Form 10-Q

Large accelerated filer

Accelerated filer

Non-Accelerated filer

¨ (Do not check if a smaller reporting company)

Smaller reporting company

Former name, former address and former fiscal year, if changed since last report: N/A

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 whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

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

As of March 26, 2010, 168,755,045 shares of the Registrant’s Common Stock were outstanding.

The page numbers in this Table of Contents reflect actual page numbers, not EDGAR page tag numbers.

Palm, Palm webOS, Palm OS, Palm Pre, Palm Pixi, Treo, Centro and Foleo are among the trademarks or registered trademarks owned by or licensed to Palm, Inc. All other brand and product names are or may be trademarks of, and are used to identify products or services of, their respective owners.

The accompanying unaudited condensed consolidated financial statements have been prepared by Palm, Inc. (“Palm,” the “Company,” “us,” “we” or “our”), without audit, pursuant to the rules of the Securities and Exchange Commission, or SEC. In the opinion of management, these unaudited condensed consolidated financial statements include all adjustments, including normal recurring adjustments, considered necessary for a fair presentation of Palm’s financial position as of February 28, 2010, and the results of operations for the three and nine months ended February 28, 2010 and 2009 and cash flows for the nine months ended February 28, 2010 and 2009. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes thereto included in Palm’s Annual Report on Form 10-K for the fiscal year ended May 31, 2009. The results of operations for the three and nine months ended February 28, 2010 are not necessarily indicative of the operating results for the full fiscal year or any future period. Palm’s condensed consolidated financial statements reflect retrospective application, as applicable, to include the impact of adoption of updates to revenue recognition accounting standards during the third quarter of fiscal year 2010 (see Note 3 to Palm’s condensed consolidated financial statements).

Palm was incorporated in 1992 as Palm Computing, Inc. In 1995, the Company was acquired by U.S. Robotics Corporation. In 1996, the Company sold its first handheld computer. In 1997, 3Com Corporation, or 3Com, acquired U.S. Robotics. In 1999, 3Com announced its intent to separate the handheld computer business from 3Com’s business to form an independent, publicly-traded company. In preparation for that spin-off, Palm Computing, Inc. changed its name to Palm, Inc., or Palm, and was reincorporated in Delaware in December 1999. In March 2000, Palm sold shares in an initial public offering and concurrent private placements. In July 2000, 3Com distributed its remaining shares of Palm common stock to 3Com stockholders.

In December 2001, Palm formed PalmSource, Inc., or PalmSource, a stand-alone subsidiary for its operating system, or OS, business. On October 28, 2003, Palm distributed all of the shares of PalmSource common stock held by Palm to Palm stockholders. On October 29, 2003, Palm acquired Handspring, Inc., and changed the Company’s name to palmOne, Inc.

In connection with the spin-off of PalmSource, the Palm Trademark Holding Company, LLC, or PTHC, was formed to hold trade names, trademarks, service marks and domain names containing the word or letter string “palm”. In May 2005, the Company acquired PalmSource’s interest in PTHC, including the Palm trademark and brand. In July 2005, the Company changed its name back to Palm, Inc., or Palm.

In October 2007, Palm sold shares of series B redeemable convertible preferred stock, or Series B Preferred Stock, to the private-equity firm Elevation Partners, L.P., or Elevation. Palm utilized these proceeds, along with existing cash and the proceeds of new debt, to finance a one-time cash distribution to stockholders of record as of October 24, 2007, or the Recapitalization Transaction. Upon closing the Recapitalization Transaction, Palm adjusted outstanding equity awards in a manner designed to preserve the pre-distribution intrinsic value of the awards.

In January 2009, Palm sold units, or the Series C Units, to Elevation, each of which consists of one share of Palm’s series C redeemable convertible preferred stock, or Series C Preferred Stock, and a warrant exercisable for the purchase of 70 shares of Palm’s common stock, or the Detachable Warrants. Elevation purchased additional shares during Palm’s underwritten public offerings in March 2009 and September 2009. On an as-converted and an as-exercised basis, the Series B Preferred Stock, Series C Preferred Stock, common stock and warrants currently owned by Elevation represents 30% of Palm’s voting shares as of February 28, 2010. As of February 28, 2010, Elevation was entitled to designate two members to Palm’s board of directors.

Palm’s largest customers, Sprint and Verizon, represented 53% and 32%, respectively, of Palm’s revenues during the nine months ended February 28, 2010. Sprint and Verizon represented 2% and 90%, respectively, of Palm’s revenues during the three months ended February 28, 2010. Of Palm’s total customer accounts receivable balance, Verizon’s balance represented 66% as of February 28, 2010.

Palm’s 52-53 week fiscal year ends on the Friday nearest to May 31, with each fiscal quarter ending on the Friday generally nearest to August 31, November 30 and February 28. Fiscal years 2010 and 2009 both contain 52 weeks. For presentation purposes, the periods are shown as ending on August 31, November 30, February 28 and May 31, as applicable.

In January 2010, the Financial Accounting Standards Board, or FASB, updated its disclosure requirements related to fair value measurements. The update requires new disclosures for significant transfers in and out of Level 1 and Level 2 fair value

measurements as well as the reasons for the transfers. The update also requires new disclosures for activity in Level 3 fair value measurements, including amounts for purchases, sales, issuances and settlements provided on a gross basis, in the reconciliation for Level 3 fair value measurements. Palm is required to adopt the disclosure requirements for significant transfers in and out of Level 1 and Level 2 fair value measurements for the fiscal quarter beginning with Palm’s fourth quarter of fiscal year 2010. Palm is required to adopt the disclosure requirements to provide Level 3 fair value measurements activity on a gross basis for the fiscal year beginning with Palm’s first quarter of fiscal year 2012. Palm is currently evaluating the effect that the adoption of these disclosure requirements will have on its condensed consolidated financial statements, but does not expect it to have a material impact.

In October 2009, the FASB issued updates to the accounting standards related to revenue recognition for arrangements with multiple deliverables and arrangements that include software elements. During the third quarter of fiscal year 2010, Palm elected to early adopt the updates to the revenue recognition standards by retrospective application. These updates (1) address the ability to account for products or services (deliverables) separately rather than as a combined unit, (2) establish a hierarchy for determining the selling price of a deliverable, (3) eliminate the residual method of allocation and require that arrangement consideration be allocated at the inception of the arrangement to all deliverables using the relative selling price, (4) update the scope of software revenue recognition guidance to exclude certain tangible products that contain software that functions together with nonsoftware deliverables to deliver the tangible product’s essential functionality and (5) expand the disclosures. Prior to the updates, Palm accounted for its Palm webOS products and services pursuant to the software revenue recognition guidance. As a result of early adopting the updates, these products and services are now scoped out of the software revenue recognition guidance and are accounted for pursuant to the multiple-deliverable and other general revenue recognition guidance. The retrospective application of these updates impacts the recognition of revenues related to all Palm webOS products and results in recognition of a substantial portion of the product revenues and all of the direct product cost of revenues at the time of delivery, with the remainder of the product revenues being recognized over the estimated life of the product. The effect of these updates on revenues and any direct effects which result from the changes in revenue recognition have been reflected for all periods presented. As of November 30, 2009, the day before Palm adopted these updates, total deferred revenues were $550.8 million and total deferred cost of revenues were $332.7 million. As a result, the adoption of these updates and retrospective application resulted in a material impact to Palm’s condensed consolidated financial statements for the three and nine months ended February 28, 2010, and Palm expects the impact of these updates to be material to its condensed consolidated financial statements for fiscal year 2010 and all subsequent reporting periods. Palm’s condensed consolidated balance sheet as of May 31, 2009 also reflects the impact of this adoption by retrospective application.

Centro, Treo and other non-Palm webOS smartphone products have one deliverable and revenues are recognized at the time of delivery. There is no change to the method of accounting for these products as a result of these updates to the accounting standards.

Palm expects to periodically provide services and unspecified software free of charge to customers of Palm webOS products. These services and unspecified software, along with the tangible smartphone product, represent multiple deliverables under Palm’s sales arrangements for Palm webOS products. Under the previous accounting standards, Palm was unable to separate the deliverables for accounting purposes since it was unable to establish vendor specific objective evidence, or VSOE, of the selling price for the undelivered elements in the arrangement and therefore recognized all of the revenues and related direct product cost of revenues for Palm webOS products on a ratable basis over the product’s estimated life, which resulted in significant deferred revenues and deferred cost of revenues balances at the time of delivery.

As a result of the new accounting standards, Palm separated its two deliverables in connection with its arrangements for the sale of Palm webOS products. The first deliverable is the Palm webOS smartphone product, which represents both the tangible product and the included software that functions with the hardware to provide the product’s essential functionality, and includes warranty and related services. Revenues and related direct product cost of revenues, including estimates of liability for warranty and related service costs, are recognized at the time of delivery. The second deliverable represents a subscription to future services and unspecified software relating to Palm webOS products that end users have the right to receive on a when-and-if-available basis. Revenues associated with the second deliverable are recorded as deferred revenues and recognized ratably on a straight-line basis over the estimated economic life of the associated Palm webOS smartphone product, which is currently 24 months. If Palm offers specified upgrade rights to its customers in connection with Palm webOS products for future delivery, this will represent a separate deliverable, and Palm will determine the selling price of this separate deliverable and defer commencement of revenue recognition for the specified upgrade until the future obligation is fulfilled or the right to the specified upgrade expires.

Palm is not able to establish VSOE of selling price for the multiple deliverables in Palm webOS arrangements as the deliverables are not sold separately. Third-party evidence, or TPE, of selling price is determined based on competitor prices for substantially similar deliverables when sold separately. Generally, Palm’s go-to-market strategy differs from that of its peers and its offering contains a significant level of customization and differentiation such that the comparable pricing of products with similar functionality cannot be obtained. Furthermore, Palm is unable to reliably determine that similar competitor products’ selling prices are on a stand-alone basis. Therefore, Palm is not able to determine TPE. Palm allocates the revenues associated with each of its two deliverables based on their respective estimated selling prices, or ESP. The ESP represents the price at which Palm would transact a sale if each deliverable were sold on a stand-alone basis. Palm established the ESP for each of its deliverables by considering multiple factors, including, but not limited to, cost-plus model analyses allowing for internal costs and/or margin objectives, management’s pricing strategies and the competitive landscape. Significant judgment was used in determining the ESP, including expectations about future shipment volumes, product costs, assumptions regarding margin objectives, an assessment of the competitive landscape and Palm’s assumptions regarding the purchasing preferences of its end users, including Palm’s belief that its end users would not be willing to pay more than a nominal amount for future services and unspecified software on a when-and-if-available basis. Palm regularly reviews its selling price assumptions and maintains internal controls over the establishment and updates of these estimates.

Palm’s ESP for the subscription for future deliverables falls within a relatively narrow range of value, subject to the estimates described above. For each of the fiscal quarters ended February 28, 2010, November 30, 2009, August 31, 2009 and May 31, 2009, Palm’s ESP was estimated at $22 per unit of Palm webOS products, which fell within this range and represents Palm’s best estimate of selling price for these periods.

Palm began shipping its Palm webOS products to customers during the fourth quarter of fiscal year 2009. As a result of adopting these new accounting standards by retrospective application, Palm recognized additional revenues related to the Palm webOS smartphone product for each period in which these products were shipped, net of estimated liability for returns.

The impact of adopting these new accounting standards on Palm’s revenues is summarized in the following table (in thousands):


	Three Months Ended				Fiscal Year Ended		Three Months Ended
	November 30, 2009		August 31, 2009		May 31, 2009		May 31, 2009
Revenues:
Revenues (as reported) prior to adoption	$	78,113	$	68,004	$	735,872	$	86,773
Additional net revenues recognized as a result of adoption		210,237		277,888		25,198		25,198

Revenues (as adjusted) after adoption	$	288,350	$	345,892	$	761,070	$	111,971

Prior to the adoption of the new accounting standards, Palm deferred all of its direct product cost of revenues for Palm webOS smartphones delivered to customers at the time of delivery and recognized them on a ratable basis over the estimated economic product life and recorded product warranty and related service costs for Palm webOS products as incurred. After the adoption of these new accounting standards, Palm now recognizes direct product cost of revenues at the time of delivery including estimates of liability for warranty and related service costs, which is consistent with the timing of recognition of the associated revenues. As a result of adopting these new accounting standards by retrospective application, Palm recognized additional cost of revenues related to the Palm webOS smartphone product for each period in which these products were shipped.

The impact of adopting these new accounting standards on Palm’s cost of revenues is summarized in the following table (in thousands):


	Three Months Ended				Fiscal Year Ended		Three Months Ended
	November 30, 2009		August 31, 2009		May 31, 2009		May 31, 2009
Cost of revenues:
Cost of revenues (as reported) prior to adoption	$	72,629	$	70,788	$	576,113	$	66,706
Additional cost of revenues recognized as a result of adoption		138,554		196,299		17,901		17,901

Cost of revenues (as adjusted) after adoption	$	211,183	$	267,087	$	594,014	$	84,607

The impact of adopting these new accounting standards on Palm’s operating loss, loss before income taxes, net loss, net loss attributable to common stockholders and net loss per common share is summarized in the following table (in thousands, except per share amounts):


	Three Months Ended						Fiscal Year Ended			Three Months Ended
	November 30, 2009			August 31, 2009			May 31, 2009			May 31, 2009
Operating loss:
Operating loss (as reported) prior to adoption	$	(134,464	)	$	(127,452	)	$	(264,809	)	$	(63,287	)
Adjustment as a result of adoption		71,683			81,589			7,297			7,297

Operating loss (as adjusted) after adoption	$	(62,781	)	$	(45,863	)	$	(257,512	)	$	(55,990	)

Loss before income taxes:
Loss before income taxes (as reported) prior to adoption	$	(82,129	)	$	(161,030	)	$	(327,923	)	$	(93,678	)
Adjustment as a result of adoption		71,683			81,589			7,297			7,297

Loss before income taxes (as adjusted) after adoption	$	(10,446	)	$	(79,441	)	$	(320,626	)	$	(86,381	)

Net loss:
Net loss (as reported) prior to adoption	$	(81,929	)	$	(161,095	)	$	(732,188	)	$	(91,518	)
Adjustment as a result of adoption		71,683			81,589			7,297			7,297

Net loss (as adjusted) after adoption	$	(10,246	)	$	(79,506	)	$	(724,891	)	$	(84,221	)

Net loss attributable to common stockholders:
Net loss attributable to common stockholders (as reported) prior to adoption	$	(85,373	)	$	(164,467	)	$	(753,473	)	$	(104,974	)
Adjustment as a result of adoption		71,683			81,589			7,297			7,297

Net loss attributable to common stockholders (as adjusted) after adoption	$	(13,690	)	$	(82,878	)	$	(746,176	)	$	(97,677	)

Net loss per common share (basic and diluted):
Net loss per common share (as reported) prior to adoption	$	(0.54	)	$	(1.17	)	$	(6.51	)	$	(0.78	)
Adjustment as a result of adoption		0.45			0.58			0.06			0.05

Net loss per common share (as adjusted) after adoption	$	(0.09	)	$	(0.59	)	$	(6.45	)	$	(0.73	)

If Palm had not adopted these new accounting standards during the third quarter of fiscal year 2009, Palm’s revenues and cost of revenues for the three months ended February 28, 2010 would have been lower by approximately $234.8 million and $160.0 million, respectively. Accordingly, Palm’s operating loss, loss before income taxes, net loss and net loss attributable to common stockholders for the three months ended February 28, 2010 would also have been similarly affected.

As a result of the adoption of the new accounting standards by retrospective application, Palm no longer defers all of the revenues and direct product cost of revenues associated with shipments of Palm webOS smartphone product, which began during the fourth quarter of fiscal year 2009. The impact of adopting these new accounting standards on Palm’s condensed consolidated balance sheet as of May 31, 2009 is summarized in the following table (in thousands):

There were no changes to net cash flows from operating, investing or financing activities for any of the periods presented as a result of the adoption of these new accounting standards.

The impact of adopting these new accounting standards on Palm’s consolidated cash flows from operations for the year ended May 31, 2009 is summarized in the following table (in thousands):

The impact of adopting these new accounting standards on Palm’s condensed consolidated cash flows from operations for the three months ended August 31, 2009 is summarized in the following table (in thousands):

The impact of adopting these new accounting standards on Palm’s condensed consolidated cash flows from operations for the six months ended November 30, 2009 is summarized in the following table (in thousands):

Financial instruments measured at fair value on a recurring basis as of February 28, 2010 and May 31, 2009 are classified based on the valuation technique level in the table below (in thousands):

As of May 31, 2009, Palm did not have liabilities that were measured at fair value on a recurring basis.

The fair value of Palm’s Level 1 financial assets is based on quoted market prices of the identical underlying security and generally includes money market funds and United States Treasury securities with quoted prices in active markets.

The fair value of Palm’s Level 2 financial assets and liabilities is based on observable inputs to quoted market prices, benchmark yields, reported trades, broker/dealer quotes or alternative pricing sources with reasonable levels of price transparency and generally includes corporate debt securities and the Detachable Warrants.

As of February 28, 2010, Palm did not have observable inputs for the valuation of its investments in auction rate securities, or ARS, and its derivative related to the conversion feature of the Series C Preferred Stock, or the Conversion Feature. Palm’s methodology for valuing these instruments are described in Notes 8 and 19, respectively, to Palm’s condensed consolidated financial statements.

The following tables provide a summary of changes in fair value of Palm’s Level 3 financial instruments for the three and nine months ended February 28, 2010 (in thousands):

As of February 28, 2009, Palm did not have observable inputs for the valuation of its non-current auction rate securities. Palm’s methodology for valuing these assets is described in Note 8 to Palm’s condensed consolidated financial statements. The following table provides a summary of changes in fair value of Palm’s Level 3 financial assets for the three and nine months ended February 28, 2009 (in thousands):

Palm has not elected to adopt the fair value option for any eligible financial instruments during the three or nine months ended February 28, 2010. Palm may decide to exercise the option when Palm first recognizes an eligible item or enters into an eligible firm commitment when business reasons support doing so in the future.

The following table sets forth the computation of basic and diluted net loss per common share for the three and nine months ended February 28, 2010 and 2009 (in thousands, except per share amounts):

Palm’s Series B Preferred Stock and Series C Preferred Stock are entitled to receive, on an as-converted basis, the same type and amount of dividends as Palm’s common stock, and are therefore considered participating securities that must be included in the calculation of earnings per share using the two-class method. Under the two-class method, basic and diluted earnings per common share is calculated by dividing net loss attributable to common stockholders by the weighted average number of common shares outstanding.

For the three and nine months ended February 28, 2010, 14.3 million and 15.8 million weighted-average share-based payment awards and warrants to purchase Palm common stock, respectively, 38.2 million weighted-average shares of Series B Preferred Stock and 15.7 million weighted-average shares of Series C Preferred Stock were excluded from the computation of diluted net loss per common share because the inclusion of such items would be antidilutive to the loss. For the three and nine months ended February 28, 2009, 22.8 million and 21.7 million weighted-average share-based payment awards and warrants to purchase Palm common stock, respectively, 38.2 million weighted-average shares of Series B Preferred Stock and 16.6 million and 5.5 million weighted-average shares of Series C Preferred Stock, respectively, were excluded from the computation of diluted net loss per common share because the inclusion of such items would be antidilutive to the loss. To determine the shares of preferred stock excluded because the inclusion of such shares would be antidilutive, the Series B Preferred Stock and Series C Preferred Stock are assumed to be converted to common shares at conversion prices of $8.50 per share and $3.25 per share, respectively.

Palm relies primarily on the Black-Scholes option valuation model to determine the fair value of stock options and employee stock purchase plan, or ESPP, shares. The determination of the fair value of share-based payment awards on the date of grant using an option valuation model is affected by Palm’s stock price as well as assumptions regarding a number of complex variables. These variables include Palm’s expected stock price volatility over the term of the awards, projected employee stock option exercise behavior, expected risk-free interest rate and expected dividends.

The ESPP offering period in October 2009 was valued using the following assumptions: risk-free interest rate of 0.5%, volatility of 73%, option term of 1.3 years, dividend yield of 0.0% and weighted average fair value at the date of purchase of $7.76 per share. There have been no other offerings during fiscal year 2010 through the end of the third quarter of fiscal year 2010. The ESPP offering period in October 2008 was valued using the following assumptions: risk-free interest rate of 1.8%, volatility of 55%, option term of 1.3 years, dividend yield of 0.0% and weighted average fair value at the date of purchase of $2.36 per share.

The key assumptions used in the Black-Scholes option valuation model to determine the fair value of stock options granted during the three and nine months ended February 28, 2010 and 2009 are provided below:

During the first quarter of fiscal year 2010, Palm entered into a separation agreement with Palm’s former chief executive officer. Under the terms of the separation agreement, portions of unvested Palm stock options, shares of Palm restricted stock and Palm restricted stock units, or RSUs, had their vesting accelerated during the first quarter of fiscal year 2010. Also, additional shares will vest on July 12, 2010 if compliance with the agreement is maintained. Any options to acquire Palm common stock which are vested or might vest pursuant to the separation agreement will remain outstanding and exercisable until January 12, 2011, resulting in a post-termination exercise period of approximately 18 months. The fair value of the modified awards was calculated using the Black-Scholes option valuation model with the following assumptions: expected life of 18 months, an average risk-free interest rate of 1.0%, a dividend yield of 0% and volatility of 75%. Based on Palm’s closing stock price as of June 10, 2009, the date the separation agreement was finalized, the incremental fair value of these modifications and these accelerations was $4.9 million. The additional shares that vest on July 12, 2010, if compliance with the terms of the agreement is maintained, are subject to quarterly mark-to-market adjustments because Palm’s former chief executive officer is no longer an employee and the conditions for the awards to vest have been pre-determined. Based on Palm’s closing stock price as of the end of the quarter, the additional awards that vest on July 12, 2010, conditional upon compliance with the agreement, had a fair value of $0.5 million. The fair value of these additional awards will be recognized during fiscal year 2010. As of February 28, 2010, Palm has recognized $0.3 million related to these additional shares.

Palm uses the straight-line attribution expensing method to recognize share-based compensation expense for options, restricted stock units and awards granted beginning June 1, 2006. Compensation expense for all share-based awards granted prior to June 1, 2006 is recognized using the accelerated expensing method.

A summary of the stock-based compensation expense included in the condensed consolidated statements of operations for the three and nine months ended February 28, 2010 and 2009 is as follows (in thousands):

Palm had no stock-based compensation costs capitalized as part of the cost of an asset.

The total income tax benefit realized from stock option exercises and ESPP rights for the three and nine months ended February 28, 2010 was less than $0.1 million and $0.2 million, respectively. The total income tax benefit realized from stock option exercises and ESPP rights for the three and nine months ended February 28, 2009 was less than $0.1 million and $1.9 million, respectively.

A summary of Palm’s stock option program is as follows (dollars and shares in thousands, except per share data):

The aggregate intrinsic value represents the difference between Palm’s closing stock price on the last trading day of the fiscal period, which was $6.09 as of February 28, 2010, and the option exercise price of the shares for options that were in the money multiplied by the number of options outstanding. Total intrinsic value of options exercised was $6.6 million and $39.8 million for the three and nine months ended February 28, 2010, respectively, and $1.7 million and $8.9 million for the three and nine months ended February 28, 2009, respectively.

During the nine months ended February 28, 2010, Palm granted 5.2 million options to Palm employees. Also during the nine months ended February 28, 2010, Palm employees exercised 4.8 million options to purchase shares of Palm common stock and forfeited 1.5 million options due to termination of employment.

As of February 28, 2010, total unrecognized compensation costs, adjusted for estimated forfeitures, related to non-vested stock options was $29.2 million, which is expected to be recognized over the next 2.7 years.

During the nine months ended February 28, 2010, Palm granted 215,000 shares of restricted stock to current executives. Also during the nine months ended February 28, 2010, in connection with the separation agreement signed in June 2009 with Palm’s former chief executive officer, 191,000 shares of restricted stock vested and were released and 54,000 shares were canceled and repurchased by Palm.

As of February 28, 2010, total unrecognized compensation costs related to non-vested restricted stock awards was $2.8 million, which is expected to be recognized over the next 3.4 years.

A summary of Palm’s restricted stock unit program is as follows (dollars and units in thousands, except per share data):

During the nine months ended February 28, 2010, Palm granted 0.3 million RSUs to Palm employees and 0.6 million shares vested and were released. Also during the nine months ended February 28, 2010, Palm employees forfeited 0.1 million RSUs due to termination of employment.

As of February 28, 2010, total unrecognized compensation costs, adjusted for estimated forfeitures, related to non-vested RSUs was $3.4 million, which is expected to be recognized over the next 1.8 years.

During the nine months ended February 28, 2010 and 2009, Palm employees purchased 0.7 million and 0.7 million shares, respectively, of Palm common stock under the ESPP at a weighted-average purchase price of $4.66 and $4.25, respectively. The intrinsic value of the shares purchased was $9.4 million and $1.2 million for the nine months ended February 28, 2010 and 2009, respectively. As of February 28, 2010, total unrecognized compensation costs related to the ESPP was $1.6 million, which is expected to be recognized over the next 0.4 years.

As of February 28, 2010 and May 31, 2009, there was no difference between the amortized costs, or carrying values, of Palm’s restricted investments and non-current auction rate securities and their respective fair values. As of February 28, 2010 and May 31, 2009, Palm’s cash and cash equivalents and short-term investments balance reflected total net unrealized losses of less than $0.1 million and $0.1 million, respectively. As of February 28, 2010 and May 31, 2010, Palm’s investments with unrealized losses were federal government obligations with gross unrealized losses of a de minimus amount.

As of February 28, 2010, Palm’s investments in federal government obligations had stated maturities that were due within one year and its investments in corporate debt securities had stated maturities that were due after three years.

As of February 28, 2010, Palm held a variety of interest-bearing ARS investments that represent investments in pools of assets, including preferred stock, collateralized debt obligations and credit derivative products. These ARS investments were intended to provide liquidity via an auction process that resets the applicable interest rate at predetermined calendar intervals, allowing investors to either roll over their holdings or gain immediate liquidity by selling such interests at par. Beginning in fiscal year 2008 and continuing through fiscal year 2010, auctions for Palm’s investments in these securities failed to settle on their respective settlement dates. Consequently, the investments are not currently liquid and Palm will not be able to access these funds until a future auction of these investments is successful or a buyer is found outside of the auction process. Maturity dates for these ARS investments range from 2015 to 2052. Palm currently classifies all of these investments as non-current auction rate securities in its condensed consolidated balance sheets because of Palm’s continuing inability to determine when these investments will settle.

Historically, the fair value of ARS investments approximated par value due to the frequent resets through the auction process. Palm’s investments in ARS do not currently have a readily determinable market value because they are not currently trading nor has Palm observed sufficient market inputs. As of February 28, 2010, the total par value of Palm’s investments in ARS was $54.7 million and the estimated fair value was $4.1 million.

During the second quarter of fiscal year 2010, Palm received notification of a tender offer for certain series of ARS representing investments in pools of credit-linked notes, including those held by Palm at that time. Just prior to Palm’s receipt of the tender offer, Palm’s ARS investments representing pools of credit-linked notes had a par value of $15.0 million and a carrying value of $0 as a result of pre-tax other-than-temporary impairment charges recognized through fiscal year 2009. Upon settlement of the tender offer during the third quarter of fiscal year 2010, Palm recorded a gain of $7.1 million in its condensed consolidated statements of operations related to the sale of these ARS investments, which represented the total cash received by Palm for these investments related to the tender offer.

As of February 28, 2010 and May 31, 2009, Palm used a discounted cash flow model to estimate the fair value of its investments in ARS which incorporated the total expected future cash flows of each security and an estimated market-required rate of return. Expected future cash flows were calculated using estimates for interest rates, timing and amount of cash flows and expected holding periods of the ARS. Because the estimated fair values of Palm’s investments in ARS represent their expected future cash flows, which is less than Palm’s amortized cost, Palm concluded that the impairment of each of its investments in ARS was an other-than-temporary credit loss, and as a result, recognized all of the related losses in its condensed consolidated statements of operations, which was $2.0 million for the nine months ended February 28, 2010. For the year ended May 31, 2009, Palm determined there was a decline in the fair value of its ARS investments of $23.4 million, all of which was recognized as a pre-tax

other-than-temporary impairment charge. In addition, during the year ended May 31, 2009, Palm concluded that the impairment of certain ARS investments previously considered temporary was other-than-temporary and the associated unrealized losses of $12.5 million as of May 31, 2008 were recognized as additional pre-tax impairments of non-current auction rate securities, with a corresponding decrease in accumulated other comprehensive income.

As of February 28, 2010, Palm adjusted the amortized cost basis of each security to the current net present value of expected cash flows, because the expected cash flows were less than the current amortized cost. Palm believes it is more likely than not that it would expect to sell these investments before the full recovery of Palm’s amortized cost. Because Palm’s estimate of fair value for these securities is based on expected cash flows, the amount of total other-than-temporary impairment on ARS and debt securities relates only to credit loss and not to other factors.

Goodwill was $166.3 million as of both February 28, 2010 and May 31, 2009. During fiscal year 2009, goodwill decreased by less than $0.1 million due to adjustments relating to the Handspring acquisition primarily for the recognition of foreign tax loss carryforwards and liabilities. Pursuant to a new accounting standard effective June 1, 2009, all adjustments to goodwill will be recorded as an increase or reduction of income tax provision (benefit) for the fiscal year in which the changes occur.

Amortization expense related to intangible assets was $2.6 million and $2.6 million for the three months ended February 28, 2010 and 2009, respectively, and $7.8 million and $9.6 million for the nine months ended February 28, 2010 and 2009, respectively. Amortization of the ACCESS Systems licenses and core technology are included in cost of revenues.

The following table presents the estimated future amortization of intangible assets (in thousands):

The income tax benefit for the three months ended February 28, 2010 represented (0.1)% of pre-tax loss, which includes foreign and state income taxes of $0.2 million which were more than offset by the tax benefit related to a federal refundable credit of $0.3 million. The income tax benefit for the nine months ended February 28, 2010 represented (0.1)% of pre-tax loss, which includes foreign and state income taxes of $1.8 million which were more than offset by the tax benefit related to a federal refundable credit of $0.8 million and an alternative minimum tax, or AMT, refund claim of $1.2 million.

During the three and nine months ended February 28, 2010, Palm recognized less than $0.1 million of previously unrecognized tax benefits as a result of evaluation of new facts, circumstances and information. Palm recorded adjustments of $0.3 million and $0.2 million to the amount of interest related to the unrecognized tax benefits for the three and nine months ended February 28, 2010, respectively.

In November 2009, the Worker, Homeownership and Business Assistance Act of 2009 was signed into law, which extended the carryback of net operating losses for both federal regular tax and AMT. The income tax benefit related to this Act was recorded in the second quarter of fiscal year 2010.

During the second quarter of fiscal year 2009, Palm established a valuation allowance against its deferred tax assets in the United States to reduce them to their estimated net realizable value with a corresponding non-cash charge of $407.4 million to the provision for income taxes, net of tax benefits generated during the second quarter of fiscal year 2009. The valuation allowance is reviewed quarterly and will be maintained until sufficient positive evidence exists to support the reversal of the valuation allowance.

Accounting standards related to accounting for uncertainty in income taxes recognized in an enterprise’s financial statements prescribe a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return as well as guidance on derecognition of tax benefits. The total amount of gross unrecognized tax benefits as of February 28, 2010 was $53.9 million, which, if recognized, would affect the effective tax rate. However, one or more of these unrecognized tax benefits could be subject to a valuation allowance if and when recognized in a future period, which could impact the timing of any related effective tax rate benefit.

Palm is subject to taxation in the United States, various states and several foreign jurisdictions. Palm can neither make a determination as to whether or not recognition of any unrecognized tax benefits will occur within the next 12 months nor make an estimate of the range of any potential changes to the unrecognized tax benefits.

In October 2007, Palm entered into a credit agreement with JPMorgan Chase Bank, N.A. and Morgan Stanley Senior Funding, Inc., or the Credit Agreement, which governs a senior secured term loan in the aggregate principal amount of $400.0 million, or the Term Loan, and a credit facility in the aggregate principal amount of $30.0 million, or the Revolver.

The Term Loan and Revolver mature in April 2014 and October 2012, respectively. As of February 28, 2010, the interest rate on the Term Loan was based on three-month LIBOR plus 3.50%, or 3.76%. The weighted-average effective interest rates were 3.77% and 5.11% for the three months ended February 28, 2010 and 2009, respectively, and 3.79% and 5.96% for the nine months ended February 28, 2010 and 2009, respectively. As of February 28, 2010, Palm has not used the Revolver.

Palm paid issuance costs of $18.9 million related to the Credit Agreement, which will be amortized to interest expense over the life of the debt using the effective yield method. Total debt issuance costs of $0.8 million were amortized to interest expense for each of the three months ended February 28, 2010 and 2009, respectively, and $2.4 million and $2.4 million were amortized to interest expense for the nine months ended February 28, 2010 and 2009, respectively. The remaining balance of unamortized costs was $11.6 million as of February 28, 2010, of which $3.1 million was included in prepaids and other on Palm’s condensed consolidated balance sheet and $8.5 million was included in other assets. The remaining balance of unamortized costs was $13.9 million as of May 31, 2009, of which $3.1 million was included in prepaids and other on Palm’s condensed consolidated balance sheet and $10.8 million was included in other assets.

The Credit Agreement requires Palm to prepay the outstanding balance of the Term Loan using all net cash proceeds Palm receives from the issuance of additional debt or from the disposition of assets outside the ordinary course of business (subject to threshold and reinvestment exceptions). As of February 28, 2010, Palm was not required to make any mandatory prepayments on its Term Loan pursuant to any of these requirements. On an annual basis after each fiscal-year end, Palm is also required to prepay the Term Loan in an amount between 25% and 75% of excess cash flow for the fiscal year, as defined in the Credit Agreement. If Palm elects to make additional prepayments of the Term Loan in excess of those required under the Credit Agreement, Palm will be responsible to pay call premiums of (i) 102% in the second year and (ii) 101% in the third year. Palm is permitted to make voluntary prepayments on the Revolver at any time without premium or penalty.

The Term Loan and Revolver contain restrictive covenants on Palm’s and its subsidiaries’ ability to (i) incur certain debt, (ii) make certain investments, (iii) make certain acquisitions of other entities, (iv) incur liens, (v) dispose of assets, (vi) make non-cash distributions to stockholders, and (vii) engage in transactions with affiliates. The Credit Agreement is secured by all of the capital stock of certain Palm subsidiaries (limited, in the case of foreign subsidiaries, to 65% of the capital stock of such subsidiaries) and substantially all of Palm’s present and future assets.

A summary of activity related to issuance and accretion of the Series B Preferred Stock and Series C Preferred Stock is as follows (in thousands):

Because the Series B Preferred Stock and Series C Preferred Stock are mandatorily redeemable in October 2014, they will be accreted against additional paid-in capital using the effective yield method to their redemption values of $325.0 million and $51.0 million, respectively, through October 2014.

Certain Palm facilities are leased under operating leases. Leases expire at various dates through May 2012.

Palm utilizes contract manufacturers to build its products. These contract manufacturers acquire components and build products based on demand forecast information supplied by Palm, which typically covers a rolling 15- to 18-month period. Consistent with industry practice, Palm acquires inventories from such manufacturers through blanket purchase orders against which orders are applied based on projected demand information. Such purchase commitments typically cover Palm’s forecasted product requirements for periods ranging from 30 to 120 days. In certain instances, these agreements allow Palm the option to cancel, reschedule and/or adjust its requirements based on its business needs. In some instances Palm also makes commitments with component suppliers in order to secure availability of key components. Consequently, only a portion of Palm’s purchase commitments arising from these agreements may be non-cancelable and unconditional commitments. As of February 28, 2010 and May 31, 2009, Palm’s cancelable and non-cancelable commitments to third-party manufacturers and component suppliers for their inventory on-hand and component commitments related to the manufacture of Palm products were $208.5 million and $352.7 million, respectively.

In accordance with Palm’s policy, Palm also accrues the cost for any inventory component purchase commitments with third-party manufacturers and component suppliers that are determined to be in excess of anticipated demand based on forecasted product sales. As of February 28, 2010 and May 31, 2009, Palm had estimated inventory component purchase commitments in excess of anticipated demand of $53.1 million and $14.4 million, respectively, which were reported in other accrued liabilities related to these commitments.

Palm entered into purchase and licensing agreements for a total of $7.0 million. Under the terms of the agreements, Palm agreed to make quarterly payments through December 2009. The net present value of these payments was amortized using the effective yield method. The remaining amount due under the agreements was $0 and $2.1 million as of February 28, 2010 and May 31, 2009, respectively, and was included in other accrued liabilities.

Palm accrues for royalty obligations to certain technology and patent holders based on (1) unit shipments of its products, (2) a percentage of applicable revenues for the net sales of products using certain software technologies or (3) a fully paid-up license fee, all as determined in accordance with the applicable license agreements. Where agreements are not finalized, accrued royalty obligations represent management’s current best estimates using appropriate assumptions and projections based on negotiations with third-party licensors. As of February 28, 2010 and May 31, 2009, Palm had estimated royalty obligations of $47.9 million and $38.5 million, respectively, which were reported in other accrued liabilities. While the amounts ultimately agreed on may be more or less than the current accrual, management does not believe that finalization of the agreements would have had a material impact on the amounts reported for its financial position as of February 28, 2010 or on the results reported for the three or nine months then ended; however, the effect of finalization of these agreements in the future may be significant to the period in which recorded.

As of February 28, 2010 and May 31, 2009, Palm had $9.3 million and $9.5 million, respectively, in restricted investments, which are collateral for outstanding letters of credit.

Palm uses foreign exchange forward contracts to mitigate transaction gains and losses generated by certain foreign currency denominated monetary assets and liabilities, the result of which partially offsets its market exposure to fluctuations in foreign currencies. Changes in the fair value of these foreign exchange forward contracts are largely offset by re-measurement of the underlying assets and liabilities. According to Palm’s policy, these foreign exchange forward contracts have maturities of 35 days or less. As of February 28, 2010, Palm’s outstanding notional contract value, which approximates fair value, was $5.4 million which settled within 28 days. Palm did not have any foreign exchange forward contracts outstanding as of May 31, 2009. Palm does not enter into derivatives for speculative or trading purposes. See Note 19 to the condensed consolidated financial statements for further discussion of Palm’s derivative and hedging activity.

Under the indemnification provisions of Palm’s customer and certain of its supply agreements, Palm agrees to offer some level of indemnification protection against certain types of claims arising from Palm’s products and services.

Under the indemnification provisions with respect to representations and covenants made to PalmSource in connection with the Palm brand and with respect to trademark infringement in the amended and restated trademark license agreement with PalmSource, Palm agreed to defend and indemnify PalmSource and its affiliates for losses incurred, up to $25.0 million under each agreement.

Palm defends and indemnifies its current and former directors and certain of its current and former officers from third-party claims. Certain costs incurred for providing such defense and indemnification may be recoverable under various insurance policies. Palm is unable to reasonably estimate the maximum amount that could be payable under these arrangements since these exposures are not capped and due to the conditional nature of its obligations and the unique facts and circumstances involved in any situation that might arise.

Palm’s product warranty and related services accrual reflects management’s best estimate of probable liability for its product warranties and related services. Management determines the warranty and related service liability based on historical rates of usage as a percentage of shipment levels and the expected repair cost per unit, service policies and its experience with products in production or distribution.

Changes in the product warranty and related services accrual are (in thousands):

In September 2009, Palm issued 23.0 million shares of common stock in an underwritten public offering at a per-share offering price of $16.25. Elevation and Roger McNamee, one of Palm’s directors representing the holders of Series B Preferred Stock and Series C Preferred Stock, purchased an aggregate amount of 2.3 million shares of the total shares that were offered. As a result of this offering, Palm received $359.9 million in net cash proceeds after underwriting discounts, commissions and estimated offering expenses, which will be used for working capital and general corporate purposes.

Restructuring costs are recorded as incurred. Restructuring charges for employee workforce reductions are recorded upon employee notification for employees whose required continuing service period is 60 days or less, and ratably over the employee’s continuing service period for employees whose required continuing service period is greater than 60 days. Prior to calendar year 2003, Palm accrued for restructuring costs when it made a commitment to a firm exit plan that specifically identified all significant actions to be taken.

The first quarter of fiscal year 2010 restructuring actions included workforce reorganizations, including stock-based compensation as a result of the acceleration and modification of certain equity awards and other severance, benefits and related costs due to the restructuring involving 40 regular employees primarily in the United States and Palm’s Latin America region. Palm took these restructuring actions to better align its resources and structure with its then current business strategy.

The restructuring actions initiated in the second quarter of fiscal year 2009 included workforce reductions of 190 regular employees across all geographic regions, and facilities removed from service. Palm took these restructuring actions to better align its cost structure with its then current revenues expectations. During the first quarter of fiscal year 2010, Palm recorded additional charges related to additional severance costs partially offset by adjustments related to the settlement of the lease.

The third quarter of fiscal year 2008 restructuring actions included workforce reductions of 130 regular employees across all geographic regions, property and equipment disposed of or removed from service and other charges related to the closure of Palm’s retail stores and lease commitments for facilities no longer in service. Palm took these restructuring actions to better align its cost structure with its then current revenue expectations. Cost reduction actions initiated in the third quarter of fiscal year 2008 were complete as of May 31, 2009.

The second quarter of fiscal year 2008 restructuring actions included project cancelation costs relating to the Foleo mobile companion product and discontinued development projects. Restructuring charges were a result of Palm’s decision to focus its efforts on developing a single Palm-based software platform and to offer a consistent user experience centered on the new platform. Cost reduction actions related to the second quarter of fiscal year 2008 were complete as of August 31, 2009.

The first quarter of fiscal year 2008 restructuring actions included facilities costs relating to property and equipment disposed of or removed from service. As of February 28, 2010, the balance consists of lease commitments, payable over one year, offset by estimated sublease proceeds of $0.2 million.

The fourth quarter of fiscal year 2001 restructuring actions included facilities costs related to lease commitments for space no longer intended for use. As of February 28, 2010, the balance consists of lease commitments, payable over two years, offset by estimated sublease proceeds of $5.1 million.

During the third quarter of fiscal year 2009, certain of Palm’s smartphone products, with a recorded inventory value of $5.0 million, were stolen from one of Palm’s third-party-operated warehouses. As a result, Palm recorded a casualty loss for this amount in its condensed consolidated statements of operations for the three and nine months ended February 28, 2009. During the fourth quarter of fiscal year 2009 and the third quarter of fiscal year 2010, Palm received $5.3 million and $3.4 million, respectively, in net cash insurance proceeds covering the loss of the recorded inventory value plus a portion of its selling price in accordance with Palm’s insurance policy. As a result, Palm recorded a net recovery for these amounts in its condensed consolidated statements of operations during the periods in which they were received.

Palm is a party to lawsuits in the normal course of its business. Litigation in general, and intellectual property litigation in particular, can be expensive and disruptive to normal business operations. Moreover, the results of complex legal proceedings are difficult to predict. Palm believes that it has defenses to the cases pending against it, including those set forth below, and is vigorously contesting each matter. Palm is not currently able to estimate, with reasonable certainty, the possible loss, or range of loss, if any, from the cases listed below, and accordingly no provision for any potential loss which may result from the resolution of these matters has been recorded in the accompanying condensed consolidated financial statements except with respect to those cases where preliminary settlement agreements have been reached. An unfavorable resolution of these lawsuits could materially adversely affect Palm’s business, results of operations or financial condition. (Although Palm was formerly known as palmOne, Inc. and is now Palm, Inc. once again and Handspring has been merged into Palm, the pleadings in the pending litigation continue to reference former company names, including Palm Computing, Inc., Palm, Inc., palmOne, Inc. and Handspring, Inc.).

In June 2001, the first of several putative stockholder class action lawsuits was filed in the United States District Court for the Southern District of New York against certain of the underwriters for Palm’s initial public offering, Palm and several of its former officers. The complaints, which have been consolidated under the caption In re Palm, Inc. Initial Public Offering Securities Litigation, Case No. 01 CV 5613, assert that the prospectus from Palm’s March 2, 2000 initial public offering failed to disclose certain alleged actions by the underwriters for the offering. The complaints allege claims against Palm and the officers under Sections 11 and 15 of the Securities Act of 1933, as amended. Certain of the complaints also allege claims under Section 10(b) and Section 20(a) of the Securities Exchange Act of 1934, as amended. Similar complaints were filed against Handspring in August and September 2001 in regard to Handspring’s June 2000 initial public offering. Other actions have been filed making similar allegations regarding the initial public offerings of more than 300 other companies. An amended consolidated complaint was filed in April 2002. The claims against the individual defendants have been dismissed without prejudice pursuant to an agreement with plaintiffs. The Court denied Palm’s motion to dismiss. In June 2004, a stipulation of settlement and release of claims against the issuer defendants, including Palm and Handspring, was submitted to the Court for approval. On August 31, 2005, the Court preliminarily approved the settlement. In December 2006, the Appellate Court overturned the certification of classes in the six test cases that were selected by the underwriter defendants and plaintiffs in the coordinated proceedings. Because class certification was a condition of the settlement, it was unlikely that the settlement would receive final Court approval. On June 25, 2007, the Court entered an order terminating the proposed settlement based upon a stipulation among the parties to the settlement. Plaintiffs have filed amended master allegations and amended complaints in the six focus cases. In April 2009, the parties reached a global settlement of the litigation. On June 9, 2009 the Court granted preliminary approval of the settlement. Following a hearing to determine final approval on September 10, 2009 the Court issued an Order of Final Approval on October 5, 2009. Following issuance of the Order, some objectors filed a Notice of Appeal. Under the terms of the settlement, if approved, all financial obligations will be borne by the insurers.

In September and October 2005, five purported consumer class action lawsuits were filed against Palm, four in the U.S. District Court for the Northern District of California (Moya v. Palm, Berliner v. Palm, Loew v. Palm, and Geisen v. Palm) and one in the Superior Court of California for Santa Clara County (Palza v. Palm), on behalf of all purchasers of Palm Treo 600 and Treo 650 products. All five complaints allege in substance that Palm made false or misleading statements regarding the reliability of its Treo 600 and 650 products in violation of various California laws, that the products have certain alleged defects, and that Palm breached its warranty of these products. The complaints seek unspecified damages, restitution, disgorgement of profits and injunctive relief. In September 2005, a purported consumer class action lawsuit entitled Gans v. Palm was filed against Palm in the U.S. District Court for the Northern District of California on behalf of all purchasers of the Treo 650 product. The complaint alleges that, in violation of various California laws, Palm made false or misleading statements regarding automatic email delivery to the Treo 650 product. The complaint seeks unspecified damages, restitution, disgorgement of profits and injunctive relief. Palm removed the Palza case to the U.S. District Court for the Northern District of California. Subsequently, all six cases were consolidated before a single judge in that Court and the plaintiffs provided a consolidated, amended complaint. The parties have agreed to a tentative settlement. On January 7, 2008, the Court granted preliminary approval of a settlement of this action and Palm provided notice to the settlement class members. A hearing to determine final settlement approval was conducted on

May 23, 2008 and on July 9, 2008 the Court issued an Order approving the settlement with respect to the class and dismissing claims of the settlement class with prejudice. Intervenors at the hearing filed an appeal of the Court’s ruling on August 11, 2008. On September 25, 2008, the appellate court dismissed it as being untimely and the District Court ruling therefore became final. On January 6, 2010, a class member filed a Notice of Appeal of the attorneys’ fees award to class counsel. The appeal is pending. The terms of the Order issued by the Court and the subsequent award of attorneys’ fees and incentive awards, if upheld on appeal, will result in a resolution not material to Palm’s financial position.

On November 6, 2006, NTP, Inc. filed suit against Palm in the United States District Court for the Eastern District of Virginia. In the lawsuit, entitled NTP, Inc. v. Palm, Inc., NTP alleges direct and indirect infringement of seven patents and seeks unspecified compensatory and treble damages and to enjoin Palm from infringing the patents in the future. On December 22, 2006, Palm responded to the complaint. Palm also moved to stay the litigation pending conclusion and any appeal of reexamination proceedings currently before the United States Patent and Trademark Office. On March 22, 2007 the Court granted Palm’s motion and ordered the case be stayed “…until the validity of the patents-in-suit is resolved at the Patent and Trademark Office and through any consequent appeals.”

On May 18, 2007, Intermec Inc. filed suit against Palm in the United States District Court for the District of Delaware. In the lawsuit, entitled Intermec Technologies Corp., Inc. v. Palm, Inc., Intermec alleges direct and indirect infringement of five patents and seeks unspecified compensatory and treble damages and to enjoin Palm from future infringement. In August 2007, Palm filed counterclaims against Intermec including allegations of infringement by Intermec of two Palm patents. Palm seeks compensatory damages and to permanently enjoin Intermec from future infringement. A combined claim construction and summary judgment hearing was held in January 2010 but no rulings have been issued. No trial date is currently scheduled.

On December 19, 2008, Saxon Innovations, LLC (“Saxon”) filed a complaint with the U.S. International Trade Commission (the “ITC”) against Palm and others alleging infringement of two Saxon patents, U.S. Patent Nos. 5,235,635 (the “’635 patent”) and 5,530,597 (the “’597 patent”) (a third Saxon patent, U.S. Patent No. 5,608,873 (the “’873 patent”), was identified in the complaint but not asserted against Palm) and seeking to bar importation into the U.S. and subsequent sale of certain electronic devices, such as smartphones, cellular telephones, and television remote controls, that contain various third-party applications processors. The ITC instituted Certain Electronic Devices, Including Handheld Wireless Communications Devices, Investigation No. 337-TA-667 (the “667 Investigation”) on January 15, 2009. On February 18, 2009, Administrative Law Judge Robert K. Rogers Jr. (“ALJ Rogers”) denied Saxon’s motion to amend its complaint to add Samsung Electronics Co., Ltd, Samsung Electronics America, Inc., and Samsung Telecommunications America, LLP (collectively, “Samsung”) as respondents in the pending 667 Investigation. Shortly thereafter, on February 23, 2009, Saxon filed a complaint with the ITC alleging infringement of the three above patents against Samsung. The ITC instituted Certain Electronic Devices, Including Handheld Wireless Communications Devices, Investigation No. 337-TA-673 (the “673 Investigation”), against Samsung on March 25, 2009. On April 23, 2009, ALJ Rogers issued Order No. 8 in the pending 667 Investigation granting the Commission Investigative Staff’s motion to consolidate the 673 Investigation with the 667 Investigation (the “Consolidated Investigation”), and extended the target date for completion of the Consolidated Investigation to June 24, 2010. On May 14, 2009, Saxon filed a motion for leave to amend its complaint against Palm to allege infringement of the ’873 patent. ALJ Rogers denied Saxon’s motion on June 11, 2009. On June 23, 2009, Saxon filed a motion to partially terminate the Consolidated Investigation by withdrawing all allegations related to the ’635 patent. ALJ Rogers granted Saxon’s motion on July 8, 2009 leaving only the accusation of infringement of the ’597 patent against Palm in the Consolidated Investigation. Presently, the two remaining respondents in the Consolidated Investigation are Palm and Samsung. ALJ Rogers conducted a 7 day hearing commencing on October 26, 2009. In January 2010 the parties reached a settlement and Saxon petitioned the ITC to terminate the investigation which the ITC granted on March 2, 2010. The settlement reached was on terms which are not material to Palm’s financial results.

On June 26, 2006, St. Clair Intellectual Property Consultants, Inc. (“St. Clair”) filed suit against Palm and others in the United States District Court for the District of Delaware entitled, St. Clair Intellectual Property Consultants, Inc. v. LG Electronics Inc., et al (the “Palm Case”). St. Clair alleges direct and indirect infringement of four patents related to digital camera technology present on defendants’ devices and seeks unspecified compensatory and treble damages and to enjoin defendants from future infringement. On November 2, 2006, the Court stayed the action pending resolution of a California state court dispute between Kodak and St. Clair regarding ownership of the asserted patents. The district court lifted the stay on October 16, 2008, after the state court case settled pursuant to a memorandum of understanding between the parties conferring ownership of the asserted patents on St. Clair. Magistrate Judge Leonard P. Stark held a claim construction hearing on June 11, 2009 and issued his Report And Recommendation Regarding Claim Construction on November 13, 2009. Judge Joseph J. Farnan adopted Judge Stark’s Report And Recommendation on February 24, 2010. In March 2010, Defendants’ moved the Court to stay the Palm Case pending the appeal to the Court of Appeals for the Federal Circuit by Fuji Photo Film Co. of an action brought by St. Clair in 2003 (the “Fuji Case”). In the Fuji Case, St. Clair asserted the same patents at issue in the current action against Palm and received substantially the same claim construction as issued in the Palm Case. Fuji’s appeal includes challenges to pertinent elements of the claim construction adopted by Judge Farnan in both the Fuji Case and the Palm Case. Defendants’ in the Palm Case also moved the Court to certify the Court’s claim construction order so that defendants could file an immediate appeal to the Federal Circuit. Both motions are in process. A September 7, 2010 trial date has been set in St. Clair’s action against Palm.

As of February 28, 2010, Palm had derivative liabilities resulting from the sale of the Series C Units to Elevation in January 2009, which were in the form of the Detachable Warrants and the Conversion Feature. These derivative liabilities were recorded on June 1, 2009 in connection with the adoption of a new accounting standard which changed the requirements for instruments to be considered linked to an entity’s own common stock. As of February 28, 2010, Palm had outstanding foreign exchange forward contracts with a notional value of $5.4 million. Palm did not have any asset or liability derivatives as of May 31, 2009. As of February 28, 2009, Palm had a derivative asset which resulted from one of the provisions of the sale of the Series C Units. This provision allowed for Palm to elect, until March 31, 2009, to cause Elevation to sell up to 49,000 Series C Units to other investors on the same or better terms than on which Elevation acquired the Series C Units, with Palm receiving any net cash proceeds realized upon such a sale, or the Transfer Right. Palm exercised its Transfer Right during the fourth quarter of fiscal year 2009.

As of February 28, 2010, Detachable Warrants allowing holders to purchase 3.6 million shares of Palm’s common stock at an exercise price of $3.25 per share were outstanding and exercisable. The Detachable Warrants expire on October 24, 2014. The exercise price is subject to customary anti-dilution adjustments, including for stock splits, dividends, distributions, rights issuances and certain tender offers or exchange offers. An instrument is considered linked to an entity’s own stock if the settlement amount is equal to the difference between the fair value of a fixed number of the entity’s shares and a fixed monetary amount. The Detachable Warrants contain a “down-round provision” which would cause the exercise price to decrease if any of the dilution activities described above were to occur at a price less than $3.25 per share, limited to a floor of $2.49 per share, subject to customary anti-dilution provisions, which, effective June 1, 2009, precludes the consideration of the Detachable Warrants as instruments which are linked to Palm’s common stock. As a result, these Detachable Warrants represent a derivative liability, which is adjusted to estimated fair value at the end of each reporting period over the term of the warrants.

As of February 28, 2010, 51,000 shares of Palm’s Series C Preferred Stock were outstanding which have a conversion price of $3.25 per share. The conversion price of the Series C Preferred Stock is subject to customary anti-dilution adjustments, including for stock splits, dividends, distributions, rights issuances and certain tender offers or exchange offers. The Conversion Feature contains a “down-round provision” which would cause the conversion price to decrease, limited to a floor of $2.5185 per share, subject to customary anti-dilution provisions, if Palm were to issue or sell additional shares of Palm common stock for a price lower than the conversion price in effect at the time of the issuance or sale and for total consideration greater than $30 million. Effective June 1, 2009, this “down-round provision” precludes the consideration of the Conversion Feature as an instrument which is linked to Palm’s common stock. As a result, the Conversion Feature represents a derivative liability, which is adjusted to estimated fair value at the end of each reporting period until the down-round provision expires on January 9, 2011.

As a result of adopting a new accounting standard which changed the requirements for instruments to be considered linked to an entity’s own common stock, Palm recorded an adjustment to beginning accumulated deficit of $172.1 million, which is based on the amount that would have been recorded had Palm recorded a liability for the Detachable Warrants and Conversion Feature at the issuance date of the Series C Units, or January 9, 2009. Using the closing price for Palm’s common stock on June 1, 2009, the first day of Palm’s fiscal year 2010, or $12.19, resulted in an estimated fair value of the Detachable Warrants of $36.2 million and the Conversion Feature of $171.4 million. The fair value of the Detachable Warrants was estimated using the Black-Scholes option valuation model with the following assumptions: contractual term of 5.4 years, a risk-free interest rate of 2.3%, a dividend yield of 0%, and volatility of 71%. Using the closing price of Palm’s common stock on June 1, 2009 of $12.19, the fair value of the Conversion Feature was estimated using the Cox-Ross-Rubinstein binomial stock price model with the following assumptions: contractual redemption date of October 24, 2014, conversion price of $3.25, forced conversion price of $9.75, a dividend yield of 0% and Palm’s estimated risk-adjusted discount rate.

The impact of adopting this new accounting standard for instruments linked to an entity’s own common stock is summarized in the following table (in thousands):

As of the end of the period, to estimate the fair value of the Detachable Warrants, Palm uses the Black-Scholes valuation model and the following assumptions: the closing price for Palm’s common stock, or $6.09, contractual term of 4.7 years, a risk-free interest rate of 2.3%, a dividend yield of 0%, and volatility of 64%. The change in the estimated fair value was recognized as a non-cash gain on series C derivatives in Palm’s condensed consolidated statements of operations, with a corresponding change in the liability.

As of the end of the period, to estimate the fair value of the Conversion Feature, Palm uses the Cox-Ross-Rubinstein binomial stock price model, which is utilized to incorporate more complex variables than closed-form models such as the Black-Scholes option valuation model described above, and the following assumptions: the closing price for Palm’s common stock, or $6.09, contractual redemption date of October 24, 2014, conversion price of $3.25, forced conversion price of $9.75, a dividend yield of 0% and Palm’s currently estimated risk-adjusted discount rate. The change in the estimated fair value was recognized as a non-cash gain on series C derivatives in Palm’s condensed consolidated statements of operations, with a corresponding change in the liability.

A summary of the fair value of Palm’s derivatives is as follows (in thousands):

A summary of the effect of Palm’s derivatives on the condensed consolidated statements of operations is as follows (in thousands):

Foreign Exchange Forward Contracts: Palm uses foreign exchange forward contracts to mitigate transaction gains and losses generated by certain foreign currency denominated monetary assets and liabilities, the result of which partially offsets its market exposure to fluctuations in foreign currencies. Changes in the fair value of these foreign exchange forward contracts are largely offset by re-measurement of the underlying assets and liabilities. Palm recorded a net gain (loss) of $(1.7) million and $(0.9) million for the three and nine months ended February 28, 2010, respectively, and $0.6 million and $2.0 million for the three and nine months ended February 28, 2009, respectively, from the revaluation of foreign denominated assets and liabilities, which is included in operating loss in the condensed consolidated statements of operations. Included in these amounts are Palm’s recognized net gains (losses) on its foreign exchange forward contracts of $0.3 million for both the three and nine months ended February 28, 2010 and $0.4 million and $2.9 million for the three and nine months ended February 28, 2009, respectively. Because of the short duration of these contracts in accordance with Palm’s policy, there is no impact to other comprehensive income (loss) for the current or prior-year periods.

In January 2009, Palm sold the Series C Units to Elevation for an aggregate of $100 million. Prior to the sale of the Series C Units, Elevation owned 26% of Palm’s voting shares on an as-converted basis and two of Elevation’s managing directors, Fred D. Anderson and Roger B. McNamee, were members of Palm’s board of directors. Since that transaction, Elevation has continued to own at least 30% of Palm’s voting shares on an as-converted and as-exercised basis and Messrs. Anderson and McNamee have continued to serve on Palm’s board of directors. In March 2009, Palm exercised its right to have Elevation sell 49% of the shares underlying its Series C Units investment, along with newly issued shares, to other investors in a $159.6 million underwritten public offering, for which Palm paid Elevation $49.0 million and from which Palm received the net cash proceeds of approximately $103.5 million. Elevation purchased a total of 8.2 million shares in that offering for an aggregate purchase price of $49.0 million, at the public offering price of $6.00 per share. Elevation purchased an additional 2.2 million shares and Mr. McNamee purchased 0.1 million shares in Palm’s underwritten public offering in September 2009 for an aggregate purchase price of $35.0 million and $2.0 million, respectively, at the public offering price of $16.25 per share.

The following discussion should be read in conjunction with the condensed consolidated financial statements and notes to those financial statements included in this Form 10-Q. Our 52-53 week fiscal year ends on the Friday nearest to May 31, with each fiscal quarter ending on the Friday generally nearest August 31, November 30 and February 28. For presentation purposes, the periods are shown as ending on February 28 and May 31.

We may make statements in this quarterly report, such as statements regarding our plans, objectives, expectations and intentions, that are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements generally are identified by the words “believes,” “expects,” “anticipates,” “estimates,” “intends,” “strives,” “strategy,” “plan,” “may,” “will,” “would” and similar expressions and include, without limitation, statements regarding our intentions, expectations and beliefs regarding: our ability to build a more diversified carrier base and product portfolio; mobile products and the mobile product market; our leadership position in mobile products; market dynamics and whether they are favorable to us; our market share; competition and our competitive advantages; our ability to grow our business; our revenue, gross margins, operating income, operating results, sales and marketing expenses, profitability, cash flows and cash consumption (including with respect to the fourth quarter of fiscal year 2010); our ability to improve sell-through of our mobile products; our ability to monitor our operating expenses and keep them in line with our projected sales volumes; pricing and average selling prices for our products; our future cash flow expectations; our corporate strategy; growth and drivers of growth in the smartphone market; consumer demand for, and the drivers of consumer demand for, mobile devices; capitalizing on industry trends and dynamics; economic trends and market conditions; international, political and economic risk; the development and introduction of new products and services; our product offerings and delivery of sophisticated product functionality; our ability to develop and be identified with innovative, easy-to-use mobile products; our ability to respond to customer needs; our customer-focused design approach; customer loyalty and connections to the Palm brand; our ability to create customers’ preference for our products; acceptance of our smartphone products; market demand for our products; the resources that we and our competitors devote to development, promotion and sale of products; our expectations regarding our product lines; the ability of Palm webOS to support a multi-year roadmap of mobile devices and services; the ability of Palm webOS to be a key differentiator and competitive advantage; the importance of owning and integrating the operating platform and device hardware; our product mix; our ability to broaden and expand our wireless carrier relationships; revenue and credit concentration with our largest customers, including Sprint; concentration of bad debt risks and allowances for doubtful accounts; our ability to cause application providers to provide applications for our products; the ability of developers to easily develop products and services to complement Palm webOS; our infrastructure for delivery of Palm webOS software applications and support to end users; the filing of patent applications and issuance of patents; the proliferation of companies acquiring or developing patents to assert offensively; laws, standards and other regulatory requirements and their application to our business; royalty obligations; inventory, channel inventory levels and inventory valuation; repair costs; rights of return; rebates and price protection; product warranty accrual and liability; our forecasted product and manufacturing requirements; the ability of our suppliers to meet our quantity, quality and cost requirements; seasonality in sales of our products; the adequacy of our properties, facilities and operating leases and our ability to secure additional space; our tax strategy; realization and recoverability

of our net deferred tax assets; the need to increase our deferred tax asset valuation allowance; utilization of our net operating loss and tax credit carryforwards; our belief that our cash, cash equivalents and short-term investments will be sufficient to satisfy our anticipated cash requirements and debt service or repayment obligations; the necessity or advisability of seeking additional funding; the effects of expansion; acquisition opportunities and our evaluation of such opportunities; our stock repurchase plans; impairment charges in connection with our investments in auction rate securities; the liquidity of, offers relating to, holding periods for and our ability and intent to hold our auction rate securities; the timing and completion of restructuring actions; compensation and other expense reductions; dividends; interest rates; the timing and amount of our cash generation and cash flows; our use of options, restricted stock and restricted stock units; unrecognized compensation cost under our stock plans; stock price volatility; option exercise behavior under our stock plans; vesting, terms and forfeiture of our equity awards; our stock-based compensation valuation models; our defenses to, and the effects and outcomes of, legal proceedings and litigation matters; provisions in our charter documents, Delaware law and a Stockholders’ Agreement and the potential effects of a stockholder rights plan; our relationship with Elevation; our debt obligations, the related interest expense for future periods and the effect of any non-compliance; timing of revenue recognition and direct cost of revenues for Palm webOS products; and the potential impact of our critical accounting policies and changes in financial accounting standards or practices. These statements are subject to risks and uncertainties that could cause actual results and events to differ materially. A detailed discussion of these and other risks and uncertainties that could cause actual results and events to differ materially from such forward-looking statements is included in the section entitled “Risk Factors” elsewhere herein. We undertake no obligation to update forward-looking statements to reflect events or circumstances occurring after the date of this report.

Palm, Inc. is a provider of mobile products that enhance the lifestyle of individual users and business customers worldwide. Palm creates thoughtfully integrated technologies that better enable people to stay connected with their family, friends and colleagues, access and share information that matters to them most and manage their daily lives on the go. Palm’s products for consumers, mobile professionals and businesses currently include Palm Pre, Palm Pixi, Treo and Centro smartphones, as well as software, services and accessories. Palm products are sold through select Internet, retail, reseller and wireless carrier channels, and at Palm online stores.

Our goal is to establish Palm as a leading global mobile device company. To achieve this, we focus on the following strategic objectives: differentiate our products through inspiring design and the seamless integration of hardware, software and services to deliver a delightful user experience; develop a robust Palm webOS ecosystem of application developers that provide consumers with a range of products and services to enhance their Palm devices; build a brand synonymous with innovative and intuitive mobile devices; and maintain a flexible, outsourced business model. Management periodically reviews certain key business metrics in order to evaluate our strategy and operational efficiency, allocate resources and maximize the financial performance of our business. These key business metrics include the following:

Revenues—Management reviews many elements to understand our revenue streams. These elements include unit shipments and average selling prices. Revenues are impacted by unit shipments and variations in average selling prices. Unit shipments are determined by supply availability, timing of wireless carrier certification, end user and channel demand and channel inventory. We monitor average selling prices throughout the product life cycle, taking into account market demand and competition.

Margins—We review gross margin in conjunction with revenues to maximize operating performance. We strive to improve our gross margin through disciplined cost and product life-cycle management, supply/demand management and control of our warranty and technical support costs. To achieve desired operating margins, we also monitor our operating expenses closely in an effort to keep them in line with our projected sales volumes.

Cash flows—We strive to convert operating results to cash. To that end, we carefully manage our working capital requirements through balancing accounts receivable and inventory with accounts payable. We monitor our cash balances to maintain cash available to support our operating, investing and financing requirements.

We believe the mobile lifestyle solutions market dynamics are generally favorable to us. The high-speed wireless networks which enable true “always-on” connectivity are fueling the growth of the market for smartphone devices. We are able to work closely with wireless carriers to deploy advanced wireless data products that take advantage of their wireless data networks and the proliferation of digital content.

Our current focus is on smartphones, which we define as mobile phones with advanced voice, data and internet capabilities. The market for smartphones is expected to continue to grow considerably as consumers replace their voice-centric cellphones with smartphones. At the same time, the smartphone market is becoming increasingly competitive. The proliferation of new smartphone products is making it more difficult to differentiate our products and to achieve appropriate support from wireless carriers and adoption by consumers. Recently, we have experienced, and our current revenues have been impacted by, slower than expected consumer adoption of our products that resulted in lower than expected order volumes from wireless carriers and the deferral of orders to future periods. We are working closely with our wireless carrier partners to improve sell-through, and we continue to believe that over time we have the potential to increase Palm’s share of the growing smartphone market by successfully executing against our strategic objectives.

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America requires management to make judgments, assumptions and estimates that affect the amounts reported in Palm’s condensed consolidated financial statements and accompanying notes. We base our estimates and judgments on historical experience and on various other assumptions that we believe are reasonable under the circumstances. However, these estimates and judgments are subject to change and the best estimates and judgments routinely require adjustment. The amounts of assets and liabilities reported in our balance sheets and the amounts of revenues and expenses reported for each of our fiscal periods are affected by estimates and assumptions which are used for, but not limited to, the accounting for revenue recognition, warranty and technical service costs, royalty obligations, restructurings, inventory, stock-based compensation, non-current auction rate securities, series C derivatives and income taxes. Actual results could differ from these estimates. The following critical accounting policies are significantly affected by judgments, assumptions and estimates used in the preparation of our condensed consolidated financial statements.

Revenues are recognized when earned in accordance with applicable accounting standards and guidance. We recognize revenues from sales of mobile devices under the terms of the applicable customer agreement upon transfer of title to the customer, net of estimated returns, provided that the sales price is fixed or determinable, collection is determined to be probable and no significant obligations remain. We expect to periodically provide services and unspecified software free of charge to customers of Palm webOS products. These services and unspecified software, along with the tangible smartphone product, represent multiple deliverables under our sales arrangements for Palm webOS products.

We currently have two deliverables in connection with our arrangements for the sale of Palm webOS products. The first deliverable is the Palm webOS smartphone product, which represents both the tangible product and the included software that functions with the hardware to provide the product’s essential functionality, and includes warranty and related services. Revenues and related direct product cost of revenues, including estimates of liability for warranty and related service costs, are recognized at the time of delivery. The second deliverable represents a subscription to future services and unspecified software relating to Palm webOS products that end users have the right to receive on a when-and-if-available basis. Revenues associated with the second deliverable are recorded as deferred revenues and recognized ratably on a straight-line basis over the estimated economic life of the associated Palm webOS smartphone product, which is currently 24 months. If we offer specified upgrade rights to our customers in connection with Palm webOS products for future delivery, this will represent a separate deliverable, and we will determine the selling price of this separate deliverable and defer commencement of revenue recognition for the specified upgrade until the future obligation is fulfilled or the right to the specified upgrade expires.

We are not able to establish vendor-specific objective evidence, or VSOE, of selling price for the multiple deliverables in Palm webOS arrangements as the deliverables are not sold separately. Third-party evidence, or TPE, of selling price is determined based on competitor prices for substantially similar deliverables when sold separately. Generally, our go-to-market strategy differs from that of our peers and our offering contains a significant level of customization and differentiation such that the comparable pricing of products with similar functionality cannot be obtained. Furthermore, we are unable to reliably determine that similar competitor products’ selling prices are on a stand-alone basis. Therefore, we are not able to determine TPE. We allocate the revenues associated with each of our two deliverables based on their respective estimated selling prices, or ESP. The ESP represents the price at which we would transact a sale if each deliverable were sold on a stand-alone basis. We established the ESP for each of our deliverables by considering multiple factors, including, but not limited to, cost-plus model analyses allowing for internal costs and/or margin objectives, management’s pricing strategies and the competitive landscape. Significant judgment was used in determining the ESP, including expectations about future shipment volumes, product costs, assumptions regarding margin objectives, an assessment of the competitive landscape, and our assumptions regarding the purchasing preferences of our end users, including our belief that our end users would not be willing to pay more than a nominal amount for future services and unspecified software on a when-and-if-available basis. We regularly review our selling price assumptions and maintain internal controls over the establishment and updates of these estimates.

Our ESP for the subscription for future deliverables falls within a relatively narrow range of value, subject to the estimates described above. For each of the fiscal quarters ended February 28, 2010, November 30, 2009, August 31, 2009 and May 31, 2009, our ESP was estimated at $22 per unit of Palm webOS products, which fell within this range and represents our best estimate of selling price for these periods. If our ESP for the subscription for future deliverables had been $4 or 20% higher or lower, our revenues for the nine months ended February 28, 2010 would have decreased or increased by $8 million as compared to our revenues of $984.2 million.

Sales to our customers are subject to agreements allowing for limited rights of return, price protection and rebates. Accordingly, revenues are reduced for our estimates of liability related to these rights. The estimate for returns is recorded at the time the related sale is recognized and is adjusted periodically based on historical rates of returns and other related factors. The reserves for price protection and rebates are recorded at the time these programs are offered. Price protection is estimated based on specific programs, expected usage and historical experience. Rebates are estimated based on specific programs, actual wireless carrier purchase volumes and the expected percentage of customers that will redeem their rebates, which is estimated based on historical experience. Rebate estimates are refined over the program period as actual results are experienced. We have accrued rebate obligations of $85.8 million as of February 28, 2010 which were included in other accrued liabilities. Actual claims for rebates, returns and price protection may vary over time and could differ from our estimates.

Revenues from software arrangements with end users of our devices are recognized upon delivery of the software, provided that collection is determined to be probable and no significant obligations remain.

We accrue for product warranty and related service costs based on historical rates of usage as a percentage of shipment levels and the expected repair cost per unit, service policies and our experience with products in production or distribution. If we experience claims or significant changes in costs of services, such as third-party vendor charges, materials or freight, which could be higher or lower than our historical experience, our cost of revenues could differ from our estimates.

We accrue for royalty obligations to certain technology and patent holders based on (1) unit shipments of our products, (2) a percentage of applicable revenues for the net sales of products using certain software technologies or (3) a fully paid-up license fee, all as determined in accordance with the applicable license agreements. Where agreements are not finalized, accrued royalty obligations represent management’s current best estimates using appropriate assumptions and projections based on negotiations with third-party licensors. As of February 28, 2010, we had estimated royalty obligations of $47.9 million which were reported in other accrued liabilities. While the amounts ultimately agreed on may be more or less than the current accrual, management does not believe that finalization of the agreements would have had a material impact on the amounts reported for our financial position as of February 28, 2010 or on the results reported for the three or nine months then ended; however, the effect of finalization of these agreements in the future may be significant to the period in which recorded.

Effective for calendar year 2003, we record liabilities for costs associated with exit or disposal activities when the liability is incurred. Prior to calendar year 2003, we accrued for restructuring costs when we made a commitment to a firm exit plan that specifically identified all significant actions to be taken. We record initial restructuring charges based on assumptions and related estimates that we deem appropriate for the economic environment at the time these estimates are made. We reassess restructuring accruals on a quarterly basis to reflect changes in the costs of the restructuring activities, and we record new restructuring accruals as liabilities are incurred. Actual costs could differ from our estimates.

Inventory purchases are based on forecasts of future demand. We value our inventory at the lower of standard cost (which approximates first-in, first-out cost) or market. If we believe that demand no longer allows us to sell our inventory above cost or at all, we write down that inventory to market or write-off excess inventory levels. If customer demand subsequently differs from our forecasts, requirements for inventory write-offs could differ from our estimates.

In accordance with our policy, we also accrue the cost for any inventory component purchase commitments with third-party manufacturers and component suppliers that are determined to be in excess of anticipated demand based on forecasted product sales. If customer demand subsequently differs from our forecasts, requirements for inventory component purchases could differ from our estimates of the cost of the purchase commitments. As of February 28, 2010 we had estimated inventory component purchase commitments in excess of anticipated demand of $53.1 million which were reported in other accrued liabilities.

Stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense on a straight-line basis over the requisite service period, which is generally the vesting period.

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

There are significant differences among valuation models and factors such as volatility and forfeitures, and there is a possibility that we will adopt different valuation models in the future. This may result in a lack of consistency between periods and materially affect the fair value estimate of share-based payments. It may also result in a lack of comparability with other companies that use different models, methods and assumptions.

We hold a variety of interest-bearing auction rate securities, or ARS, that represent investments in pools of assets, including preferred stock, collateralized debt obligations and credit derivative products. Our investments in ARS do not currently have a readily determinable market value because they are not currently trading nor have we observed sufficient market inputs. As of February 28, 2010, the total par value of our investments in ARS was $54.7 million and the estimated fair value was $4.1 million.

We estimate the fair value of our investments in ARS using a discounted cash flow model which incorporates the total expected future cash flows of each security and an estimated market-required rate of return. Expected future cash flows are calculated using estimates for interest rates, timing and amount of cash flows and expected holding periods of the ARS. Our most significant assumptions made in the present value calculations were the estimated weighted average lives for the collateral underlying each individual ARS and the estimated required rates of return used to discount the estimated future cash flows over the estimated life of each security. When the expected future cash flow from a security is less than our amortized cost, this represents a credit loss, which is recognized as a pre-tax other-than-temporary impairment charge. Estimates used in the discounted cash flow model represent management’s best estimates using appropriate assumptions and projections at the time.

The valuation of our investment portfolio is subject to uncertainties that are difficult to predict. Factors that may impact its valuation include changes to credit ratings of the securities as well as to the underlying assets supporting those securities, rates of default of the underlying assets, underlying collateral value, discount rates, liquidity and ongoing strength and quality of credit markets.

In January 2009, we sold units, or the Series C Units, to Elevation Partners, L.P., or Elevation, each of which consists of one share of our series C redeemable convertible preferred stock, or Series C Preferred Stock, and a warrant exercisable for the purchase of 70 shares of our common stock, or the Detachable Warrants. In connection with our adoption of a new accounting standard effective June 1, 2009 which changed the requirements for instruments to be considered linked to an entity’s own stock, the Detachable Warrants and the conversion feature of the Series C Preferred Stock, or the Conversion Feature, were recorded as derivative liabilities. An instrument is considered linked to an entity’s own stock if the settlement amount is equal to the difference between the fair value of a fixed number of the entity’s shares and a fixed monetary amount. The Detachable Warrants and the Conversion Feature each contain a “down-round provision” which would cause the exercise price and conversion price, respectively, to decrease, if certain types of dilutive activities were to occur, limited to a pre-determined floor, which precludes the consideration of the Detachable Warrants and the Conversion Feature as instruments which are linked to our common stock. As a result, the Detachable Warrants and the Conversion Feature represent derivative liabilities, which are adjusted to estimated fair value at the end of each reporting period over the contractual term of the derivatives. The change in fair value is recorded as a gain (loss) on series C derivatives in our condensed consolidated statements of operations.

To estimate the fair value of the Detachable Warrants, we use the Black-Scholes valuation model, which is affected by our stock price as well as assumptions regarding a number of complex variables. These variables include our expected stock price volatility over the term of the warrants, expected risk-free interest rate and expected dividends. To estimate the fair value of the Conversion Feature, we use the Cox-Ross-Rubinstein binomial stock price model, which was utilized to incorporate more complex variables than closed-form models such as the Black-Scholes valuation model. These variables include our forced conversion price, expected dividends, and risk-adjusted discount rate.

There are significant differences among valuation models, and there is a possibility that we will adopt different valuation models in the future. This may result in a lack of consistency between periods and materially affect the fair value estimate of our derivative liabilities. It may also result in a lack of comparability with other companies that use different models, methods and assumptions. Additionally, because the estimated fair value of these derivatives is affected by our stock price, fluctuations in our stock price – which has historically been volatile—may significantly affect our financial results.

Our deferred tax assets are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax bases of assets and liabilities, and for operating losses and tax credit carryforwards. A valuation allowance reduces deferred tax assets to estimated realizable value, which assumes that it is more likely than not that we will be able to generate sufficient future taxable income in certain tax jurisdictions to realize the net carrying value.

The valuation allowance is reviewed quarterly and will be maintained until sufficient positive evidence exists to support the reversal of the valuation allowance.

We recognize the tax liability for uncertain income tax positions on the income tax return based on a two-step process. The first step is to determine whether it is more likely than not that each income tax position would be sustained upon audit. The second step is to estimate and measure the tax benefit as the amount that has a greater than 50% likelihood of being realized upon ultimate settlement with the tax authority. Estimating these amounts requires us to determine the probability of various possible outcomes. We evaluate these uncertain tax positions on a quarterly basis. This evaluation is based on the consideration of several factors, including changes in facts or circumstances, changes in applicable tax law, settlement of issues under audit and new exposures. If we later determine that our exposure is lower or that the liability is not sufficient to cover our revised expectations, we adjust the liability and effect a related change in our tax provision during the period in which we make such determination.

Our key critical accounting policies are periodically reviewed with the audit committee of the board of directors.

We primarily derive our revenues from sales of our smartphones and accessories. Revenues for the three months ended February 28, 2010 increased 286% from the three months ended February 28, 2009. Smartphone revenues were $349.7 million for the three months ended February 28, 2010, an increase of 351% from $77.5 million for the three months ended February 28, 2009. Handheld revenues decreased $12.9 million as we wound down our handheld product line in order to focus our efforts on our new Palm webOS smartphone products. Smartphone revenues during the three months ended February 28, 2009 were derived from sales of our legacy smartphones and were not impacted by the updates to the revenue accounting standards.

During the three months ended February 28, 2010, net smartphone units shipped were 960,000 units at an average selling price of $367 per unit. During the three months ended February 28, 2009, net smartphone units shipped were 330,000 units at an average selling price of $233 per unit. Smartphone revenues were favorably impacted by an increase of 315 percentage points resulting from the higher net device unit shipments and accessories sales and an increase of 57 percentage points resulting from an increase in average selling prices. This net increase was partially offset by the deferral of revenues related to the subscription for future services and unspecified software related to Palm webOS products under ratable revenue recognition accounting, which resulted in the deferral of revenues representing 21 percentage points. The increase in net smartphone unit shipments is primarily a result of the launches of Palm Pre Plus and Palm Pixi Plus in the United States. The increase in our average selling price is primarily the result of the introduction of our Palm Pre and Palm Pre Plus smartphone products, which carry higher average selling prices than our legacy smartphone products.

International revenues were 4% of worldwide revenues for the three months ended February 28, 2010, compared with 15% for the three months ended February 28, 2009.

Of the 286% increase in worldwide revenues for the three months ended February 28, 2010 as compared to the three months ended February 28, 2009, 284 percentage points resulted from an increase in United States revenues and 2 percentage points resulted from an increase in international revenues. The effect of accounting for the subscription for future services and unspecified software related to Palm webOS products under ratable revenue recognition accounting resulted in the deferral of revenues representing 18 percentage points in the United States and had no impact internationally. This deferral was more than offset by an increase in our worldwide invoiced shipments of 304% for the three months ended February 28, 2010 as compared to the three months ended February 28, 2009, of which 302 percentage points resulted from an increase in the United States and 2 percentage points resulted from an increase internationally. These increases were primarily the result of increases in average selling prices in both regions and an increase in net device units shipped in the United States. Average selling prices for our units increased 82% internationally and 54% in the United States during the three months ended February 28, 2010 as compared to the three months ended February 28, 2009. The increase in average selling prices in each region is primarily the result of the introductions of Palm Pre and Palm Pre Plus, which carry higher average selling prices. Net device units shipped increased 188% in the United States and decreased 38% internationally during the three months ended February 28, 2010 as compared to the three months ended February 28, 2009. The increase in net device unit shipments in the United States is primarily a result of the launches of Palm Pre Plus and Palm Pixi Plus. The decrease in net device unit shipments internationally is primarily due to lower unit volumes as a result of reduced demand for our legacy smartphone products.

Revenues for the nine months ended February 28, 2010 increased 52% from the nine months ended February 28, 2009. Smartphone revenues were $981.3 million for the nine months ended February 28, 2010, an increase of 69% from $582.3 million for the nine months ended February 28, 2009. Handheld revenues decreased $63.9 million as we wound down our handheld product line in order to focus our efforts on our new Palm webOS smartphone products. Smartphone revenues during the nine months ended February 28, 2009 were derived from sales of our legacy smartphones and were not impacted by the updates to the revenue accounting standards.

During the nine months ended February 28, 2010, net smartphone units shipped were 2,567,000 units at an average selling price of $387 per unit. During the nine months ended February 28, 2009, net smartphone units shipped were 2,055,000 units at an average selling price of $282 per unit. Smartphone revenues were favorably impacted by an increase of 39 percentage points resulting from the higher net device unit shipments and accessories sales and an increase of 37 percentage points resulting from the increase in average selling prices. This net increase was partially offset by the deferral of revenues related to the subscription for future services and unspecified software related to Palm webOS products under ratable revenue recognition accounting, which resulted in the deferral of revenues representing 7 percentage points. The increase in net device unit shipments is primarily a result of the launches of our Palm webOS products during the first nine months of fiscal year 2010. The increase in our average selling price is primarily the result of the introduction of Palm Pre and Palm Pre Plus.

International revenues were 15% of worldwide revenues for both the nine months ended February 28, 2010 and 2009.

Of the 52% increase in worldwide revenues for the nine months ended February 28, 2010 as compared to the nine months ended February 28, 2009, 45 percentage points resulted from an increase in United States revenues and 7 percentage points resulted from an increase in international revenues. The effect of accounting for the subscription for future services and unspecified software related to Palm webOS products under ratable revenue recognition accounting resulted in the deferral of revenues representing 6 percentage points in the United States and 1 percentage point internationally. These deferrals were more than offset by an increase in our worldwide invoiced shipments of 59% for the nine months ended February 28, 2010 as compared to the nine months ended February 28, 2009, of which 51 percentage points resulted from an increase in the United States and 8 percentage points resulted from an increase internationally. These increases were primarily the result of increases in average selling prices in both regions and an increase in net device units shipped in the United States. Average selling prices for our units increased 52% internationally and 42% in the United States during the nine months ended February 28, 2010 as compared to the nine months ended February 28, 2009. The increase in our average selling price in each region is primarily the result of the introduction of Palm webOS products, which carry higher average selling prices. Net device units shipped increased 10% in the United States and decreased 1% internationally during the nine months ended February 28, 2010 as compared to the nine months ended February 28, 2009. The increase in net device units shipped in the United States is primarily a result of the launches of Palm webOS products in the United States. The decrease in net device units shipped internationally is primarily due to a decline in traditional handheld unit shipments as a result of a market-wide decline in consumer demand for handheld products, partially offset by the launches of Palm webOS products during the first nine months of fiscal year 2010.

Our revenues are being impacted by slower than expected consumer adoption of our products that has resulted in lower than expected order volumes from wireless carriers and the deferral of orders to future periods. Given the level of sell-through of our smartphone products by wireless carriers and the timing of shipments delivered to wireless carriers at the end of the third quarter of fiscal year 2010, we currently expect revenues for the fourth quarter of fiscal year 2010 to be substantially lower than revenues in the preceding quarters of fiscal year 2010.

Cost of revenues principally consists of material and transformation costs to manufacture our products, operating system, or OS, costs and other royalty expenses, warranty and technical support costs, freight, scrap and rework costs, the cost of excess or obsolete inventory, supply chain personnel related costs, amortization of acquired technology, depreciation and allocated information technology and facilities costs. Cost of revenues as a percentage of revenues decreased by 8.8 percentage points to 86.6% for the three months ended February 28, 2010 from 95.4% for the three months ended February 28, 2009. Of the decrease in cost of revenues as a percentage of revenues, 16.2 percentage points were primarily the result of the increase in our revenues. We experienced a decrease of 2.1 percentage points as a result of decreased obsolete and excess inventories and reduced scrap and rework costs primarily as a result of a decrease in the inventory of our legacy smartphone products. These decreases were partially offset by an increase of 7.3 percentage points related to increased costs for inventory purchase commitments with third-party manufacturers. During the three months ended February 28, 2010, we recorded cancelation charges of $45.3 million related to inventory purchase commitments in excess of our current forecasted demand. In addition, we experienced an increase of 2.1 percentage points related to warranty costs, primarily as a result of an increase in unit volumes under warranty as compared to the same period last year.

Cost of revenues as a percentage of revenues increased by 0.9 percentage points to 79.4% for the nine months ended February 28, 2010 from 78.5% for the nine months ended February 28, 2009. Of the increase in cost of revenues as a percentage of revenues, 4.3 percentage points were primarily due to the increase in standard costs for our Palm webOS products as well as our efforts to drive sales through pricing actions during the nine months ended February 28, 2010. We experienced an increase of 1.4 percentage points related to increased costs for inventory purchase commitments with third-party manufacturers. During the nine months ended February 28, 2010, we recorded net cancelation charges of $43.8 million related to inventory purchase commitments in excess of our current forecasted demand. These increases in cost of revenues as a percentage of revenues were partially offset by a decrease of 2.5 percentage points related to warranty costs primarily as the result of a lower average per unit repair cost for our Palm webOS smartphone products partially offset by an increase in unit volumes under warranty as compared to the prior year. We experienced a decrease in OS costs and other royalty expenses of 1.4 percentage points as a percentage of revenues primarily due to the shift in mix towards Palm webOS products which carry a lower average OS and other royalty cost per unit than Windows Mobile powered smartphone products, partially offset by an increase as a result of including the amortization of our acquired technology in cost of revenues since the launch of our Palm webOS products during the fourth quarter of fiscal year 2009. We experienced a decrease of 1.1 percentage points as a result of decreased obsolete and excess inventories and reduced scrap and rework costs primarily as a result of a decrease in the inventory of our legacy smartphone products.

We expect gross margins in the fourth quarter of fiscal year 2010 to remain relatively low compared with prior periods of fiscal year 2010.

Sales and marketing expenses consist principally of advertising and marketing programs, salaries and benefits for sales and marketing personnel, sales commissions, travel expenses and allocated information technology and facilities costs. Sales and marketing expenses for the three months ended February 28, 2010 increased 158% from the three months ended February 28, 2009. The decrease in sales and marketing expenses as a percentage of revenues is primarily due to the increase in our revenues. The increase in sales and marketing expenses in absolute dollars is primarily due to the following factors. Direct marketing, advertising and product promotional programs increased $58.8 million as a result of increased marketing efforts surrounding the product and carrier launches in the third quarter of fiscal year 2010. Employee- and travel-related expenses increased $2.9 million primarily due to higher average salary and temporary staffing costs to support our product launches. These increases were partially offset by a decrease in our marketing development expenses with our wireless carrier customers of $2.0 million, primarily as a result of lower carrier revenues related to our legacy smartphone products compared to the prior year. We experienced an increase of $0.1 million in stock-based compensation, primarily as a result of higher weighted-average fair value assumptions.

Sales and marketing expenses for the nine months ended February 28, 2010 increased 62% from the nine months ended February 28, 2009. The increase in sales and marketing expenses as a percentage of revenues and in absolute dollars is primarily due to the following factors. Direct marketing, advertising and product promotional programs increased $105.4 million as a result of increased marketing efforts surrounding the product and carrier launches in the first nine months of fiscal year 2010. This increase was partially offset by a decrease in our marketing development expenses with our wireless carrier customers of $15.9 million, primarily as a result of lower carrier revenues related to our legacy smartphone products compared to the prior year. Employee- and travel-related expenses decreased $1.8 million, primarily resulting from the decrease in our average sales and marketing headcount, partially offset by higher temporary staffing costs to support our product launches. We experienced a decrease of $0.2 million in stock-based compensation, primarily as a result of a lower average balance of outstanding awards compared to the prior year partially offset by higher weighted-average fair value assumptions.

We expect our sales and marketing expenses for the fourth quarter of fiscal year 2010 to be lower than the third quarter of fiscal year 2010 in absolute dollars.

Research and development expenses consist principally of employee-related costs, third-party development costs, program materials, depreciation and allocated information technology and facilities costs. Research and development expenses for the three months ended February 28, 2010 increased 20% from the three months ended February 28, 2009. The decrease in research and development expenses as a percentage of revenues is primarily due to the increase in our revenues. The increase in research and development expenses in absolute dollars is primarily due to the following factors. Employee- and travel-related expenses increased $7.8 million, resulting from an increase in our average research and development headcount. Outsourced engineering, consulting, project material and certification costs increased $0.9 million from the third quarter of fiscal year 2009 as a result of an increase in costs for building preproduction units, partially offset by a decrease in the utilization of third-party development resources. We experienced a decrease of $0.3 million in stock-based compensation, primarily as a result of a lower average balance of outstanding awards compared to the prior year.

Research and development expenses for the nine months ended February 28, 2010 increased 5% from the nine months ended February 28, 2009. The decrease in research and development expenses as a percentage of revenues is due to the increase in our revenues. The increase in research and development expenses in absolute dollars is primarily due to the following factors. Employee- and travel-related expenses increased $6.4 million, primarily as a result of an increase in our average research and development headcount partially offset by lower recruiting and relocation costs. Outsourced engineering, consulting, project material and certification costs increased $1.4 million from the first nine months of fiscal year 2009 as a result of an increase in costs for building preproduction units, partially offset by a decrease in the utilization of third-party development resources. These increases were partially offset by a decrease of $1.5 million in stock-based compensation, primarily as a result of a lower average balance of outstanding awards compared to the prior year.

General and administrative expenses consist principally of employee-related costs, travel expenses and allocated information technology and facilities costs for finance, legal, human resources and executive functions, outside legal and accounting fees, provision for doubtful accounts and business insurance costs. General and administrative expenses for the three months ended February 28, 2010 increased 28% from the three months ended February 28, 2009. The decrease in general and administrative expenses as a percentage of revenues is primarily due to the increase in our revenues. The increase in general and administrative expenses in absolute dollars is primarily due to the following factors. Legal and professional costs increased $2.4 million, primarily as a result of ongoing patent and other litigation defense. We also experienced an increase in employee-related expenses of $1.5 million, primarily due to increased recruiting fees for key management positions and higher variable compensation costs, partially offset by a decrease in our average general and administrative headcount. These increases were partially offset by a decrease in our provision for doubtful accounts of $0.4 million, which is the result of a reduction in our allowance for doubtful accounts taken in the third quarter of fiscal year 2010, reflecting the quality of our accounts receivable while, during the third quarter of fiscal year 2009, we recorded an increase in our allowance for doubtful accounts of $0.2 million. We experienced an increase of $0.4 million in stock-based compensation, primarily as a result of a higher average balance of outstanding awards with higher weighted-average assumptions compared to the same period last year.

General and administrative expenses for the nine months ended February 28, 2010 increased 16% from the nine months ended February 28, 2009. The decrease in general and administrative expenses as a percentage of revenues is primarily due to the increase in our revenues. The increase in general and administrative expenses in absolute dollars is primarily due to the following factors. Legal and professional costs increased $7.7 million, primarily as a result of ongoing patent and other litigation defense. This increase was partially offset by a benefit of $2.2 million recorded upon the completion of a tax audit. We experienced a decrease in employee-related expenses of $0.7 million primarily as a result of a decrease in our average general and administrative headcount. We experienced an increase of $1.4 million in stock-based compensation, primarily as a result of a higher average balance of outstanding awards with higher weighted-average assumptions compared to the same period last year.

The decrease in amortization of intangible assets as a percentage of revenues and in absolute dollars for the three and nine months ended February 28, 2010 is primarily a result of including the amortization of our acquired technology in cost of revenues beginning in the fourth quarter of fiscal year 2009. The acquired technology is included in Palm webOS products, which began shipping in the fourth quarter of fiscal year 2009.

Restructuring charges relate to the implementation of a series of reorganization actions taken to streamline our business. Restructuring charges recorded during the three months ended February 28, 2010 of $0.5 million consist of charges related to restructuring actions taken during the first quarter of fiscal year 2010. Restructuring charges recorded during the three months ended February 28, 2009 of $5.7 million related to restructuring actions taken during the second quarter of fiscal year 2009.

Restructuring charges recorded during the nine months ended February 28, 2010 of $9.8 million consist of charges of $9.7 million related to restructuring actions taken during the first quarter of fiscal year 2010 and net charges of $0.1 million related to restructuring actions taken during the second quarter of fiscal year 2009. Restructuring charges recorded during the nine months ended February 28, 2009 of $13.5 million consist of charges of $13.4 million related to restructuring actions taken during the second quarter of fiscal year 2009 and a net charge of $0.1 million related to prior restructuring actions.

Our first quarter of fiscal year 2010 restructuring actions are expected to be substantially completed by the first quarter of fiscal year 2011. When complete, these actions are expected to result in annual expense reductions of at least $1.5 million related to compensation reductions, all of which are expected to have a positive impact on cash flows in future years. As of February 28, 2010, cash payments totaling $3.7 million related to workforce reorganizations and non-cash charges of $5.2 million related to stock-based compensation had been made related to these actions.

As of February 28, 2010, cash payments totaling $11.8 million related to workforce reductions and non-cash charges of $1.2 million related to stock-based compensation had been made related to this action. In addition, cash payments totaling $0.7 million and non-cash charges totaling $1.5 million related to facilities and discontinued project costs had been made related to this action.

During the third quarter of fiscal year 2009, certain of our smartphone products, with a recorded inventory value of $5.0 million, were stolen from one of our third-party-operated warehouses. As a result, we recorded a casualty loss for this amount in our condensed consolidated statements of operations for the three and nine months ended February 28, 2009. During the fourth quarter of fiscal year 2009 and the third quarter of fiscal year 2010, we received $5.3 million and $3.4 million, respectively, in net cash insurance proceeds covering the loss of the recorded inventory value plus a portion of its selling price in accordance with our insurance policy. As a result, we recorded a net recovery for these amounts in our condensed consolidated statements of operations during the periods in which they were received.

During the first quarter of fiscal year 2009, we received a refund of $1.5 million as a result of a re-negotiation of the purchase price related to the acquisition of patent and patent applications, which occurred during fiscal year 2008. This amount was recognized as a benefit to our condensed consolidated statement of operations at the time of receipt.

Gain (impairment) of non-current auction rate securities, net for the three and nine months ended February 28, 2010 reflects a gain of $7.1 million recognized on the sale of certain of our ARS investments partially offset by impairment charges of $0 and $2.0 million, for the three and nine months ended February 28, 2010, respectively, related to our non-current ARS. During the second quarter of fiscal year 2010, we received notification of a tender offer for certain series of ARS representing investments in pools of credit-linked notes, including those held by us. Upon settlement of the tender offer during the third quarter of fiscal year 2010, we recorded a gain of $7.1 million in our condensed consolidated statements of operations, representing the cash proceeds we received in the sale, including $7.0 million which had been recorded in other comprehensive income during the second quarter of fiscal year 2010.

For the three months ended February 28, 2010, we determined that there was no measurable change in expected future cash flows of our other ARS investments as compared to the expected cash flows as of November 30, 2009. For the nine months ended February 28, 2010, we recorded an impairment charge of $2.0 million as a result of a decrease in expected future cash flows, primarily due to one of our securities no longer providing dividend payments and the further deterioration of collateral underlying the investments. For the three and nine months ended February 28, 2009, the decline in the fair value of our ARS investments was $4.0 million and $20.6 million, respectively, all of which was recognized as a pre-tax other-than-temporary impairment charge. In addition, during the nine months ended February 28, 2009, we concluded that the impairment of certain ARS investments previously considered temporary was other-than-temporary and the associated unrealized losses of $12.5 million were recognized as additional pre-tax impairment of non-current ARS, with a corresponding decrease in accumulated other comprehensive loss.

If the current market conditions deteriorate further we may be required to record additional impairment charges in future quarters related to our ARS investments. We continue to monitor the market for ARS transactions and their impact, if any, on the fair value of our ARS investments.

The decrease in interest (expense) as a percentage of revenues and in absolute dollars is due to a lower average outstanding debt balance and a lower average effective interest rate on that balance for the three and nine months ended February 28, 2010 as compared to the three and nine months ended February 28, 2009.

The decrease in interest income as a percentage of revenues and in absolute dollars is primarily due to lower average interest rates for the three and nine months ended February 28, 2010, as compared to the three and nine months ended February 28, 2009. During the three months ended February 28, 2010 and 2009, the average return we received on our investments was 0.3% and 1.8%, respectively. During the nine months ended February 28, 2010 and 2009, the average return we received on our investments was 0.5% and 2.7%, respectively.

During the three and nine months ended February 28, 2010, our series C derivatives consisted of the Detachable Warrants and the Conversion Feature. These derivative liabilities were recorded on June 1, 2009 in connection with the adoption of a new accounting standard that changed the requirements for instruments considered linked to an entity’s own common stock. During the three and nine months ended February 28, 2009, our series C derivative consisted of the Transfer Right, which we exercised in full during the fourth quarter of fiscal year 2009.

Because the Detachable Warrants and the Conversion Feature contain “down-round provisions,” they are considered derivative liabilities and are adjusted to estimated fair value at the end of each reporting period. As of the first day of the third quarter of fiscal year 2010, the Detachable Warrants and the Conversion Feature had estimated fair values of $31.8 million and $146.9 million, respectively, and, as of February 28, 2010, estimated fair values of $14.8 million and $67.3 million, respectively. For the three months ended February 28, 2010, the change in estimated fair values of our series C derivatives of $96.6 million consisted of the change in estimated fair values of the Detachable Warrants and the Conversion Feature of $17.0 million and $79.6 million, respectively, and was recognized as a non-cash gain on series C derivatives.

As of the first day of fiscal year 2010, the Detachable Warrants and the Conversion Feature had estimated fair values of $36.2 million and $171.4 million, respectively. For the nine months ended February 28, 2010, the change in estimated fair values of our series C derivatives of $125.5 million consisted of the change in estimated fair values of the Detachable Warrants and the Conversion Feature of $21.4 million and $104.1 million, respectively, and was recognized as a non-cash gain on series C derivatives.

As of February 28, 2009, we had not yet exercised our rights under the Transfer Right. Using the closing price for our common stock of $7.24 on that date resulted in an estimated fair value of the derivative asset related to the Transfer Right of $74.0 million using the following assumptions: contractual term of 0.1 years, an average risk-free interest rate of 0.2%, a dividend yield of 0%, and volatility

of 120%. As of January 9, 2009, the date of issuance of the Series C Units, the estimated fair value of the derivative asset related to the Transfer Right was $53.4 million. As a result of this increase in the estimated fair value of the derivative asset related to the Transfer Right, we recognized a gain of $20.6 million in our condensed consolidated statements of operations for the three and nine months ended February 28, 2009.

Because the estimated fair value of these derivatives is affected by our stock price, fluctuations in our stock price—which has historically been volatile—may significantly affect our financial results. Any future increases in Palm’s stock price from period to period will be reflected as a non-cash loss on series C derivatives, and any future decreases in Palm’s stock price will be reflected as a non-cash gain on series C derivatives.

Other income (expense), net for the three and nine months ended February 28, 2010 included realized gains (losses) related to the sale of short-term investments and bank and other miscellaneous charges. Other income (expense), net for the three and nine months ended February 28, 2009 primarily included realized impairment charges related to our corporate debt securities classified within our short-term investments balance and bank and other miscellaneous charges partially offset by a gain recognized on sales of short-term investments.

Palm’s income tax benefit for the three months ended February 28, 2010 represented (0.1)% of pre-tax loss, which includes foreign and state income taxes of $0.2 million which were more than offset by the tax benefit related to a federal refundable credit of $0.3 million. Palm’s income tax benefit for the nine months ended February 28, 2010 represented (0.1)% of pre-tax loss, which includes foreign and state income taxes of $1.8 million which were more than offset by the tax benefit related to a federal refundable credit of $0.8 million and an alternative minimum tax, or AMT, refund claim of $1.2 million.

During the second quarter of fiscal year 2009, we determined that a valuation allowance should be established against our deferred tax assets of $407.4 million, net of tax benefits generated during the second quarter of fiscal year 2009. This assessment considered both positive and negative evidence regarding the realization of the deferred tax assets. During the second quarter of fiscal year 2009, our operating results reflected a cumulative three-year loss after adjusting for the effect of the valuation of our investment in non-current auction rate securities and a one-time gain on the sale of our land. The cumulative three-year loss is considered significant negative evidence which is objective and verifiable. Additional negative evidence we considered at that time included the uncertainty regarding the magnitude and length of the then current economic recession and the highly competitive nature of the smartphone and mobile devices market. Positive evidence that we considered in our assessment at that time included lengthy operating loss carryforward periods, a lack of unused expired operating loss carryforwards in our history and estimates of future taxable income. However, there is uncertainty as to our ability to meet our estimates of future taxable income in order to recover our deferred tax assets in the United States.

Cash and cash equivalents as of February 28, 2010 were $376.3 million, compared to $152.4 million as of May 31, 2009, an increase of $223.9 million. We experienced a net decrease in cash and cash equivalents from operations of $28.9 million resulting from our net loss of $108.3 million for the nine months ended February 28, 2010 and non-cash adjustments of $80.2 million partially offset by changes in assets and liabilities of $159.6 million. Our cash also decreased due to net purchases of short-term investments and restricted investments of $115.1 million, purchases of property and equipment of $19.2 million, debt repayments of $5.1 million,

payments related to the issuance of Series C Units during fiscal year 2009 of $0.8 million and a one-time cash distribution payment related to the recapitalization transaction in October 2007 of $0.3 million to holders of restricted stock awards that vested during the period. These decreases were offset by net cash proceeds of $359.6 million received from an equity issuance during September 2009, $26.2 million received from stock-related activity as a result of the exercise of stock options and other equity awards and sales of certain of our ARS investments for a total of $7.1 million. Fluctuations in exchange rates during the first nine months of fiscal year 2010 for our foreign currency denominated assets and liabilities resulted in an increase in cash flows of $0.4 million for the period.

Cash and cash equivalents as of February 28, 2009 were $130.8 million, compared to $176.9 million as of May 31, 2008, a decrease of $46.1 million. We experienced a $116.1 million net decrease in cash and cash equivalents from operations resulting from our net loss of $640.7 million, which was partially offset by non-cash items of $474.4 million and changes in assets and liabilities of $50.2 million. Our cash and cash equivalents decreased due to debt repayments of $12.5 million, net purchases of short-term investments and restricted investments of $10.4 million, purchases of property and equipment of $9.6 million, and a one-time cash distribution payment related to the recapitalization transaction in October 2007 of $0.3 million to holders of restricted stock awards that vested during the period. Fluctuations in exchange rates during the nine months ended February 28, 2009 for our foreign currency denominated assets and liabilities resulted in a decrease in cash flows of $3.0 million for the period. These decreases were partially offset by net proceeds of $99.2 million received from the issuance of our Series C Units to Elevation in January 2009 and $6.6 million from stock-related activity as a result of the exercise of stock options and other equity awards.

As of February 28, 2010, we held a variety of interest-bearing ARS investments that have failed to settle on their respective settlement dates since fiscal year 2008 and are not currently trading. Consequently, the investments are not currently liquid and we will not be able to access these funds until a future auction of these investments is successful or a buyer is found outside of the auction process. Maturity dates for these ARS investments range from 2015 to 2052. As of February 28, 2010, the total par value of our investments in ARS was $54.7 million and the estimated fair value was $4.1 million.

Our short-term investments are intended to establish a high-quality portfolio that preserves principal, meets liquidity needs, avoids inappropriate concentrations and delivers an appropriate yield in relation to our investment guidelines and market conditions. We anticipate our balances of cash, cash equivalents and short-term investments of $591.9 million as of February 28, 2010 will satisfy our anticipated operating cash requirements and debt service or repayment obligations for at least the next 12 months. Given our revenues outlook for the fourth quarter of fiscal year 2010 and due to the timing of payments to vendors and collections from wireless carriers related to third-quarter activity, we expect cash consumption to be higher during the fourth quarter of fiscal year 2010 than in recent quarters and than our operating results for that period might otherwise indicate. We view the fourth quarter of fiscal year 2010 as an exceptional situation and not representative of our future cash flow expectations.

Net accounts receivable was $104.0 million as of February 28, 2010, an increase of $37.5 million, or 56%, from $66.5 million as of May 31, 2009. Days invoices outstanding, or DIO, of receivables was 26 days and 53 days as of February 28, 2010 and May 31, 2009, respectively. The DIO decreased 27 days primarily as a result of a change in the linearity of our revenues. We ended the third quarter of fiscal year 2010 with a cash conversion cycle of (21) days, a change of (9) days from (12) days as of May 31, 2009. The cash conversion cycle is the duration between the purchase of inventories and services and the collection of the cash for the sale of our products and is a metric on which we have focused as we continue to try to efficiently manage our assets.

Net accounts receivable was $52.7 million as of February 28, 2009, a decrease of $63.7 million, or 55%, from $116.4 million as of May 31, 2008. DIO of receivables was 52 days and 35 days as of February 28, 2009 and May 31, 2008, respectively. The DIO increased 17 days primarily as a result of a change in the linearity in our revenues and customer payment patterns. We ended the third quarter of fiscal year 2009 with a cash conversion cycle of (33) days, a decrease of (27) days from (6) days as of May 31, 2008. The cash conversion cycle decreased 27 days primarily as a result of the change in our days payable outstanding as a result of the decrease in our cost of revenues as compared to the prior year.

In September 2006, our board of directors authorized a stock buyback program to repurchase up to $250.0 million of our common stock at our discretion, depending on market conditions, share price and other factors. The stock repurchase program is designed to return value to our stockholders and minimize dilution from stock issuance. During the three and nine months ended February 28, 2010 and 2009, we did not repurchase any shares of common stock through open market purchases. We currently do not have any plans to repurchase shares under this stock repurchase program during fiscal year 2010.

In October 2007, we entered into a credit agreement with JPMorgan Chase Bank, N.A. and Morgan Stanley Senior Funding, Inc., or the Credit Agreement, which governs a senior secured term loan in the aggregate principal amount of $400.0 million, or the Term Loan, and a credit facility in the aggregate principal amount of $30.0 million, or the Revolver. Borrowings under the Credit Agreement bear interest at our election at one-, two-, three- or six- month LIBOR plus 3.50%, or the Alternate Base Rate (higher of Prime Rate or Federal Funds Rate plus 0.50%) plus 2.50%. As of February 28, 2010, the interest rate for the Term Loan was based on three-month LIBOR plus 3.50%, or 3.76%. The interest rate may vary based on the market rates described above. In addition, we are required to pay a commitment fee of 0.50% per annum on the average daily unutilized portion of the Revolver. The Credit Agreement is secured by all of the capital stock of certain Palm subsidiaries (limited, in the case of foreign subsidiaries, to 65% of the capital stock of such subsidiaries) and substantially all of our present and future assets. Additionally, the Credit Agreement contains certain

restrictions on the ability of Palm and its subsidiaries to engage in certain transactions as well as requirements to make prepayments on the Term Loan if certain conditions occur. As of February 28, 2010, $391.0 million and $0 were outstanding under the Term Loan and Revolver, respectively.

We utilize contract manufacturers to build our products. These contract manufacturers acquire components and build products based on demand forecast information supplied by us, which typically covers a rolling 15- to 18-month period. Consistent with industry practice, we acquire inventories from such manufacturers through blanket purchase orders against which orders are applied based on projected demand information. Such purchase commitments typically cover our forecasted product requirements for periods ranging from 30 to 120 days. In certain instances, these agreements allow us the option to cancel, reschedule and/or adjust our requirements based on our business needs. In some instances we also make commitments with component suppliers in order to secure availability of key components. Consequently, only a portion of our purchase commitments arising from these agreements may be non-cancelable and unconditional commitments. As of February 28, 2010 and May 31, 2009, our cancelable and non-cancelable commitments to third-party manufacturers and component suppliers for their inventory on-hand and component commitments related to the manufacture of our products were $208.5 million and $352.7 million, respectively.

In accordance with our policy, we also accrue for any inventory component purchase commitments with third-party manufacturers and component suppliers that are determined to be in excess of anticipated demand based on forecasted product sales. As of February 28, 2010 and May 31, 2009, we had recorded $53.1 million and $14.4 million, respectively, in other accrued liabilities related to these commitments.

Certain Palm facilities are leased under operating leases. Leases expire at various dates through May 2012.

We entered into purchase and licensing agreements for a total of $7.0 million. Under the terms of the agreements, we agreed to make quarterly payments through December 2009. The net present value of these payments was amortized using the effective yield method. The remaining amount due under the agreements was $0 and $2.1 million as of February 28, 2010 and May 31, 2009, respectively, and was included in other accrued liabilities.

We have issued shares of series B redeemable convertible preferred stock, or Series B Preferred Stock, and Series C Preferred Stock, which are mandatorily redeemable in October 2014 at their original purchase price per share. As of both February 28, 2010 and May 31, 2009, the total redemption amounts for outstanding shares of our Series B Preferred Stock and Series C Preferred Stock were $325.0 million and $51.0 million, respectively.

We accrue for royalty obligations to certain technology and patent holders based on (1) unit shipments of our products, (2) a percentage of applicable revenues for the net sales of products using certain software technologies or (3) a fully paid-up license fee, all as determined in accordance with the applicable license agreements. Where agreements are not finalized, accrued royalty obligations represent management’s current best estimates using appropriate assumptions and projections based on negotiations with third-party licensors. As of February 28, 2010 and May 31, 2009, we had estimated royalty obligations of $47.9 million and $38.5 million, respectively, which were reported in other accrued liabilities. While the amounts ultimately agreed on may be more or less than the current accrual, management does not believe that finalization of the agreements would have had a material impact on the amounts reported for our financial position as of February 28, 2010 or on the results reported for the three or nine months then ended; however, the effect of finalization of these agreements in the future may be significant to the period in which recorded.

As of February 28, 2010 and May 31, 2009, we had $9.3 million and $9.5 million, respectively, in restricted investments, which are collateral for outstanding letters of credit.

We use foreign exchange forward contracts to mitigate transaction gains and losses generated by certain foreign currency denominated monetary assets and liabilities, the result of which partially offsets our market exposure to fluctuations in foreign currencies. Changes in the fair value of these foreign exchange forward contracts are largely offset by re-measurement of the underlying assets and liabilities. According to our policy, these foreign exchange forward contracts have maturities of 35 days or less. As of February 28, 2010, our outstanding notional contract value, which approximates fair value, was $5.4 million which settled within 28 days. We did not have any foreign exchange forward contracts outstanding as of May 31, 2009. We do not enter into derivatives for speculative or trading purposes.

In November 2008, we renewed our universal shelf registration statement to give us flexibility to sell debt securities, common stock, preferred stock, depository shares and warrants in one or more offerings and in any combination thereof. The net proceeds from the sale of securities offered are intended for working capital and general corporate purposes including, but not limited to, funding our operations, purchasing capital equipment, funding potential acquisitions, repaying debt and repurchasing shares of our common stock. We may also invest the proceeds in certificates of deposit, U.S. government securities or certain other interest-bearing securities. Palm was a well-known seasoned issuer as defined in Rule 405 under the Securities Act within 60 days of July 24, 2009, the date on which Palm filed its most recent Annual Report on Form 10-K.

See Note 2 of the condensed consolidated financial statements for a full description of recent accounting pronouncements, including the respective expected dates of adoption and effects on results of operations and financial condition.

We currently maintain an investment portfolio consisting mainly of cash equivalents, short-term investments and interest-bearing ARS. These available-for-sale securities are subject to interest rate risk and will fall in value if market interest rates increase. The objectives of our investment activities are to preserve principal, meet liquidity needs, avoid inappropriate concentrations and deliver an appropriate yield in relation to our investment guidelines and market conditions. This is currently accomplished by investing in marketable investment grade securities and by limiting exposure to any one issuance or issuer, with the exception of United States government securities. We do not include derivative financial investments in our investment portfolio. Our cash and cash equivalents of $376.3 million as of February 28, 2010 were invested primarily in money market funds and United States government securities with original maturities at the date of purchase of less than three months. Our cash and cash equivalents of $152.4 million as of May 31, 2009 were invested primarily in money market funds. Our short-term investments portfolio of $215.6 million and $102.7 million as of February 28, 2010 and May 31, 2009, respectively, primarily consisted of highly liquid investments with original maturities at the date of purchase of greater than three months. Our investments in ARS had a total par value of $54.7 million and an estimated fair value of $4.1 million as of February 28, 2010. Our investments in ARS had a total par value of $69.7 million and an estimated fair value of $6.1 million as of May 31, 2009. These ARS investments are not currently trading and, consequently, are not currently liquid. Our available-for-sale investments portfolio, which includes short-term investments and non-current ARS, is subject to interest rate risk and will decrease in value if market interest rates increase. An immediate and uniform increase in market interest rates of 100 basis points from levels at February 28, 2010 or May 31, 2009 would cause an immaterial decline in the fair value of our cash equivalents or available-for-sale investments portfolio, and would have a similar effect on our net loss and cash flows.

We have an outstanding variable rate Term Loan totaling $391.0 million as of February 28, 2010 under our current Credit Agreement. We do not currently use derivatives to manage interest rate risk. As of February 28, 2010, our interest rate applicable to borrowings under the Credit Agreement was 3.76%. A hypothetical 100 basis point increase in this rate would result in additional interest expense of $0.1 million each year for every $10.0 million of outstanding borrowings under the Credit Agreement.

We denominate our sales to certain international customers in Euro, in Pounds Sterling and in Brazilian Real. Expenses and other transactions are also incurred in a variety of currencies. We hedge certain balance sheet exposures and intercompany balances against future movements in foreign currency exchange rates by using foreign exchange forward contracts. Gains and losses on the contracts are intended to offset foreign exchange gains or losses from the revaluation of assets and liabilities denominated in currencies other than the functional currency of the reporting entity. We recorded a net gain (loss) of $(1.7) million and $0.6 million for the three months ended February 28, 2010 and 2009, respectively, and $(0.9) million and $2.0 million for the nine months ended February 28, 2010 and 2009, respectively, from the revaluation of our foreign denominated assets and liabilities, which is included in operating loss in our condensed consolidated statements of operations. According to our policy, our foreign exchange forward contracts have maturities of 35 days or less. Movements in currency exchange rates could cause variability in our revenues, expenses, interest and other income (expense). Our foreign exchange forward contracts outstanding as of February 28, 2010 had a notional contract value, which approximates fair value, in U.S. dollars of $5.4 million which settled within 28 days. We did not have any foreign exchange forward contracts outstanding as of May 31, 2009. We do not utilize derivative financial instruments for speculative or trading purposes.

We estimate the fair value of our series C derivatives using the Black-Scholes option valuation and the Cox-Ross-Rubinstein binomial stock price models, both of which utilize the closing price of our common stock on the reporting date as an input variable. We adjust our derivative liabilities to estimated fair value at the end of each reporting period, with any corresponding changes recorded in our condensed consolidated statements of operations. An increase or decrease in our stock price of 10% from the closing stock price as of February 28, 2010, or $6.09, would cause an increase or decrease in the estimated fair value of our series C derivatives of approximately $11 million, and would have a similar effect on our net loss.

As of February 28, 2010, we did not own any material equity investments in other entities. Therefore, we do not currently have any direct material risks related to equity prices of other entities.

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) of the Exchange Act) as of the end of the period covered by this report. Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within Palm have been detected. In addition, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Based on our evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures as of the end of the period covered by this report were effective in providing reasonable assurance that information required to be disclosed by us in reports that we file or submit under the Exchange Act is (i) recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and (ii) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

There was no change in our internal control over financial reporting (as defined in Rule 13a-15(f) and Rule 15d-15(f) of the Exchange Act) identified in connection with management’s evaluation that occurred during the third quarter of fiscal year 2010 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

The information set forth in Note 18 of the condensed consolidated financial statements of this Form 10-Q is incorporated herein by reference.

You should carefully consider the risks described below and the other information in this Form 10-Q. The business, results of operations, operating cash flows or financial condition of Palm could be seriously harmed and the trading price of Palm common stock may decline due to any of these risks.

Our revenues, gross margins, results of operations and operating cash flows are generally subject to fluctuations, and if we fail to meet the expectations of our investors, our stock price may decrease significantly.

We have had negative operating cash flows and net losses in recent quarters. We expect our revenues to be significantly lower and our operating cash usage to be significantly higher in the fourth quarter of fiscal year 2010 than in the preceding quarters of fiscal year 2010. Our revenues, gross margins, results of operations and operating cash flows are difficult to forecast and will be particularly sensitive to product launches, at least until we have a more diversified carrier base for and portfolio of Palm webOS products. Our future revenues, gross margins, results of operations and operating cash flows may decline or fluctuate significantly and may not meet our expectations or those of our investors. If this occurs, the price of our stock will likely decline. Many factors may cause these declines or fluctuations including, but not limited to, the following:

Any of the foregoing factors could have an adverse effect on our business, results of operations, operating cash flows and financial condition.

If we fail to develop and introduce new products and services successfully and in a cost-effective and timely manner, we will not be able to compete effectively and our ability to generate revenues and operating cash flows will suffer.

We operate in a highly competitive, rapidly evolving environment, and our success depends on our ability to develop and introduce new products and services that our customers and end users choose to buy. If we are unsuccessful at developing and introducing new products and services that are appealing to our customers and end users with acceptable quality, prices and terms, or if the effort of migrating from existing products and services to new products and services is considered to be excessive by end users, we will not be able to compete effectively and our ability to generate revenues will suffer. The development of new products and services is very difficult and requires high levels of innovation. The development process is also lengthy and costly. If we fail to accurately anticipate technological trends or our end users’ needs or preferences, are unable to complete the development of products and services in a cost-effective and timely fashion or are unable to appropriately ramp production to fulfill customer demand, we will be unable to successfully introduce new products and services into the market or compete with other providers. Even if we complete the development of our new products and services in a cost-effective and timely manner, they may not gain traction in the market at anticipated levels or at all.

As we introduce new or enhanced products or integrate new technology into new or existing products, we face risks including, among other things, disruption in customers’ ordering patterns, excessive levels of existing product inventories, revenue deterioration in our existing product lines, insufficient supplies of new products to meet customers’ demand, possible product and technology defects and a potentially different sales and support environment. Premature announcements or leaks of new products, features or technologies may exacerbate some of these risks by reducing the effectiveness of our product launches, reducing sales volumes of current products due to anticipated future products, making it more difficult to compete, shortening the period of differentiation based on our product innovation, straining relationships with our partners and/or increasing market expectations for the results of our new products before we have had an opportunity to demonstrate the market viability of the products. Our failure to manage the transition to new products or the integration of new technology into new or existing products could adversely affect our business, results of operations, operating cash flows and financial condition.

We are substantially dependent on our Palm webOS mobile platform; Palm webOS faces significant competition and may not be preferred by our wireless carrier partners or end users.

In the first quarter of fiscal year 2010, we launched Palm Pre, our first smartphone based on our new Palm webOS mobile platform followed by the launch of Palm Pixi during the second quarter of fiscal year 2010. We expect Palm webOS to be the cornerstone of our product roadmap and the services that we provide. We also expect Palm webOS to be a key differentiator for us. However, as Palm webOS is a new OS, we do not yet have the experience with Palm webOS to determine its commercial viability or sustainability. We also have not had the advantage of working with and refining the OS over a long period of time, especially under commercial conditions. Because we recently launched products based on Palm webOS, and revenues from our legacy products are declining, our business will be dependent on Palm Pre and Palm Pixi until we can diversify our product portfolio. However, our experience to date, and particularly in our most recent quarter, is that our Palm webOS products have achieved lower than expected consumer adoption. It is not yet clear whether our efforts, or the efforts of our carrier partners, in marketing the Palm webOS products at the point of sale and otherwise will improve the volume of purchases of those products by end users. The importance of Palm webOS, Palm Pre and Palm Pixi to our business substantially magnifies the risks expressed throughout this “Risk Factors” section with respect to our products and our business.

While we are substantially dependent on Palm webOS products, we continue to offer smartphones based on the Palm OS and Windows Mobile OS. However, these operating systems do not provide us with the same benefits as a proprietary OS, such as Palm webOS, in terms of control and opportunity to differentiate. Moreover, our licenses to the Palm OS and Windows Mobile OS are subject to the terms of the agreements we have with ACCESS Systems Americas and Microsoft, respectively. We would not have access to these operating systems if we were to breach the license agreements and cause our licensors to terminate our licenses. Furthermore, although ACCESS Systems and Microsoft offer some level of indemnification for damages arising from lawsuits involving their respective operating systems and from damages relating to intellectual property infringement caused by such operating systems, we could still be adversely affected by a determination adverse to our licensors, product changes that may be advisable or required due to such lawsuits or the failure of our licensors to indemnify us adequately.

There is significant competition from makers of smartphones that differentiate their products in part through alternative OS software. A number of competitors offer alternative Windows Mobile OS products. Google is heading a group that has introduced the Android OS for which several of our competitors have developed and are developing products. The LiMo Foundation is another consortium that is developing a Linux-based mobile OS. Other competitors have or are developing proprietary operating systems, including Apple’s OS X, Nokia’s Symbian OS, RIM’s Blackberry OS and various Linux-based operating systems. Still other competitors, such as Samsung and LG, are developing products that have a combination of keyboards, touchscreens and advanced media functionality that compete with smartphones like ours and that use proprietary and other alternative operating systems. These and other competitors could devote greater resources to the development and promotion of alternative operating systems and to the support of the third-party developer community, which could attract the attention of influential user segments and our existing and potential customers and end users. Moreover, some of the largest wireless carriers have joined the consortiums developing or indicated their support for rival operating systems, including the LiMo Foundation and Android. Wireless carriers may demonstrate a preference for rival operating systems, thereby giving preference to our competitor’s products and making acceptance of our products more difficult among our key wireless carrier partners. In addition, this could require us to raise the performance and differentiation standards for the operating systems that we offer in order to remain competitive.

We cannot assure you that Palm webOS or the operating systems we license will draw the customer interest necessary to provide us with a level of competitive differentiation. If Palm webOS or the operating systems that we license in our current or future products do not gain sufficient sales volumes or continue to be competitive, our revenues, results of operations and operating cash flows could be adversely affected.

If our Palm webOS service offerings do not scale as anticipated, or we are unable to grow data center capacity as needed, our business will be harmed.

Our Palm webOS service offerings represent a new service to consumers that we have not provided before. We cannot assure you that we will be able to implement these new services successfully, in a timely manner, or at all. If we are unable to deliver this new service effectively, or in a way that satisfies our customers and end users, our business and operating cash flows may suffer. Even if we are able to deliver this new service effectively, its delivery may require more resources, both financial and otherwise, than originally anticipated, which could restrict our ability to develop new products and services and/or grow or maintain our business.

The ability of our Palm webOS service offerings to scale to support a substantial increase in the number of users in an actual commercial environment is unproven. If our Palm webOS service offerings do not efficiently and effectively scale to support and manage a substantial increase in the number of users while maintaining a high level of performance, our business will be harmed. In addition if we are unable to secure data center space with appropriate power, cooling and bandwidth capacity, we may not be able to efficiently and effectively scale our business to manage the addition of any new wireless carrier customers, increases in subscriber growth or increases in data traffic.

Our products may contain errors or defects, which could result in the rejection or return of our products, damage to our reputation, lost revenues, diverted development resources and increased service costs, penalties, duties to repair, warranty claims and litigation.

Our products are complex and must meet stringent user requirements. In addition, we warrant that our products will be free of defect for one year after the date of purchase. In Europe, we are required in some countries to provide a two-year warranty for certain defects. In addition, certain of our master purchase agreements with wireless carriers include epidemic failure clauses with low thresholds that we have in some instances exceeded. If invoked, these clauses may entitle the wireless carrier to return or obtain credits for products in inventory or to cancel outstanding purchase orders.

In addition, we must develop our hardware and software application products quickly to keep pace with the rapidly changing mobile devices market, and we have a history of frequently introducing new products, software and software updates. Products and software as sophisticated as ours are likely to contain undetected errors or defects, especially when first introduced or when new models or versions are released. Our products and software may not be free from errors or defects after commercial shipments have begun, which could result in the rejection of our products, damage claims, penalties, duties to repair, litigation and recalls and jeopardize our relationship with wireless carriers. End users may also reject or find issues with our products and have a right to return them even if the products are free from errors or defects. In either case, returns or quality issues could result in damage to our reputation, lost revenues, diverted development resources, increased customer service and support costs, additional contractual obligations to wireless carriers, warranty claims and litigation, any of which could harm our business, results of operations, operating cash flows and financial condition.

We recently launched Palm webOS, and it has not been subject to commercial use for a substantial period of time. Given the nature of software, particularly OS software, we cannot be certain that it will be free of software defects or bugs. Early detection of such defects or bugs by us could delay the launches of future Palm smartphone products. Detection of defects or bugs after such products have been launched could result in the rejection of our products, damage claims, litigation and recalls. Any defects or bugs could jeopardize our relationship with wireless carriers and adversely affect our business, results of operations, operating cash flows and financial condition.

Our continued investment in our corporate transformation, including the ongoing roll-out of our Palm webOS smartphone products, as well as current recessionary economic and financial market conditions have had and will continue to have a negative effect on our liquidity. We may need or find it advisable to seek additional funding, which may not be available or which may result in substantial dilution to the value of our common stock. If we seek additional funding, adequate funds may not be available on favorable terms, or at all. Inadequate liquidity could adversely affect our business operations in the future.

We require substantial liquidity to continue spending to support product development, production and launches, to implement cost savings and restructuring plans, to meet scheduled debt and lease payment requirements and to run and expand our regular business operations. Although we currently believe that we have sufficient cash, cash equivalents and short-term investments to meet our anticipated operating cash requirements and debt service or repayment obligations for at least the next 12 months, we have had net losses since the beginning of fiscal year 2008. Our operating cash flows continue to be very dependent on a limited number of relatively new products. Furthermore, based on our revenues outlook for the fourth quarter of fiscal year 2010 and expected reductions in accrued liabilities and accounts payable during the fourth quarter, we expect cash usage to be higher in the fourth quarter of fiscal year 2010 than in recent quarters and than our operating results for that period might otherwise indicate.

If our liquidity diminishes, as we expect it to do in the fourth quarter of fiscal year 2010, we may be forced to reduce spending, research and development activities, marketing activities and other programs that are important to the future success of our business, including growing our business domestically and internationally. In addition, if our liquidity substantially decreases, it may affect our business relationships with our customers and/or our suppliers who may seek more restrictive payment terms, assurances regarding our ability to meet our obligations and to sustain regular business operations and other concessions. If this were to happen, our need for cash resources would be intensified.

Our ability to maintain required liquidity levels will depend significantly on factors such as:

To fund growth opportunities or if our liquidity continues to diminish, we may find it necessary or advisable to seek additional funding. Our corporate credit rating may make it difficult to obtain funding in the securities and credit markets as well as under our existing credit facilities. If we seek additional funding, adequate funds may not be available on favorable terms, or at all. If adequate funds are not available on acceptable terms, or at all, we may be unable to adequately fund our business plans and it could have a negative effect on our business, results of operations, operating cash flows and financial condition. In addition, if funds are available, the issuance of equity securities or securities convertible into equity could dilute the value of shares of our existing common stock and other equity securities and cause the market price of our common stock to fall. The issuance of additional debt or incurrence of borrowing could impose restrictive covenants in addition to those to which we are already subject under our existing credit facility, which could impair our ability to engage in certain business transactions and to grow our business.

Uncertainty and adverse changes in the economy could adversely affect our business and operating cash flows.

The current recessionary economic conditions and the possibility of consolidations or bankruptcies of companies have resulted in a tightening in the credit markets, a low level of liquidity in many financial markets and a decrease in consumer confidence. We do not believe it is likely that these adverse economic conditions will improve significantly in the near term.

Because our products compete for a share of consumer disposable income and business spending, continued economic distress and uncertainty may reduce the purchasing power or influence the buying decisions of our customers and end users, which could decrease the number of products we are able to sell and put pressure on the prices of our products. Furthermore, as a result of the tightening of the credit markets, we may have increased exposure to material losses from bad debts. Key suppliers may become insolvent or may be unable to obtain credit to finance the development or manufacture of components under terms that are acceptable to us, or at all, which could result in delays in the delivery of our products and/or increased costs to us. As a result, these recessionary economic conditions and related factors, many of which are beyond our control, may adversely affect our business, results of operations, operating cash flows and financial condition.

The market for our products is volatile. Failure to adjust to changing market conditions or inability to scale our business may adversely affect our business, results of operations, operating cash flows and financial condition, particularly given our size, limited resources and lack of diversification.

Our future results of operations and operating cash flows depend substantially on the commercial success of smartphones in general and our smartphones in particular, including Palm Pre, Palm Pixi and products that are under development. For the nine months ended February 28, 2010, revenues from sales of smartphones and related products constituted more than 95% of our consolidated revenues. If revenues from our smartphones fail to meet expectations, our operating cash flows may suffer. The downturn in general economic conditions and the substantial decline in the stock market have led to reduced demand for a variety of goods and services, including many technology products. At the same time, the environment in the smartphone market has become increasingly challenging, including declining average selling prices and increased competition. If we are unable to adequately respond to changes in demand for our products, our results of operations and operating cash flows could be adversely affected. In addition, as our products and product categories mature and face greater competition, if these recessionary economic conditions continue to decline, or fail to improve, we could see a further decrease in the overall demand for our products or we may experience pressure on our product pricing to preserve demand for our products, which would adversely affect our margins, results of operations, operating cash flows and financial condition.

This reliance on the success of our industry and trends in our industry is compounded by the size of our organization, our focus on smartphone-related products and services and the limited number of smartphone product lines we currently have available. These factors also make us more dependent on investments of our limited resources. For example, we face many resource allocation decisions, such as: where to focus our research and development, geographic sales and marketing and partnering efforts; which aspects of our business to outsource; which operating systems and email solutions to support; and how to manage product life cycles and support among our products. Given the size of our organization and undiversified nature of our product lines, if our Palm Pre, Palm Pixi or other new products do not generate substantial and sustained market success and revenues, or if we otherwise do not appropriately invest our resources, our business, results of operations, operating cash flows and financial condition could be adversely affected.

Furthermore, as we attempt to grow our business both domestically and internationally, we will need to be able to scale our operations and infrastructure to support those efforts. Expansion will increase the complexity of our business and place a significant strain on our management, operations and financial and other resources. If we are unable to scale our operations and infrastructure effectively, as a result of capital requirements or otherwise, our results of operations, operating cash flows and financial condition, as well as our ability to remain competitive in the smartphone market, may be adversely affected.

If we are unable to compete effectively with existing or new competitors, we could experience price reductions, reduced demand for our products and services, reduced margins and loss of market share. As a result, our business, results of operations, operating cash flows and financial condition would be adversely affected.

The markets for our products are highly competitive, and we expect increased competition and pressure on our average selling prices in the future, particularly as companies from established industry segments, such as mobile handset, personal computer, operating system, internet search, GPS and consumer electronics, enter these markets or increasingly expand and market their competitive product offerings or both.

Some of our competitors may devote greater resources to the development, promotion and sale of their products than we do. They may have lower costs and/or be better able to withstand lower prices in order to gain market share at our expense. They may be more diversified than we are and better able to leverage their other businesses, products and services to be able to accept lower returns in the smartphone market and gain market share. These competitors may also bring with them customer loyalties, which may limit our ability to compete regardless of any comparative advantage of our product offerings.

Some of our competitors or potential competitors possess capabilities developed over years of serving customers in their respective markets that might enable them to compete more effectively than we compete in certain segments. In addition, many of our competitors have significantly greater engineering, technical, manufacturing, sales, marketing and financial resources and capabilities than we have. These competitors may be able to respond more rapidly than we can to new or emerging technologies or changes in customer requirements, including introducing a greater number and variety of products than we can. They may also be in a better position financially or otherwise to acquire and integrate companies and technologies that enhance their competitive positions and limit our competitiveness.

Our devices compete with a variety of mobile devices. Our principal competitors in the mobile handset and smartphone market include Acer, Apple, Dell, Garmin-Asus, Google, HTC Corporation, Huawei, LG, Motorola, Nokia, Pantech, Research in Motion or RIM, Samsung, Sony-Ericsson and ZTE. In addition, our products compete for a share of disposable income and business spending on consumer electronic and telecommunications products such as MP3 players, iPods, media/photo viewers, digital cameras, personal media players, digital storage devices, handheld gaming devices, GPS devices, netbooks, tablets, Mobile Internet Devices or MIDs, and other such devices.

Some of our competitors, such as Asustek, HTC and PCD, produce smartphones as wireless-carrier-branded devices in addition to their own branded devices. As technology advances, we also expect to compete with mobile phones without branded operating systems that synchronize with personal computers, as well as ultra-mobile personal computers, laptop computers, netbooks, tablets and MIDs with wide area network or data cards with voice over IP, or VoIP, and WiFi phones with VoIP.

Some competitors sell or license server, desktop and/or laptop computing products, software and/or recurring services in addition to mobile products. They may choose to market their mobile products at a discounted price or give them away for free with their other products or services, which could negatively affect our ability to compete.

A number of our competitors have longer and closer relationships with the senior management of business customers who decide which products and technologies will be deployed in their business. Many competitors have larger and more established sales forces calling on wireless carriers and business customers. Therefore, they could contact a greater number of potential customers with more frequency. Consequently, these competitors could have a better competitive position than we have, which could result in wireless carriers and business customers deciding not to choose our products and services, which would adversely impact our revenues.

Successful new product introductions or enhancements by our competitors could cause intense price competition or make our products obsolete. To remain competitive, we must continue to invest significant resources in research and development, sales and marketing and customer support. We cannot assure you that we will have sufficient resources to make these investments or that we will be able to make the technological advances necessary to be competitive. Increased competition could result in price reductions, reduced demand for our products and services, increased expenses, reduced margins and loss of market share. Failure to compete successfully against current or future competitors could harm our business, results of operations, operating cash flows and financial condition.

We are highly dependent on wireless carriers for the success of our smartphone products.

The success of our business strategy and our smartphone products is highly dependent on our ability to establish new relationships and build on our existing relationships with domestic and international wireless carriers. Wireless carriers control which products to certify on their networks, offer to their customers and promote through price subsidies and marketing campaigns. Given the increased competition and price sensitivity in the smartphone market, wireless carrier and distributor price subsidies are essential to the success of our products and our ability to compete. Moreover, if wireless carriers move away from subsidizing the purchase of smartphones, this could significantly reduce the sales or growth rate of sales in our industry. The marketing dollars and efforts contributed by wireless carriers to advance and support our products are very important as we compete with limited capital resources against better-funded companies.

We cannot assure you that we will be successful in establishing new relationships or maintaining or advancing existing relationships with wireless carriers or that these wireless carriers will act in a manner that will promote the success of our smartphone products. Wireless carriers will scrutinize the acceptance of Palm webOS products in the market to determine whether to carry such products in their product portfolios, the size of wireless carrier purchase orders and the support that they provide to Palm webOS products. Additional factors that are largely within the control of wireless carriers, but which are important to the success of our smartphone products, include:

For example, flat data rate pricing plans offered by some wireless carriers may represent some risk to our relationship with such wireless carriers. While flat data pricing helps customer adoption of the data services offered by wireless carriers and highlights the advantages of the data applications of our smartphone products, such plans may not allow our smartphones to contribute as much average revenue per user to wireless carriers as when they are priced by usage, and therefore reduces our differentiation from other, non-data devices in the view of the wireless carriers. In addition, if wireless carriers charge higher rates than consumers are willing to pay, the acceptance of our wireless solutions could be less than anticipated and our revenues and operating cash flows could be adversely affected.

Wireless carriers have substantial bargaining power as we enter into agreements with them. They may require contract terms that are difficult for us to satisfy and could result in higher costs to complete certification requirements and negatively impact our results of operations, operating cash flows and financial condition. Moreover, we do not have agreements with some of the wireless carriers with whom we do business internationally. In some cases, the agreements may be with third-party distributors and may not pass through rights to us or provide us with recourse or contact with the wireless carrier. The absence of agreements means that, with little or no notice, these wireless carriers could refuse to continue to purchase all or some of our products or change the terms under which they purchase our products. If these wireless carriers were to stop purchasing our products, we may be unable to replace the lost sales channel on a timely basis and our results of operations, operating cash flows and financial condition could be harmed.

In some cases, we may enter into exclusive relationships with wireless carriers to sell our products within a particular territory. Although there are benefits from exclusive arrangements, such arrangements eliminate our ability to make the products subject to the exclusivity period available through other wireless carriers during the exclusivity period, may initially limit the sales of such products as a result and may adversely affect the long-term success of such products.

Wireless carriers also significantly affect our ability to develop and launch products for use on their wireless networks. If we fail to address the needs of wireless carriers, identify new product and service opportunities or modify or improve our smartphone products in response to changes in technology, industry standards or wireless carrier requirements, our products could rapidly become less competitive or obsolete. If we fail to develop on a timely basis smartphone products that meet wireless carrier product planning cycles or fail to deliver to wireless carriers sufficient quantities of products in a timely manner and with sufficient quality, those wireless carriers may choose to emphasize similar products from our competitors and reduce their focus on our products, which would have a negative impact on our business, operating cash flows and financial condition.

Wireless carriers, who control most of the distribution and sale of and virtually all of the access for smartphone products, could commoditize smartphones, thereby reducing the average selling prices and margins for our smartphone products. In addition, if wireless carriers move away from subsidizing the purchase of smartphone products, this could significantly reduce the potential sales or growth rate of sales of smartphone products. These effects could have an adverse impact on our business, operating cash flows and financial condition.

We are dependent on a concentrated number of significant customers, and the loss or credit failure of any of those customers could have an adverse effect on our business, operating cash flows and financial condition.

Our largest customers in terms of revenues, Sprint and Verizon, represented 53% and 32%, respectively, of our revenues during the first nine months of fiscal year 2010 and Sprint represented 45% during fiscal year 2009, after the adoption of updates to accounting standards related to revenue recognition. After the adoption of these updates, our largest customers in terms of revenues represented 85% of our revenues during the first nine months of fiscal year 2010, 61% of our revenues during fiscal year 2009, 65% during fiscal year 2008 and 56% during fiscal year 2007. We determine our largest customers in terms of revenues to be those who individually represent 10% or more of our total revenues for the period. We expect this trend of revenues concentration with our largest wireless carrier customers to continue, and at times increase. If any significant customer discontinues its relationship with us for any reason, or reduces or postpones current or expected purchases from us, it could have an adverse impact on our business, results of operations, operating cash flows and financial condition. Our ability to replace or find new large customers is necessarily limited due to the limited number of wireless carriers in many territories, including the United States, which is the country where we generate the majority of our revenues.

In addition, our largest customers in terms of outstanding customer accounts receivable balances accounted for 66% of our accounts receivable at the end of the third quarter of fiscal year 2010, compared to 72% of our accounts receivable at the end of fiscal year 2009, 61% of our accounts receivable at the end of fiscal year 2008 and 63% at the end of fiscal year 2007. We determine our largest customers in terms of outstanding customer accounts to be those who have outstanding customer accounts receivable balances at the period end of 10% or more of our total net accounts receivables. Of our total customer accounts receivable balance, Verizon’s balance represented 66% at the end of the third quarter of fiscal year 2010 and Sprint’s balance represented 46% at the end of fiscal year 2009. We expect this trend of significant credit concentration with our largest customers, particularly with wireless carriers, to continue, concentrating our bad debt risks. We routinely monitor the financial condition of our customers and review the credit history of each new customer.

While we believe that our allowances for doubtful accounts adequately reflect the credit risk of our customers, as well as historical trends and other economic factors, we cannot assure you that such allowances will be accurate or sufficient. If any of our significant customers defaults on its account, or if we experience significant credit expense for any reason, it could have an adverse impact on our business, results of operations, operating cash flows and financial condition.

We could be exposed to significant fluctuations in shipment volumes and revenues for our smartphone products based on our strategic relationships with wireless carriers.

Because of their large sales channels, wireless carriers may purchase large quantities of our products prior to launch so that the products are widely available. Reorders of products may fluctuate quarter to quarter, depending on end-user demand and inventory levels required by the wireless carriers. As we develop new strategic relationships and launch new products with wireless carriers, our smartphone products-related shipment volumes and revenues could be subject to significant fluctuations based on the timing of wireless carrier product launches, wireless carrier inventory requirements, marketing efforts and our ability to forecast and satisfy wireless carrier and end-user demand.

If our products do not meet wireless carrier and governmental or regulatory certification or other requirements, we will not be able to compete effectively and our ability to generate revenues will suffer.

We are required to certify our products with governmental and regulatory agencies, with the wireless carriers for use on their networks and to meet other requirements. These processes can be time consuming, could delay the offering of our smartphone products on wireless carrier networks and could affect our ability to timely deliver products to customers. For example, the Treo Pro was shipped to Sprint in the United States later than expected due to delays in certifying the Treo Pro on Sprint’s network. As a result of delays, wireless carriers may choose to offer, or consumers may choose to buy, similar products from our competitors and reduce their purchases of our products, which would have a negative impact on our smartphone products sales volumes, revenues and gross profit.

If we do not accurately forecast demand for our products, we could have costly excess production or inventories or we may not be able to secure sufficient or cost-effective quantities of our products or production materials. As a result, our revenues, gross profit and financial condition could be adversely impacted.

The demand for our products depends on many factors, including pricing and channel inventory levels, and is difficult to forecast due in part to variations in economic conditions, changes in consumer and business preferences, relatively short product life cycles, changes in competition, seasonality and reliance on key sales channel partners. It is particularly difficult to forecast demand by individual product. Significant unanticipated fluctuations in demand, the timing and disclosure of new product releases or the timing of key sales orders could result in costly excess production or inventories, liabilities for failure to achieve minimum purchase commitments or the inability to secure sufficient, cost-effective quantities of our products or production materials. This could adversely impact our revenues, gross profit and financial condition. For example, in fiscal years 2010 and 2009, actual product shipments were lower than forecasted product sales. As a result, we incurred a net charge to cost of revenues of $43.8 million for the first nine months of fiscal year 2010 and $16.1 million for fiscal year 2009 for purchase commitments with third-party manufacturers and component suppliers in excess of anticipated demand.

We depend on our suppliers, some of which are the sole source and some of which are our competitors, for certain components, software applications and elements of our technology. Our production or reputation could be harmed if these suppliers were unable or unwilling to meet our demand or technical requirements on a timely and/or a cost-effective basis.

Our products contain software and hardware, including liquid crystal displays, touch panels, memory chips, microprocessors, cameras, radios and batteries, which are procured from a variety of suppliers, including some who are our competitors. The cost, quality and availability of software and hardware are essential to the timely and successful development, production and sale of our device products. For example, components such as radio technologies and software such as email applications are critical to the functionality of our smartphones. Some components, such as radio frequency components, power management integrated circuits, cameras and certain discrete components are currently obtained from single or limited sources. Alternative sources are frequently not available in the short term or may be prohibitively expensive. In addition, even when we have multiple qualified suppliers, we may compete with

other purchasers for allocation of scarce components. Some of our suppliers are or may become capacity-constrained in the short or long term due to high industry demand for some components and relatively long lead times to expand capacity. Some components come from companies with whom we compete, and some of our suppliers have significant relationships with our competitors. Under certain circumstances, such as the current recession, our suppliers could refuse to continue to supply all or some of the components that we require for our devices, change the terms under which they supply such components or go out of business. If suppliers are unable or unwilling to supply or meet our demand for components, and if we are unable to obtain alternative sources or if the price for alternative sources is prohibitive, our ability to maintain timely and cost-effective production of our products will be harmed. If our suppliers were to change the terms under which they supply components for our products, our manufacturing costs and cost of revenues could increase. While we may have contractual remedies under supply or manufacturing agreements, our business and reputation could be harmed. Furthermore, these contractual remedies may be difficult to enforce against suppliers located outside the United States, and we do not have direct, or in some cases even indirect, contractual relationships with some of the component suppliers for our devices. Shortages may affect the timing and volume of production for some of our products as well as increase our costs due to premium prices paid for those components and longer-term commitments to ensure availability of those components.

If we are unable to obtain key technologies from third parties on a timely basis and free from errors or defects, we may have to delay or cancel the release of certain products or features in our products or incur increased costs.

Our ability to release and sell our products, as well as our reputation, could be harmed if the third-party technologies are not delivered to us in a timely manner, on acceptable business terms or contain errors or defects that are not discovered and fixed prior to release of our products and we are unable to obtain alternative technologies on a timely and cost effective basis to use in our products. As a result, our product shipments could be delayed, our offering of features could be reduced or we may need to divert our development resources from other business objectives, any of which could adversely affect our reputation, business, results of operations and operating cash flows.

We rely on third parties, some of which are our competitors, to design, manufacture, distribute, warehouse and support our products. Our reputation, revenues and operating cash flows could be adversely affected if these third parties fail to meet their performance obligations.

We outsource some of our hardware design and certain software development to third-party manufacturers, some of whom compete with us and some of whom have significant relationships with our competitors. We depend on their design expertise, and we rely on them to design our products at satisfactory quality levels. If our third-party manufacturers fail to provide quality hardware design or software development, our reputation and revenues could suffer. These third-party designers and manufacturers have access to our intellectual property, which increases the risk of infringement or misappropriation of such intellectual property. In addition, these third parties may claim ownership rights in certain of the intellectual property developed for our products, which may limit our ability to have these products manufactured by others.

We outsource all of our manufacturing requirements to third-party manufacturers at their international facilities. In general, our products are manufactured by sole source providers. We depend on these third parties to produce a sufficient volume of our products in a timely fashion and at satisfactory quality levels. In addition, we generally rely on our third-party manufacturers to place orders with suppliers for the components they need to manufacture our products and to track appropriately the shipment and inventory of those components with our orders. If they fail to place timely and sufficient orders with suppliers and appropriately maintain component inventories, or if they are unable to change such orders, on a timely and cost-effective basis based on our changing forecasts of demand, our revenues and cost of revenues could suffer. Significant unanticipated fluctuations in demand for our products could result in costly excess production of inventories or additional non-cancelable purchase commitments.

Our reliance on third-party manufacturers in foreign countries exposes us to risks that are not in our control, including outbreaks of disease, economic slowdowns, labor disruptions, trade restrictions, political conflicts and other events that could result in quarantines, shutdowns or closures of our third-party manufacturers or their suppliers. The cost, quality and availability of third-party manufacturing operations are essential to the successful production and sale of our products. If our third-party manufacturers fail to produce quality products on time and in sufficient quantities, our reputation, business, results of operations and operating cash flows could suffer.

These manufacturers could refuse to continue to manufacture all or some of the units of our devices that we require or change the terms under which they manufacture our devices. If these manufacturers were to stop manufacturing our devices, we may be unable to replace the lost manufacturing capacity on a timely basis and our operating cash flows could be harmed. If these manufacturers were to change the terms under which they manufacture for us, our manufacturing costs and cost of revenues could increase. While we may have contractual remedies under manufacturing agreements, our business and reputation could be harmed. Furthermore, these contractual remedies may be difficult to enforce against manufacturers located outside of the United States. In addition, many of our contractual relationships are with the manufacturers of our products, and not with component suppliers. In the absence of a contract with the manufacturer that requires it to obtain and pass through warranty and indemnity rights with respect to component suppliers, we may not have recourse to any third party in the event of a component failure.

We may choose or be compelled from time to time to transition to or add new third-party manufacturers. If we transition the manufacturing of any product to a new manufacturer, there is a risk of disruption in manufacturing and our revenues, results of operations and operating cash flows could be adversely impacted. The learning curve and implementation associated with adding a new third-party manufacturer may adversely impact our revenues, results of operations and operating cash flows.

In some cases, we rely on third-party distribution and warehouse services providers to warehouse and distribute our products. Our contract warehouse facilities are physically separated from our contract manufacturing locations. This requires additional lead-time to deliver products to customers. If we are shipping products near the end of a fiscal quarter, this extra time could result in us not meeting anticipated shipment volumes for that quarter, which may negatively impact our revenues for that fiscal quarter. Moreover, as a result of economic conditions or other factors, our distribution and warehouse services providers may close or move their facilities with little notice to us, which could cause disruption in our ability to deliver products. With little or no notice, these distribution and warehouse services providers could refuse to continue to provide distribution and warehouse services for all or some of our devices, fail to provide the quality of services and security that we require or change the terms under which they provide such services. Any disruption of distribution facility services could have a negative impact on our revenues, results of operations and operating cash flows.

Changes in transportation schedules or the timing of deliveries due to shipping problems, wireless carrier financial difficulties, inaccurate forecasts of demand, acts of nature or other business interruptions could cause transportation delays and increase our costs for both receipt of inventory and shipment of products to our customers. If these types of disruptions occur, our reputation, results of operations and operating cash flows could be adversely impacted.

We outsource most of the warranty support, product repair and technical support for our products to third-party providers, which are located around the world. We depend on their expertise, and we rely on them to provide satisfactory levels of service. If our third-party providers fail to provide consistent quality service in a timely manner and sustain customer satisfaction, our reputation, results of operations and operating cash flows could suffer.

Third parties have claimed, and may claim in the future, that we are infringing their intellectual property, and we could suffer significant litigation or licensing expenses or be prevented from selling products regardless of whether these claims are successful.

In the course of our business, we frequently receive offers to license or claims of infringement of patents held by other parties. Given our focus on smartphone products, we have received, and expect to continue to receive, communications from holders of patents related to mobile communication standards and other industry standards. We evaluate the validity and applicability of these patents and determine in each case whether we must negotiate licenses to incorporate or use implicated technologies in our products. Third parties may claim that our customers or we are directly or indirectly infringing on their intellectual property rights, and we may be found to directly or indirectly infringe on those intellectual property rights. We may be required to pay significant damages and obligated either to refrain from the further sale or importation of our products or to license the right to sell our products on an ongoing basis. Several lawsuits are currently pending against us involving such claims. We may be unaware of intellectual property rights of others that may cover some of our technology, products and services. We may not have direct contractual relationships with some of the component, software and applications providers for our products, and we may not have indemnification, warranties or other protection with respect to such components, software or applications. Furthermore, intellectual property claims against us or our suppliers may cause us or our customers to delay the introduction of or to stop using our devices or applications for our devices. Such claims could also damage our relationships with our customers. As a result, our revenues, business, results of operations and operating cash flows may be adversely affected.

Any litigation regarding patents or other intellectual property could be costly and time consuming and could divert the attention of our management and key personnel from our business operations. The complexity of the technology involved and the uncertainty of litigation generally increase the risks associated with intellectual property litigation. Moreover, patent litigation has increased due to the increased numbers of cases asserted by intellectual property licensing entities as well as increasing competition and overlap of product functionality in our markets. Intellectual property licensing entities generally do not generate products or services. As a result, we cannot deter their infringement claims based on counterclaims that they infringe patents in our portfolio or by entering cross-licensing arrangements. Claims of intellectual property infringement may also require us to enter into costly royalty or license agreements or to indemnify our customers, licensees, original design manufacturers, or ODMs, and other third parties with whom we have relationships. However, we may not be able to obtain royalty or license agreements on terms acceptable to us or at all. We also may be subject to significant damages or injunctions against the development, sale and/or importation of our products. With respect to patent litigation, these risks are exacerbated by the lack of a clear and consistent legal standard for assessing damages in such litigation.

We are subject to general commercial litigation and other litigation claims as part of our operations, and we could suffer significant litigation expenses in defending these claims and could be subject to significant damage awards or other remedies.

In the course of our business, we receive consumer protection claims, general commercial claims related to the conduct of our business and the performance of our products and services, employment claims and other litigation claims. Litigation resulting from these claims could be costly and time-consuming and could divert the attention of management and key personnel from our business operations. The complexity of the technology involved and the uncertainty of consumer, commercial, employment and other litigation increase these risks. We also may be subject to significant damages or equitable remedies regarding the development and sale of our products and operation of our business.

If third parties infringe our intellectual property or if we are unable to secure and protect our intellectual property, we may expend significant resources enforcing our rights or suffer competitive injury.

Our success depends in large part on our proprietary technology and other intellectual property rights. We have a significant investment in the rights to the Palm brand and related trademarks and will continue to invest in that brand and in our patent portfolio.

We rely on a combination of patents, copyrights, trademarks and trade secrets, confidentiality provisions and licensing arrangements to establish and protect our proprietary rights. Our intellectual property, particularly our patents, may not provide us a significant competitive advantage. If we fail to protect or to enforce our intellectual property rights successfully, our competitive position could suffer, which could harm our results of operations and operating cash flows.

Our pending patent and trademark applications for registration may not be allowed, or others may challenge the validity or scope of our patents or trademarks, including patent or trademark applications or registrations. Even if our patents or trademark registrations are issued and maintained, these patents or trademarks may not be of adequate scope or benefit to us or may be held invalid and unenforceable against third parties.

We may be required to spend significant resources to monitor and police our intellectual property rights. Effective policing of the unauthorized use of our products or intellectual property is difficult. Litigation may be necessary in the future to enforce our intellectual property rights. Intellectual property litigation is not only expensive, but time-consuming, regardless of the merits of any claim, and could divert attention of our management and key employees from operating our business. It could also harm our reputation among developer communities. Despite our efforts, we may not be able to detect infringement and may lose competitive position in the market before we do so. In addition, competitors may design around our technology or develop competing technologies.

In the past, there have been leaks of proprietary information associated with our intellectual property. We have implemented a security plan to reduce the risk of future leaks of proprietary information; however, we cannot assure you that the security plan will be able to prevent the risk of all leaks of proprietary information. In addition, we may not be successful in preventing those who have obtained our proprietary information through past leaks from using our technology to produce competing products. We may not be successful in preventing future leaks of proprietary information. Even without leaks, our competitors may attempt to copy the look and feel of our products or our Palm webOS, reducing our ability to capitalize on the opportunity of our innovation or increasing our costs to challenge their infringement.

Despite our efforts to protect our proprietary rights, existing laws, contractual provisions and remedies afford only limited protection. Intellectual property lawsuits are subject to inherent uncertainties due to, among other things, the complexity of the technical issues involved. We cannot assure you that we will be successful in asserting intellectual property claims. Attempts may be made to copy or reverse engineer aspects of our products or to obtain and use information that we regard as proprietary. Accordingly, we cannot assure you that we will be able to protect our proprietary rights against unauthorized third-party copying or use. The unauthorized use of our technology or of our proprietary information by competitors could have an adverse effect on our ability to sell our products.

We do business in countries whose laws may not provide protection of our intellectual property rights to the same extent as the laws of the United States, which may make it more difficult for us to protect our intellectual property.

We have customers and relationships with suppliers and ODMs in many countries around the world. However, many of these countries do not address misappropriation of intellectual property to the same extent as the United States or deter others from developing similar, competing technologies or intellectual property. Effective protection of patents, copyrights, trademarks, trade secrets and other intellectual property rights may be unavailable, unenforceable or limited in some foreign countries. As a result, we may not be able to effectively prevent competitors in these regions from infringing our intellectual property rights, which would reduce our competitive advantage, ability to compete and market share in those regions and negatively impact our business.

We may not be successful in scaling our applications catalog or making content available that is attractive to our end users.

In June 2009, we launched a beta version of an applications catalog to complement our Palm webOS product offerings. While we have completed the beta process and the number of applications in the applications catalog has grown, the continued expansion and scaling of the applications catalog requires a substantial investment of internal resources for its continued development of the infrastructure, improvement of developer and consumer interfaces and advertising costs. A continued expansion of our online commercial presence may also require significant additional investment in security measures to ensure that the transmission of confidential data, such as payment information, is secure and to augment protection for our servers, network and installed base of users from damage due to intruders, computer viruses, earthquakes, power losses, telecommunications failures and similar events. Applications tied to the internet may also require an interface with third parties over which we have no control. If we are not able to successfully scale, support or market the applications catalog on a timely basis, or if necessary third-party interfaces are not available to support the applications, the sales of our Palm webOS products may suffer, we may not be able to generate revenues to offset our implementation costs, and our future business, operating cash flows and financial condition may be adversely affected.

Growth of the applications catalog is dependent on the continued recruitment of third-party software developers to create software that will be attractive to our Palm webOS products’ end users. These third-party software developers may earn revenues when their applications are downloaded by our end users. Because we operate in a competitive market and our applications catalog is still in its early stages with a limited number of current users, we may not be successful in convincing existing Palm webOS developers to develop additional applications and/or new developers to develop applications for our catalog. Many developers may already have significant relationships with our competitors and may be unwilling to develop applications for Palm webOS products. Further, even if we are successful in continuing to recruit developers, there is no assurance that they will create products that are an attractive complement to our Palm webOS products and will be purchased by our end users. If our applications catalog is unable to attract additional customers, our results of operations, operating cash flows and financial condition may be adversely affected.

The occurrence or perception of a breach of our security measures or privacy policies, or an inappropriate disclosure of confidential or personal information, could harm our business.

Our Palm webOS and related service offerings rely on the transmission of business-critical, proprietary and confidential information for end users and provide Palm with access to confidential or personal information and data. In addition, information stored in our smartphone products is subject to viruses and security breaches related to wireless data transmission. If the security measures that we or our business partners have implemented are breached or if there is an inappropriate disclosure of confidential or personal information or data, including as a result of a security breach relating to hardware or software, we could be exposed to litigation or regulatory action, possible liability and statutory sanctions. Even if we were not held liable, a security breach or inappropriate disclosure of confidential or personal information and/or data could harm our reputation, and even the perception of security vulnerabilities in our products could lead some customers to reduce or delay future purchases or to purchase competitive products or services. In addition, we may be required to invest additional resources to protect Palm against damages caused by these actual or perceived disruptions or security breaches in the future.

The collection, storage, transmission, use and distribution of user data and personal information could give rise to liabilities or additional costs as a result of laws, governmental regulations and carrier and other customer requirements or differing views of personal privacy rights.

We transmit and store a large volume of data, including personal information, in the course of supporting our Palm webOS products and related service offerings. This information is increasingly subject to legislation and regulations in numerous jurisdictions around the world. Government actions are typically intended to protect the privacy and security of personal information as well as the collection, storage, transmission, use and distribution of such information.

We could be adversely affected if domestic or international legislation or regulations are expanded to require changes in our business practices or if governing jurisdictions interpret or implement their legislation or regulations in ways that negatively affect our business. If we are required to allocate significant resources to modify our Palm webOS service offerings to enable enhanced security of the personal information that we transmit and store, our results of operations, operating cash flows and financial condition may be adversely affected.

In addition, because various foreign jurisdictions have different laws and regulations concerning the storage and transmission of personal information, we may face requirements that pose compliance challenges in new international markets that we seek to enter. Such variation could subject us to costs, liabilities or negative publicity that could impair our ability to expand our operations into some countries and therefore limit our future growth.

Our wireless carrier or other customers may have differing expectations or impose particular requirements for the collection, storage, processing and transmittal of user data or personal information in connection with our Palm webOS product and service offerings. Such expectations or requirements could subject us to costs, liabilities or negative publicity, and limit our future growth. If we are required to allocate significant resources to modify our Palm webOS product and service offerings to meet such requirements, we may incur additional costs to meet such requirements, and our time to market with various product and service offerings may be adversely affected.

As privacy and data protection have become more sensitive issues, we may also become exposed to potential liabilities related to the privacy of personal information. These and other privacy concerns, including security breaches, could adversely impact our business, results of operations, operating cash flows and financial condition.

As a result of the Credit Agreement we entered into, we have a significant amount of debt. We may not be able to generate sufficient cash to service or repay all of our indebtedness, including the Term Loan, and we may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful. Our substantial indebtedness could adversely affect our business, results of operations, cash flows and financial condition.

In October 2007, we entered into a Credit Agreement, which governs a Term Loan and a Revolver. As a result of this Credit Agreement, we have significant indebtedness and substantial debt service requirements. Our ability to meet our payment and other obligations under our indebtedness depends on our ability to generate significant cash flows in the future. Our ability to generate cash is subject to our future operating performance and the demand for, and price levels of, our current and future products and services. However, our ability to generate cash is also subject to prevailing economic and competitive conditions and to general economic, financial, competitive, regulatory and other factors beyond our control. There is no assurance that our business will generate cash flows from operations. Given the uncertainty in the credit market, we may not be able to borrow under or otherwise utilize the Revolver if the lenders refuse or fail to satisfy their commitments under the Revolver. In addition, our Credit Agreement obligates us to meet certain conditions precedent before borrowings under the Revolver or issuances of letters of credit under the Credit Agreement are made, and we may not be able to meet those conditions on the date of any requested borrowing or letter of credit issuance. Therefore, we cannot assure you that future borrowings will be available to us under the Revolver or any new credit facilities, or otherwise, in an amount sufficient to enable us to meet our payment obligations under our indebtedness and to fund other liquidity needs, including operations. If our cash flows and capital resources are insufficient to fund our debt service or repayment obligations, we may be forced to reduce or delay capital expenditures, sell assets or operations, seek additional capital, restructure or refinance all or a portion of our indebtedness, including the Term Loan, or incur additional debt. There is no assurance that we would be able to take any of these actions on commercially reasonable terms or at all. There is also no assurance that these actions would be successful and permit us to meet our scheduled debt service or repayment obligations or that these actions would be permitted under the terms of our existing or future debt agreements. Moreover, the Credit Agreement restricts our ability to dispose of assets and use the proceeds from the disposition. In the absence of such cash flow and capital resources, we could face substantial liquidity problems.

If we cannot make scheduled payments on our debt, or if we otherwise breach the Credit Agreement or related agreements, we will be in default and, as a result:

Although covenants contained in the Credit Agreement governing the Term Loan and the Revolver will limit our ability and the ability of certain of our present and future subsidiaries to incur certain additional indebtedness, these restrictions are subject to a number of qualifications and exceptions, and the indebtedness that we could incur in compliance with these restrictions could be substantial. In addition, the Credit Agreement will not prevent certain of our subsidiaries from incurring indebtedness. To the extent that we or our subsidiaries incur additional indebtedness, the related risks that we now face could intensify.

Our indebtedness may limit our ability to adjust to changing market conditions, place us at a competitive disadvantage compared to our competitors and adversely affect our business, results of operations, operating cash flows and financial condition.

The Credit Agreement governing the Term Loan and the Revolver contains covenants that may adversely affect our ability to, among other things, finance future operations or capital needs, transfer funds to our subsidiaries or engage in other business activities. Further, the Credit Agreement contains negative covenants limiting our ability and the ability of our subsidiaries to, among other things, incur debt, grant liens, make acquisitions, make certain restricted payments, make investments, sell assets and enter into sale and lease back transactions. Any additional debt we may incur in the future may subject us to further covenants. Even if we are able to comply with all of the applicable covenants, the restrictions on our ability to manage our business in our sole discretion could adversely affect our business by, among other things, limiting our ability to take advantage of financings, mergers, acquisitions and other corporate opportunities that we believe would be beneficial to us.

Our ability to comply with covenants contained in the Credit Agreement governing the Term Loan and Revolver and any agreements governing other indebtedness may be affected by events beyond our control, including prevailing economic, financial and industry conditions. Our failure to comply with the covenants contained in any of the debt agreements described above, for any reason, in addition to other specified events, could result in a default under such debt agreements. In addition, if any such default is not cured or

waived, the default could result in an acceleration of debt under the Credit Agreement and our other debt instruments that contain cross-acceleration or cross-default provisions, which could require us to repay or repurchase debt, together with accrued interest, prior to the date it otherwise is due, and that could adversely affect our financial condition. Upon a default or cross-default, the collateral agent, at the direction of the lenders under the Credit Agreement could proceed against the collateral, which includes substantially all of our assets.

Variable rate indebtedness subjects us to interest rate risk, which could cause our debt service obligations to increase significantly.

Under our Credit Agreement, our Term Loan and Revolver bear interest at variable rates and expose us to interest rate risk. If interest rates increase, our debt service obligations on the variable rate indebtedness would increase even though the principal amount of such indebtedness remained the same. Interest on the Term Loan is based on LIBOR or the Alternate Base Rate (higher of Prime Rate or Federal Funds Effective Rate plus 0.50%). An increase in the interest rate payable on the Term Loan could have an adverse effect on our results of operations, cash flows, financial condition and ability to make payments on the Term Loan.

Ratable revenue recognition accounting guidance applicable to our current and future Palm webOS products will result in a deferral of certain associated revenues. Changes in generally accepted accounting principles may significantly impact our results of operations and financial condition.

Pursuant to new accounting guidance for revenue recognition which we adopted in our third quarter of fiscal year 2010, our sales of Palm webOS products were separated into two deliverables, including a subscription to future services and unspecified software that end users have the right to receive, free of charge, on a when-and-if-available basis. We account for this subscription using a ratable recognition model as required by generally accepted accounting principles in the United States. Ratable recognition accounting spreads the impact of the subscription’s contribution to our overall revenues over the estimated economic life of the associated Palm webOS smartphone product, which is currently 24 months. As a result, only a portion of the revenues associated with this subscription will be recognized at the time of shipment of the related Palm webOS smartphone. Accordingly, a portion of our revenues in a given quarter will result from the recognition of deferred revenues relating to Palm webOS products sold during previous quarters.

Comparisons of Palm webOS revenues and margins with those associated with our historical non-Palm webOS products or with the revenues of competitors that are not subject to ratable recognition accounting may be unfavorable, could be misunderstood by investors and may adversely affect our stock price if investors believe we are not achieving certain financial performance targets. Our Palm webOS product revenues and gross profit may continue to be lower than, or difficult to compare to our competitors who do not allocate a proportion of revenues to future deliverables.

Accounting authorities continually consider proposals to adopt new and revised accounting standards. Changes in accounting rules and standards have in the past and may in the future continue to have a significant effect on our reported results of operations and financial condition under generally accepted accounting principles. We are unable to predict the effect that such proposals may have on investors’ ability to understand our business, results of operations and financial condition.

We incorporate open source software into our Palm webOS software platform and related applications and services, including certain open source code which is governed by the GNU General Public License, or GPL, GNU Lesser General Public License, or LGPL, and other open source licenses. There is very little case law interpreting the terms and conditions of many of these licenses, and there is a risk that these licenses could be construed in a manner that might impose unanticipated conditions or restrictions on our ability to commercialize our products as we intend. In such event, we could be required to: seek licenses from third parties in order to continue offering our products; make certain portions of our proprietary code generally available in source code form (for example, proprietary code that links to certain open source code); re-engineer our products; discontinue the sale of our products if re-engineering cannot be accomplished on a cost-effective and timely basis; or become subject to other consequences. Any of these consequences could adversely affect our business, results of operations, operating cash flows and financial condition.

Our success largely depends on our ability to hire, retain, integrate and motivate sufficient numbers of qualified personnel, including senior management. Our strategy and our ability to innovate, design and produce new products, sell products, maintain operating margins and control expenses depend on key personnel that may be difficult to replace.

Our success depends on our ability to attract and retain highly skilled personnel, including senior management and international personnel. Our chairman and chief executive officer, Jonathan Rubinstein, is particularly important to our ability to succeed. From time to time, we experience turnover in some of our senior management positions. We compensate our employees through a combination of salary, bonuses, benefits and equity compensation. Recruiting and retaining skilled personnel, including software and hardware engineers, is highly competitive, particularly in the San Francisco Bay Area where we are headquartered. If we fail to provide competitive compensation to our employees, it will be difficult to retain, hire and integrate qualified employees and contractors, and we may not be able to maintain and expand our business. If we do not retain our senior managers or other key

employees for any reason, we risk losing institutional knowledge, experience, expertise and other benefits of continuity as well as the ability to attract and retain other key employees. In addition, we must carefully balance the growth of our employee base with our current infrastructure, management resources and anticipated operating cash flows. If we are unable to manage the growth of our employee base, particularly software and hardware engineers, we may fail to develop and introduce new products successfully and in a cost effective and timely manner. If our revenue growth or employee levels vary significantly, our operating cash flows and financial condition could be adversely affected. Volatility or lack of positive performance in our stock price, including the recent declines in our stock price, may also affect our ability to retain key employees, many of whom have been granted stock options, other equity incentives or both. Palm’s practice has been to provide equity incentives to its employees through the use of stock options and other equity vehicles, but the number of shares available for new options and other forms of securities grants is limited. We may find it difficult to provide competitive stock option grants or other equity incentives, and our ability to hire, retain and motivate key personnel may suffer.

Recently and in past years, we have initiated reductions in our workforce of both employees and contractors to align our employee base with our anticipated revenue base or with our areas of focus. We have also seen some turnover in our workforce. These reductions have resulted in reallocations of duties, which could result in employee and contractor uncertainty. Reductions in our workforce could make it difficult to attract, motivate and retain employees and contractors, which could affect our ability to deliver our products in a timely fashion and adversely affect our business.

We rely on third parties to sell and distribute our products, and we rely on their information to manage our business. Disruption of our relationship with these channel partners, changes in their business practices, their failure to provide timely and accurate information or conflicts among our channels of distribution could adversely affect our business, results of operations, operating cash flows and financial condition.

The wireless carriers, distributors, retailers and resellers who sell and distribute our products also sell products offered by our competitors. If our competitors offer our sales channel partners more favorable terms, have more products available to meet their needs or utilize the leverage of broader product lines sold through the channel, those wireless carriers, distributors, retailers and resellers may de-emphasize or decline to carry our products. In addition, certain of our sales channel partners could decide to de-emphasize the product category that we offer in exchange for other product categories that they believe provide higher returns. If we are unable to maintain successful relationships with these sales channel partners or to expand our distribution channels, our business will suffer.

Because we sell our products primarily to wireless carriers, distributors, retailers and resellers, we are subject to many risks, including risks related to product returns, either through the exercise of contractual return rights or as a result of our strategic interest in assisting them in balancing inventories. In addition, these sales channel partners could modify their business practices, such as inventory levels, or seek to modify their contractual terms, such as return rights or payment terms. Unexpected changes in product return requests, inventory levels, payment terms or other practices by these sales channel partners could negatively impact our business, results of operations, operating cash flows and financial condition.

We rely on wireless carriers, distributors, retailers and resellers to provide us with timely and accurate information about their inventory levels as well as sell-through of products purchased from us. We use this information as one of the factors in our forecasting process to plan future production and sales levels, which in turn influences our financial forecasts. We also use this information as a factor in determining the required levels of some of our financial reserves. If we do not receive this information on a timely and accurate basis, our results of operations and financial condition may be adversely impacted.

Distributors, retailers and traditional resellers experience competition from Internet-based resellers that distribute directly to end users, and there is also competition among Internet-based resellers. These varied sales channels could cause conflict among our channels of distribution, which could harm our business, revenues, results of operations and operating cash flows.

We rely on third parties to manage and operate our e-commerce web store and related telesales call center, and disruption to these sales channels could adversely affect our revenues and operating cash flows.

We outsource the operations of our e-commerce web store and related telesales call centers to third parties. We depend on their expertise and rely on them to provide satisfactory levels of service. If these third-party providers fail to provide consistent quality service in a timely manner and sustain customer satisfaction, our operations and revenues could suffer. If these third-parties were to stop providing these services, we may be unable to replace them on a timely basis and our operating cash flows could be harmed. In addition, if these third parties were to change the terms and conditions under which they provide these services, our selling costs could increase.

We use third parties to provide significant operational and administrative services, and our ability to satisfy our customers and operate our business could suffer if the level of services is interrupted or does not meet our requirements.

We use third parties, some of which are our competitors, to provide services such as data center operations, desktop computer support, facilities services and certain accounting services. Should any of these third parties fail to deliver an adequate level of service on a timely basis, our business could suffer. Some of our operations rely on electronic data systems interfaces with third parties or on the Internet to communicate information. Interruptions in the availability and functionality of systems interfaces or the Internet could adversely impact the operations of these systems and consequently our business, results of operations and operating cash flows.

We are subject to increasingly stringent laws, standards and other regulatory requirements, and the costs of compliance or failure to comply may adversely impact our business, operating cash flows and financial condition.

We must comply with a variety of laws, standards and other requirements governing, among other things, health and safety, hazardous materials usage, packaging and environmental matters. Our products must obtain regulatory approvals and satisfy other regulatory concerns in the various jurisdictions where they are manufactured and/or sold. Many of our products must meet standards governing, among other things, interference with other electronic equipment and human exposure to electromagnetic radiation. Failure to comply with such requirements can subject us to liability, additional costs, reputational harm and, in severe cases, prevent us from selling our products in certain jurisdictions. For example, we are subject to laws and regulations that restrict the use of lead and other hazardous substances and require us as producers of electrical and electronic equipment to assume responsibility for collecting, treating, recycling and disposing of our products when they have reached the end of their useful life. Failure to comply with these and other applicable environmental requirements can result in fines, civil or criminal sanctions and third-party claims. If products we sell in Europe are found to contain more than the permitted percentage of lead or other restricted substances, it is possible that we could be forced to recall the products, which could result in gaps in supply, substantial replacement costs, contract damage claims from customers and reputational harm. We are now and expect in the future to become subject to additional laws, standards and other regulatory requirements in the United States, China, Europe and other parts of the world.

As a result of these varying and developing requirements throughout the world, we are now facing increasingly complex procurement and design challenges, which, among other things, require us to incur additional costs identifying suppliers and contract manufacturers who can provide, and otherwise obtain, compliant materials, parts and end products. It may be necessary to re-design our products so that they comply with these and the many other requirements applicable to them. We cannot assure you that our costs of complying with and our liabilities arising from current and future health and safety, environmental and other laws, standards and regulatory requirements will not adversely affect our business, operating cash flows or financial condition.

Allegations of health risks associated with electromagnetic fields and wireless communications devices, and the lawsuits and publicity relating to them, regardless of merit, could adversely impact our business, operating cash flows and financial condition.

There has been public speculation about possible health risks to individuals from exposure to electromagnetic fields from base stations and exposure to radio signals from the use of mobile devices. Government agencies, international health organizations and other scientific bodies are currently conducting research into these issues. In addition, other mobile device companies have been named in individual plaintiff and class action lawsuits alleging that radio emissions from mobile phones have caused or contributed to brain tumors and that the use of mobile phones poses a health risk. There has been significant scientific research by various independent research bodies that has indicated that exposure to electromagnetic fields or to radio signals, at levels within the limits prescribed by public health authority standards and recommendations, presents no adverse effect to human health. Nevertheless, we cannot assure you that other studies will not suggest or identify a link between electromagnetic fields or radio signals and adverse health effects or that we will not be the subject of future lawsuits relating to this issue. Adverse factual developments or lawsuits against us, or even the perceived risk of adverse health effects from smartphones or other handheld devices, could adversely impact sales, subject us to costly litigation and/or harm our reputation, business, operating cash flows and financial condition.

Our future results could be harmed by economic, political, regulatory and other risks associated with international sales and operations.

Because we sell our products worldwide and most of the facilities where our devices are manufactured, distributed and supported are located outside the United States, our business is subject to risks associated with doing business internationally, such as:

In addition, we are subject to changes in demand for our products resulting from exchange rate fluctuations that make our products relatively more or less expensive in international markets. If exchange rate fluctuations occur, our business and operating cash flows could be harmed by decreases in demand for our products or reductions in margins.

While we sell our products in many countries, we have limited experience with sales and marketing in some countries. There can be no assurance that we will be able to market and sell our products in all of our targeted international markets. If our international efforts are not successful, our business growth and results of operations could be harmed.

We may be required to record impairment charges in future quarters as a result of the decline in value of our investments in auction rate securities.

We hold a variety of interest-bearing ARS that have failed to settle on their respective settlement dates since fiscal year 2008 and are not currently trading. Consequently, the investments are not currently liquid and we will not be able to access these funds until a future auction of these investments is successful or a buyer is found outside of the auction process. We may decide to hold these investments for a long time or to sell them at a substantial discount. Maturity dates for these ARS investments range from 2015 to 2052.

The valuation of our investment portfolio, including our investments in ARS, is subject to uncertainties that are difficult to predict. Factors that may impact its valuation include changes to credit ratings of the securities as well as to the underlying assets supporting these securities, rates of default of the underlying assets, underlying collateral value, discount rates, liquidity and ongoing strength and quality of credit markets. Due to continued deterioration, we expect to record additional impairment charges in future quarters related to our ARS investments.

We are required to adjust our series C derivatives to estimated fair value on a quarterly basis, which will affect our results of operations.

Our series C derivatives are subject to mark-to-market accounting treatment, and the change in fair market value of the derivatives is reported in our statement of operations each quarter, which has resulted in and may in the future result in reporting significant gains or losses related to these derivatives. For example, in the first nine months of fiscal year 2010 the decrease in fair market value of our series C derivatives resulted in a non-cash gain of $125.5 million to our results of operations. This amount includes a non-cash loss of $27.4 million recorded to our results of operations during the first quarter of fiscal year 2010 as the result of the increase in our stock price to $13.49 on August 31, 2009 from $12.19 on May 31, 2009. Because the estimated fair value of these derivatives is affected by our stock price, fluctuations in our stock price – which has historically been volatile—may significantly affect our financial results.

Our ability to utilize our net operating losses may be limited if cumulative changes in ownership of Palm exceed 50%.

We have substantial U.S. federal income tax net operating loss carryforwards. If over a rolling three-year period, the cumulative change in our ownership exceeds 50%, our ability to utilize our net operating losses to offset future taxable income may be limited. We have exceeded this 50% cumulative change threshold since our initial public offering in 2000. While no prior occurrence had a material adverse effect on our ability to use our net operating losses, exceeding the 50% cumulative change threshold during a time when our capitalization is low could have a more significant effect. Recent financing transactions have raised the cumulative change in our ownership within the most recent period. The effect of such transactions on our cumulative change in ownership may limit or otherwise negatively affect the benefits of engaging in financing and other transactions in the future. Furthermore, it is possible that transactions in our stock that may not be within our control may cause us to exceed the 50% cumulative change threshold and may impose a limitation on the utilization of our net operating losses in the future. In the event the usage of these net operating losses is subject to limitation and we are profitable, our future cash flows could be adversely impacted due to our increased tax liability.

We may pursue strategic acquisitions and investments which could have an adverse impact on our business if they are unsuccessful.

We have made acquisitions in the past and will continue to evaluate other acquisition opportunities that could provide us with additional product or service offerings or with additional industry expertise, assets and capabilities. Acquisitions could result in difficulties integrating acquired operations, products, technology, internal controls, personnel and management teams and result in the

diversion of capital and management’s attention away from other business issues and opportunities. If we fail to successfully integrate acquisitions, including timely integration of internal controls to satisfy the requirements of Section 404 of the Sarbanes-Oxley Act of 2002, our business could be harmed. In addition, our acquisitions may not be successful in achieving our desired strategic objectives, which would also cause our business to suffer. Acquisitions can also lead to large non-cash charges that can have an adverse effect on our results of operations as a result of write-offs for items such as future impairments of intangible assets and goodwill or the recording of stock-based compensation. In addition, from time to time we make strategic venture investments in other companies that provide products and services that are complementary to ours. If these investments are unsuccessful, this could have an adverse impact on our results of operations, operating cash flows and financial condition.

Business interruptions, including those that may not directly impact us, could adversely affect our business.

Our operations and those of our suppliers and customers are vulnerable to interruption by fire, hurricanes, earthquake, power loss, telecommunications failure, computer viruses, computer hackers, terrorist attacks, wars, military activity, labor disruptions, health epidemics and other natural disasters and events beyond our control. Such events and threats could also have an adverse impact on the United States and world economy in general, and consumer confidence and spending in particular, which could harm our business, results of operations, operating cash flows and financial condition.

In addition, the business interruption insurance we carry may not cover, in some instances, or be sufficient to compensate us fully for losses or damages—including, for example, loss of market share and diminution of our brand value, reputation and customer loyalty—that may occur as a result of such events. Any such losses or damages incurred by us could have an adverse effect on our business.

Risks Related to the Securities Markets and Ownership of Our Common and Preferred Stock

Our common stock price may be subject to significant fluctuations and volatility.

The market price of our common stock has been subject to significant fluctuations since the date of our initial public offering. Since the beginning of fiscal year 2009, our closing stock price has ranged from $1.42 on December 5, 2008 to $17.46 on September 30, 2009. These fluctuations could continue. Among the factors that could affect our stock price are:

The stock markets in general, and the markets for high technology stocks in particular, have experienced high volatility that has often been unrelated to the operating performance of particular companies. These broad market fluctuations may adversely affect the trading price of our common stock.

If securities or industry analysts change to a negative outlook regarding our stock or our operating results do not meet their expectations, our stock price could decline. The trading market for our common stock is influenced by the research and reports that industry or securities analysts publish about us or our products. If one or more of these analysts cease coverage of our company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. Moreover, if one or more of the analysts who cover our company downgrade our stock or if our operating results do not meet their expectations, our stock price could decline.

As of February 28, 2010, the Series B Preferred Stock and Series C Preferred Stock owned by Elevation and its affiliates are convertible into 24% of our outstanding common stock on an as-converted basis and vote on an as-converted basis with our common stock on all matters other than the election of those directors elected solely by the holders of our common stock. Additionally,

Elevation and its affiliates hold 10.5 million shares of common stock and warrants to purchase an additional 3.6 million shares of Palm common stock, which, if exercised, would bring their total ownership percentage to 30% as of February 28, 2010. The voting rights of Elevation and its affiliates on an as-converted and an as-exercised basis are capped at 39.9% of the outstanding common stock, and Elevation and its affiliates are prohibited from converting their Series B Preferred Stock and Series C Preferred Stock and exercising their warrants to the extent such conversion or exercise would cause the 39.9% voting limitation to be exceeded. Notwithstanding these voting, conversion and exercise limitations, Elevation has the ability to significantly influence the outcome of any matter submitted for the vote of Palm stockholders. Elevation may have interests that diverge from, or even conflict with, those of Palm or its other stockholders.

Subject to certain exceptions, Elevation has the right under the terms of an amended and restated stockholders’ agreement between Palm and Elevation, or the Amended and Restated Stockholders’ Agreement, to maintain its ownership interest in Palm.

In addition, the terms of the Series B Preferred Stock and Series C Preferred Stock and the Amended and Restated Stockholders’ Agreement provide that Elevation has the right to designate a percentage of Palm’s board of directors proportional to Elevation’s ownership position in Palm. Currently, Elevation has the right to designate, and has designated, two of the members of our seven-member board based on its current ownership percentage.

Certain elements of our relationship with Elevation and our executive officers may discourage other parties from trying to acquire Palm.

The ownership position and governance rights of Elevation could discourage a third party from proposing a change of control or other strategic transaction concerning Palm. Of the seven members of our board of directors, two are Elevation designees and one is an executive officer of Palm. These governance arrangements may discourage a third party from pursuing such transactions with Palm. Also, employment arrangements with our executive officers provide for termination benefits, including acceleration of the vesting of certain equity awards if they terminate their employment for good reason or are terminated without cause following a change of control or within three months prior to a change of control of Palm. Further, in connection with certain change of control transactions in which Elevation maintains a beneficial ownership percentage of at least 7.5% of the surviving entity, it is entitled to retain a seat on the board of directors of the surviving entity. As a result of these factors, our common stock could trade at prices that do not reflect a “takeover premium” to the same extent as do the stocks of similarly situated companies that do not have a stockholder with an ownership interest as large as Elevation’s ownership interest.

We may not have the ability to finance the mandatory repurchase offer pursuant to the terms of the Series B Preferred Stock and/or the Series C Preferred Stock.

If certain change of control transactions occur, we will be required to make an offer to repurchase up to all of the then outstanding shares of Series B Preferred Stock and, subject to any applicable consent from the lenders under the Credit Agreement, Series C Preferred Stock, at the option and election of the holders thereof. We will have the option to pay the repurchase price in cash or, subject to certain conditions, publicly traded shares of the acquiring entity in the change of control transaction. The cash repurchase price is 101% of the $325 million purchase price for the Series B Preferred Stock and $51 million purchase price for the Series C Preferred Stock plus accrued and unpaid dividends. The repurchase price, if paid in publicly traded shares of the acquiring entity, is 105% of the purchase price plus accrued and unpaid dividends. Our failure to pay the repurchase price in respect of all tendered shares for any reason, including the absence of funds legally available for such payment, would require us to pay conditional dividends, which represent a cash dividend at an annual rate equal to the prime rate of JPMorgan Chase Bank N.A. plus 4%, on each share of Series B Preferred Stock and Series C Preferred Stock. Conditional dividends will accrue and cumulate until the date on which we pay the entire repurchase price, and will be payable quarterly. For so long as conditional dividends are accruing, neither we nor any of our subsidiaries may declare or pay any dividends on our common stock, or repurchase or redeem any shares of our common stock. This may adversely affect the rights of our existing stockholders and the market price of our common stock. These repurchase requirements may also delay or make it more difficult for others to obtain control of us.

Provisions in our charter documents and Delaware law and our adoption of a stockholder rights plan may delay or prevent acquisition of us, which could decrease the value of shares of our common stock.

Our certificate of incorporation and bylaws and Delaware law contain provisions that could make it more difficult for a third party to acquire us without the consent of our board of directors. These provisions include a classified board of directors and limitations on actions by our stockholders by written consent. Delaware law also imposes some restrictions on mergers and other business combinations between us and any holder of 15% or more of our outstanding common stock (including Series B Preferred Stock and Series C Preferred Stock outstanding on an as-converted basis). In addition, our board of directors has the right to issue preferred stock without stockholder approval, which could be used to dilute the stock ownership of a potential hostile acquirer. Although we believe these provisions provide for an opportunity to receive a higher bid by requiring potential acquirers to negotiate with our board of directors, these provisions apply even if the offer may be considered beneficial by some stockholders.

Our board of directors adopted a stockholder rights plan, pursuant to which we declared and paid a dividend of one right for each share of common stock outstanding as of November 6, 2000. Unless redeemed by us prior to the time the rights are exercised, upon the occurrence of certain events, the rights will entitle the holders to receive, upon exercise of the rights, shares of our common stock, or shares of common stock of an acquiring entity having a value equal to twice the then-current exercise price of the right. The issuance of the rights could have the effect of delaying or preventing a change in control of us.

The following table summarizes employee stock repurchase activity for the three months ended February 28, 2010:

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


		Page
PART I—FINANCIAL INFORMATION

Item 1.	Financial Statements	3
	Condensed Consolidated Statements of Operations Three and nine months ended February 28, 2010 and 2009	3
	Condensed Consolidated Balance Sheets February 28, 2010 and May 31, 2009	4
	Condensed Consolidated Statements of Cash Flows Nine months ended February 28, 2010 and 2009	5
	Notes to Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	27
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	42
Item 4.	Controls and Procedures	43

PART II—OTHER INFORMATION

Item 1.	Legal Proceedings	43
Item 1A.	Risk Factors	43
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	62
Item 6.	Exhibits	63
Signatures		68


	Three Months Ended February 28,						Nine Months Ended February 28,
	2010 (a)			2009			2010 (a)			2009
Revenues	$	349,928		$	90,624		$	984,170		$	649,099
Cost of revenues		302,971			86,414			781,241			509,407

Gross profit		46,957			4,210			202,929			139,692
Operating expenses:
Sales and marketing		98,014			38,059			228,099			140,748
Research and development		51,327			42,786			145,635			139,317
General and administrative		17,968			14,000			48,100			41,539
Amortization of intangible assets		405			884			1,214			2,650
Restructuring charges		535			5,692			9,817			13,515
Casualty loss (recovery)		(3,432	)		4,982			(3,432	)		4,982
Patent acquisition refund		—			—			—			(1,537	)

Total operating expenses		164,817			106,403			429,433			341,214
Operating loss		(117,860	)		(102,193	)		(226,504	)		(201,522	)
Gain (impairment) of non-current auction rate securities, net		7,050			(3,960	)		5,093			(33,178	)
Interest (expense)		(4,518	)		(5,941	)		(13,653	)		(20,521	)
Interest income		383			1,039			1,325			5,111
Gain on series C derivatives		96,616			20,573			125,539			20,573
Other income (expense), net		(217	)		(3,895	)		(233	)		(4,708	)

Loss before income taxes		(18,546	)		(94,377	)		(108,433	)		(234,245	)
Income tax provision (benefit)		(17	)		646			(152	)		406,425

Net loss		(18,529	)		(95,023	)		(108,281	)		(640,670	)
Accretion of series B and series C redeemable convertible preferred stock		3,518			3,004			10,334			7,829

Net loss attributable to common stockholders	$	(22,047	)	$	(98,027	)	$	(118,615	)	$	(648,499	)

Net loss per common share:
Basic and diluted	$	(0.13	)	$	(0.89	)	$	(0.76	)	$	(5.92	)

Shares used to compute net loss per common share:
Basic and diluted		167,892			110,529			156,098			109,506


	February 28, 2010 (a)			May 31, 2009 (a)
ASSETS
Current assets:
Cash and cash equivalents	$	376,282		$	152,400
Short-term investments		215,634			102,733
Accounts receivable, net of allowance for doubtful accounts of $675 and $350, respectively		104,025			66,452
Inventories		30,619			19,716
Deferred income taxes		174			174
Prepaids and other		16,115			12,104

Total current assets		742,849			353,579

Restricted investments		9,298			9,496
Non-current auction rate securities		4,148			6,105
Property and equipment, net		32,944			31,167
Goodwill		166,320			166,320
Intangible assets, net		41,164			48,914
Deferred income taxes		128			331
Other assets		10,386			12,428

Total assets	$	1,007,237		$	628,340

LIABILITIES AND STOCKHOLDERS’ DEFICIT
Current liabilities:
Accounts payable	$	189,335		$	105,628
Deferred revenues		31,533			5,684
Accrued restructuring		4,491			6,090
Current portion of long-term debt		4,000			4,000
Series C derivatives		82,047			—
Other accrued liabilities		289,727			211,300

Total current liabilities		601,133			332,702

Non-current liabilities:
Long-term debt		387,000			390,000
Non-current deferred revenues		19,001			624
Non-current tax liabilities		6,286			5,783

Series B redeemable convertible preferred stock, $0.001 par value, 325 shares authorized and outstanding; aggregate liquidation value: $325,000		272,961			265,412
Series C redeemable convertible preferred stock, $0.001 par value, 100 shares authorized; 51 shares outstanding; aggregate liquidation value: $51,000		18,782			40,387

Stockholders’ deficit:
Preferred stock, $0.001 par value, 125,000 shares authorized: Series A: 2,000 shares authorized, none outstanding		—			—
Common stock, $0.001 par value, 2,000,000 shares authorized; outstanding: 168,701 shares and 139,687 shares, respectively		169			140
Additional paid-in capital		1,242,896			854,649
Accumulated deficit (see Note 19)		(1,542,720	)		(1,262,375	)
Accumulated other comprehensive income		1,729			1,018

Total stockholders’ deficit		(297,926	)		(406,568	)

Total liabilities and stockholders’ deficit	$	1,007,237		$	628,340


	Nine Months Ended February 28,
	2010 (a)			2009
Cash flows from operating activities:
Net loss	$	(108,281	)	$	(640,670	)
Adjustments to reconcile net loss to net cash flows from operating activities:
Depreciation		16,594			15,098
Stock-based compensation		23,575			19,375
Amortization of intangible assets		7,750			9,551
Amortization of debt issuance costs		2,350			2,355
Recognized loss on property and equipment		710			—
Deferred income taxes		203			412,237
Realized losses (gains) on short-term investments		(541	)		3,282
Excess tax benefit related to stock-based compensation		(235	)		(119	)
(Gain) impairment of non-current auction rate securities, net		(5,093	)		33,178
Gain on series C derivatives		(125,539	)		(20,573	)
Changes in assets and liabilities:
Accounts receivable		(37,142	)		61,141
Inventories		(10,662	)		51,669
Prepaids and other		(1,626	)		3,491
Accounts payable		83,687			(61,910	)
Accrued restructuring		(1,511	)		908
Deferred revenues		44,226			—
Other accrued liabilities		82,606			(5,124	)

Net cash used in operating activities		(28,929	)		(116,111	)


Cash flows from investing activities:
Purchase of property and equipment		(19,164	)		(9,599	)
Purchase of short-term investments		(371,932	)		(61,518	)
Sale of short-term investments		256,631			52,235
Purchase of restricted investments		(500	)		(2,000	)
Sale of restricted investments		698			862
Sale of non-current auction rate securities		7,050			—

Net cash used in investing activities		(127,217	)		(20,020	)


Cash flows from financing activities:
Proceeds from issuance of common stock, net		359,570			—
Proceeds from issuance of common stock, employee stock plans		26,010			6,455
Proceeds (payments) related to issuance of series C units, net		(826	)		99,204
Excess tax benefit related to stock-based compensation		235			119
Repayment of debt		(5,129	)		(12,555	)
Cash distribution to stockholders		(270	)		(259	)

Net cash provided by financing activities		379,590			92,964

Effects of exchange rate changes on cash and cash equivalents		438			(2,984	)
Change in cash and cash equivalents		223,882			(46,151	)
Cash and cash equivalents, beginning of period		152,400			176,918

Cash and cash equivalents, end of period	$	376,282		$	130,767

Other cash flow information:
Cash paid for income taxes	$	2,133		$	2,671

Cash paid for interest	$	9,024		$	17,947


	As Reported May 31, 2009			Adjustments			As Adjusted May 31, 2009
Deferred cost of revenues	$	14,896		$	(14,896	)	$	—

Total assets	$	643,236		$	(14,896	)	$	628,340


Deferred revenues	$	18,429		$	(12,745	)	$	5,684

Other accrued liabilities (a)	$	208,295		$	3,005		$	211,300

Total current liabilities	$	342,442		$	(9,740	)	$	332,702


Non-current deferred revenues	$	13,077		$	(12,453	)	$	624


Stockholders’ deficit:
Common stock	$	140		$	—		$	140
Additional paid-in capital		854,649			—			854,649
Accumulated deficit		(1,269,672	)		7,297			(1,262,375	)
Accumulated other comprehensive income		1,018			—			1,018

Total stockholders’ deficit	$	(413,865	)	$	7,297		$	(406,568	)


Total liabilities and stockholders’ deficit	$	643,236		$	(14,896	)	$	628,340

(a) Includes accruals for product warranty and related services for Palm webOS products which reflect management’s best estimate of probable liability for its product warranties and related services. Prior to the adoption of these updates to the accounting standards, Palm recorded product warranty and related service costs for Palm webOS products as incurred. See Note 14 to Palm’s condensed consolidated financial statements.


	As Reported for the Year Ended May 31, 2009			Adjustments			As Adjusted for the Year Ended May 31, 2009
Cash flows from operating activities:
Net loss	$	(732,188	)	$	7,297		$	(724,891	)
Adjustments to reconcile net loss to net cash flows from operating activities:
Non-cash charges		502,944			—			502,944
Changes in assets and liabilities:
Accounts receivable		48,425			—			48,425
Inventories		47,571			—			47,571
Prepaids and other		4,542			—			4,542
Accounts payable		(54,883	)		—			(54,883	)
Accrued restructuring		(361	)		—			(361	)
Deferred revenues		12,530			(10,302	)		2,228
Other accrued liabilities		(17,092	)		3,005			(14,087	)

Net cash used in operating activities	$	(188,512	)	$	—		$	(188,512	)


	As Reported for the Three Months Ended August 31, 2009			Adjustments			As Adjusted for the Three Months Ended August 31, 2009
Cash flows from operating activities:
Net loss	$	(161,095	)	$	81,589		$	(79,506	)
Adjustments to reconcile net loss to net cash flows from operating activities:
Non-cash charges		49,398			—			49,398
Changes in assets and liabilities:
Accounts receivable		(9,945	)		2,600			(7,345	)
Inventories		(7,939	)		—			(7,939	)
Prepaids and other		(543	)		—			(543	)
Accounts payable		(7,252	)		—			(7,252	)
Accrued restructuring		(278	)		—			(278	)
Deferred revenues		114,474			(100,278	)		14,196
Other accrued liabilities		(21,929	)		16,089			(5,840	)

Net cash used in operating activities	$	(45,109	)	$	—		$	(45,109	)


	As Reported for the Six Months Ended November 30, 2009			Adjustments			As Adjusted for the Six Months Ended November 30, 2009
Cash flows from operating activities:
Net loss	$	(243,024	)	$	153,272		$	(89,752	)
Adjustments to reconcile net loss to net cash flows from operating activities:
Non-cash charges		7,661			—			7,661
Changes in assets and liabilities:
Accounts receivable		(5,236	)		4,600			(636	)
Inventories		(18,787	)		—			(18,787	)
Prepaids and other		(4,631	)		—			(4,631	)
Accounts payable		59,383			—			59,383
Accrued restructuring		(908	)		—			(908	)
Deferred revenues		201,451			(174,898	)		26,553
Other accrued liabilities		(24,368	)		17,026			(7,342	)

Net cash used in operating activities	$	(28,459	)	$	—		$	(28,459	)


	Fair Value Measurements as of February 28, 2010
	Total		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Cash and cash equivalents:
Money market funds	$	251,884	$	251,884	$	—	$	—
Federal government obligations		74,991		74,991		—		—
Short-term investments:
Federal government obligations		215,317		215,317		—		—
Corporate notes/bonds		317		—		317		—
Restricted investments, money market funds		8,522		8,522		—		—
Non-current auction rate securities		4,148		—		—		4,148

Total assets at fair value	$	555,179	$	550,714	$	317	$	4,148


Liabilities:
Warrant derivative liability	$	14,778	$	—	$	14,778	$	—
Conversion feature derivative liability		67,269		—		—		67,269

Total series C derivatives	$	82,047	$	—	$	14,778	$	67,269


	Fair Value Measurements as of May 31, 2009
	Total		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Cash equivalents, money market funds	$	85,330	$	85,330	$	—	$	—
Short-term investments:
Federal government obligations		101,502		101,502		—		—
Corporate notes/bonds		1,231		—		1,231		—
Restricted investments, money market funds		9,085		9,085		—		—
Non-current auction rate securities		6,105		—		—		6,105

Total assets at fair value	$	203,253	$	195,917	$	1,231	$	6,105


	Asset Financial Instruments Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
	Three Months Ended February 28, 2010		Nine Months Ended February 28, 2010
Non-current auction rate securities, beginning of period	$	4,148	$	6,105
Total losses (realized/unrealized) (1):
Included in net loss		—		(1,957	)

Non-current auction rate securities, end of period	$	4,148	$	4,148


	Liability Financial Instruments Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
	Three Months Ended February 28, 2010			Nine Months Ended February 28, 2010
Conversion feature derivative liability, beginning of period	$	146,909		$	—
Total gains (realized/unrealized) (1):
Included in net loss		(79,640	)		(104,089	)
Application of new accounting standard (see Note 19)		—			171,358

Conversion feature derivative liability, end of period	$	67,269		$	67,269


	Asset Financial Instruments Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
	Three Months Ended February 28, 2009			Nine Months Ended February 28, 2009
Non-current auction rate securities, beginning of period	$	13,257		$	29,944
Total gains (losses) (realized/unrealized) (1):
Included in net loss		(3,960	)		(33,178	)
Included in other comprehensive (loss)		—			12,531

Non-current auction rate securities, end of period	$	9,297		$	9,297


	Three Months Ended February 28,						Nine Months Ended February 28,
	2010			2009			2010			2009
Numerator:
Net loss	$	(18,529	)	$	(95,023	)	$	(108,281	)	$	(640,670	)
Amount allocable to series B and series C redeemable convertible preferred stock		—			—			—			—
Accretion of series B and series C redeemable convertible preferred stock		3,518			3,004			10,334			7,829

Net loss attributable to common stockholders	$	(22,047	)	$	(98,027	)	$	(118,615	)	$	(648,499	)


Denominator:
Shares used to compute basic and diluted net loss per common share (weighted average shares outstanding during the period, excluding shares of restricted stock subject to repurchase)		167,892			110,529			156,098			109,506

Basic and diluted net loss per common share	$	(0.13	)	$	(0.89	)	$	(0.76	)	$	(5.92	)


	Outstanding Options			Weighted Average Remaining Contractual Term (in years)	Aggregate Intrinsic Value
	Number of Shares	Weighted Average Exercise Price Per Share			Aggregate Intrinsic Value
Options vested and expected to vest as of February 28, 2010	15,808	$	8.12	4.8	$	11,842
Options exercisable as of February 28, 2010	9,872	$	6.84	4.3	$	9,940


	Number of Units	Weighted Average Grant Date Fair Value Per Share		Weighted Average Remaining Contractual Term (in years)	Aggregate Intrinsic Value
Restricted stock units vested and expected to vest as of February 28, 2010	469	$	9.69	1.0	$	2,859


	February 28, 2010		May 31, 2009
Finished goods	$	4,181	$	9,299
Work-in-process and raw materials		26,438		10,417

	$	30,619	$	19,716


	Weighted Average Amortization Period (Months)	February 28, 2010							May 31, 2009
		Gross Carrying Amount		Accumulated Amortization			Net		Gross Carrying Amount		Accumulated Amortization			Net
Brand	238	$	28,700	$	(6,698	)	$	22,002	$	28,700	$	(5,613	)	$	23,087
ACCESS Systems licenses	60		44,000		(32,500	)		11,500		44,000		(27,400	)		16,600
Acquisition related:
Core technology	83		13,670		(6,013	)		7,657		13,670		(4,577	)		9,093
Non-compete covenants	36		520		(515	)		5		520		(386	)		134

		$	86,890	$	(45,726	)	$	41,164	$	86,890	$	(37,976	)	$	48,914


Years Ended May 31,
Remaining three months of fiscal year 2010	$	2,541
2011		9,965
2012		6,561
2013		3,361
2014		2,883
2015		1,447
Thereafter		14,406

	$	41,164


	Series B Redeemable Convertible Preferred Stock		Series C Redeemable Convertible Preferred Stock
Balances, May 31, 2008	$	255,671	$	—
Gross cash proceeds from issuance of series C units		—		100,000
Amount allocated to series C derivative		—		53,410
Amount allocated to detachable warrants		—		(21,966	)
Amount allocated to beneficial conversion feature		—		(51,941	)
Issuance costs		—		(1,598	)

Net proceeds at issuance of series C redeemable convertible preferred stock		—		77,905
Additional issuance costs		—		(62	)
Conversion of series C redeemable convertible preferred stock into common stock		—		(49,000	)
Accretion of series B and series C redeemable convertible preferred stock		9,741		11,544

Balances, May 31, 2009		265,412		40,387
Reallocation of proceeds of series C redeemable convertible preferred stock as a result of adoption of a new accounting standard (see Note 19)		—		(24,390	)
Accretion of series B and series C redeemable convertible preferred stock		7,549		2,785

Balances, February 28, 2010	$	272,961	$	18,782


	Q1 2010 Action			Q2 2009 Action						Q3 2008 Action						Q2 2008 Action			Q1 2008 Action			Q4 2001 Action
	Workforce Reduction Costs			Workforce Reduction Costs			Excess Facilities, Discontinued Project and Other Costs			Workforce Reduction Costs			Excess Facilities and Equipment Costs			Discontinued Project Costs			Excess Facilities and Equipment Costs			Excess Facilities Costs			Total
Balances, May 31, 2008	$	—		$	—		$	—		$	686		$	1,260		$	1,704		$	470		$	3,938		$	8,058
Restructuring charges (adjustments)		—			12,795			3,461			144			(80	)		76			88			(350	)		16,134
Cash payments		—			(11,041	)		(146	)		(830	)		(39	)		(874	)		(116	)		(668	)		(13,714	)
Write-offs		—			(1,189	)		(1,489	)		—			(1,141	)		(451	)		(118	)		—			(4,388	)

Balances, May 31, 2009		—			565			1,826			—			—			455			324			2,920			6,090
Restructuring charges (adjustments)		9,757			294			(234	)		—			—			—			—			—			9,817
Cash payments		(3,691	)		(743	)		(590	)		—			—			(455	)		(41	)		(569	)		(6,089	)
Write-offs		(5,239	)		—			—			—			—			—			(88	)		—			(5,327	)

Balances, February 28, 2010	$	827		$	116		$	1,002		$	—		$	—		$	—		$	195		$	2,351		$	4,491


	As Adjusted As of May 31, 2009 (a)			Impact of Adoption			As of June 1, 2009
Series C derivatives	$	—		$	207,586		$	207,586

Series C redeemable convertible preferred stock	$	40,387		$	(24,390	)	$	15,997

Stockholders’ deficit
Common stock	$	140		$	—		$	140
Additional paid-in capital		854,649			(11,132	)		843,517
Accumulated deficit (see Note 3)		(1,262,375	)		(172,064	)		(1,434,439	)
Accumulated other comprehensive income		1,018			—			1,018

Total stockholders’ deficit	$	(406,568	)	$	(183,196	)	$	(589,764	)


Derivatives Not Designated as Hedging Instruments	Balance Sheet Location	Fair Value of Derivatives As of February 28, 2010
Warrant derivative liability	Series C derivatives	$	14,778
Conversion feature derivative liability	Series C derivatives		67,269

Total series C derivatives		$	82,047


Derivatives Not Designated as Hedging Instruments	Location of Gain Recognized in Statement of Operations	Amount of Gain Recognized for the
Derivatives Not Designated as Hedging Instruments		Three Months Ended February 28, 2010		Nine Months Ended February 28, 2010
Warrant derivative liability	Gain on series C derivatives	$	16,976	$	21,450
Conversion feature derivative liability	Gain on series C derivatives		79,640		104,089

Total gain on series C derivatives		$	96,616	$	125,539


Derivatives Not Designated as Hedging Instruments	Location of Gain Recognized in Statement of Operations	Amount of Gain Recognized for the
Derivatives Not Designated as Hedging Instruments		Three Months Ended February 28, 2009		Nine Months Ended February 28, 2009
Series C derivative	Gain on series C derivatives	$	20,573	$	20,573


	Three Months Ended February 28,				Increase/ (Decrease)		Nine Months Ended February 28,				Increase/ (Decrease)
	2010		2009		Increase/ (Decrease)		2010		2009		Increase/ (Decrease)
	(dollars in thousands)
Revenues	$	349,928	$	90,624	$	259,304	$	984,170	$	649,099	$	335,071


	Total Number of Shares Purchased (1)	Average Price Paid Per Share		Total Number of Shares Purchased as Part of a Publicly Announced Plan (2)	Average Price Paid Per Share		Approximate Dollar Value of Shares that May Yet be Purchased under the Plan (2)
December 1, 2009—December 31, 2009	—	$	—	—	$	—	$	219,037,247
January 1, 2010—January 31, 2010	—		—	—		—	$	219,037,247
February 1, 2010—February 28, 2010	—		—	—		—	$	219,037,247

	—	$	—	—


		Incorporated by Reference
Exhibit Number	Exhibit Description	Form	File No.	Exhibit	Filing Date	Filed Herewith

2.1	Master Separation and Distribution Agreement between 3Com and the registrant effective as of December 13, 1999, as amended.	S-1/A	333-92657	2.1	1/28/00

2.2	Tax Sharing Agreement between 3Com and the registrant	10-Q	000-29597	2.7	4/10/00

2.3	Indemnification and Insurance Matters Agreement between 3Com and the registrant.	10-Q	000-29597	2.11	4/10/00

2.4	Form of Non-U.S. Plan	S-1	333-92657	2.12	12/13/99

2.5	Agreement and Plan of Reorganization between the registrant, Peace Separation Corporation, Harmony Acquisition Corporation and Handspring, Inc., dated June 4, 2003	8-K	000-29597	2.1	6/6/03

2.6	Amended and Restated Master Separation Agreement between the registrant and PalmSource, Inc.	S-4/A	333-106829	2.14	8/18/03

2.7	Amended and Restated Indemnification and Insurance Matters Agreement between the registrant and PalmSource, Inc.	S-4/A	333-106829	2.17	8/18/03

2.8	Amended and Restated Tax Sharing Agreement between the registrant and PalmSource, Inc.	S-4/A	333-106829	2.23	8/18/03

2.9	Master Patent Ownership and License Agreement between the registrant and PalmSource, Inc.	S-4/A	333-106829	2.30	8/18/03

2.10	Xerox Litigation Agreement between the registrant and PalmSource, Inc., as amended.	10-K/A	000-29597	2.34	9/26/03

3.1	Amended and Restated Certificate of Incorporation.	10-Q	000-29597	3.1	10/11/02

3.2	Amended and Restated Bylaws.	10-Q	000-29597	3.2	9/17/09

3.3	Certificate of Amendment of Certificate of Incorporation.	8-K	000-29597	3.3	10/30/07

3.4	Certificate of Designation of Series A Participating Preferred Stock.	8-K	000-29597	3.1	11/22/00

3.5	Certificate of Amendment to Certificate of Designation of Series B Convertible Preferred Stock.	10-Q	000-29597	3.5	4/3/09

3.6	Certificate of Designation of Series C Convertible Preferred Stock.	10-Q	000-29597	3.6	4/3/09

4.1	Reference is made to Exhibits 3.1, 3.2, 3.4, 3.5 and 3.6 hereof.	N/A	N/A	N/A	N/A	N/A

4.2	Specimen Stock Certificate.	10-K	000-29597	4.2	7/29/05

4.3	Preferred Stock Rights Agreement between the registrant and EquiServe Trust Company, N.A. (formerly Fleet National Bank), as amended.	8-K	000-29597	4.1	11/22/00

4.4	5% Convertible Subordinated Note, dated as of November 4, 2003.	10-Q	000-29597	4.4	4/6/04

4.5	Amendment to Preferred Stock Rights Agreement between the registrant and EquiServe Trust Company, N.A.	8-A/A	000-29597	4.2	11/18/04

4.6	Certificate of Ownership and Merger Merging Palm, Inc. into palmOne, Inc.	10-K	000-29597	4.6	7/29/05

4.7	Amendment No. 2 to Preferred Stock Rights Agreement between the registrant and EquiServe Trust Company, N.A.	8-A12G/A	000-29597	4.3	6/5/07