SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

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

For the quarterly period ended March 31, 2002

OR

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

For the transition period from ________to _________

Commission file number 001-13748

ZiLOG, INC.
(Debtor-in-Possession as of February 28, 2002)
(Exact name of Registrant as specified in its charter)

 

Delaware	13-3092996
(State or Other Jurisdiction of Incorporation or Organization)	(I.R.S. Employer Identification Number)

532 Race Street
San Jose, California   95126
(Address of principal executive offices)

(408) 558-8500
(Registrant's telephone number, including area code)

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

    As of April 30, 2002, there were 32,017,272 shares of the Company's Voting Common Stock, $.01 par value, and 10,000,000 shares of the Company's Non-Voting Common Stock, $.01 par value outstanding.

This Report on Form 10-Q and other oral and written statements made by the Company contain and incorporate forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), regarding future events and the Company's plans and expectations that involve risks and uncertainties. When used in this Report, the words "estimate," "project," "intend," "expect," "anticipate," "believe," "may," "will," and similar expressions are intended to identify such forward-looking statements. Forward-looking statements in this report include, but are not limited to, those relating to the general direction of our business; the restructuring of our debt and equity; the utilization of our manufacturing facilities; our ability to sell or lease MOD III and our ability to successfully complete our restructuring of operations and realize expected cost savings, capital expenditures and expenses for future periods. Although we believe our plans, intentions, and expectations reflected in these forward-looking statements are reasonable, we can give no assurance that these plans, intentions, or expectations will be achieved. Actual results, performance, or achievements could differ materially from those contemplated, express or implied, by the forward-looking statements contained in this report. Factors that may cause or contribute to differences include, but are not limited to, continued availability of third-party foundry and assembly services at commercially reasonable quality and prices, under-absorption of manufacturing costs in our wafer fabrication facilities from under-utilization of production capacity, and ZiLOG's distributors and customers significantly reducing their existing inventories before ordering new products, and those discussed below under "Management's Discussion and Analysis of Financial Condition and Results of Operation," "Factors That May Affect Future Results," as well as those discussed elsewhere in this Report and in other reports filed with the Securities and Exchange Commission. These factors are not intended to represent a complete list of the general or specific factors that affect us. Other factors, including general economic factors and business strategies, may be significant, presently or in the future, and the factors set forth in this report may affect us to a greater extent than indicated. The reader is therefore cautioned not to place undue reliance on the forward-looking statements contained herein, that reflect our position as of the date of this report. The Company undertakes no obligation to publicly release updates or revisions to these statements.

Based in San Jose, California, we were incorporated in California in October 1981 and reincorporated in Delaware in April 1997. In this report, "ZiLOG," "the Company," "our," "us," "we," and similar expressions refer to ZiLOG, Inc. and its subsidiaries. However, when these expressions are used throughout this report in connection with ZiLOG, Inc.'s reorganization under Chapter 11 of the U.S. bankruptcy code, they are referring only to the parent company, ZiLOG, Inc., and not to any of its subsidiaries. ZiLOG and Z80 are registered trademarks of ZiLOG, Inc.

Extreme Connectivity © ZiLOG, Inc. 1999.

ZiLOG, INC.
QUARTERLY REPORT ON FORM 10-Q FOR THE PERIOD ENDED MARCH 31, 2002
TABLE OF CONTENTS

PART I. FINANCIAL INFORMATION	Page No.
Item 1. Interim Condensed Consolidated Financial Statements (unaudited):
Condensed Consolidated Statements of Operations for the            three months ended March 31, 2002 and April 1, 2001	**
Condensed Consolidated Balance Sheets at March 31, 2002 and December 31, 2001	**
Condensed Consolidated Statements of Cash Flows for the            three months ended March 31, 2002 and April 1, 2001	**
Notes to Condensed Consolidated Financial Statements	**
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations	**
Item 3. Quantitative and Qualitative Disclosures About Market Risk	**
PART II. OTHER INFORMATION
Item 1. Legal Proceedings	**
Item 3. Defaults Upon Senior Securities	**
Item 6. Exhibits and Reports on Form 8-K	**
Signature	**

PART I -- FINANCIAL INFORMATION

Item 1. Financial Statements

ZILOG, INC.
(DEBTOR-IN-POSSESSION)
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in millions)

                                                    Three Months Ended
                                                 ---------------------
                                                 March 31,    April 1,
                                                    2002        2001
                                                 ---------- ----------
Net sales...................................         $36.0      $44.3
Cost of sales...............................          20.3       38.2
                                                 ---------- ----------
Gross margin................................          15.7        6.1

Operating expenses:
  Research and development..................           5.2        9.1
  Selling, general and administrative.......           8.1       13.6
  Special charges...........................           5.6        --
                                                 ---------- ----------
     Total operating expenses...............          18.9       22.7
                                                 ---------- ----------
Operating loss..............................          (3.2)     (16.6)

Other income (expense):
  Interest income...........................           0.1        0.5
  Interest expense (excludes contractual
     interest of $2,050 not recorded
     during reorganization).................          (5.0)      (7.3)
  Other, net................................           0.1       (0.3)
                                                 ---------- ----------
Loss before reorganization items, income
  taxes and loss from equity method
  investment................................          (8.0)     (23.7)
Reorganization items........................           3.8        --
Provision for income taxes..................           0.1        0.1
                                                 ---------- ----------
Loss before equity method investment........         (11.9)     (23.8)
Loss from equity method investment..........           --        (0.3)
                                                 ---------- ----------
Net loss....................................         (11.9)     (24.1)
Preferred stock dividends accrued...........          (1.4)      (1.2)
                                                 ---------- ----------
Net loss attributable to common
   stockholders.............................        $(13.3)    $(25.3)
                                                 ========== ==========

See accompanying notes to condensed consolidated financial statements.

ZILOG, INC.
(DEBTOR-IN-POSSESSION)
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(in millions, except share and per share amounts)

                                                              March 31,    December 31,
                                                                2002          2001
                                                             -----------  -----------
                                  ASSETS
Current assets:
  Cash and cash equivalents..............................         $17.5        $30.7
  Accounts receivable, less allowance for doubtful
    accounts of $0.7 at March 31, 2002 and $0.7 at
    December 31, 2001 ...................................          16.2         16.7
  Inventories............................................          14.6         17.3
  Prepaid expenses and other current assets..............           4.4          3.9
                                                             -----------  -----------
          Total current assets...........................          52.7         68.6
                                                             -----------  -----------

MOD III assets held for sale.............................          30.0          --

Property, plant and equipment, at cost...................          59.4         94.5
Less: accumulated depreciation and amortization..........         (47.1)       (48.7)
                                                             -----------  -----------
   Net property, plant and equipment.....................          12.3         45.8

Other assets.............................................           1.2          1.3
                                                             -----------  -----------
                                                                  $96.2       $115.7
                                                             ===========  ===========
             LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current liabilities:
  Short-term debt........................................         $10.0        $12.8
  Notes payable..........................................           --         280.0
  Interest payable on notes..............................           --          22.5
  Accounts payable.......................................          13.2         13.4
  Accrued compensation and employee benefits.............           7.2          9.0
  Other accrued liabilities..............................           7.7         14.6
  Dividends payable......................................           --          16.6
  Deferred income on shipments to distributors...........           6.0          6.6
                                                             -----------  -----------
          Total current liabilities......................          44.1        375.5

Other non-current liabilities............................          14.2         14.3
Liabilities subject to compromise........................         325.2          --

Stockholders' deficiency:
  Preferred Stock, $100.00 par value; 5,000,000 shares
    authorized; 1,500,000 shares designated as Series A
    Cumulative Preferred Stock; 250,000 shares of Series
    A Cumulative Preferred Stock issued and outstanding
    at March 31, 2002 and December 31, 2001; aggregate
    liquidation preference $42.2 at March 31, 2002......           25.0         25.0

  Common Stock, $0.01 par value; 70,000,000 shares
    authorized; 32,017,272 shares issued and outstanding
    at March 31, 2002 and at December 31, 2001.
    Class A Stock, $0.01 par value; 30,000,000 shares
    authorized; 10,000,000 shares issued and outstanding
    at March 31, 2002 and December 31, 2001...............          0.4          0.4
  Deferred stock based compensation.......................         (0.5)        (0.6)
  Additional paid-in capital..............................         13.2         13.2
  Accumulated deficit.....................................       (325.4)      (312.1)
                                                             -----------  -----------
          Total stockholders' deficiency..................       (287.3)      (274.1)
                                                             -----------  -----------
                                                                  $96.2       $115.7
                                                             ===========  ===========

See accompanying notes to condensed consolidated financial statements.

ZiLOG, INC.
(DEBTOR-IN-POSSESSION)
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in millions)

                                                                 Three Months Ended
                                                             ----------------------
                                                             March 31,    April 1,
                                                                2002        2001
                                                             ----------  ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss..................................................      ($11.9)     ($24.1)
   Adjustments to reconcile net loss to cash used by
     operating activities:
     Depreciation and amortization........................         1.9        10.1
     Impairment of long lived assets......................         2.5         --
     Stock based compensation.............................         0.1         --
     Loss from disposition of equipment...................         --          0.2
   Changes in assets and liabilities:
     Accounts receivable..................................         0.5         7.0
     Inventories..........................................         2.7         5.0
     Prepaid expenses and other current and noncurrent
       assets.............................................        (0.4)        1.7
     Accounts payable.....................................        (0.2)       (0.8)
     Accrued compensation and employee benefits...........        (1.7)      (13.1)
     Liabilities subject to compromise....................         6.1         --
     Other accrued  liabilities...........................        (6.9)       (9.8)
                                                             ----------  ----------
           Net cash used by operations before
              repoganization items........................        (7.3)      (23.8)
   Reorganization items - professional fees paid..........        (2.2)        --
                                                             ----------  ----------
           Net cash used by operating activities.........         (9.5)      (23.8)

CASH FLOWS FROM INVESTING ACTIVITIES:
   Capital expenditures...................................        (0.9)       (3.1)
                                                             ----------  ----------
          Cash used by investing activities...............        (0.9)       (3.1)
                                                             ----------  ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
  (Repayments of) proceeds from short-term debt...........        (2.8)       13.0
  Proceeds from issuance of common stock..................         --          0.1
                                                             ----------  ----------
           Cash (used) provided by operating activities...        (2.8)       13.1
                                                             ----------  ----------
Decrease in cash and cash equivalents.....................       (13.2)      (13.8)
Cash and cash equivalents at beginning of period..........        30.7        40.7
                                                             ----------  ----------
Cash and cash equivalents at end of period................       $17.5       $26.9
                                                             ==========  ==========

See accompanying notes to condensed consolidated financial statements.

ZiLOG, INC.
(DEBTOR-IN-POSSESSION)
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1) BASIS OF PRESENTATION

The accompanying interim financial information is unaudited. In the opinion of ZiLOG, Inc.'s ("ZiLOG" or the "Company") management, all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of interim results have been included. The results for interim periods are not necessarily indicative of results to be expected for the entire year. These condensed consolidated financial statements and notes should be read in conjunction with the Company's annual consolidated financial statements and notes thereto contained in the Company's 2001 Annual Report filed on Form 10-K Commission File Number 001-13748 for the fiscal year ended December 31, 2001, filed on April 12, 2002. The Company's independent auditors' report pertaining to ZiLOG's consolidated financial statements as of and for the year ended December 31, 2001 indicated that there were circumstances that existed that raised substantial doubt about ZiLOG's ability to continue as a going concern and that no adjustments have been made to the consolidated financial statements to reflect the outcome of these uncertainties.

The Company received confirmation from the U.S. Bankruptcy Court for the Northern District of California of its and ZiLOG-MOD III, Inc.'s ("MOD III") joint reorganization plan filed pursuant to chapter 11 of the Bankruptcy Code. The plan became effective on May 13, 2002 (See Note 2).

The condensed consolidated balance sheet at December 31, 2001 has been derived from audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. Certain reclassifications have been made to the prior year condensed consolidated financial statements to conform to the 2002 presentation. Such reclassifications had no effect on previously reported results of operations or accumulated deficit.

Upon emergence from chapter 11, ZiLOG will adopt fresh start reporting pursuant to the provisions of the American Institute of Certified Public Accountant's Statement of Position 90-7. Under statement 90-7, on the confirmation date the company's assets and liabilities will be restated to reflect their fair values, the accumulated deficit will be eliminated, and ZiLOG's debt and capital structure will be recast pursuant to the provisions of the prepackaged reorganization plan described in Note 2.

2) FINANCIAL RESTRUCTURING AND REORGANIZATION

The Company has suffered recurring losses from operations, has a net stockholders' deficiency and its business and financial growth have been negatively affected by a difficult business climate. These conditions led to the need to file for chapter 11 bankruptcy protection in order to restructure the Company's 9.5% senior secured notes (the "Notes").

ZiLOG filed a pre-packaged chapter 11 plan of reorganization with the bankruptcy court of the Northern District of California on February 28, 2002 (the "reorganization plan") and the bankruptcy court confirmed the reorganization plan as described herein on April 30, 2002. With the consummation of its new $15.0 million revolving credit facility with a commercial lender the plan of reorganization became effective on May 13, 2002.

The Company operated its business under chapter 11 in the ordinary course and had obtained the necessary approvals from the bankruptcy court to pay employees, trade, and certain other creditors in full and on time regardless of whether their claims arose before or after the chapter 11 filing. The claims of employees, general unsecured creditors (including trade creditors, licensors, and lessors) and secured creditors, other than holders of the Notes, have not been compromised under the reorganization plan.

Under the reorganization plan, the Notes will be cancelled. Each noteholder will receive, in exchange for its Notes, its pro rata share of:

• 100% of ZiLOG's newly-issued common stock, except for 14%, which will be issued or reserved for issuance to employees, consultants, and directors under a management incentive plan.

• 100% of the newly issued series A preferred stock issued by ZiLOG-MOD III, its currently wholly-owned subsidiary. Holders of MOD III series A preferred stock will be entitled to receive an aggregate liquidation preference of $30 million plus any accrued but unpaid dividends on the MOD III series A preferred stock from the net proceeds of the sale of the MOD III fabrication plant including the facility, equipment and all other assets necessary for the operation of the facility, located in Nampa, Idaho, which the Company will transfer to MOD III when the reorganization plan becomes effective and from certain operating lease proceeds. Dividends will accrue on the MOD III series A preferred stock at 9.5% per annum.

• 50% of MOD III's newly issued series B preferred stock. ZiLOG will retain the remaining 50% of the new MOD III series B preferred stock. Holders of the new MOD III series B preferred stock will be entitled to receive the net sale proceeds from any sale of MOD III's assets in excess of $30 million plus accrued but unpaid dividends on the new MOD III series A preferred stock.

The reorganization plan also provides for the cancellation of all of ZiLOG's currently outstanding preferred and common stock and all options and warrants related thereto. All accumulated dividends and any other obligations with respect to the Company's outstanding preferred and common shares will be extinguished. Depending on how the Bankruptcy Court ultimately treats certain former shareholders of Calibre, Inc. who filed a recission claim against us, each holder of common stock will, however, receive a pro rata share of $50,000. Each holder of preferred stock will receive a pro rata share of $150,000.

The reorganization plan also provides for the payment in full, with interest if appropriate, or reinstatement, as appropriate, of all employee and trade claims. In order for the reorganization plan to have become effective, the Company was required to, among other things, revise its charter and bylaws, enter into a new secured financing agreement, and designate a new board of directors.

The Company believes that consummation of the reorganization plan will substantially reduce uncertainty with respect to ZiLOG's future and better position it to develop new products and maintain and expand its customer base by focusing on its core business. ZiLOG is a pioneer in the semiconductor industry and has a well-recognized brand. It is expected that the retirement of the Notes will allow the Company to devote more resources towards developing and expanding its core business. reorganization planManagement believes that completion of the reorganization plan will provide a stronger financial base upon which to focus and execute its business plans. The consolidated financial statements do not include any adjustments that reflect the restructuring or other events contemplated by the reorganization plan. Chapter 11 reorganization- related costs of $3.8 million included in the unaudited condensed debtor-in- possession statement of operations for the three months ended March 31, 2002 relate primarily to legal and other professional service fees.

Liabilities included in the unaudited condensed consolidated debtor-in-possession balance sheet at March 31, 2002, which are subject to compromise under the terms of the plan of reorganization, are summarized as follows (in millions):

Notes payable.................        $280.0
Accrued interest on Notes.....          27.2
Preferred dividends payable...          18.0
                                 ------------
  Total liabilities subject
    to compromise.............        $325.2
                                 ============

The above balance sheet amounts represent the Company's estimate of known or potential pre-petition claims. Pursuant to requirements of the Bankruptcy Code, schedules have been filed with the Bankruptcy Court setting forth its assets and liabilities. Differences between amounts recorded by ZiLOG and claims filed by creditors are being investigated and resolved after the chapter 11 bankruptcy proceedings. Such claims remain subject to future adjustment. Any such adjustments would increase or decrease the liabilities subject to compromise and reorganization costs in the period in which they have become known. Adjustments may result from negotiations, actions of the Bankruptcy Court, further developments with respect to disputed claims, rejection of executory contracts, and proofs of claim. Payment terms for these amounts will be established in connection with the chapter 11 bankruptcy proceedings.

3) CRITICAL ACCOUNTING POLICIES

A brief description of these policies is set forth below. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

On an on-going basis, ZiLOG evaluates its estimates, including those related to revenue recognition, sales returns, allowance for doubtful accounts, inventory write-downs and asset impairments. ZiLOG bases its estimates on historical trends and various other assumptions that are believed to be reasonable at the time the estimates are made. Actual results could differ from those estimates.

Revenue recognition. ZiLOG sells its products through two channels, direct sales to original equipment manufacturers (OEM) and sales through third-party distributors. During the first quarter of 2002, sales to original equipment manufacturers accounted for approximately 55% of total net sales, and sales to distributors accounted for approximately 45% of total net sales. ZiLOG applies the provisions of Staff Accounting Bulletin 101 "Revenue Recognition" and Statement of Financial Accounting Standards No. 48 "Revenue Recognition When Right of Return Exists." Revenues from product sales to OEMs are recognized upon transfer of title, which usually occurs upon delivery of products to a customer or its designated shipping agent. At that time, the Company provides for estimated sales returns and other allowances related to those sales. Net sales made to distributors have terms of sale allowing certain rights of return and price protection for ZiLOG products held in the distributors' inventories. Therefore, ZiLOG defers recognition of revenue and the proportionate cost of revenues derived from sales to distributors until the distributors sell its products to their customers. ZiLOG evaluates the amounts to defer based on the level of actual distributors' inventory on hand as well as inventory that is in transit. The gross profit deferred as a result of this policy is reflected as "deferred income on sales to distributors" in the accompanying consolidated balance sheets.

Estimating sales returns and allowances. Net revenue consists of product revenue reduced by estimated sales returns and allowances. To estimate sales returns and allowances, ZiLOG analyzes historical returns, current economic trends, levels of inventories of our products held by our customers, and changes in customer demand and acceptance of our products when initially establishing and then evaluating quarterly the adequacy of the reserve for sales returns and allowances. This reserve is reflected as a reduction to accounts receivable in the accompanying consolidated balance sheets. Increases to the reserve are recorded as a reduction to net revenue. Because the reserve for sales returns and allowances is based on ZiLOG's judgments and estimates, particularly as to future customer demand and acceptance of our products, the Company's reserves may not be adequate to cover actual sales returns and other allowances. If our reserves are not adequate, net revenues could be adversely affected.

Allowance for doubtful accounts. ZiLOG maintains an allowance for losses that may occur as a result of our customers' inability to make required payments. Any increase in the allowance results in a corresponding increase in general and administrative expenses. In establishing this allowance, and then evaluating the adequacy of the allowance for doubtful accounts, ZiLOG analyzes historical bad debts, customer concentrations, customer credit-worthiness, current economic trends and changes in customer payment terms. If the financial condition of one or more customers unexpectedly deteriorates, resulting in their inability to make payments, or if we otherwise underestimate bad debts as a result of customers' inability to pay, ZiLOG could be required to increase its allowance for doubtful accounts which could adversely affect operating results.

Estimating write-downs of excess and obsolete inventories. ZiLOG identifies excess and obsolete products and analyzes historical net sales demand forecasts, current economic trends, inventory age and historical write-offs when evaluating the net realizable value of its inventories. Write-offs of excess and obsolete inventories are reflected as a reduction to inventory values in the accompanying consolidated balance sheets, and an increase in cost of sales. If actual market conditions are less favorable than ZiLOG's assumptions, the Company may be required to take further write- downs of our inventory value, which could adversely impact cost of sales and operating results.

Asset Impairments. ZiLOG applies the provisions of Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of long-lived Assets." ZiLOG assess the impairment of long-lived assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors that could trigger an impairment review include the following:

• significant changes in the manner of use of the acquired assets;
• significant changes in the strategy for ZiLOG's overall business; and
• significant negative industry or economic trends.

When ZiLOG determines that the carrying value of long- lived assets may not be recoverable based upon the existence of one or more of the above indicators of impairment, and the undiscounted cash flows estimated to be generated by those assets are less than the asset's carrying value, the carrying value of the assets are reduced to their estimated fair value. The estimated fair value is usually determined based on an estimate of future discounted cash flows. Asset impairments are recorded as a reduction in the asset value in the consolidated balance sheets and as special charges in the consolidated statements of operations. During the first quarter of 2002, ZiLOG reported special charges of $2.5 million relating to write-offs of long-lived assets. If actual market conditions or net proceeds of assets to be sold are less favorable than our assumptions, ZiLOG may be required to take further special charges for asset impairment, which could adversely impact operating results.

4) RELATED PARTY TRANSACTIONS

In January 1999 ZiLOG entered into an agreement with P.T. Astra Microtronics Technology, now known as Advanced Interconnect Technologies, or AIT, pursuant to which AIT provides the Company with semiconductor assembly and test services through January 2003. AIT is owned by Newbridge Asia, an affiliate of Texas Pacific Group, which in turn is an affiliate of our principal stockholder. ZiLOG purchased services from AIT totaling approximately $0.8 million and $2.7 million during the three-month periods ended March 31, 2002, and April 1, 2001, respectively. The Company had payments due to AIT of approximately $0.4 million at March 31, 2002, and approximately $0.5 million at December 31, 2001. The Company's payment terms with AIT are net 30 days.

The Company sells products and engineering services to GlobeSpan, Inc., of which Texas Pacific Group is a significant stockholder. The Company's net sales to GlobeSpan totaled approximately $0.1 million and $2.4 million during the three-month periods ended March 31, 2002 and April 1, 2001, respectively. As of December 31, 2001, the Company had accounts receivable from GlobeSpan of approximately $0.3 million. ZiLOG had no outstanding receivable from GlobeSpan as of March 31, 2002. As of the effective date of the plan of reorganization, Texas Pacific Group and its affiliates are no longer significant shareholders of ZiLOG.

5) INVENTORIES

Inventories are stated at the lower of cost, first-in-first- out basis, or market and consisted of the following elements (in millions):

                                  March 31,   December 31,
                                     2002         2001
                                 ------------ ------------
     Raw materials.............         $1.0         $1.0
     Work-in-process...........          7.5         10.3
     Finished goods............          6.1          6.1
                                 ------------ ------------
                                       $14.6        $17.4
                                 ============ ============

6) SPECIAL CHARGES

In connection with the closure of the Company's Austin, Texas design center in the first quarter of 2002, furniture, fixtures and equipment with a book value of approximately $1.7 million were abandoned. Also in connection with this action and the streamlining of ZiLOG's sales force, severance and termination benefits of approximately $1.2 million were paid in the first quarter of 2002. Approximately $0.8 million of computer aided design software was impaired in the first quarter of 2002 as a result of the Company's decision to cancel development of the Cartezian family of 32-bit RISC microprocessors. Additionally, $1.9 million of special charges incurred during the first quarter of 2002 relate to the closure of the MOD III eight-inch wafer fabrication facility in Idaho. These costs include relocation of production activities to alternative manufacturing sites and the closure of the MOD III facility.

Special charges for the three months ended March 31, 2002, were as follows (in millions):

Asset impairments:
   Austin, Texas assets.........        $1.7
   Internal use software........         0.8
Restructuring of operations:
   Employee severance and
     termination benefits.......         1.2
   MOD III closure costs........         1.9
                                 ------------
                                        $5.6
                                 ============

The following table summarizes special charges accrual activity and ending accrual balances for the three-month period ended March 31, 2002 (in millions):

                                  Severance      Lease
                                     and      Cancellation   MOD III
                                 Termination    and Exit     Closure
                                   Benefits     Charges       Costs       Total
                                 ------------ ------------ ----------- ------------
December 31, 2001..........             $5.6         $2.8        $0.2         $8.6
Charges to expense.........              1.1        --            1.9         $3.0
Cash payments..............             (5.5)        (2.6)       (2.0)      ($10.1)
                                 ------------ ------------ ----------- ------------
March 31, 2002.............             $1.2         $0.2        $0.1         $1.5
                                 ============ ============ =========== ============

7) SEGMENT REPORTING

ZiLOG has two reportable business segments: Communications and Embedded Controls. The Company's Embedded Controls segment is comprised of two business units: Field Programmable Micro-controllers and Home Entertainment. Consistent with the rules of Statement of Financial Accounting Standards ("SFAS") No. 131 , "Disclosures about Segment of an Enterprise and Related Information", the Company has aggregated these two business units into one reportable segment because these product lines have similar gross margins and target consumer and industrial customer applications based largely on ZiLOG's Z-8 line of 8-bit micro-controllers and digital signal processors. The Communications segment is predominantly based on the Company's Z80 line of 8-bit microprocessors and serial communication devices. Net sales, EBITDA, and depreciation and amortization, included in Corporate and Other, were generated primarily from foundry work performed for manufacturing partners. EBITDA represents earnings (losses) before interest, income taxes, depreciation, amortization of intangible assets, non-cash stock compensation expenses, equity in loss of Qualcore, cumulative effect of change in accounting principle, reorganization items and special charges. EBITDA is presented because it is a widely accepted financial indicator of a company's ability to service and/or incur indebtedness. However, EBITDA should not be construed as a substitute for operating income or loss, net income or loss or cash flows from operating activities in analyzing our operating performance, financial position and cash flows. The EBITDA measure presented herein may not be comparable to EBITDA presented by other companies. Financial information regarding reportable segments for the three-month periods ended March 31, 2002 and April 1, 2001 are as follows (in millions):

                                                            Corporate
                                  Communica-    Embedded       and        Total
                                    tions       Control       Other    Consolidated
                                 ------------ ------------ ----------- ------------
Three Months Ended
  March 31, 2002:
Net sales........................      $14.4        $21.5        $0.1        $36.0
                                                                       ============
Loss before reorganization items,
   income taxes and loss from
   equity method investment......      --           --           --          ($8.0)
Depreciation and amortization....        0.5          1.4        --            1.9
Special charges..................      --           --            5.5          5.5
Amortization of stock based
   compensation..................      --           --            0.1          0.1
Interest income..................      --           --           (0.1)        (0.1)
Interest expense.................      --           --            5.0          5.0
                                                                       ------------
EBITDA...........................        1.7          2.5         0.2         $4.4
                                                                       ============

Three Months Ended
 April 1, 2001:
Net sales........................      $20.0        $23.2        $1.1        $44.3
                                                                       ============
Loss before reorganization items,
   income taxes and loss from
   equity method investment......      --           --           --         ($23.7)
Goodwill amortization............      --           --           (0.3)        (0.3)
Depreciation and amortization....        3.0          6.7         0.4         10.1
Interest income..................      --           --           (0.5)        (0.5)
Interest expense.................      --           --            7.3          7.3
                                                                       ------------
EBITDA...........................       (2.8)        (4.4)        0.1       $ (7.1)
                                                                       ============

Major customers: During the three months ended March 31, 2002, one distributor, Pioneer-Standard Electronics, who buys from both of our segments, accounted for approximately 10% of net sales. For the three month period ended April 1, 2001, Pioneer-Standard Electronics accounted for approximately 14% of net sales.

8) NOTES PAYABLE

ZiLOG did not make its scheduled semi-annual interest payments of $13.3 million on the outstanding 9.5% senior secured notes due 2005 (the "Notes") that were due on September 4, 2001 and March 1, 2002. As a result, the Notes became callable by the noteholders and during the third and fourth quarters of 2001, the Company classified its indebtedness under the Notes as a current liability on its balance sheet. In connection with filing the reorganization plan, ZiLOG classified the Notes as liabilities subject to compromise on its March 31, 2002 balance sheet. At March 31, 2002, an aggregate of $27.2 million in accrued interest was due on the Notes and was also classified as liabilities subject to compromise on the balance sheet. As described in Note 2, the reorganization plan filed on February 28, 2002 and confirmed on April 30, 2002 provides for extinguishment of the Notes and all related accrued interest.

9) SHORT TERM DEBT

We have a senior secured credit facility (the "Facility") from a commercial lender that provides for total borrowings of up to $40.0 million, consisting of a four-year revolving credit facility of up to $25.0 million and a five-year capital expenditure line of up to $15.0 million which expire on December 30, 2002 and 2003, respectively. As of March 31, 2002, the revolving credit facility bore interest at the stated prime rate of 4.75% per annum. There were no borrowings under the capital equipment credit facility. At March 31, 2002, the Company had no calculated availability, net of borrowings of $10.0 million, under the revolving credit facility. Our default on the payment due on the Notes, and the expiration of the applicable grace period on this payment on October 4, 2001, constitutes a default under the Facility. As a result, this lender is under no obligation to make additional loans to the Company and we therefore may not be able to borrow any such additional amounts under this Facility. In addition, this lender has the option to call the loan and render the amounts outstanding under the Facility immediately due and payable.

ZiLOG entered into a new financing agreement with its current commercial lender, dated May 13, 2002, to replace the Facility with a new three-year $15.0 million senior secured revolving credit facility. The new facility is on substantially similar terms as the existing revolving credit facility, except that borrowings will bear interest at a rate per annum equal, at ZiLOG's option, to the commercial lender's stated prime rate or LIBOR, plus 2.5%. The Company canceled the capital expenditure line under the Facility.

10) COMPREHENSIVE INCOME

The Company had no items of other comprehensive income to report in either of the three-month periods ended March 31, 2002, or April 1, 2001.

11) LEGAL PROCEEDINGS

On July 29, 1996, we filed an action in the Superior Court of the State of California in and for Santa Clara against Pacific Indemnity Company, Federal Insurance Company and Chubb & Son Inc. In that action, we sought a declaration that our former insurers, Pacific and Federal, had an unconditional duty to defend and indemnify us in connection with two lawsuits brought in 1994: (1) in Santana v. ZiLOG and, (2) in Ko v. ZiLOG. Our complaint in the Santa Clara County action also alleged that Chubb, which handled the defense of Santana and Ko on behalf of Pacific and Federal, was negligent. Pacific cross-complained against the Company, seeking reimbursement of defense costs for both underlying lawsuits and a payment it contributed to the settlement of Ko. According to its cross-complaint, Pacific sought a total of approximately six million, three hundred thousand dollars ($6,300,000), plus interest and costs of suit.

On February 26, 2002, we agreed to make a payment of $300,000 to fully settle these lawsuits. We have already paid $75,000 of this amount. The balance is to be paid in 3 equal installments over the next twelve months. The outstanding balance accrues interest at 6% per annum.

We filed for protection under chapter 11 of the United States Bankruptcy Code in the Northern District of California on February 28, 2002. Prior to this filing, we solicited the acceptance of our plan of reorganization from holders of our senior notes and our preferred stock. We received unanimous acceptance of our plan of reorganization from the noteholders and preferred shareholders voting. In connection with the filing, we made several motions to the judge requesting, among other things, that we be able to pay our employees and trade creditors in the ordinary course. These motions were granted. Our plan of reorganization was confirmed on April 30, 2002, and became effective in May 13, 2002. (See Note 2)

One party has notified us that we may be infringing certain patents. Four of our customers have notified us that they have been approached by patent holders who claim that they are infringing certain patents. The customers have asked us for indemnification. We are investigating the claims of all of these parties. We have had no further communications about any of this for more than 10 months. In the event that we determine, however, that any such notice may involve meritorious claims, we may seek a license. Based on industry practice, we believe that in most cases any necessary licenses or other rights could be obtained on commercially reasonable terms. However, no assurance can be given that licenses could be obtained on acceptable terms or that litigation will not occur. The failure to obtain necessary licenses or other rights or the advent of litigation arising out of such claims could have a material adverse effect on our financial condition. See Factors That May Affect Future Results - "We could be subject to claims of infringement of third- party intellectual property rights, which could result in significant expense to us and/or loss of such rights."

We are participating in other litigation and responding to claims arising in the ordinary course of business. We intend to defend ourselves vigorously in these matters. Our management believes that it is unlikely that the outcome of these matters will have a material adverse effect on our financial statements, although there can be no assurance in this regard.

12) PREFERRED STOCK DIVIDENDS

As described in Note 9 to the Consolidated Financial Statements of the Company's 2001 Annual Report on Form 10-K, ZiLOG's Series A Cumulative Preferred Stock ("Series A Stock") accumulates dividends at a rate of 13.5% per annum, with dividends payable quarterly at the election of the Board of Directors. Unpaid dividends are recognized as a charge to accumulated deficit and as an increase in the liquidation preference of the Series A Stock. As of March 31, 2002, the Company has not paid any dividends on the Series A Stock and the corresponding accrued dividends are approximately $18.0 million. During the three-month period ended March 31, 2002, $1.4 million of dividends on Series A Stock were accrued and charged to accumulated deficit. As of the effective date of the plan of reorganization, all accumulated dividends will be extinguished in accordance with the plan.

13) RECENT ACCOUNTING PRONOUNCEMENTS

In August 2001, the FASB issued SFAS 143, "Accounting for Asset Retirement Obligations." SFAS 143 addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated retirement costs. SFAS 143 is generally effective for fiscal years beginning after June 15, 2002 and the Company is in the process of assessing the financial statement effect of its adoption. However, ZiLOG will be required to adopt SFAS 143 upon implementation of fresh-start accounting as prescribed by SOP 90-7.

FINANCIAL INFORMATION

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The information presented below should be read in conjunction with the Condensed Consolidated Financial Statements included elsewhere herein. Interim results are based on fiscal quarters of thirteen weeks in duration ending on the last Sunday of each quarter. The operating results for any quarter are not necessarily indicative of results for any subsequent quarter or the full fiscal year.

We prepare and release quarterly unaudited financial statements prepared in accordance with generally accepted accounting principles or GAAP. We also disclose and discuss EBITDA in our filings with the Securities and Exchange Commission, earnings releases and investor conference calls. This pro forma financial information excludes certain non-cash charges, reorganization items and special charges, consisting primarily of depreciation and amortization, reorganization items, asset impairments, equity investments, stock-based compensation, debt restructuring, restructuring of operations and lease termination costs. We believe the disclosure of such information helps investors more meaningfully evaluate the results of our ongoing operations. However, we urge investors to carefully review the GAAP financial information included as part of our Quarterly Reports on Form 10-Q, our Annual Reports on Form 10-K, and our quarterly earnings releases. We also urge investors to compare our GAAP financial information with the pro forma financial results disclosed in our quarterly earnings releases and investor calls, and read the associated reconciliations included with our press releases.

Our operating results have and will vary because of a number of factors, including the timing and success of new product introductions, customer design wins and losses, the success of cost reduction programs, changes in product mix, volume, timing and shipment of orders, fluctuations in manufacturing productivity, availability of third-party manufacturing services at commercially reasonable prices and quality, and overall economic conditions. Sales comparisons are also subject to customer order patterns and business seasonality.

Critical Accounting Policies

We believe our critical accounting policies are as follows:

• revenue recognition;
• estimating sales, returns and allowances;
• estimating allowance for doubtful accounts;
• estimating write-downs of excess and obsolete inventories; and
• asset impairments.

A brief description of these policies is set forth below. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

On an on-going basis, we evaluate our estimates, including those related to revenue recognition, sales returns, allowance for doubtful accounts, inventory write-downs and asset impairments. We base our estimates on historical trends and various other assumptions that we believe to be reasonable at the time the estimates are made. Actual results could differ from those estimates.

Revenue recognition. We sell our products through two channels, direct sales to original equipment manufacturers and sales through third-party distributors. During the first quarter of 2002, sales to original equipment manufacturers accounted for approximately 55% of our total net sales, and sales to distributors accounted for approximately 45% of total net sales. We apply the provisions of Staff Accounting Bulletin 101 "Revenue Recognition." and Statement of Financial Accounting Standards No. 48 "Revenue Recognition When Right of Return Exists." Revenues from product sales to OEMs are recognized upon transfer of title, which usually occurs upon delivery of our products to a customer or their designated shipping agent. At that time, we provide for estimated sales returns and other allowances related to those sales. Net sales made to distributors under terms allowing certain rights of return and price protection for our products held in the distributors' inventories. Therefore, we defer recognition of revenue and the proportionate cost of revenues derived from sales to distributors until the distributors sell our products to their customers. We evaluate the amounts to defer based on the level of actual distributors' inventory on hand as well as inventory that is in transit. The gross profit deferred as a result of this policy is reflected as "deferred income on sales to distributors" in the accompanying consolidated balance sheets.

Estimating sales returns and allowances. Net revenue consists of product revenue reduced by estimated sales returns and allowances. To estimate sales returns and allowances, we analyze historical returns, current economic trends, levels of inventories of our products held by our customers, and changes in customer demand and acceptance of our products when initially establishing and then evaluating quarterly the adequacy of the reserve for sales returns and allowances. This reserve is reflected as a reduction to accounts receivable in the accompanying consolidated balance sheets. Increases to the reserve are recorded as a reduction to net revenue. Because the reserve for sales returns and allowances is based on our judgments and estimates, particularly as to future customer demand and acceptance of our products, our reserves may not be adequate to cover actual sales returns and other allowances. If our reserves are not adequate, our net revenues could be adversely affected.

Allowance for doubtful accounts. We maintain an allowance for losses we may incur as a result of our customers' inability to make required payments. Any increase in the allowance results in a corresponding increase in our general and administrative expenses. In establishing this allowance, and then evaluating the adequacy of the allowance for doubtful accounts, we analyze historical bad debts, customer concentrations, customer credit-worthiness, current economic trends and changes in our customer payment terms. If the financial condition of one or more of our customers unexpectedly deteriorated, resulting in their inability to make payments, or if we otherwise underestimate the losses we incur as a result of our customers' inability to pay us, we could be required to increase our allowance for doubtful accounts which could adversely affect our operating results.

Estimating write-downs of excess and obsolete inventories. We identify excess and obsolete products and analyze historical net sales demand forecasts, current economic trends, inventory age and historical write-offs when evaluating the net realizable value of our inventories. Write-offs of excess and obsolete inventories are reflected as a reduction to inventory values in the accompanying consolidated balance sheets, and an increase in cost of sales. If actual market conditions are less favorable than our assumptions, we may be required to take further write-downs of our inventory value, which could adversely impact our cost of sales and operating results.

Asset Impairments. We apply the provisions of Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of long-lived Assets." We assess the impairment of long- lived assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors we consider important which could trigger an impairment review include the following:

• significant changes in the manner of our use of the acquired assets;
• significant changes in the strategy for our overall business; and
• significant negative industry or economic trends.

When we determine that the carrying value of long-lived assets may not be recoverable based upon the existence of one or more of the above indicators of impairment, and the undiscounted cash flows estimated to be generated by those assets are less than the asset's carrying value, the carrying value of the assets are reduced to their estimated fair value. The estimated fair value is usually determined based on an estimate of future discounted cash flows. Asset impairments are recorded as a reduction in the asset value in our consolidated balance sheets and as special charges in our consolidated statements of operations. During the first quarter of 2002, we reported special charges of $2.5 million relating to write-offs of long-lived assets. If actual market conditions or net proceeds of assets to be sold are less favorable than our assumptions, we may be required to take further special charges for asset impairment, which could adversely impact our operating results.

Overview

We were founded in 1974 as a designer, developer and manufacturer of 8-bit microprocessors and we have evolved into a designer, manufacturer and marketer of semiconductor micro-logic devices for use in the communications and embedded control markets. Using proprietary technology, we provide devices that our customers design into their end products. Our devices enable data communications and telecommunications companies to process and transmit information and also enable a broad range of consumer and industrial electronics manufacturers to control the functions and performance of their products.

Prior to February 1998, our common stock had been publicly traded on the New York Stock Exchange under the symbol "ZLG." On February 27, 1998, we consummated a merger with an affiliate of Texas Pacific Group, and in connection with that transaction we ceased having publicly traded equity. Since the merger was structured as a recapitalization with a continuing minority stockholder group, our financial statements still reflect our historical basis of accounting. Our restructuring activities have included streamlining various production facilities and outsourcing our assembly and some of our wafer fabrication operations. In addition, we have recently discontinued development of our Cartezian family of 32-bit microprocessors and refocused on our core 8- bit and 16-bit product lines.

We sell our products through two channels, direct sales to original equipment manufacturers and sales through third-party distributors. During the first quarter of 2002, sales to original equipment manufacturers accounted for approximately 55% of our total net sales, and sales to distributors accounted for 45% of total net sales. During the same period, our total net sales were comprised of approximately 36% domestic sales and 64% international sales.

Financial Restructuring and Reorganization

We filed a pre-packaged chapter 11 plan of reorganization with the bankruptcy court for the Northern District of California on February 28, 2002 and the bankruptcy court confirmed the plan on April 30, 2002. The plan of reorganization became effective on May 13, 2002.

We operated our business in chapter 11 in the ordinary course and had obtained the necessary relief from the bankruptcy court to pay our employees, trade, and certain other creditors in full and on time regardless of whether their claims arose before or after the chapter 11 filing. The claims of our employees, general unsecured creditors (including trade creditors, licensors, and lessors) and secured creditors, other than holders of our senior secured notes, will not be compromised under the plan.

Under the plan of reorganization, our $280M senior notes will be cancelled. Each holder will receive, in exchange for its senior notes, its pro rata share of:

• 100% of our newly issued common stock, except for 14%, which will be issued or reserved for issuance to our employees, consultants, and directors under a management incentive plan.

• 100% of the newly issued series A preferred stock issued by our currently wholly owned subsidiary, MOD III. Holders of MOD III series A preferred stock will be entitled to receive an aggregate liquidation preference of $30 million plus any accrued but unpaid dividends on the MOD III series A preferred stock from the net proceeds of the sale of our MOD III fabrication plant including the facility, equipment and all other assets necessary for the operation of the facility, located in Nampa, Idaho, which we will transfer to MOD III when the plan becomes effective and from certain operation lease proceeds. Dividends will accrue on the MOD III series A preferred stock at 9.5% per annum.

• 50% of MOD III's newly issued series B preferred stock. We will retain the remaining 50% of the new MOD III series B preferred stock. Holders of the new MOD III series B preferred stock will be entitled to receive the net sale proceeds from any sale of MOD III's assets in excess of $30 million plus accrued but unpaid dividends on the new MOD III series A preferred stock.

The plan of reorganization also provides for the cancellation of our currently outstanding preferred and common stock and all options and warrants related thereto. All accumulated dividends and any other obligations with respect to our outstanding preferred and common shares will be extinguished. Depending on how the Bankruptcy Court ultimately treats certain former shareholders of Calibre, Inc. who filed a recission claim against us, each holder of common stock will, however, receive a pro rata share of $50,000. Each holder of preferred stock will receive a pro rata share of $150,000.

The plan of reorganization also provides for the payment in full, with interest if appropriate, or reinstatement, as appropriate, of all employee and trade claims. In order for the reorganization planto have become effective, we were required, among other things, to revise our charter and bylaws, enter into a new secured financing agreement, and designate a new board of directors.

We believe that the restructuring will substantially reduce uncertainty with respect to our future and better position us to develop new products and maintain and expand our customer base by focusing on our core business. ZiLOG is a pioneer in the semiconductor industry and we have a well- recognized brand. We believe that the elimination of our senior secured notes will allow us to devote more resources towards developing and expanding our core business. We believe that completion of the plan will provide a stronger financial base upon which we can focus and execute to develop a successful business. Our financial statements do not include any adjustments that reflect the restructuring or other events contemplated by the plan.

Upon emergence from chapter 11 proceedings, we will adopt fresh start reporting pursuant to the provisions of the American Institute of Certified Public Accountant's Statement of Position 90-7.

Under statement 90-7, on the consummation date our assets and liabilities will be restated to reflect their fair values, the accumulated deficit will be eliminated, and our debt and capital structure will be recast pursuant to the provisions of the prepackaged plan.

Results of Operations

Net Sales. Overall, similar to the semiconductor industry as a whole, we have experienced several quarters of weakness in demand for many of our products that has persisted through the first quarter of 2002 and has negatively affected net sales growth for most of our product lines. Our net sales of $36.0 million in the first quarter of 2002 declined 18.6% from net sales of $44.3 million in the first quarter of 2001. This decrease in net sales was attributable primarily to lower unit shipments of communications products. Net sales of our communications segment declined 27.9% to $14.4 million in the first quarter of 2002 compared to $20.0 in the first quarter of 2001. This decline was primarily the result of lower unit shipments of serial communication controller and wireless connectivity products, offset partially by higher unit sales of modem products. The decline in our sales of communications products during the first quarter of 2002 reflects weak overall market conditions in the telecommunications sector. In the first quarter of 2002, net sales in our embedded control segment decreased 7.4% to $21.4 million, compared to $23.2 million in the same period in 2001. This decline was primarily the result of lower unit shipments of Z8 microcontrollers and peripherals products, offset partially by higher unit sales of television controller products.

Net sales by region are summarized below (in millions):

                                                   Three Months Ended
                                 --------------------------------------------------
                                        March 31, 2002           April 1, 2001
                                 ------------------------- ------------------------
                                   Dollars     % of Total    Dollars    % of Total
                                 ------------ ------------ ----------- ------------
Net sales by region:
  Americas.....................         18.6           52%       26.5           60%
  Asia, including Japan........         12.6           35%       10.8           24%
  Europe.......................          4.8           13%        7.0           16%
                                 ------------ ------------ ----------- ------------
Total                                   36.0          100%       44.3          100%
                                 ============ ============ =========== ============

Gross Margin. Our cost of sales represents the cost of our wafer fabrication, assembly and test operations. Cost of sales fluctuates, depending on materials and services prices from our vendors, manufacturing productivity, product mix, equipment utilization and depreciation. Gross margin as a percent of net sales increased to 43.6% in the first quarter of 2002, up from 13.7% in the same period of 2001. This improvement in gross margin was primarily the result of rationalizing our manufacturing cost structure. A key element of this strategy was the closure of our underutilized MOD III wafer fabrication facility in January 2002. The savings in MOD III spending were partially offset by higher spending in our five-inch manufacturing facility and from purchases of manufactured wafers from outside foundries. However, our wafer manufacturing factory utilization improved to 57% of capacity in the first quarter of 2002, compared to 29% in the first quarter of 2001, which also helped to improve gross margin. Additionally, during 2001 we implemented a multi- source assembly program with a number of Asian semiconductor assembly service providers, we moved our wafer probe operations from Idaho to the Philippines and we streamlined our final test operations. These actions also contributed to our improved gross margin in the first quarter of 2002.

Research and Development Expenses. Research and development expenses were $5.2 million in the first quarter of 2002, reflecting a 42.7% decrease from the $9.1 million of research and development expenses reported in the first quarter of 2001. The decrease in research and development expense primarily reflects lower payroll-related costs as a result of headcount reductions. During the first quarter 2002, research and development expense also declined as a result of closing our Austin, Texas design center and the related termination of all product development activities in connection with our Cartezian line of 32-bit microprocessors. Additionally, in the first quarter of 2002, we renegotiated certain software license agreements and we wrote-off other surplus tools so that our design software suite is now more closely aligned with the forecast needs of our product development projects.

Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased to $8.1 million in the first quarter of 2002 from $13.6 million in the first quarter of 2001. The decrease in our selling, general and administrative spending in the first quarter of 2002 reflects lower payroll-related costs as a result of lower headcount, elimination of outside sales representative commissions and reduced incentive compensation and commissions commensurate with lower sales levels. Also in January 2002, we relocated our corporate headquarters to a smaller facility in San Jose, California. Excluding special charges, the headquarters move is expected to result in annual operating cost savings of approximately $4.5 million.

Special Charges. Special charges in the quarter ended March 31, 2002, were as follows (in millions):

Asset impairments:
   Austin, Texas assets.........        $1.7
   Internal use software........         0.8
Restructuring of operations:
   Employee severance and
     termination benefits.......         1.2
   MOD III closure costs........         1.9
                                 ------------
                                        $5.6
                                 ============

In connection with the closure of our Austin, Texas design center in the first quarter of 2002, we abandoned furniture, fixtures and equipment with a book value of approximately $1.7 million. Also in connection with this action and the streamlining of our sales force, we paid severance and termination benefits of approximately $1.2 million in the first quarter of 2002. Approximately $0.8 million of computer aided design software was impaired in the first quarter of 2002 as a result of our decision to cancel development of the Cartezian family of 32-bit RISC microprocessors. Additionally, we incurred a $1.9 million of special charges during the first quarter of 2002 associated with the closure of our MOD III eight-inch wafer fabrication facility in Idaho. These costs include relocation of production to alternative manufacturing sites and the closure of the facility. At March 31, 2002, approximately $0.1 million was accrued for MOD III closure costs. There were no special charges in the first quarter of 2001.

The following table summarizes special charges accrual activity and ending accrual balances for the three-month period ended March 31, 2002 (in millions):

                                  Severance      Lease
                                     and      Cancellation   MOD III
                                 Termination    and Exit     Closure
                                   Benefits     Charges       Costs       Total
                                 ------------ ------------ ----------- ------------
December 31, 2001..........             $5.6         $2.8        $0.2         $8.6
Charges to expense.........              1.1        --            1.9         $3.0
Cash payments..............             (5.5)        (2.6)       (2.0)      ($10.1)
                                 ------------ ------------ ----------- ------------
March 31, 2002.............             $1.2         $0.2        $0.1         $1.5
                                 ============ ============ =========== ============

Interest Expense. In the first quarter of 2002 our interest expense decreased to $4.9 million compared to $7.3 million in the same period of 2001. Interest expense in both years relates primarily to our senior notes issued in conjunction with our recapitalization merger in February 1998. The decrease in our interest expense in the first quarter of 2002 compared to the first quarter of 2001 primarily reflects cessation of further interest accruals on our notes payable subsequent to our filing of chapter 11 bankruptcy on February 28, 2002.

Reorganization Costs. Chapter 11 reorganization-related costs of $3.8 million included in our unaudited condensed debtor-in-possession statement of operations for the three months ended March 31, 2002 relate primarily to legal and other professional service fees.

Liabilities included in the unaudited condensed consolidated debtor-in-possession balance sheet at March 31, 2002, which are subject to compromise under the terms of the Plan of reorganization, are summarized as follows (in millions):

Notes payable.................        $280.0
Accrued interest on Notes.....          27.2
Preferred dividends payable...          18.0
                                 ------------
  Total liabilities subject
    to compromise.............        $325.2
                                 ============

Income Taxes. Our provision for income taxes in both the first quarters of 2002 and 2001 reflects foreign income taxes for the jurisdictions in which we were profitable as well as foreign withholding taxes and state minimum taxes. Based on available evidence, including our cumulative losses to date, we have provided a full valuation allowance of $79.1 million against our net deferred tax assets at December 31, 2001. We anticipate that our net operating losses and tax credit carryforwards will be substantially consumed or eliminated as a result of actions pursuant to our chapter 11 reorganization. We expect that our ability to utilize any remaining tax attributes after our reorganization is completed will be significantly limited under Section 382 of the Internal Revenue Code as a result of the change in ownership that is contemplated by the reorganization plan.

Liquidity and Capital Resources

We incurred substantial indebtedness in connection with our recapitalization merger in 1998. We currently have $280.0 million in aggregate principal amount of senior notes outstanding which are publicly registered and subject us to the reporting requirements of the Securities Exchange Act of 1934. Interest on the senior notes was accrued at the rate of 9.5% per annum and is payable semi-annually in arrears on March 1 and September 1, to holders of record on the immediately preceding February 15 and August 15, respectively. We did not make the scheduled semi-annual interest payments of $13.3 million on the notes for either the September 2001 or the March 2002 payment dates. As noted previously, we have concluded that the best vehicle to achieve a restructuring of our senior secured indebtedness was through consummation of a voluntary prepackaged plan of reorganization pursuant to chapter 11 of the U.S. Bankruptcy Code and our reorganization plan was confirmed by the Bankruptcy Court on April 30, 2002. The plan of reorganization became effective on May 13, 2002.

As of March 31, 2002, we had cash and cash equivalents of approximately $17.5 million, compared to $30.7 million at December 31, 2001.

Additionally, we have a senior secured credit facility from a commercial lender that provides for total borrowings of up to $40.0 million, consisting of a four-year revolving credit facility of up to $25.0 million and a five-year capital expenditure line of up to $15.0 million which expire on December 30, 2002 and 2003, respectively. Borrowings under the credit facility bear interest at a rate per annum equal, at our option, to the commercial lender's stated prime rate or the London Interbank Overnight Rate, commonly known as LIBOR, plus 2.0% (4.9% at March 31, 2002) for the revolving credit facility and the commercial lender's prime rate plus 1.0% (5.8% at March 31, 2002) or LIBOR plus 3.0% (5.9% at March 31, 2002) for the capital expenditure line. As of March 31, 2002 borrowings under the revolving credit facility totaled $10.0 million and there were $1.2 million of standby letters of credit issued to our vendors under this facility. As of March 31, 2002 there were no borrowings under the capital expenditure line. There is no additional borrowing capacity under either facility and this loan is currently in default and could be called by the lender.

We entered into a new credit facility with the same commercial lender to replace our existing credit facility with a three-year $15.0 million senior secured revolving credit facility upon emergence from our chapter 11 bankruptcy. The new facility is on substantially similar terms as the existing facility, except that borrowings will bear interest at a rate per annum equal, at our option, to the commercial lender's stated prime rate or LIBOR, plus 2.5%. The capital expenditure line under our existing credit facility was cancelled.

Cash used by operating activities was $9.5 million for the three months ended March 31, 2002, compared to $23.7 million in the similar period of 2001. The use of cash by operating activities in the first quarter of 2002 primarily reflects our net loss of $11.9 million, adjusted for depreciation and amortization of $2.0 million. During the three-month period ended March 31, 2002, our significant use of operating cash included cash payments for special charges of $10.1 million. The use of cash by operating activities in the first quarter of 2001 primarily reflects our net loss of $24.1 million, adjusted by depreciation and amortization of $10.1 million, a decrease in accrued compensation and employee benefits of $13.1 million, and an decrease in other accrued and noncurrent liabilities of $9.8 million, offset by decreases in accounts receivable and inventories of $7.0 million and $5.0 million, respectively. Included in the change in other accrued and noncurrent liabilities for the first quarter of 2001 was $13.3 million for a payment of interest on the Notes. Additionally, the Company paid $10.3 million to its former Chief Executive Officer in the first quarter of 2001, pursuant to a previously accrued contractual obligation.

Cash used by investing activities was $0.9 million for the three months ended March 31, 2002 and was $3.1 million for the three months ended April 1, 2001. Cash used for investing activities in both periods reflects capital expenditures. In the first quarter of 2002, capital expenditures related primarily to furniture and fixtures for our new San Jose headquarters and replacements of manufacturing equipment. Capital expenditures in the first quarter of 2001 primarily related to equipment in our MOD III wafer manufacturing facility. Cash used for financing activities in the first quarter of 2002 were $2.8 million representing repayments on our revolving line of credit. In the first quarter of 2001, $13.0 million of cash was provided by investing activities from borrowings under our revolving line of credit.

Our cash needs include reorganization expenditures, restructuring of operations, working capital, and capital expenditures. The 2002 business climate is expected to continue to be extremely difficult. Upon emergence from chapter 11, we presently expect that our anticipated exit financing, cash flows from operations and available cash, coupled with our operational restructuring activities and other cash-savings initiatives will allow us to satisfy all of our cash needs for the next 12 months.

Whether we are able to do so will depend primarily on our results from operations during 2002 and on the success of our debt restructuring plan and our other initiatives. If we are not able to do so, we may need to obtain additional cash resources, such as from new sources of debt or equity financing or one or more sales of assets. In the event additional financing is required, we may not be able to raise money on acceptable terms or at all.

Effects of Inflation and Changing Prices

The Company believes that inflation and/or deflation had a minimal impact on its overall operations during the first quarters of 2002 and 2001.

Recent Accounting Pronouncements

In August 2001, the FASB issued SFAS 143, "Accounting for Asset Retirement Obligations." SFAS 143 addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated retirement costs. SFAS 143 is generally effective for fiscal years beginning after June 15, 2002 and we are in the process of assessing the financial statement effect of its adoption. However, we will be required to adopt SFAS 143 upon implementation of fresh-start accounting as prescribed by SOP 90-7.

Factors That May Affect Future Results

Risks Related to Our Business and Industry

Recent terrorist activities and resulting military and other actions could harm our business.

Terrorist attacks in New York, Washington, D.C. and Pennsylvania in September 2001 have disrupted domestic and international commerce. The continued threat of terrorism, any ongoing military action and heightened security measures in response to this threat may cause significant disruption to commerce throughout the world. To the extent that this disruption results in delays or cancellations of orders, a general decrease in spending on technology products or our inability to effectively market and ship our products, our business and results of operations could be harmed. We are unable to predict whether the threat of terrorism or the responses thereto will result in any long-term commercial disruptions or if such activities or responses will have a long-term adverse effect on our business, results of operations or financial condition.

Our quarterly operating results are likely to fluctuate and may fail to meet expectations, which may cause the price of our securities to decline.

Our quarterly operating results have fluctuated in the past and will likely continue to fluctuate in the future. Our future operating results will depend on a variety of factors and they may fail to meet expectations. Any failure to meet expectations could cause the price of our securities to fluctuate or decline significantly. In addition, high proportions of our costs are fixed, due in part to our significant sales, research and development and manufacturing costs. Therefore, small declines in revenue could disproportionately affect our operating results in a quarter. A variety of factors could cause our quarterly operating results to fluctuate, including:

• our ability to introduce and sell new products and technologies on a timely basis;

• changes in the prices of our products;

• technological change and product obsolescence;

• changes in product mix or fluctuations in manufacturing yields;

• variability of our customers' product life cycles;

• the level of orders that we receive and can ship in a quarter, customer order patterns and seasonality;

• increases in the cost of raw materials; and

• gain or loss of significant customers.

In addition to causing fluctuations in the price of our securities, any significant declines in our operating performance could harm our ability to meet our debt service and other obligations.

We are currently experiencing a downturn in the business cycle and our revenues, cash generation and profitability are being adversely affected.

The semiconductor industry is highly cyclical and has experienced significant economic downturns at various times in the last three decades, characterized by diminished product demand, erosion of average selling prices and production over-capacity. In the fourth quarter of 2000, another downturn in our business cycle began and continues today. The terrorist acts of September 2001 in New York City, Washington, D.C. and Pennsylvania, and the United States' military response, have exacerbated the downturn and created an uncertain economic environment. We cannot predict the impact of these events, any subsequent terrorist acts or of any related military action, on our customers or business. We believe that, in light of these events, some businesses may curtail spending on technology, which could also negatively affect our quarterly results or financial condition in the future. We are experiencing a decline in revenues, as our customers are not ordering product from us in the quantities that they previously ordered. We are uncertain how long this decline will last. In 1997 and 1998, we experienced similar significant declines in customer demand for our products. In response to these reductions in demand, other semiconductor manufacturers and we reduced prices to avoid a significant decline in capacity utilization. During 2001 we experienced significant declines in our capacity utilization in our manufacturing facilities and we reduced selling prices on certain products. We may be required to further reduce selling prices, which could negatively impact our financial condition. In addition, we are currently, and will likely in the future experience substantial period-to-period fluctuations in future operating results that are attributable to general industry conditions or events occurring in the general economy. Any economic downturn could pressure us to reduce our prices and decrease our revenues, cash generation and profitability.

We have a history of losses, we expect future losses and we may not achieve or maintain profitability in the future.

We have a history of net losses, we expect future net losses and we may not achieve profitability in the near future. We incurred net losses of $11.9 million in the three months ended March 31, 2002, $128.0 million in 2001, $58.2 million in 2000, and $37.9 million in 1999. As of March 31, 2002, we had an accumulated deficit of approximately $325.4 million.

We have implemented and are considering additional cost cutting measures, but these cost-cutting measures may not result in increased efficiency or future profitability.

Similar to other semiconductor companies, we have implemented and may consider implementing additional significant cost cutting measures that may include:

• consolidation of our wafer fabrication facilities, outsourcing significant manufacturing transfer of our probe operations to the Philippines;

• canceling new product lines;

• closing design facilities and sales offices;

• refocusing of business priorities;

• reallocation of personnel and responsibilities to better utilize human resources;

• reductions in workforce; and

• temporary office and facility shutdowns.

As part of our cost cutting measures, we are considering the disposition of one or more product lines, business units or other assets. We may not be able to consummate any divestiture at a fair market price. We may also be unable to reinvest the proceeds from any disposition to produce the same level of operating profit as the divested product lines or to generate a commensurate rate of return on the amount of our investment. We may also be required to pay some or all of the proceeds from assets sales to our senior lenders rather than retaining such proceeds for working capital. Our cost cutting measures may not increase our efficiency or future profitability.

If we are unable to implement our business strategy, our revenues and future profitability may be harmed materially.

Our future financial performance and success are largely dependent on our ability to implement our business strategy. We may be unable to implement our business strategy and, even if we do implement our strategy successfully, our results of operations may fail to improve.

In addition, although the semiconductor micro-logic market has grown in prior years, it is currently in a significant downturn. Our revenues and future profitability could be harmed seriously. It is uncertain for how long this slowdown will last.

We may not be able to introduce and sell new products and our inability to do so may harm our business materially.

Our operating results depend on our ability to introduce and sell new products. Rapidly changing technologies and industry standards, along with frequent new product introductions, characterize the industries that are currently the primary end-users of semiconductors. As these industries evolve and introduce new products, our success will depend on our ability to adapt to such changes in a timely and cost-effective manner by designing, developing, manufacturing, marketing and providing customer support for new products and technologies.

Our ability to introduce new products successfully depends on several factors, including:

• proper new product selection;

• timely completion and introduction of new product designs;

• complexity of the new products to be designed and manufactured;

• development of support tools and collateral literature that make complex products easy for engineers to understand and use; and

• market acceptance of our products and our customers' products.

We cannot assure you that the design and introduction schedules for any new products or any additions or modifications to our existing products will be met, that these products will achieve market acceptance or that we will be able to sell these products at prices that are favorable to us.

Our future success may be dependent on the release and acceptance of our new eZ80 Internet Engine family of products.

We have delivered samples of our first eZ80 Webserver product to some of our customers and have released the first eZ80 product to production. These new products may not perform as anticipated and there may be unforeseen redesigns or delays in their final release. Our failure to release these products as scheduled or the failure of these products to meet our customers' expectations would affect us adversely. While we do expect to receive revenues from these products in 2002, it is not clear how significant those revenues will be. Future revenues may also be insufficient to recover the costs associated with their development.

Products as complicated as the eZ80 Webserver frequently contain errors and defects when first introduced or as new versions are released. Delivery of products with such errors or defects, or reliability, quality or compatibility problems, could require significant expenditures of capital and other resources and significantly delay or hinder market acceptance of these products. Any such capital expenditures or delays could harm our operating results materially, damage our reputation and affect our ability to retain our existing customers and to attract new customers.

Our industry is highly competitive and we cannot assure you that we will be able to compete effectively.

The semiconductor industry is intensely competitive and is characterized by price erosion, rapid technological change and heightened competition in many markets. The industry consists of major domestic and international semiconductor companies, many of which have substantially greater financial and other resources than we do with which to pursue engineering, manufacturing, marketing and distribution of their products. Emerging companies are also increasing their participation in the semiconductor industry. Our current and future communications products compete with, or are expected to compete with, products offered by Advanced Micro Devices, ARM, Atmel, Conexant, Intel, Lucent Technologies, Maxim, MIPS Technologies, Mitel, Motorola, NEC, NetSilicon, Philips, PMC-Sierra, Sharp, Texas Instruments and Toshiba. Our current and future embedded control products compete with, or are expected to compete with, products offered by Atmel, Hitachi, Intel, Microchip, Mitsubishi, Motorola, NEC, Philips, Samsung, Sanyo, Sharp, ST Microelectronics and Toshiba. Our ability to compete successfully in our markets depends on factors both within and outside of our control, including:

• our ability to design and manufacture new products that implement new technologies;

• our ability to protect our products by effectively utilizing intellectual property laws;

• our product quality, reliability, ease of use and price;

• the diversity of product line and our efficiency of production;

• the pace at which customers incorporate our devices into their products; and

• the success of our competitors' products and general economic conditions.

To the extent that our products achieve market acceptance, competitors typically seek to offer competitive products or embark on pricing strategies, which, if successful, could harm our results of operations and financial condition materially.

Unless we maintain manufacturing efficiency and avoid manufacturing difficulties, our future profitability could be harmed.

Our semiconductors are highly complex to manufacture and our production yields are sensitive. Our production yields may be inadequate in the future to meet our customers' demands. Production yields are sensitive to a wide variety of factors, including the level of contaminants in the manufacturing environment, impurities in the materials used and the performance of personnel and equipment. From time to time, we have experienced difficulties in effecting transitions to new manufacturing processes and have suffered delays in product deliveries or reduced yields. We may experience similar difficulties or suffer similar delays in the future, and our operating results could be harmed as a result.

For example, we may experience problems that make it difficult to manufacture the quantities of our products that we anticipate producing in our .65 micron wafer fabrication processes. These difficulties may include:

• equipment being delivered later than or not performing as expected;

• process technology changes not operating as expected;

• complications in moving production from our eight-inch wafer fabrication facility to our five-inch wafer fabrication facility or to outside foundries in connection with our announced wafer fabrication facility consolidation plans; and

• engineers not operating equipment as expected.

If we are unable to obtain adequate production capacity, our business could be harmed.

In connection with the closure of our MOD III wafer fabrication facility, we intend to rely on independent third-party foundry manufacturers to fabricate an increasing percentage of our products. Industry- wide shortages in foundry capacity could harm our financial results. Should we be unable to obtain the requisite foundry capacity to manufacture our complex new products, or should we have to pay high prices to foundries in periods of tight capacity, our ability to increase our revenues might be impaired. Any delay in initiating production at third-party facilities, any inability to have new products manufactured at foundries or any failure to meet our customers' demands could damage our relationships with our customers and may decrease our sales.

Other significant risks associated with relying on these third-party manufacturers include:

• reduced control over the cost of our products, delivery schedules and product quality;

• the warranties on wafers or products supplied to us are limited;

• increased exposure to potential misappropriation of our intellectual property; and

• the cost and consumption of time associated with switching foundries.

We depend on third-party assemblers and the failure of these third parties to continue to provide services to us on sufficiently favorable terms could harm our business.

We use outside contract assemblers for packaging our products. If we are unable to obtain additional assembly capacity on sufficiently favorable terms, our ability to achieve continued revenue growth might be impaired. Shortages in contract assembly capacity could cause shortages in our products and could also result in the loss of customers. Because we rely on these third parties, we also have less control over our costs, delivery schedules and quality of our products and our intellectual property is at greater risk of misappropriation.

Our international operations subject us to risks inherent in doing business in foreign countries that could impair our results of operations.

Approximately 65% of our net sales in 2001, and approximately 64% of our net sales in the first quarter of 2002, were to foreign customers and we expect that international sales will continue to represent a significant portion of our net sales in the future. We maintain significant operations and rely on a number of contract manufacturers in the Philippines, Indonesia, Taiwan, Malaysia and India. We cannot assure you that we will be successful in overcoming the risks that relate to or arise from operating in international markets. Risks inherent in doing business on an international level include:

• economic and political instability;

• changes in regulatory requirements, tariffs, customs, duties and other trade barriers;

• transportation delays;

• power supply shortages and shutdowns;

• difficulties in staffing and managing foreign operations and other labor problems;

• existence of language barriers and cultural distinctions;

• taxation of our earnings and the earnings of our personnel; and

• other uncertainties relating to the administration of or changes in, or new interpretation of, the laws, regulations and policies of the jurisdictions in which we conduct our business.

In addition, our activities outside the United States are subject to risks associated with fluctuating currency values and exchange rates, hard currency shortages and controls on currency exchange. While our sales are primarily denominated in U.S. dollars, worldwide semiconductor pricing is influenced by currency rate fluctuations, and such fluctuations could harm our operating results materially.

The risks inherent in our international operations have been increased by the terrorist attacks of September 2001. These attacks, coupled with the international military response, have created an uncertain economic environment and we cannot predict the impact of these events, any subsequent terrorist acts or of any related military action, on our customers or our business.

A significant amount of our revenues comes from relatively few of our customers, and any decrease of revenues from these customers, or the loss of their business, could significantly harm our financial results.

Historically we have been, and we expect to continue to be, dependent on a relatively small number of customers for a significant portion of our revenues primarily because we depend on third-party distributors to market and sell our products. These third-party distributors accounted for approximately 39% of our net sales in 2001, and approximately 45% of our net sales in the first quarter of 2002. Our distributors may not continue to effectively market, sell or support our products. Our ten largest customers accounted for 55% of our net sales in 2001 and approximately 52% of our net sales in the first quarter of 2002. Pioneer-Standard alone accounted for approximately 13% of our net sales in 2001, and approximately 10% of our net sales in the first quarter of 2002. Particular customers may change from period to period, but we expect that sales to a limited number of customers will continue to account for a significant percentage of our revenues in any particular period for the foreseeable future. The loss of one or more major customers or any reduction, delay or cancellation of orders by any of these customers or our failure to market successfully to new customers could harm our business materially.

We have very few long-term contracts with our customers and, like us, our customers typically compete in cyclical industries. In the future, these customers may decide not to purchase our products at all, to purchase fewer products than they did in the past, or to alter their purchasing patterns, particularly because substantially all of our sales are made on a purchase order or sales order acknowledgment basis, which permits our customers to cancel, change or delay product purchase commitments upon 30 days notice for standard products and 60 days notice for custom products. Customers may still cancel or reschedule within these time periods, however they routinely incur a cancellation or rescheduling charge. This risk is increased because our customers can purchase some similar products from our competitors.

Changes in technologies or consumption patterns could reduce the demand for our products.

As a result of technological changes, from time to time our customers design our product out of some devices. Because we do not have long- term supply contracts with most of our customers, changes in the designs of their products could have sudden and significant impacts on our sales. Any resulting decreased sales could reduce our profitability. For example, a number of our customers have changed the designs of computer mouse pointing devices that they manufacture, and as a result, these devices no longer contain our products. As a result of these design changes, net sales of our computer mouse pointing devices and other computer peripheral products decreased substantially from approximately $15.4 million in 2000 and to approximately $4.9 million in 2001. In the first quarter of 2002, net sales to our computer mouse pointing devices and other computer peripheral products were $0.9 million. These reduced sales have and may continue to harm our operating results materially.

We depend on key personnel, and the loss of our current personnel or our failure to hire and retain additional personnel could affect our business negatively.

We depend on our ability to attract and retain highly skilled technical and managerial personnel. We believe that our future success in developing marketable products and achieving a competitive position will depend in large part on our ability to identify, recruit, hire, train, retain and motivate highly skilled technical, executive, managerial, marketing and customer service personnel. Competition for these personnel is intense, especially in Northern California, where our headquarters are located, and we may not be able to successfully recruit, assimilate or retain sufficiently qualified personnel. Our failure to recruit and retain necessary technical, executive, managerial, merchandising, marketing and customer service personnel could harm our business and our ability to obtain new customers and develop new products. In addition, our current financial condition could have a negative impact on our ability to recruit and retain employees.

We may fail to protect our proprietary rights and the cost of protecting those rights, whether we are successful or not, may harm our ability to compete.

The measures we take to protect our intellectual property rights may be inadequate to protect our proprietary technologies and processes from misappropriation, and these measures may not prevent independent third party development of competitive products. We may not be able to detect the unauthorized use of, or take appropriate steps to enforce our intellectual property rights. Despite our efforts to protect our proprietary rights in both the United States and in foreign countries, existing intellectual property laws in the United States provide only limited protection and, in some cases, the laws of foreign countries provide even less protection.

Litigation may be necessary in the future to enforce our intellectual property rights, to protect our trade secrets or to determine the validity and scope of our proprietary rights or the proprietary rights of others. Any such litigation could require us to incur substantial costs and divert significant valuable resources, including the efforts of our technical and management personnel, which may harm our business materially.

We could be subject to claims of infringement of third-party intellectual property rights, which could result in significant expense to us and/or our loss of such rights.

The semiconductor industry is characterized by frequent claims and related litigation regarding patent and other intellectual property rights. Third parties may assert claims or initiate litigation against us, our licensors, our foundries, our service providers, or our customers with respect to existing or future products. Any intellectual property litigation initiated against us could subject us to significant liability for damages and attorneys' fees, invalidation of our proprietary rights, injunctions or other court orders that could prevent us from using specific technologies or engaging in specific business activities.

These lawsuits, regardless of their success, would likely be time-consuming and expensive to resolve and would divert management's time and attention from our business. Any potential intellectual property litigation could also force us to do one or more of the following:

• pay substantial damages;

• cease using key aspects of our technologies or processes that incorporate the challenged intellectual property;

• cease the manufacture, use, sale, offer for sale and importation of infringing products;

• alter our designs around a third party's patent;

• obtain licenses to use the technology that is the subject of the litigation from a third party;

• expend significant resources to develop or obtain non- infringing technology;

• create new brands for our services and establish recognition of these new brands; or

• make significant changes to the structure and the operation of our business.

Implementation of any of these alternatives could be costly and time-consuming and might not be possible at all. An adverse determination in any litigation to which we were a party could harm our business, our results of operations and financial condition. In addition, we may not be able to develop or acquire the technologies we need, and licenses to such technologies, if available, may not be obtainable on commercially reasonable terms. Any necessary development or acquisition could require us to expend substantial time and other resources.

One party has notified ZiLOG that it may be infringing certain patents. Four of our customers have notified us that they have been approached by patent holders who claim that they are infringing certain patents. The customers have asked us for indemnification. ZiLOG is investigating the claims of all of these parties. Even though we have not heard anything about any of these for at least nine months, and while we believe that we are unlikely to have liability in any of these situations, no assurance can be given in this regard. In the event ZiLOG determines that such notice may involve meritorious claims, ZiLOG may seek a license. Based on industry practice, ZiLOG believes that in most cases any necessary licenses or other rights could be obtained on commercially reasonable terms. However, no assurance can be given that licenses could be obtained on acceptable terms or that litigation will not occur. The failure to obtain necessary licenses or other rights or the advent of litigation arising out of such claims could have a material adverse effect on ZiLOG.

We are defending one lawsuit, in the ordinary course of business. We may lose this suit and we may be subject to a material judgment against us.

We may engage in acquisitions that harm our operating results, dilute our stockholders' equity, or cause us to incur additional debt or assume contingent liabilities.

To grow our business and maintain our competitive position, we have made acquisitions in the past and may acquire other businesses in the future. In the past, for example, we acquired substantially all of the assets and assumed the operating liabilities of Seattle Silicon Corporation in April 1999 for approximately $6.1 million. In July 2000, we acquired Calibre in exchange for 741,880 shares of our common stock, including shares of our common stock issuable upon the exercise of vested options.

Acquisitions involve a number of risks that could harm our business and result in the acquired business not performing as expected, including:

• insufficient experience with technologies and markets in which the acquired business is involved that may be necessary to successfully operate and integrate the business;

• ineffective communication and cooperation in product development and marketing among senior executives and key technical personnel;

• problems integrating the acquired operations, personnel, technologies or products with the existing business and products;

• diversion of management time and attention from our core business and to the acquired business;

• potential failure to retain key technical, management, sales and other personnel of the acquired business; and

• difficulties in retaining relationships with suppliers and customers of the acquired business.

In addition, acquisitions could require investment of significant financial resources and may require us to obtain additional equity financing, which may dilute our stockholders' equity, or to incur additional indebtedness.

We are subject to a variety of environmental laws and regulations and our failure to comply with present or future laws and regulations could harm our business materially.

Our manufacturing processes require us to use various hazardous substances and, as a result, we are subject to a variety of governmental laws and regulations related to the storage, use, emission, discharge and disposal of such substances. Although we believe that we are in material compliance with all relevant laws and regulations and have all material permits necessary to conduct our business, our failure to comply with present or future laws and regulations or the loss of any permit required to conduct our business could result in fines being imposed on us, the limitation or suspension of production or cessation of our operations. Compliance with any future environmental laws and regulations could require us to acquire additional equipment or to incur substantial other expenses. Any failure by us to control the use of, or adequately restrict the discharge of, hazardous materials could subject us to future liabilities that could materially harm our business. In addition, we may be required to incur significant expense in connection with governmental investigations and/or environmental employee health and safety matters.

Risks Related to Our Capital Structure

The agreements governing our indebtedness may limit our ability to finance future operations or capital needs or engage in business activities that may be in our interest.

The terms of our post-confirmation credit facility contain restrictive covenants that may impair our ability to take corporate actions that we believe to be in the best interests of our stockholders, including restricting our ability to:

• dispose of assets;

• incur additional indebtedness;

• prepay other indebtedness or amend some debt instruments;

• pay dividends or repurchase our stock;

• create liens on assets;

• enter into sale and leaseback transactions;

• make investments, loans or advances;

• make acquisitions or engage in mergers or consolidations;

• change the business conducted by us or our subsidiaries;

• make capital expenditures or engage in specific transactions with affiliates; and

• otherwise restrict other corporate activities.

Our ability to comply with this agreement may be affected by events beyond our control, including prevailing economic, financial and industry conditions. The breach of any of such covenants or restrictions could result in a default, which may permit our lender to cause all amounts we owe them to accelerate and become due and payable, together with accrued and unpaid interest. We may not be able to repay all of our borrowings if they are accelerated and, in such event, our business may be harmed materially and the value of our common stock could decrease significantly.

Item 3. Quantitative and Qualitative Disclosure About Market Risk

Interest Rate Risk

Our exposure to market risk for changes in interest rates relates primarily to our short-term investment portfolio and long-term debt obligations. We do not use derivative financial investments in our investment portfolio. Our primary investment objectives are to preserve capital and maintain liquidity. These objectives are met by investing in high-quality credit issuances and limiting the amount of credit exposure to any one company. We mitigate default risk by investing in only the highest quality securities and monitoring the credit ratings of such investments. We have no cash flow exposure due to rate changes for our cash equivalents or our Notes as these instruments have fixed interest rates.

The table below presents principal amounts and related average rates by year of maturity for our cash equivalents and debt obligations as of March 31, 2002 (dollars in millions):

                                                  Carrying
                                                   Value    Fair Value
                                                 ---------- ----------
Cash Equivalents:
  Fixed rate .........................               $16.4      $16.4
  Average interest rate ..............                1.08%      --

Short Term Debt:
  Variable-rate debt..................               $10.0      $10.0
  Interest rate.......................                4.75%      --

  Fixed rate .........................              $280.0     $112.0
  Stated interest rate ...............                9.50%      --

Part II. OTHER INFORMATION

Item 1. Legal Proceedings

On July 29, 1996, we filed an action in the Superior Court of the State of California in and for Santa Clara against Pacific Indemnity Company, Federal Insurance Company and Chubb & Son Inc. In that action, we sought a declaration that our former insurers, Pacific and Federal, had an unconditional duty to defend and indemnify us in connection with two lawsuits brought in 1994: (1) in Santana v. ZiLOG and, (2) in Ko v. ZiLOG. Our complaint in the Santa Clara County action also alleged that Chubb, which handled the defense of Santana and Ko on behalf of Pacific and Federal, was negligent. Pacific cross-complained against the Company, seeking reimbursement of defense costs for both underlying lawsuits and a payment it contributed to the settlement of Ko. According to its cross-complaint, Pacific sought a total of approximately six million, three hundred thousand dollars ($6,300,000), plus interest and costs of suit.

On February 26, 2002, we agreed to make a payment of $300,000 to fully settle these lawsuits. We have already paid $75,000 of this amount. The balance is to be paid in 3 equal installments over the next twelve months. The outstanding balance accrues interest at 6% per annum.

We filed for protection under Chapter 11 of the United States Bankruptcy Code in the Northern District of California on February 28, 2002. Prior to this filing, we solicited the acceptance of our plan of reorganization from holders of our senior notes and our preferred stock. We received unanimous acceptance of our plan of reorganization from the noteholders and preferred shareholders voting. In connection with the filing, we made several motions to the judge requesting, among other things, that we be able to pay our employees and trade creditors in the ordinary course. These motions were granted.

The plan of reorganization was confirmed on April 30, 2002, and became effective on May 13, 2002.

One party has notified us that we may be infringing certain patents. Four of our customers have notified us that they have been approached by patent holders who claim that they are infringing certain patents. The customers have asked us for indemnification. We are investigating the claims of all of these parties. We have had no further communications about any of this for at least 10 months. In the event that we determine, however, that any such notice may involve meritorious claims, we may seek a license. Based on industry practice, we believe that in most cases any necessary licenses or other rights could be obtained on commercially reasonable terms. However, no assurance can be given that licenses could be obtained on acceptable terms or that litigation will not occur. The failure to obtain necessary licenses or other rights or the advent of litigation arising out of such claims could have a material adverse effect on our financial condition. See Factors That May Affect Future Results - "We could be subject to claims of infringement of third-party intellectual property rights, which could result in significant expense to us and/or loss of such rights."

We are participating in other litigation and responding to claims arising in the ordinary course of business. We intend to defend ourselves vigorously in these matters. Our management believes that it is unlikely that the outcome of these matters will have a material adverse effect on our financial statements, although there can be no assurance in this regard.

Item 3. Defaults Upon Senior Securities

ZiLOG did not make its scheduled semi-annual interest payments of $13.3 million on the Notes that were due on September 4, 2001 and March 1, 2002. At March 31, 2002, the total amount of interest accrued on the Notes was approximately $27.2 million. Our default on the interest payment due on the Notes, and the expiration of the applicable grace period on October 4, 2001, constitutes an event of default under our capital expenditure and revolving credit facility. An aggregate of $10.0 million in borrowings were outstanding on the credit facility as of March 31, 2002.

Refer to Management's Discussion and Analysis of Financial Condition and Results of Operations contained in Item 2 herein for a discussion of the key provisions of ZiLOG's reorganization plan filed on February 28, 2002 and confirmed by the bankruptcy court judge on April 30, 2002.

Item 6.  Exhibits and Reports on Form 8-K


a)     Exhibits are filed or incorporated herein by reference as indicated below:

           Exhibit Number                         Exhibit Description
	   --------------		-----------------------------------------
                3.1 (a)                 Certificate of Incorporation of ZiLOG, Inc.
                3.3 (a)                 Bylaws of ZiLOG, Inc.
    		3.5 (b)			Certificate of Amendment of Certificate of
					Incorporation of ZiLOG, Inc.

		10. 6                   Employment Agreement, dated as of January 7,
					2002, between ZiLOG, Inc. and James Thorburn
					(incorporated by reference to Exhibit 5 to
					Exhibit 99.2 to the Current Report on Form
					8-K filed with the Commission on January 30,
					2002).

		10.7 			Non-Solicitation and Non-Hire Agreement,
					dated as of January 28, 2002, between ZiLOG,
					Inc. and TPG Partners II, L.P. (incorporated
					by reference to Exhibit 4 to Exhibit 99.2 to
					the Current Report on Form 8-K filed with the
					Commission on January 30, 2002).

		10.10 			Mutual Release Agreement, dated as of January
					28, 2002, between ZiLOG, Inc., ZiLOG-MOD III,
					Inc., TPG Partners II, L.P., John Marren and
					William Price (incorporated by reference to
					Exhibit 11 to Exhibit 99.2 to the Current
					Report on Form 8-K filed with the Commission
					on January 30, 2002).

		10.11			Tax Agreement, dated as of January 28, 2002,
					between	ZiLOG, Inc. and TPG Partners II, L.P.
					(incorporated by reference to Exhibit 12 to
					Exhibit 99.2 to the Current Report on Form
					8-K filed with the Commission on January 30,
					2002).
----------------------------------

          (a) Incorporation herein by reference to the item of the same name filed as an
          Exhibit to the Company's Registration Statement on Form S-4 (File No.
          333-51203) declared effective by the Securities and Exchange Commission on
          July 9, 1998.

          (b) Incorporation herein by reference to the item of the same name filed as an
          Exhibit to the Company's Quarterly Report on Form 10-Q for the Quarter
          ended September 30, 1998.

b) Reports on Form 8-K:

The Company filed a Current Report on Form 8-K on March 4, 2002, reporting the filing of the Registrant's voluntary petition for bankruptcy protection under chapter 11 of the U.S. Bankruptcy Code.

The Company filed a Current Report on Form 8-K on January 30, 2002, with respect to its solicitation of votes on its reorganization plan.

ZiLOG, INC.

SIGNATURES

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.

ZiLOG, INC.

(Registrant)

By:  /s/ Perry Grace

Perry Grace

Vice President and Chief Financial Officer

(Duly Authorized Officer)

By:  /s/ James M. Thorburn

James M. Thorburn

Chairman, Chief Executive Officer and Director

(Duly Authorized Officer)

Date: May 14, 2002