diversion of management resources from other business concerns while involved in integrating new businesses, technologies or products,

the inability to retain the employees of the acquired businesses,

difficulties relating to integrating the operations and personnel of the acquired businesses,

adverse effects on the existing customer relationships of acquired companies,

adverse effects associated with entering into markets and acquiring technologies in areas in which we have little experience, and

acquired intangible assets becoming impaired as a result of technological advancements, or worse-than-expected performance of the acquired company.

If we are unable to successfully integrate the business we acquire, our operating results could be harmed.

Because we depend on a limited number of major customers, the reduction, delay or cancellation of orders from these customers or the loss of these customers may adversely affect our business.

In fiscal 2006, no domestic customer accounted for more than 10% of our total net revenues, however, one customer in Asia accounted for 25% of our total net revenues. In fiscal 2005, no domestic customer accounted for more than 10% of our total net revenues but one customer in Asia accounted for 15% and one customer in Europe accounted for 14% of our total net revenues. In fiscal 2004, no customer in any regions accounted for more than 10% of our total net revenues. Our dependence on a few major customers will likely continue despite other changes in the composition of our customer base. The reduction, delay or cancellations of orders from major customers or the loss of major customers could materially and adversely affect our business, financial condition and results of operations. In addition, any difficulty in collection from key customers could harm our business.

Our business depends on international customers, suppliers and operations, and as a result we are subject to regulatory, operational, financial and political risk, which could adversely affect our financial results.

Our international sales represented 89%, 86% and 86% of total net revenues for fiscal 2006, 2005 and 2004, respectively. We anticipate that sales to international customers will continue to constitute a substantial percentage of our net revenues. Also, one of the foundries that manufactures our products and components is located in Asia.

Due to the concentration of international sales and the manufacturing capacity in Europe and Asia, we are subject to the risks of conducting business internationally. These risks include unexpected changes in regulatory requirements and fluctuations in the U.S. dollar that could increase the sales price in local currencies of our products in international markets, or make it difficult for us to obtain price reductions from our foundries. Overseas sales and purchases to date have been denominated in U.S. dollars. We do not currently engage in any hedging activities to reduce our exposure to exchange rate risks. Our results of operations could be adversely affected by exchange rate fluctuations.

We derive a substantial portion of our revenues from sales to the Asia Pacific region. This region of the world is subject to increased levels of economic instability, and this instability could seriously harm our results of operations.

The timing of our customer orders and product shipments can adversely affect our operating results and stock price

Our quarterly revenues and operating results depend upon the volume and timing of customer orders received during a given quarter and the percentage of each order that we are able to ship and recognize as revenues during each quarter, each of which is extremely difficult to forecast. The majority of our orders in a given quarter historically have been shipped in the last months of that quarter. This trend is likely to continue, and any failure or delay in the closing of orders during the last part of a quarter would adversely affect our operating results. Further, to the extent we receive orders late in any given quarter, we may be unable to ship products to fill those orders during the same quarter in which we received the corresponding order, which would have an adverse impact on our operating results for that quarter.

If we fail to comply with or obtain waivers for covenants under our loan obligations, our financial condition could be harmed.

We have two lines of credit at a bank, expiring in August 2007, which allow for borrowings of up to $15.0 million. During August 2005, we also entered into a 30-month term loan for $0.5 million, which was used to purchase equipment for research and development. We are subject to certain financial covenants under the lines of credit and the term loan. We have on occasion, including the quarter ended April 30, 2005, been in violation of some of the covenants and in all cases, we have obtained waivers releasing us from our obligations to meet those covenants as of previous dates. It is possible that we may need such a waiver for future non-compliance and we cannot assure you that our bank will grant these waivers. If we do not meet these covenants and cannot obtain waivers, the lender could accelerate payments of any amounts due under the lines of credit and the term loan. To the extent we had borrowed amounts under these lines of credit and term loan and were required to repay them on an accelerated basis, it could substantially weaken our financial condition. If we do not have sufficient funds available to make full payment on the lines of credit and the term loan when required, the bank could foreclose on our accounts receivable, inventories, general intangibles such as patents and trademarks, equipment and tangible assets that collateralize the notes, which would harm our business. As of January 28, 2006, the total outstanding balance under the term loan was $444,000. We had no amounts outstanding under these two lines of credit but had availability to draw drown approximately $7.6 million. On February 8, 2006, we utilized approximately $2.4 million from one of two lines of credit for issuance of a standby letter of credit to a supplier.

Our failure to keep pace with technological changes would seriously harm our business.

Our success depends, among other things, on our ability to achieve and maintain technological leadership and to remain competitive in terms of price and product performance.

Our technological leadership depends on our continued technological advancements, as well as research and development investments in the area of MPEG video and audio decoding. These advancements include the following:

·	compatibility with emerging standards and multiple platforms; and

·	improvements to our silicon architecture.

We cannot assure you that we will be able to make these advancements to our technology. Even if we do make these advances, we cannot assure you that we will be able to achieve and maintain technological leadership. Any material failure by us or OEMs and software developers to develop or incorporate any required improvement could adversely affect the continued acceptance of our technology and the introduction and sale of future products based on our technology. We cannot assure you that products or technologies developed by others will not render our technology and the products based on our technology obsolete.

To be competitive, we must anticipate the needs of the market and successfully develop and introduce innovative new products in a timely fashion. We cannot assure you that we will be able to successfully complete the design of our new products, have these products manufactured at acceptable manufacturing yields, or obtain significant purchase orders for these products. The introduction of new products may adversely affect sales of existing products and contribute to fluctuations in operating results from quarter to quarter. Our introduction of new products also requires that we carefully manage our inventory to avoid inventory surplus and obsolescence. Our failure to do so could adversely impact our results of operations. In addition, new products, as opposed to more mature products, typically have higher initial component costs. These higher costs could result in downward pressures on our gross margins.

We rely heavily on a limited number of manufacturers and suppliers and the failure of any of these third-party vendors to deliver products or otherwise perform as requested could damage our relationships without our customers, decrease our sales and limit our growth.

Our products and components are presently manufactured entirely by outside suppliers or foundries. We do not have long-term contracts with these suppliers. We conduct business with our suppliers on a written purchase order basis. Our reliance on independent suppliers subjects us to several risks. These risks include:

·	the absence of adequate capacity;

·	the unavailability of, or interruptions in access to, certain process technologies; and

·	reduced control over delivery schedules, manufacturing yields and costs.

We obtain some of our components from a single source. Any delay or interruption in the supply of any of the components required for the production of our silicon or our multimedia cards currently obtained from a single source, including delays resulting from a recurrence of SARS (or similar epidemics), earthquakes or other business interruptions could have a material adverse impact on our sales of products, and on our business.

We must provide our suppliers with sufficient lead-time to meet our forecasted manufacturing objectives. Any failure to properly forecast such quantities could materially and adversely affect our ability to produce products in sufficient quantities. We cannot assure you that our forecasts regarding new product demand will be accurate, particularly because we sell our products on a purchase order basis. Manufacturing chipsets is a complex process, and we may experience short-term difficulties in obtaining timely deliveries. This could affect our ability to meet customer demand for our products. Any such delay in delivering products in the future could materially and adversely affect our operating results. Also, should any of our major suppliers become unable or unwilling to continue to manufacture our key components in required volumes, we will have to identify and qualify acceptable additional suppliers. This qualification process could take up to three months or longer and additional sources of supply may not be in a position to satisfy our requirements on a timely basis.

In the past, we have experienced production delays and other difficulties, and we could experience similar problems in the future. In addition, product defects may occur and they may escape identification at the factory. This could result in unanticipated costs, cancellations, deferrals of purchase orders, or costly recall of products from customer sites.

Loss of key personnel could cause our business to suffer.

Our future success depends in large part on the continued service of our key technical, marketing, sales and management personnel. Given the complexity of our technology, we are dependent on our ability to retain and motivate highly skilled engineers involved in the ongoing hardware and software development of our products. These engineers are required to refine the existing hardware system and application-programming interface and to introduce enhancements in future applications. Despite incentives we provide, our current employees may not continue to work for us, and if additional personnel were required for our operations, we may not be able to obtain the services of additional personnel necessary for our growth.

We rely upon patents, trademarks, copyrights and trade secrets to protect our proprietary rights and if these rights are not sufficiently protected, it could harm our ability to compete and to generate revenues.

Our ability to compete may be affected by our ability to protect our proprietary information. We currently hold twenty-seven patents and these patents will expire within the next 6 to 15 years. These patents cover the technology underlying the products. We have filed certain patent applications and are in the process of preparing others. We cannot assure you that any additional patents for which we have applied will be issued or that any issued patents will provide meaningful protection of our product innovations. Like other emerging multimedia companies, we rely primarily on trade secrets and technological know-how in the conduct of our business. We also rely, in part, on copyright law to protect our proprietary rights with respect to our REALmagic® technology. We use measures such as confidentiality agreements to protect our intellectual property. These methods of protecting our intellectual property may not be sufficient.

We may face intellectual property claims that could be costly to defend and result in our loss of significant rights.

The semiconductor and electronics industry is characterized by frequent litigation regarding patent and intellectual property rights. Any such litigation could result in significant expense to us and divert the efforts of our technical and management personnel. In the event of an adverse result in any such litigation, we could be required to expend significant resources to develop non-infringing technology or to obtain licenses to the technology that is the subject of the litigation, and we may not be successful in such development or in obtaining such licenses on acceptable terms, if at all. In addition, patent disputes in the electronics industry have often been settled through cross-licensing arrangements. Because we do not yet have a large portfolio of issued patents, we may not be able to settle an alleged patent infringement claim through a cross licensing arrangement.

We will be required to expense options granted under our employee stock plan as compensation, and our net income and earnings per share could be significantly reduced and we may be forced to change our business practices to attract and retain employees.

Historically, we have used stock options as a key component of our employee compensation packages. We believe that stock options provide an incentive to our employees to maximize long-term stockholder value and, through the use of vesting, encourage valued employees to remain with us. In December 2004, the FASB issued SFAS No. 123 (revised 2004) “Share-Based Payment” (“SFAS 123R”), which requires all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair values. We are required to adopt SFAS 123R in our first fiscal quarter of 2007. When such adoption is implemented on January 29, 2006, our net income and earnings per share will be negatively impacted. As a result, we may decide in the future to reduce the number of employees who receive stock options or grant fewer options to particular employees. This could adversely affect our ability to retain existing employees and attract qualified candidates, and also could increase the cash compensation we would have to pay to them.

Changes in financial accounting standards or practices or existing taxation rules or practices may cause adverse unexpected fluctuations and affect our reported results of operations.

Financial accounting standards in the U.S. are constantly under review and may be changed from time to time. We are required to apply these changes when adopted. Once implemented, these changes could result in material fluctuations in our financial results of operations and the way in which such results of operations are reported. Similarly, we are subject to taxation in the U.S. and a number of foreign jurisdictions. Rates of taxation, definitions of income, exclusions from income, and other tax policies are subject to change over time. Changes in tax laws in a jurisdiction in which we have reporting obligations could have a material impact on our results of operations.

Our stock price has demonstrated volatility and overall declines, and continued volatility in the stock market may cause further fluctuations or decline in our stock price.

The market for our common stock has been subject to significant volatility, which is expected to continue. For example, during fiscal 2006, the closing sale price of our common stock on the Nasdaq National Market ranged from $6.31 to $17.05. The following factors, among others, may have a significant impact on the market price of our common stock:

·	our announcement of the introduction of new products;

·	our competitors’ announcements of the introduction of new products; and

·	market conditions in the technology, entertainment and emerging growth company sectors.

In addition, the stock market, in general, has experienced, and is currently experiencing, volatility that particularly affects the market prices of equity securities of many high technology companies, such as those in the electronics and semiconductor industries. This volatility is often unrelated or disproportionate to the operating performance of such companies. These fluctuations, as well as general economic and market conditions, could decrease the price of our common stock.

ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

ITEM 2. PROPERTIES

We currently lease a 40,000 square foot facility in Milpitas, California that is used as our headquarters. The lease on our Milpitas, California facility will expire in September 2007. We also lease facilities for a sales office and warehouse in Hong Kong, a representative office in Shenzhen China, and research and development near Paris, France. For the facility in California, we are currently evaluating all options to ensure that our facility will accommodate our future growth. We believe existing facilities are both suitable and adequate for our near-term needs.

ITEM 3. LEGAL PROCEEDINGS

From time to time, we are involved in claims and legal proceedings that arise in the ordinary course of business. We expect that the number and significance of these matters will increase as our business expands. In particular, we could face an increasing number of patent and other intellectual property claims as the number of products and competitors in our industry grows. Any claims or proceedings against us, whether meritorious or not, could be time consuming, result in costly litigation, require significant amounts of management time, result in the diversion of significant operational resources, or require us to enter into royalty or licensing agreements which, if required, may not be available on terms favorable to us or at all. Were an unfavorable outcome to occur against us, there exists the possibility of a material adverse impact on our financial position and results of operations for the period in which the unfavorable outcome occurs, and potentially in future periods. We are not currently a party to any material legal proceedings.

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

No matters were submitted to a vote of security holders during the fourth quarter of fiscal 2006.

PART II

ITEM 5. MARKET FOR THE REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Our common stock trades on The Nasdaq National Market under the trading symbol “SIGM”. The following table sets forth the high and low sales prices per share of our common stock for each quarter in the last two fiscal years.

	Fiscal 2006		Fiscal 2005
	High	Low	High	Low
First fiscal quarter	$12.45	$7.49	$8.95	$5.77
Second fiscal quarter	8.94	6.31	9.57	4.75
Third fiscal quarter	12.50	7.70	9.84	5.35
Fourth fiscal quarter	17.05	10.74	10.30	6.81

Shareholders

As of April 17, 2006, we had approximately 8,000 shareholders of record.

Dividends

We have never paid cash dividends on our common stock and we do not plan to pay cash dividends to our common shareholders in the foreseeable future.

ITEM 6. SELECTED FINANCIAL DATA

The following selected financial data is derived from our consolidated financial statements. This data should be read in conjunction with our consolidated financial statements, the notes related thereto, and Management’s Discussion and Analysis of Financial Condition and Results of Operations, which are included elsewhere in this Annual Report on Form 10-K.

	Fiscal Year ended
	January 28,	January 29,	January 31,	February 01,	February 02,
	2006	2005	2004	2003	2002
	(In thousands, except per share data)
Net Revenues	$33,320	$31,437	$30,520	$18,139	$13,437
Net income (loss)	1,884	1,840	1,543	(6,057)	(10,392)
Diluted net income (loss) per share	0.08	0.08	0.07	(0.37)	(0.64)
Working capital	31,325	23,998	23,868	4,459	10,475
Total assets	39,959	34,937	29,792	21,417	26,274
Shareholders’ equity	33,915	29,112	26,022	5,802	11,466

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion in conjunction with our condensed consolidated financial statements and related notes. Except for historical information, the following discussion contains forward-looking statements within the meaning of Section 27A of the Securities Exchange Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements, which include, among other things, statements regarding our capital resources and needs (including the adequacy of our current cash reserves and access to our lines of credit) and statements regarding our anticipated revenues from sales of our board, chipset and other products in general and more particularly to customers in the internet protocol (IP) video application market, connected media player market, high definition television (HDTV) market and personal computer (PC) add-in and other markets; statements regarding our long-term investments; gross margins; sales and marketing expenses; research and development expenses and general and administrative expenses, and statements involving our expected future receipt of incentive payments, involve risks and uncertainties. Our actual results may differ significantly from those projected in the forward-looking statements. Factors that might cause future results to differ materially from those discussed in the forward-looking statements include, but are not limited to, those discussed in “Certain Factors Affecting Business, Operating Results, and Financial Condition”

Overview

Complementing our core technology, we have developed chip and software solutions for emerging convergence products, including DVD playback, digital TV (DTV) reception, video over IP, personal video recording (PVR) and video-on-demand (VOD). We sell our products to manufacturers of consumer electronic devices and products. Our products are sold worldwide through a direct sales force and distributors. Our common stock, publicly traded since 1986, is listed on the NASDAQ National Market under the symbol SIGM. Our corporate headquarters are located in Milpitas, California, and we also have a research and development center in France as well as sales offices in China, Europe, Hong Kong, Japan and Taiwan.

We were founded in 1982, and became a pioneer in the MPEG hardware decoder market in 1993 with the introduction of our REALmagic card, a MPEG playback card for personal computers, or PCs. In April 1997, we announced our entry into the DVD market. During the past few years, we have expanded well beyond our PC card beginnings and work with consumer electronics manufacturers and network service providers to deploy Internet Protocol Television (IPTV) services, digital media adapters, networked DVD players, and high definition television. These opportunities have led to technology investments in media processor chips, streaming video software, digital rights management, and a number of other technologies.

Our primary product groups include boards, chipsets and a variety of other products which we refer to as our “other” product group. Our board products consist primarily of a series of PC based solutions using the NetStream and Xcard brand names, as well as certain customized development boards that are sold into the Internet Protocol (IP) video technology market, connected media player market and PC add-in market. Our chipset products consist primarily of video and audio decoding chips under the names of EM8400 series, EM8500 series, EM8610 series, EM8620L series and SMP8630 series for the IP video technology market, connected media player market as well as the PC add-in market. Products in the “other product” group consist primarily of development kits, engineering support services, and engineering development for customization of chipsets.

Our primary market segments are the IP video technology market, connected media player market, HDTV product market and PC add-in and other markets. The IP video technology market consists primarily of a range of consumer and commercial products that perform the distribution and receiving of streaming video using IP. The connected media player market consists primarily of a range of set-top and portable products that perform playback of local digital media stored on optical or hard disk formats. The HDTV product market consists primarily of a range of digital television sets offering high definition capability. The PC add-in and other markets consist primarily of a range of decoding solutions for PC-based DVD playback and streaming video.

We derive substantially all of our revenues from sales of our board products and chipsets to corporate customers and original equipment manufacturers, or OEMs, who in turn incorporate our products into technologies that are sold into the consumer electronics market. We do not enter into long-term commitment contracts with our OEMs and receive substantially all of our revenues based on purchase orders. We work with both OEMs and end users of our products to better understand the market demands and the necessary specifications for our technologies.

Critical Accounting Policies

Management’s Discussion and Analysis of 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 of America. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expense during the reporting period. On an on-going basis, management evaluates its estimates and judgments, including those related to revenue recognition, accounts receivable, and inventories. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, 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.

Revenue Recognition - We recognize revenues in accordance with Staff Accounting Bulletin (“SAB”) No. 104, “Revenue Recognition”. Revenue is recognized when persuasive evidence of an arrangement exists, delivery has occurred or service has been rendered, the fee is fixed and determinable, and collectibility is probable. We derive revenues from three principal sources: product sales, product development contracts and service contracts.

Revenues from product sales to OEMs, distributors and end users are generally recognized upon shipment, as our shipping terms are FOB shipping point, except that revenues are deferred when management cannot reasonably estimate the amount of returns or where collectibility is not assured. In those situations, revenue is recognized when collection subsequently becomes probable and returns are estimable (generally upon resale by customers or “Sell-through Basis”). Allowances for sales returns, price protection and warranty costs are recorded at the time that revenues are recognized.

In fiscal 2001, we began recognizing revenues from our primary U.S. distributor on a Sell-through Basis. This practice resulted from significant sales returns, which we accepted from the distributor outside of the terms of the distribution agreement. Under terms of a distribution agreement entered into with the distributor in fiscal 2002, we granted the distributor the right of return and price protection, which allows the distributor to return any product, which is in the original packaging, for full credit up to 180 days after the earlier of the agreement expiration or early termination. The price protection provision allows the distributor to receive a credit for the difference between the original price and the reduced price of our products within their inventory. Although the returns are not frequent in nature, returns from this distributor cannot be reasonably estimated. Consequently, pursuant to the above policy, revenue from this distributor is recognized upon resale to the distributor’s end-customers.

Revenues from product development agreements were recognized in fiscal 2006, 2005 and 2004 when billed, earned, and collection was assured. During fiscal 2006, the Company classified development costs related to such agreements as cost of revenues. During fiscal 2005 and 2004, the Company classified development costs related to such agreements as research and development expenses as the associated effort expended in providing development revenue was resident in the R&D function. Development revenues were approximately $1.2 million, $981,000 and $792,000, for fiscal 2006, 2005, and 2004, respectively.

Revenues from service contracts consist of fees for providing engineering support services, which are recognized ratably over the contract term. Expenses related to support service revenues were included in sales and marketing expenses, as the engineering support associated with service contract revenue is resident in the sales and marketing function. Support service revenues were $150,000, $308,000 and $269,000 for fiscal 2006, 2005 and 2004 respectively.

Accounts Receivable - During industry downturns, certain of our customers have difficulty with their cash flows. Certain customers, typically those with whom we have long-term relationships, may delay their payments by 40-60 days beyond the original terms. We review the ability of our customers to pay the indebtedness they incur with us. We defer recognition of revenue and the related receivable when we cannot reasonably estimate whether collectibility is assured at the time products and services are delivered to our customer. We provide an allowance for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. These estimated allowances are periodically reviewed, analyzing the customer’s payment history and information regarding credit worthiness. In establishing our sales return allowance, we must make estimates of potential future product returns related to current period product revenue, including analyzing historical returns, current economic trends, and changes in customer demand and acceptance of our products. In fiscal 2006, 2005 and 2004, we recorded a provision (reversal) for bad debt allowance and sales return in the total amount of $184,000, $595,000 and $(186,000), respectively. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, or future product returns increased, additional allowances may be required.

Inventories - We continue to monitor our inventory levels in light of product development changes and expectations of an eventual market upturn. We may be required to take additional charges for excess and obsolete inventories if the current industry recovery falls below our expectation or we make changes in our current product development plans. We estimate inventory reserves for excess and obsolete inventories based on our assessments of future product sales giving consideration for factors such as the cyclical nature of our industry. These forecasts require us to estimate our ability to see demand for current and future products and compare those estimates with our current inventory levels. If these forecasts or estimates change adversely, or our product roadmaps change, then we would need to further write down inventory.

Deferred Tax Assets - We record a valuation allowance to reduce our deferred tax assets to the amount that is more likely than not to be realized. In the event we were to determine that we would be able to realize deferred tax assets in the future in excess of the net recorded amount, an adjustment to the deferred tax asset would increase income in the period such determination was made.

Recent Accounting Pronouncements

In November 2005, the FASB issued Staff Position ("FSP") FAS115-1/124-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments, which addresses the determination as to when an investment is considered impaired, whether that impairment is other than temporary, and the measurement of an impairment loss. This FSP also includes accounting considerations subsequent to the recognition of an other-than-temporary impairment and requires certain disclosures about unrealized losses that have not been recognized as other-than-temporary impairments. The guidance in this FSP amends FASB Statements No. 115, Accounting for Certain Investments in Debt and Equity Securities, and No. 124, Accounting for Certain Investments Held by Not-for-Profit Organizations, and APB Opinion No. 18, The Equity Method of Accounting for Investments in Common Stock. This FSP is effective for reporting periods beginning after December 15, 2005. We do not believe the adoption of this FSP will have a material impact on our financial statements.

In November 2005, the FASB issued FSP FAS123(R)-3, Transition Election to Accounting for the Tax Effects of Share-Based Payment Awards. This FSP requires an entity to follow either the transition guidance for the additional-paid-in-capital pool as prescribed in SFAS No. 123(R), Share-Based Payment, or the alternative transition method as described in the FSP. An entity that adopts SFAS No. 123(R) using the modified prospective application may make a one-time election to adopt the transition method described in this FSP. An entity may take up to one year from the later of its initial adoption of SFAS No. 123(R) or the effective date of this FSP to evaluate its available transition alternatives and make its one-time election. This FSP became effective in November 2005.

We account for stock-based compensation awards issued to employees using the intrinsic value measurement provisions of APB Opinion No. 25, “Accounting for Stock Issued to Employees” (“Opinion 25”). Accordingly, no compensation expense has been recorded for stock options granted with exercise prices greater than or equal to the fair value of the underlying common stock at the option grant date. On December 16, 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123 (“SFAS 123”) (revised 2004), “Share-Based Payment” (“SFAS 123R”). SFAS 123R eliminates the alternative of applying the intrinsic value measurement provisions of Opinion 25 to stock compensation awards issued to employees. Rather, the new standard requires enterprises to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost will be recognized over the period during which an employee is required to provide services in exchange for the award, known as the requisite service period (usually the vesting period).

In March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 107 (“SAB 107”) to provide implementation guidance on SFAS 123R. SAB 107 was issued to assist registrants in implementing SFAS 123R while enhancing the information that investors receive.

We expect that the implementation of SFAS 123R will result in a non-cash charge of approximately $2.0 million in fiscal 2007. The actual effects of adopting SFAS 123R will be dependent on numerous factors including, but not limited to, the valuation model we choose to value stock-based awards; the assumed award forfeiture rate; the accounting policies we adopt concerning the method of recognizing the fair value of awards over the requisite service period; and the transition method (as described below) we choose for adopting SFAS 123R.

We adopted SFAS 123R at the beginning of the first quarter of fiscal year 2007 using the Modified Prospective Application Method. Under the Modified Prospective Application Method SFAS 123R is applied to new awards and to awards modified, repurchased, or cancelled after the effective date. Additionally, compensation cost for the portion of awards for which the requisite service has not been rendered (such as unvested options) that is outstanding as of the date of adoption shall be recognized as the remaining requisite services are rendered. The compensation cost relating to unvested awards at the date of adoption shall be based on the grant-date fair value of those awards as calculated for pro forma disclosures under the original SFAS 123, adjusted for estimated forfeitures.

In November 2004, the FASB issued SFAS No. 151, “Inventory Costs - an amendment of Accounting Research Bulletin (“ARB”) No. 43, Chapter 4” (“Statement”). This Statement amends the guidance in ARB No. 43, Chapter 4, "Inventory Pricing," to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). Paragraph 5 of ARB 43, Chapter 4, previously stated "under some circumstances, items such as idle facility expense, excessive spoilage, double freight, and handling costs may be so abnormal as to require treatment as current period charges." This Statement requires that those items be recognized as current-period charges regardless of whether they meet the criterion of "so abnormal." In addition, this Statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. This Statement is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. We do not believe the adoption of this Statement will have any immediate material impact on us.

In December 2004, the FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets” (“SFAS 153”), which amends APB Opinion No. 29, “Accounting for Nonmonetary Transactions.” SFAS 153 requires prospective application for eliminating the exception from fair value measurement for nonmonetary exchanges of similar productive assets and replaces it with an exception for exchanges that do not have commercial substance. SFAS 153 specifies that a nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. SFAS 153 is effective for exchanges of nonmonetary assets occurring in fiscal periods beginning after June 15, 2005. We do not believe the adoption of this Statement will have any immediate material impact on us.

In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections” (“SFAS 154”), which replaces APB Opinion No. 20, “Accounting Changes,” and SFAS No. 3, “Reporting Accounting Changes in Interim Financial Statements.” SFAS 154 requires retroactive application of a change in accounting principle to prior period financial statements unless it is impracticable. SFAS 154 also requires that a change in method of depreciation, amortization or depletion for long-lived, non-financial assets be accounted for as a change in accounting estimate resulting from a change in accounting principle. It is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. Depending on the type of accounting change, the adoption of SFAS 154 may have a material impact on our consolidated financial statements.

In March 2004, the FASB Emerging Issues Task Force (“EITF”) released Issue 03-01, “Meaning of Other Than Temporary Impairment,” which addressed other-than-temporary impairment for certain debt and equity investments. The recognition and measurement requirements of Issue 03-01, and other disclosure requirements not already implemented, were effective for periods after June 15, 2004. In September 2004, the FASB staff issued FASB Staff Position (“FSP”) EITF 03-1-1, which delayed the effective date for certain measurement and recognition guidance during the period of delay until a final consensus is reached. In June 2005, the FASB staff issued an FSP that supersedes EITF 03-01 and effectively reverts the guidance for other-than-temporary impairments to previously established literature. We do not expect 03-01 to have a material effect to our consolidated financial statements.

In December 2004 the FASB issued two Staff Positions (“FSP”)-FSP FAS 109-1, Application of FASB Statement 109 "Accounting for Income Taxes" to the Tax Deduction of Qualified Production Activities Provided by the American Jobs Creation Act of 2004, and FSP FAS 109-2 "Accounting and Disclosure Guidance for the Foreign Earnings Repatriation Provision within the American Jobs Creation Act of 2004." We believe that neither of these have a material impact on our consolidated financial statements.

On May 31, 2005, the FASB issued FSP EITF 00-19-1, “Application of EITF Issue No. 00-19 to Freestanding Financial Instruments Originally Issued as Employee Compensation”. FAS 123(R) indicates that a freestanding financial instrument issued to an employee (such as a stock option) ceases being subject to FAS 123(R) and becomes subject to other applicable accounting standards when the rights conveyed by the instrument are no longer dependent on the holder being an employee. The FSP clarifies that freestanding financial instruments originally issued as employee compensation that can be settled only by delivering registered shares should not be assumed to require cash settlement (which would require liability accounting) when applying the provisions of Issue 00-19. We do not expect No. 00-19 to have a material effect on our consolidated financial statements.

Results of Operations

The following table sets forth our historical operating results for the periods indicated (in thousands):

	Fiscal 2006			Fiscal 2005			Fiscal 2004
Net Revenues	$	33,320		$	31,437		$	30,520
Cost of revenues		(11,552	)		(9,527	)		(11,705	)
Gross margin		21,768			21,910			18,815
Operating expenses		(23,248	)		(20,661	)		(17,301	)
Income (loss) from operations		(1,480	)		1,249			1,514
Gain on sales of long-term investment		2,549			-			-
Interest income and other income, net		823			595			38
Provision for income taxes		(8	)		(4	)		(9	)
Net income	$	1,884		$	1,840		$	1,543

Revenues: Our net revenues increased $1.9 million, or 6%, in fiscal 2006 compared to fiscal 2005. This increase in revenues was primarily attributable to the general increase in volume orders from large original equipment manufacturers partially offset by discounts given on these orders. Our net revenues increased $917,000, or 3%, in fiscal 2005 compared to fiscal 2004. This slight increase in revenues was primarily attributable to the increased non-recurring engineering revenues and sales of our new EM8620 Windows Media 9 media processors in the IP video technology and connected media player markets which was partially offset by the decreased sales of other MPEG chipset products in the same markets.

Revenues from sales of our products in the IP video technology and connected media player market was 92% of our total revenues in fiscal 2006 compared to 91% for fiscal 2005 and 88% for fiscal 2004, while revenues from sales of our products in the PC add-in market was 6% in fiscal 2006 as compared to 8% in fiscal 2005 and 12% for fiscal 2004. Revenues from our HDTV products was immaterial for fiscal 2006 2005 and 2004. We expect the percentage of revenues in IP video technology and connected media player markets will continue to increase while revenues from the PC add-in market declines.

Net income. Net income was $1.9 million in fiscal 2006 as compared to $1.8 million in fiscal 2005 and $1.5 million in fiscal 2004. The slight increase in fiscal 2006 from fiscal 2005 was primarily attributable to $2.5 million of investment gain and an increase of $228,000 in interest and other incomes, which were partially offset by $1.5 million of operating loss incurred in fiscal 2006 as a result of an increase of $2.6 million in operating expenses and 5% decrease in the gross margin due to lower average selling price given to volume orders. The increase in fiscal 2005 from fiscal 2004 was primarily attributable to an increased gross margin of $3.1 million and an incentive of $400,000 received from the French tax authorities offset by an increase of $3.4 million of operating expenses. The incentive recovered qualifying research and development expenditures incurred by our French subsidiary.

The following table shows certain items as a percentage of net revenues, which are included in our Consolidated Statements of Operations:

	Fiscal 2006		Fiscal 2005		Fiscal 2004
Net revenues		100%		100%		100%
Cost of revenue		(35)%		(30)%		(38)%
Gross profit		65%		70%		62%
Operating expenses:
Research and development		(42)%		(37)%		(33)%
Sales and marketing		(15)%		(15)%		(16)%
General and administrative		(12)%		(14)%		(8)%
Gain on sales of long-term investment		8%		-		-
Interest income (expense) and other income (loss), net		2%		2%		-
NET INCOME		6%		6%		5%

Net Revenues

Net Revenues by Product Group:

We have three main product groups: chipsets, board and “other” products. The following table sets forth our net revenues in each of our major product group and the percentage of total net revenues represented by each product group, for the last three years (in thousands):

	Fiscal 2006			Fiscal 2005			Fiscal 2004
Chipsets	$	28,198	85%	$	26,380	84%	$	25,880	85%
Boards		3,514	10%		3,280	10%		3,231	10%
Other		1,608	5%		1,777	6%		1,409	5%
TOTAL NET REVENUES	$	33,320		$	31,437		$	30,520

Chipsets. Our chipsets are targeted toward manufacturers and large volume OEM customers building products for the digital media processor market. The increase of $1.8 million, or 7%, in net revenues from chipsets in fiscal 2006 as compared to fiscal 2005 was due primarily to increased unit sales of our chipsets into the IP video technology market and connected media player market offset by the lower average selling price given to large original equipment manufacturers for volume orders. The increase of $500,000, or 2%, in net revenues from chipsets in fiscal 2005 as compared to fiscal 2004 was attributable to the continuing growth of demand for our chipset products from the IP video technology and connected media player markets, leading to increased unit sales and higher introduction selling prices of our new advanced DVD player and IP video set-top box chipsets. We expect that net revenues from chipset products will continue to fluctuate, primarily due to changes in demand from our customers and volume discounts given to large original equipment manufacturers. If demand of our chipset products does not continue, our revenues and profitability would decline.

Boards. Our board level product lines target OEM customers to address the DVD upgrade market, system integrators to address the computer-based training, kiosks, and corporate video-on-demand markets and consumer markets for upgraded multimedia products. The increase of $234,000, or 7%, in net revenues from board products in fiscal 2006 as compared to fiscal 2005 was mainly attributable to increased unit sales of development reference boards to the various markets partially offset by decreased unit sales of project-based board products for IP video applications. The net revenues from MPEG-based board products for fiscal 2005 was relatively constant as compared to fiscal 2004. We anticipate our revenues from board products to be relatively flat or decrease in future periods due to decreasing demand in board products, in general and our decision to focus on our chipset products in the IP video technology market and connected media player market instead of board products in these markets.

Other. The “Other” category primarily includes revenue from development kits, engineering support services for both hardware and software, engineering development for customization of chipsets, freight fees and other accessories. The costs related to support service revenues and certain small development contracts were included in sales and marketing expenses, and research and development expenses, respectively. The decrease in net revenues from other products in fiscal 2006 as compared to fiscal 2005 was primarily attributable to the decreased revenues from engineering support services and other accessories. We expect that net revenues from “other” products will continue to fluctuate due mainly to the timing and complexity of engineering development required by our customers.

Net Revenues by Market Segment:

We sell our products primarily into four market segments which consist of the IP video technology market, the connected media player market, the HDTV product market and the PC add-in and other market. The following table sets forth our net revenues by market and the percentage of total net revenues represented by our product sales to each market segment for each of the last three fiscal years (in thousands):

	Fiscal 2006			Fiscal 2005			Fiscal 2004
IP video technology market	$	19,170	58%	$	18,063	58%	$	15,068	50%
Connected media player market		11,227	34%		10,379	33%		11,690	38%
HDTV product market		797	2%		362	1%		94	0%
PC add-in and other markets		2,126	6%		2,633	8%		3,668	12%
TOTAL NET REVENUES	$	33,320		$	31,437		$	30,520

IP video technology market. For fiscal 2006, revenues from sales of our chipset products to the IP video technology market increased $1.1 million, or 6%, from fiscal 2005 and increased $3.0 million, or 20%, for fiscal 2005 compared to fiscal 2004. The increase in revenues in the IP video technology market for fiscal 2006 as compared to fiscal 2005 and 2004 was mainly attributable to increased unit sales of our chipset products into IPTV set-top box and digital media adapter markets offset by lower average selling prices. We expect our revenues from the IP video technology market to fluctuate in future periods due to the uneven pace of IPTV service deployments, the market development of IPTV, in general, and volume discounts given to large original equipment manufacturers to capture the market share.

Connected media player market. For fiscal 2006, revenues from sales of our products to the connected media player market increased $848,000, or 8%, from fiscal 2005 and decreased $1.3 million, or 11%, for fiscal 2005 compared to fiscal 2004. The increase in revenues from sales of our products to the connected media player market in fiscal 2006 as compared to fiscal 2005 was attributable to the increased unit sales of our chipset products into portable media players market offset by lower average selling prices. The decrease in revenues from sales of our products to the connected media player market in fiscal 2005 as compared to fiscal 2004 was primarily attributable to the lower average selling prices of our MPEG chipsets. We expect that revenues from sales of our products to the connected media player market will continue to fluctuate, primarily due to changes in demand from our customers and decisions regarding pricing strategy on volume orders.

If, however, our pricing strategy failed and these declines in average selling prices for our products being sold into the IP video technology and connected media player markets were to continue, it could harm our revenues and profitability.

HDTV Product Market. We began shipment of HDTV applications during the second quarter of fiscal 2004 and experienced an increase in demand through fiscal 2006. We expect revenues in the HDTV product market to increase slowly over the near term.

PC add-in and other markets. The PC add-in and other markets consists of PC add-in board and chipset products, engineering support services for both hardware and software, engineering development for customization of chipsets, freight fees and other accessories. For fiscal 2006, revenues from the PC add-in and other markets decreased $507,000, or 19%, as compared to fiscal 2005 and decreased $1.0 million, or 28%, for fiscal 2005 compared to fiscal 2004. The decrease in revenues from sales of our products to the PC add-in and other markets in fiscal 2006 was due to the decreased engineering development revenues, support services and other accessories as compared to fiscal 2005. The decrease in revenues for fiscal 2005 was due primarily to the decreased unit sales of our chipsets to the PC add-in market, partially offset by increased revenues in engineering development projects as compared to fiscal 2004. We expect our revenues from sales to the PC add-in and other markets to continue to decline due to declining demand in the general market and we expect our revenues from engineering development to fluctuate in future periods due to the timing and complexity of the projects required by our customers.

Net Revenues by Geographic Region:

The following table sets forth our net revenues by geographic region, and the percentage of total net revenues represented by each geographic region, for each of the last three fiscal years (in thousands):

	Fiscal 2006			Fiscal 2005			Fiscal 2004
Asia	$	27,293	82%	$	20,571	65%	$	19,816	65%
North America		3,944	12%		4,401	14%		4,190	14%
Europe		2,081	6%		6,462	21%		6,502	21%
Other regions		2	-%		3	-%		12	-%
TOTAL NET REVENUES	$	33,320		$	31,437		$	30,520

Asia. The revenues from Asia (which consists primarily of Korea, China and Taiwan) increased $6.7 million, or 33%, in fiscal 2006 as compared to fiscal 2005. The increase in revenues from Asia region was due primarily to the increased unit sales of our chipset products to the connected media player market and IP video technology market because of the shift of orders from customers in North America and Europe regions to Asia region and volume orders received from local original equipment manufacturers which was partially offset by lower average selling prices given to these orders. The revenues from Asia region (which consists primarily of Korea, China and Taiwan) in fiscal 2005 remained relatively flat as compared to fiscal 2004. Our customers for chipset products in the IP video technology market and the connected media player market are concentrated in Asia. We expect that our revenues from Asia will continue to increase due to increasing orders previously placed by our customers in the North America and Europe regions who now manufacture their products in Asia.

In fiscal 2006, revenues from Asia region which were over 10% of total net revenues are as follows:

	Fiscal 2006	Fiscal 2005	Fiscal 2004
Korea	26%	16%	11%
China	21%	21%	12%
Taiwan	14%	17%	22%

North America. North American revenues decreased $457,000, or 10%, for fiscal 2006 as compared to fiscal 2005. The decrease was largely due to the decreased unit sales of our board products to the IP video technology market which was partially offset by the increased unit sales of our chipset products. This was due primarily to customers increasingly incorporating our chipsets into their final products. In addition, there was a shift of chipset orders from our customers in the North American region to our customers in the Asia region. North American revenues in fiscal 2005 remained relatively flat as compared to fiscal 2004. We expect that our revenues from North America will continue to decline due to our customers gradually switching their orders to us from the higher value board products to the lower value chipset products. In addition, our customers may place orders with other overseas manufacturers who incorporate our products into their final products. As a result, our sales are moved from our North American customers to our overseas OEMs.

Europe. Revenues from Europe for fiscal 2006 decreased $4.4 million, or 68%, as compared to fiscal 2005. The decrease in revenues from Europe was primarily attributable to decreases in unit sales of our chipset products. This was due primarily to customers increasingly incorporating our chipsets into their final products, which were manufactured in the Asia countries. As a result, there was a shift of chipset orders from our customers in the Europe region to our customers in the Asia region. Revenues from Europe for fiscal 2005 remained flat as compared to fiscal 2004. We anticipate revenues in Europe will fluctuate due to the fact that our customers may place orders with other manufacturers in other regions, who incorporate our products into their final products. As a result, our sales will move from our European customers to our customers in other regions.

For fiscal 2006, we did not have sales in excess of 10% of net revenues from a single European country. For fiscal 2005 and 2004, sales in Denmark were 15% and 12% of net revenues, respectively. No other European country accounted for more than 10% of our net revenues in fiscal 2005 or 2004.

In fiscal 2006, our international revenues were 89% of our total net revenues as compared to approximately 86% in both fiscal 2005 and 2004. We expect that international sales will continue to account for a significant portion of revenues, due in part to the significant overseas manufacturing of consumer appliances by our chipset customers.

Major Customers:

Major customers that accounted for over 10% of our total net revenues are as follows:

Customers	Regions	Fiscal 2006	Fiscal 2005	Fiscal 2004
A	Asia	25%	15%	*
B	Europe	Less than 1% **	14%	*

No single customer accounted more than 10% of our total net revenues

Customer B was acquired by a U.S. Corporation and undergoing the acquisition process in fiscal 2006. We believe we will continue to receive orders from the U.S. Corporation after the acquisition completed.

Gross Margin

Our gross margin as a percentage of net revenues was approximately 65% in fiscal 2006, 70% in fiscal 2005 and 62% in fiscal 2004. The decrease of our gross margin in fiscal 2006 as compared to fiscal 2005 was due primarily to lower average selling prices provided to original equipment manufacturers for volume orders. The increase of our gross margin in fiscal 2005 as compared to fiscal 2004 was due to our continuing efforts to reduce the cost of our original MPEG board and chipset products, and the introduction and sales of our new higher-margin chipset and board products as well as increased service and development revenues which have lower associated costs. In addition, the costs related to service revenues and certain small development contracts were included in sales and marketing expenses and research and development expenses (see reference to Critical Accounting Policies - Revenue Recognition), while our expense for inventory obsolescence included in cost of revenues increased $29,000, $230,000 and $647,000 in fiscal 2005 and 2004, respectively. In addition, cost of revenues included $130,000 of accelerated depreciation expense due to reduction of estimated useful live for certain testing equipment. We expect our gross margins will vary from period to period due to changes in the mix of product sales, average selling prices, volume order discounts, our costs, the extent of development fees, changes in estimated useful lives of production testing equipment and provisions for inventory obsolescence. Because average selling prices of our products typically decline over the life of a product, if we are unable to reduce costs faster than the rate of such decline or introduce new products with higher average selling prices, our gross margins will decline.

Operating Expenses

	Fiscal 2006		Change		Fiscal 2005		Change		Fiscal 2004
	(in thousands)
Research & development expense	$	14,041		21%	$	11,648		16%	$	10,000
Sales and marketing expenses		5,076		6%		4,804		0%		4,802
General & administrative expenses		4,131		(2)%		4,209		68%		2,499

Research and development expenses. Research and development expenses increased by approximately $2.4 million, or 21%, in fiscal 2006 compared to fiscal 2005. Research and development expenses increased by approximately $1.6 million, or 16%, in fiscal 2005 compared to fiscal 2004. The year-over-year increases were primarily attributable to the additions of engineering staff at our headquarters, Hong Kong office and development center in France, independent contractors and consultants, prototype costs of new products, and various licensing fees. As a result of our continuing efforts in the development of our proprietary MPEG and WMV9 based products and the addition of research and development personnel as a result of our acquisition of Blue7 on February 16, 2006, research and development expenses will continue to increase in absolute dollars in the near term.

Sales and marketing expenses. Sales and marketing expenses increased by $272,000, or 6%, in fiscal 2006 as compared to fiscal 2005. The increase was due primarily to increased staff for engineering support and an increase in tradeshow related expenditures. In fiscal 2005, sales and marketing expenses were comparable to fiscal 2004. As a result of increased headcount in our product marketing and sales development areas from our acquisition of Blue7 on February 16, 2006, we expect our sales and marketing expenses will increase in absolute dollars over next fiscal year.

General and administrative expenses. General and administrative expenses in fiscal 2006 remained relatively flat as compared to fiscal 2005. General and administrative expenses increased by approximately $1.7 million, or 68%, in fiscal 2005 compared to fiscal year 2004. The increase was due primarily to an increase of $200,000 in legal, $500,000 in professional services primarily related to Sarbanes Oxley compliance and $600,000 of bad debt expense compared to a $200,000 recovery in 2004. We expect our general and administrative expenses will increase in absolute dollar terms in future periods due to the increasing cost of insurance and professional services related to remediation efforts with Sarbanes Oxley compliance.

Gain on sale of long-term investment

We recognized a total gain of approximately $2.5 million on sales of long-term investments in fiscal 2006 and recorded no investment gain in fiscal 2005. During fiscal 2006, we sold our investment in Series B Preferred Stock of a local MPEG-4 system provider for approximately $1.1 million. We had no carrying amount in this investment at the date of sale, as it had been fully written off in fiscal 2003. The entire sales proceeds of approximately $1.1 million was recognized as a gain on sales of investment during the year. In addition, we sold another investment in an original equipment manufacturer with a carrying cost of approximately $2.0 million for $3.5 million and recognized a gain of $1.5 million. We do not expect that we will sell any of our remaining investments in the near future.

Other income and Expense

Other income and expenses mainly consisted of interest income from short-term investment, interest expenses from our lines of credit and term loan, loss on disposal of fixed assets and gain or loss on sales of short-term investments. The increase of $228,000, or 38% in fiscal 2006 as compared to fiscal 2005 was due primarily to an increase of $473,000 in interest income from cash and short-term investments, offset by a decrease of $165,000 in the incentive received from the French tax authorities. The increase of $500,000 in fiscal 2005 as compared to fiscal 2004 was due primarily to an increase of $100,000 in interest income from short-term investments and the receipt of an incentive of $400,000 received from the French tax authorities. During fiscal 2006, we received a second incentive payment of $235,000 as compared to $400,000 received in 2005 from the French tax authorities for the recovery of qualifying research and development expenditures incurred by our French subsidiary. We will continue to apply for similar incentives each year. However, there is no assurance that we will receive such incentives in future periods.

Liquidity and Capital Resources

As of January 28, 2006, our principal sources of liquidity consisted of cash and cash equivalents and short-term investments of approximately $26.4 million, an increase of approximately $7.6 million compared with approximately $18.8 million at January 29, 2005. This increase resulted from the sale of long-term investments for aggregate proceeds of approximately $4.6 million, net borrowings of $444,000 from a loan agreement with a bank for financing research and development equipment, net cash provided by operating activities of approximately $1.3 million and the exercise of stock options and purchases of common stock by employees resulting in cash proceeds of approximately $2.9 million, which was partially offset by capital equipment expenditures of $699,000 and short-term loans of $900,000 to Blue7 Communications in which we had an investment of $1.0 million. We subsequently acquired Blue7 on February 16, 2006. Blue7 is currently one of our subsidiaries.

The total $750,000 of short-term loans to Blue7 with accrued interest would be deducted from the total purchase price. The remaining loan balance of $150,000 was pending for approval from the Board of Directors to be included as part of the acquisition cost for the Blue7 merger.

Net cash provided by operating activities was approximately $1.3 million for fiscal 2006 compared with $2.0 million in fiscal 2005 and $987,000 in fiscal 2004. Cash will continue to fluctuate based upon our ability to grow revenue while limiting the timing of payments to us from customers and to vendors from us, the timing of inventory purchases and subsequent manufacture and sale of our products.

Our primary sources of funds to date have been proceeds from preferred and common stock issuances, and borrowings under bank lines of credit. In certain periods, cash generated from operations has also been a source of funds. While we generated cash from operations for the year ended January 28, 2006 and 2005, it is possible that our operations will consume cash in future periods. Based on our currently anticipated cash needs, we believe that our current reserve of cash and cash equivalents will be sufficient to meet our primary uses of cash, which include our anticipated working capital requirements, obligations, capital expenditures, strategic investments, and other cash needs for at least the next twelve months. In addition, we believe that we will be able to comply with or make modifications to the current covenants under our existing asset-based banking agreements, and to renew those lines of credit upon their expiration, in order to maintain the availability of funds under these agreements.

Net cash provided by investing activities was approximately $2.0 million for fiscal 2006 compared with cash used in investing activities of $11.8 million for 2005 and cash used in investing activities of $1.3 million for 2004. The $2.0 million of cash provided in fiscal 2006 was generated from approximately $4.5 million of proceeds from sales of long-term investments offset by $699,000 of capital expenditures, a $900,000 promissory note and $991,000 of short-term investments. The $11.8 million of cash used in fiscal 2005 was primarily $1.2 million for capital expenditures, $8.6 million for short-term investments and $2.0 million for long-term investments. The $1.3 million of cash used in fiscal 2004 was mainly $265,000 for capital expenditures and $1.3 million for long-term investments offset by a refund of $243,000 of rental deposit.

On February 16, 2006, Sigma successfully acquired Blue7 Communications which was a privately-held California corporation. Sigma purchased Blue7’s shares for approximately $14.0 million in stock. Blue7 focuses on the development of advanced wireless technologies and Ultra-Wideband (UWB) semiconductor products.

Net cash provided by financing activities was approximately $3.3 million in fiscal 2006 versus $1.1 million in fiscal 2005 and $18.5 in fiscal 2004. The financing activities consisted of bank lines of credit and term loan, sales of company stock through the Company’s employee stock option plan, employee stock purchase plan and public offering. As of January 28, 2006, the outstanding balance of our bank term loan was $444,000. The net proceeds from sale of common stock were $2.9 million, $1.3 million and $18.7 million in fiscal 2006, 2005 and 2004, respectively.

On January 27, 2005, the Company filed a shelf registration statement on Form S-3 with the Securities and Exchange Commission covering the sale of the Company’s common stock in one or more offerings with a total offering price of up to $40 million from time to time in amounts, at prices and on terms to be determined at the time of the applicable offering.

Line of Credit and Term Loan

On August 12, 2005, we entered into a Loan and Security Agreement (the “Loan Agreement”) with United Commercial Bank (the “Bank”). The Loan Agreement provides for a maximum borrowing amount of approximately $15.5 million across three credit facilities consisting of two 2-year Lines of Credit and a 30-month Term Loan of $500,000.

Our Lines of Credit are used to fund daily operating cash needs. During the ordinary course of business, the use of the Lines of Credit is driven by collection and disbursement activities. Our daily cash needs generally follow a predictable pattern that parallels our payroll cycles, which drive, as necessary, our short term borrowing requirements.

The first 2-year Lines of Credit allows us to borrow up to 80% of our accounts receivable, but in no event greater than $15 million, has a floating interest rate of the Wall Street Journal Prime Rate plus 0.25% per annum. The second 2-year Lines of Credit allows us to borrow up to $5 million as long as (1) our unrestricted cash at the Bank exceeds $10 million, (2) the credit limit of the first 2-year Line of Credit is utilized and (3) the total outstanding balances under both 2-year Lines of Credit cannot exceed $15 million at any one time. The second 2-year Line of Credit has a floating interest rate of the Wall Street Journal Prime Rate plus 0.25% per annum. Our obligations under the Loan Agreement are secured by substantially all of the Company’s assets, including our intellectual property. Both Lines of Credit expire and are payable in full on August 12, 2007. At our option, we can repay the loans under the Loan Agreement without premium or penalty. As of January 28, 2006, we had no amounts outstanding under these two Lines of Credit but had availability to draw down approximately $7.6 million. On February 8, 2006, we have utilized $2.4 million of the first 2-year Line of Credit for issuance of a standby letter of credit to a supplier.

Principal amounts under the Term Loan will become due and payable on a monthly basis such that the Term Loan will be fully repaid in February 2008. The Term Loan has a floating interest rate of the Wall Street Journal Prime Rate plus 0.5% per annum. The effective average interest rate paid on the Term Loan from August 12, 2005, through January 28, 2006, was approximately 7.4%. As of January 28, 2006, we had $444,000 outstanding under the Term Loan.

Under the Loan Agreement, we are subject to certain financial covenants. As of January 28, 2006, we are in compliance with all of the covenants contained in the Loan Agreement.

Contractual Obligations and Commitments:

We do not have guaranteed price or quantity commitments from any of our suppliers. We generally maintain products for distribution through corporate markets based on forecasts rather than firm purchase orders. Additionally, we generally acquire products for sale to our OEM customers only after receiving purchase orders from such customers, which purchase orders are typically cancelable without substantial penalty from such OEM customers. We currently place non-cancelable orders to purchase semiconductor products from our suppliers on an eight to twelve week lead-time basis.

The following table sets forth the amounts (in thousands) of payments due under specified contractual obligations as of January 28, 2006.

Contractual Obligations:

Payments Due by Period

1 year or less

1 - 3 years

3 - 5 years

5 years or more

Total

Operating Leases

798

654