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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the quarterly period ended April 1, 2005

or

For the transition period from                      to                     

Commission File Number 001-32241

FREESCALE SEMICONDUCTOR, INC.

(Exact name of registrant as specified in its charter)

(512) 895-2000

(Registrant’s telephone number)

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

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes ¨     No x.

The number of shares outstanding of each of the issuer’s classes of common stock as of the close of business on April 15, 2005:

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INDEX

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PART I - FINANCIAL INFORMATION

Freescale Semiconductor, Inc. and Subsidiaries

Condensed Consolidated and Combined Statements of Operations

(Unaudited)

(In millions, except per share amounts)

See accompanying notes.

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Freescale Semiconductor, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets

(In millions, except per share information)

See accompanying notes.

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Freescale Semiconductor, Inc. and Subsidiaries

Condensed Consolidated and Combined Statements of Cash Flows

(Unaudited)

(In millions)

See accompanying notes.

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Freescale Semiconductor, Inc. and Subsidiaries

Notes to Condensed Consolidated and Combined Financial Statements

(Dollars in millions, except as noted)

(1) Basis of Presentation

Freescale Semiconductor, Inc. (“Freescale Semiconductor”) was incorporated in Delaware on December 3, 2003 in preparation for the contribution and transfer by Motorola, Inc. (“Motorola”) of substantially all of its semiconductor businesses’ assets and liabilities to Freescale Semiconductor (the “Contribution”) and an initial public offering (“IPO”) of Freescale Semiconductor Class A common stock. Freescale Semiconductor completed the Contribution in the second quarter of 2004 and the IPO on July 21, 2004. Prior to the IPO, Freescale Semiconductor was a wholly owned subsidiary of Motorola. All of the Freescale Semiconductor’s Class B shares of common stock were held by Motorola until Motorola distributed its remaining ownership interest in us by means of a special dividend to its common stockholders (the “Distribution”) on December 2, 2004 (the “Distribution Date”). We refer to Freescale Semiconductor and its combined predecessor companies and businesses as the “Company”, “we”, “us” or “our” unless the context otherwise requires.

The condensed combined financial statements for the three months ended April 3, 2004, included herein, include amounts prior to the Contribution that have been derived from the consolidated financial statements and accounting records of Motorola, principally representing Motorola’s Semiconductor Products Segment, using the historical results of operations, and historical basis of assets and liabilities of the semiconductor businesses. Management believes the assumptions underlying the condensed combined financial statements for the three months ended April 3, 2004 are reasonable. However, the combined financial statements for the three months ended April 3, 2004 do not necessarily reflect the Company’s results of operations, financial position and cash flows in the future or what its results of operations, financial position and cash flows would have been had the Company been a stand-alone company during the period presented.

The Company and Motorola entered into various agreements detailing the provisions of the Contribution and the separation of the Company from Motorola, and related tax, purchase and supply, transition services and employee matters. Transactions between the Company and Motorola have been identified in Note 2 as transactions between related parties.

The accompanying condensed financial statements as of April 1, 2005 and for the three months ended April 1, 2005 and April 3, 2004 are unaudited, with the December 31, 2004 amounts included herein derived from the audited consolidated financial statements. In the opinion of management, these unaudited condensed financial statements include all adjustments (consisting of normal recurring adjustments and reclassifications) necessary to present fairly the financial position, results of operations and cash flows as of April 1, 2005 and for all periods presented. Certain amounts reported in previous periods have been reclassified to conform to the current period presentation.

Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted. These condensed financial statements should be read in conjunction with the consolidated and combined financial statements and notes thereto included in our December 31, 2004 Annual Report on Form 10-K filed with the Securities and Exchange Commission. The results of operations for the three months ended April 1, 2005 are not necessarily indicative of the operating results to be expected for the full year.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

(2) Relationship with Motorola

The Company designs, produces and sells semiconductors to Motorola. The Company’s direct net sales to Motorola businesses included in Net sales were $365 million and $276 million for the three months ended April 1, 2005 and April 3, 2004, respectively. Accounts receivable from Motorola were $223 million at April 1, 2005, and $266 million at December 31, 2004, including $76 million and $155 million, respectively, due in connection with the Distribution. Accounts payable to Motorola were $44 million and $59 million at April 1, 2005 and December 31, 2004, respectively.

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The statements of operations for the first quarter of 2004 include expense allocations for certain corporate functions historically provided by Motorola. These allocations were made on a specifically identifiable basis or by using relative percentages, as compared to Motorola’s other businesses, net sales, payroll, fixed assets, inventory, net assets excluding debt, headcount or other reasonable methods. These expense allocations included general corporate expenses, basic research expenses, employee benefits and incentives and interest expense.

After the first quarter of 2004, the expense allocation for certain corporate services ceased, and the Company began purchasing such services from Motorola under the terms of the transition services agreement. Under the terms of that transition services agreement, the Company also receives compensation for services provided to Motorola in certain locations. The Company charged Motorola $3 million for services provided during the three months ended April 1, 2005. These amounts were reported as a reduction to the cost classification to which such expenses were recognized, primarily Research and development.

The following table presents the expense allocations reflected in the accompanying statements of operations and expenses incurred under the transition services agreement:

The Company and Motorola considered these general corporate expenses, basic research and employee benefits and incentives allocations to be a reasonable reflection of the utilization of services provided during the three months ended April 3, 2004.

(3) Other Financial Data

Statements of Operations Supplemental Information

Selling, General and Administrative

In 2002, as a result of the Company’s decision not to be the sole owner of a wafer fabrication facility in China, the Company recorded an $80 million provision associated with the potential obligation to reimburse the Chinese government for tax exemptions previously received. However, the acquirer of the wafer fabrication facility, Semiconductor Manufacturing International Corporation (SMIC), filed an application in January 2004 with the Chinese government to request that their exemption provided by the Chinese government to exclude imported raw materials, construction material and production equipment for VAT and duty be expanded to include the Company’s obligations related to these exemptions. In February 2004, the Chinese government accepted this application, and the Company’s liability to reimburse these incentives was reduced by $51 million, of which $54 million was recognized as a reduction of Selling, general and administrative expenses and $3 million was recognized as Income tax expense in the Company’s accompanying statements of operations for the three months ended April 3, 2004.

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Other Income (Expense)

The following table displays the amounts comparing Interest expense, net and Other, net included in Other income (expense) in the accompanying statements of operations:

Earnings Per Share

The Company calculated its earnings per share in accordance with SFAS No. 128, “Earnings per Share.” Basic earnings per share is computed based on the weighted-average number of common shares outstanding during the period. Diluted net earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the net earnings of the Company. For the three months ended April 1, 2005, approximately 1 million of the Company’s stock options were excluded from the calculation of diluted earnings per share because the exercise prices of the stock options were greater than the average price of the common shares, and therefore, their inclusion would have been anti-dilutive. These options could be dilutive in the future if the average share price increases and is greater than the exercise price of these options.

The shares used in the computation of the Company’s basic and diluted earnings per common share are as follows:

As a result of the IPO, partial over-allotment exercise and employee option exercises, the Company now has a total of 402 million shares of common stock outstanding, including 132 million Class A and 270 million Class B shares. The Class A and Class B shares generally have identical rights except that the holders of Class B common stock have superior voting rights.

In connection with the IPO, certain employees have been awarded initial stock option and restricted stock unit grants to purchase Class A common stock of the Company or other equity-based awards. Upon the Distribution, the unvested Motorola stock options and restricted stock held by Company employees converted to unvested Company stock options and restricted stock in accordance with the employee matters agreement. See Note 4 for additional discussion.

Prior to the completion of the IPO, the Company had approximately 278 million shares of Class B common stock outstanding as a result of the Contribution. The Company has presented pro forma basic and diluted earnings per share amounts for the three months ended April 3, 2004 as if the Contribution had occurred on January 1, 2004.

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Balance Sheet and Other Supplemental Information

Cash and Cash Equivalents

The Company considers all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents.

Short-Term Investments

The Company utilizes a wholly owned subsidiary, which functions as an investment company, to provide the Company and its subsidiaries a mechanism via a money market fund to effectively and efficiently manage its free cash flow on a global basis. The money market fund is invested in certain money market funds, corporate bonds and U.S. government agency securities. The money market fund does not have investments in related parties of the Company or its subsidiaries.

We reclassified $2.0 billion of our cash and cash equivalents balance held in the money market fund described above from cash and cash equivalents to short term investments as of December 31, 2004. The underlying weighted average maturity of the investments was approximately 70 days at April 1, 2005 and approximately 50 days at December 31, 2004. As the Company and its subsidiaries own 100% of the outstanding shares of the fund, we believe the correct classification is short term investments.

Property, Plant and Equipment

Depreciation expense was $168 million and $187 million for the three months ended April 1, 2005 and April 3, 2004, respectively. Accumulated depreciation was $711 million and $551 million at April 1, 2005 and December 31, 2004, respectively.

Assets Held for Sale

Assets held for sale were $41 million and $45 million at April 1, 2005 and December 31, 2004, respectively. The assets held for sale at April 1, 2005 primarily consist of the West Creek, Virginia property, and a facility in Austin, Texas. The total net gains from the disposal of assets, including assets held for sale, were $2 million and $11 million for the three months ended April 1, 2005 and April 3, 2004, respectively.

Investments

Investments consist of the following:

On March 11, 2004, all of the Company’s Series D convertible preference shares in SMIC were converted to 1.7 billion shares of common stock in connection with the IPO of SMIC. The Company sold 297 million shares of SMIC common stock in the IPO for $100 million in net proceeds, resulting in a $41 million gain recorded in Other income (expense). The 1.4 billion remaining shares of SMIC common stock were subject to restrictions on transfer that are released over an eighteen-month period, ending in September 2005. Warrants held by the Company for SMIC stock expired unexercised at the date of the SMIC IPO. The Company’s investment in SMIC common stock was classified as available-for-sale as of April 3, 2004. The SMIC common stock and certain other investments, with aggregate carrying values of $464 million, historically part of the semiconductor operations were not among the net assets contributed to the Company by Motorola.

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The Company recorded investment impairment charges of $6 million and $4 million for the three months ended April 1, 2005 and April 3, 2004, respectively. These impairment charges represent other-than-temporary declines in the value of investments within the Company’s investment portfolio and are included in Other income (expense) in the accompanying statements of operations.

Comprehensive Earnings

The components of total comprehensive earnings, net of tax, were as follows:

(4) Stock Compensation Costs

The Company accounts for employee options to purchase Company common stock and restricted stock units and for employee participation in the Company employee stock purchase plan under the intrinsic value method of expense recognition. Compensation cost, if any, is recorded based on the excess of the quoted market price at grant date over the amount an employee must pay to acquire the stock.

Prior to the Distribution, compensation expense, if any, relating to Motorola options and restricted stock units held by Company employees was allocated by Motorola on a specific employee basis. At the Distribution, all unvested options outstanding under Motorola’s stock-based compensation plans that were held by the Company’s employees were converted to options to acquire Class A common stock of the Company. The conversion rate was based on a formula that maintained the intrinsic value of the original unvested portion of the Motorola grant and allowed for the fair value of the grant before and after the conversion to be maintained. As a result, under this formula, using the average closing prices at the Distribution Date of Motorola and the Company’s shares of stock, a total of approximately 23 million unvested Company stock options at an average exercise price of $9.91 were issued. These new issuances will maintain the original fair value calculated at their original grant date from Motorola and any related compensation expense will continue to be recognized over the remaining employee service period.

All unvested Motorola restricted stock units held by the Company’s employees on the date of Distribution were cancelled and reissued as restricted stock units for Class A common stock of the Company. A total of approximately 350 thousand restricted stock units at $17.93 were issued at the Distribution Date. The compensation expense related to these reissued restricted stock units will continue to be recognized over the remaining employee service period.

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The Company has evaluated the pro forma effects of using the fair-value-based method of accounting and as such, net earnings, basic earnings per common share and diluted earnings per common share would have been as follows:

As a result of the issuance of a revision of FASB SFAS No. 123, Accounting for Stock-Based Compensation, the Company will be required, beginning in the first quarter of 2006, to begin expensing the stock compensation related to options instead of the disclosure only requirement disclosed above.

(5) Income Taxes

Income taxes for the interim periods presented have been included in the accompanying financial statements on the basis of an estimated annual effective tax rate. As of the end of the first quarter, the estimated annualized tax rate for 2005 is 10%. The decline in the estimated annual effective tax rate from 20% in the prior year is a result of the changing mix of profitability in the domestic and international entities, and the income tax impact for domestic earnings being offset against the Company’s deferred tax valuation allowance, thereby lowering the worldwide effective rate. Our estimated annual effective tax rate is less than the statutory rate of 35% primarily due to (1) no tax expense being recorded on domestic earnings due to the utilization of deferred tax assets, which are subject to a full valuation allowance; and (2) the mix of earnings and losses by taxing jurisdiction and foreign tax rate differentials.

(6) Commitments and Contingencies

Environmental

Under the Comprehensive Environmental Response Compensation and Liability Act of 1980, as amended (CERCLA, or Superfund), and equivalent state law, Motorola has been designated as a Potentially Responsible Party by the United States Environmental Protection Agency with respect to certain waste sites with which the Company’s operations may have had direct or indirect involvement. Such designations are made regardless of the extent of Motorola’s involvement. Pursuant to the master separation and distribution agreement, the Company has indemnified Motorola for these liabilities going forward. These claims are in various stages of administrative or judicial proceedings. They include demands for recovery of past governmental costs and for future investigations or remedial actions. The remedial efforts include environmental cleanup costs and communication programs. In many cases, the dollar amounts of the claims have not been specified and have been asserted against a number of other entities for the same cost recovery or other relief as was asserted against the Company. The Company accrues costs associated with environmental matters when they become probable and reasonably estimable. Due to the uncertain nature, the actual costs that will be incurred will differ from the amounts accrued, perhaps significantly.

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Litigation

The Company is a defendant in various lawsuits, including intellectual property suits, and is subject to various claims which arise in the normal course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company’s financial position, liquidity or results of operations.

From time to time, the Company is involved in legal proceedings arising in the ordinary course of business, including tort and contractual disputes, claims before the United States Equal Employment Opportunity Commission and other employee grievances, and intellectual property litigation and infringement claims. Intellectual property litigation and infringement claims could cause us to incur significant expenses or prevent us from selling our products. Under our agreements with Motorola, we will indemnify Motorola for certain liabilities related to our business.

We currently have an intellectual property litigation matter pending against Micron Technology. On January 8, 2004, Motorola filed a complaint asserting infringement of ten patents against Micron Technology in the United States District Court for the Western District of Texas, Austin Division, seeking, among other remedies, unspecified monetary damages and injunctive relief. Those patents have been assigned to the Company and the Company has been added to the lawsuit. On March 15, 2004, Micron Technology answered and counterclaimed by asserting 17 patents against Motorola, and by seeking, among other remedies, unspecified monetary damages and injunctive relief. On March 30, 2004, Micron Technology filed a separate patent infringement suit asserting infringement of seven other patents against Motorola in a different federal court, the United States District Court for the Western District of Wisconsin, again seeking, among other remedies, unspecified monetary damages and injunctive relief. Motorola answered the complaint and counterclaimed by accusing Micron Technology of infringing five of the same patents that are the subject of the Texas lawsuit seeking, among other remedies, unspecified monetary damages and injunctive relief. On June 10, 2004, the court in the Wisconsin case ordered that the Wisconsin case be transferred to the United States District Court for the Western District of Texas, and that action has now been consolidated with the Austin case. Under our agreements with Motorola, the Company has defense and indemnity obligations to Motorola for the Austin case. While a trial date has not been set, under the current scheduling order, trial will not occur until mid-2006.

Other Contingencies

In the ordinary course of business, the Company regularly executes contracts that contain indemnifications as it is customary business practice for most business arrangements that are reduced to a contract to contain some level of indemnity between parties. Additionally, the Company executes other contracts considered outside the ordinary course of business which contain indemnifications. Examples of these types of agreements include business divestitures, business acquisitions, settlement agreements and third-party performance guarantees. In each of these circumstances, payment by the Company is conditioned on the other party making a claim pursuant to the procedures specified in the particular contract, which procedures typically allow the Company to challenge the other party’s claims. Further, the Company’s obligations under these agreements may be limited in terms of duration, typically not in excess of 24 months, and/or amounts not in excess of the contract value, and in some instances, the Company may have recourse against third parties for certain payments made by the Company.

Historically, the Company has not made significant payments for indemnification provisions contained in these agreements. At April 1, 2005, there was one contract executed outside the ordinary course of business containing indemnification obligations with a maximum amount payable of $5 million under the terms of these indemnification provisions. At April 1, 2005, the Company had accrued $4 million, to cover known estimated indemnification obligations. The Company believes that if it were to incur additional losses with respect to any unknown matters at April 1, 2005, such losses would not have a material adverse effect on the Company’s financial position, results of operations or cash flows.

(7) Reorganization of Businesses

Beginning in 2000 and continuing through 2004, the Company implemented a series of plans to reduce its workforce, discontinue product lines, exit businesses and consolidate manufacturing and administrative operations in an effort to reduce costs and simplify its product portfolio. Exit costs primarily consist of facility closure costs. Employee separation costs consist primarily of ongoing termination benefits, principally severance payments. At each reporting date, the Company evaluates its accruals for exit costs and employee separation costs to ensure that the accruals are still appropriate. In certain circumstances, accruals are no longer required because of efficiencies in carrying out the plans or because employees previously identified for separation resigned from the Company unexpectedly and did not receive severance or were redeployed due to circumstances not foreseen when the original plans were initiated. The Company reverses accruals to income when it is determined they are no longer required.

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All reorganization of business programs initiated prior to 2004 were finalized, fully expensed and paid by the end of the third quarter of 2004 as further described below. On October 19, 2004, the Company announced further plans to streamline its operations and reduce selling, general and administrative expenses.

Three Months Ended April 1, 2005

2004 Initiated Reorganization of Business Program

In the fourth quarter of 2004, the Company announced plans to further reduce costs through an employee separation program. As a result, during the first quarter of 2005, the Company recorded net charges of $13 million; of which $3 million was included in Cost of sales and $10 million was recorded under Reorganization of businesses in the accompanying statements of operations. The following table displays a roll-forward of the accruals established for these employee separation costs from January 1, 2005 to April 1, 2005.

At January 1, 2005, the Company had an accrual of $70 million for employee separation costs, representing the severance costs for approximately 460 employees, 260 of which were manufacturing employees and 200 were non-manufacturing employees.

During the three months ended April 1, 2005, 270 employees were separated from the Company. The $40 million used in the first quarter of 2005 reflects the initial cash payments made to these separated employees. For these separated employees, of which 110 are manufacturing employees and 160 are non-manufacturing employees, an additional $17 million will be paid in the second quarter of 2005. The remaining 420 employees, of which 320 are manufacturing employees and 100 are non-manufacturing employees, will be paid $26 million during 2005.

Three Months Ended April 3, 2004

Pre-2004 Initiated Reorganization of Business Programs

All reorganization of business programs initiated prior to 2004 were finalized, fully expensed and paid by the end of the third quarter of 2004.

For the three months ended April 3, 2004, the Company recorded net reversals of $8 million, of which $1 million was included in Cost of sales and $7 million was recorded under Reorganization of businesses in the accompanying statements of operations. The aggregate $8 million net reversal is comprised of the following:

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Manufacturing and Administrative Consolidations

There were no additional charges for the three months ended April 3, 2004. Accruals established prior to 2004 were reversed ($8 million) as reserves to cover decommissioning costs which were no longer needed due primarily to the sale of the related facility and employee separation costs for approximately 50 employees previously identified for separation who resigned unexpectedly and did not receive severance or were redeployed due to circumstances not foreseen when the original plans were approved.

(8) Information by Segment

Summarized below are the Company’s segment net sales and operating earnings (loss) for the three months ended April 1, 2005 and April 3, 2004:

Certain items are included in the Other segment category, which are not allocated to the three operating segments. These include reorganization of business charges (reversals) of $13 million and $(8) million for the three months ended April 1, 2005 and April 3, 2004, respectively. In addition, the Company has included separation expenses of $5 million and $9 million within the Other segment for the three months ended April 1, 2005 and April 3, 2004, respectively.

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

The following is a discussion and analysis of our financial position and results of operations for the three months ended April 1, 2005 and April 3, 2004. This commentary should be read in conjunction with our condensed consolidated and combined financial statements and the notes in “Item 1: Financial Statements”, as well as the Company’s consolidated and combined financial statements and related notes thereto and management’s discussion and analysis of financial condition and results of operations included in the Company’s Annual report on Form 10-K for the year ended December 31, 2004.

This report contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements may be identified by words such as expects, anticipates, plans, beliefs, estimates, will or words of similar meaning and include statements regarding the plans and expectations for the first quarter, the year and the future. These forward-looking statements are found at various places throughout this report. We undertake no obligation to update or revise any forward-looking statement, whether as a result of new information, future developments or otherwise. Although we believe that our expectations are based on reasonable assumptions, we can give no assurance that our goals will be achieved. Important factors that could cause our actual results to differ from estimates or projections contained in the forward-looking statements are described further in “Trends, Risks and Uncertainties” of our December 31, 2004 Annual Report on Form 10-K.

Overview

Our Business. Freescale Semiconductor, Inc. is a leading global semiconductor company focused on providing embedded processing and connectivity products to large, high-growth markets. We currently focus on providing products to the automotive, networking and wireless communications industries. Examples of embedded processors include microcontrollers, digital signal processors and communications processors. In addition to our embedded processors, we also offer a portfolio of complementary devices that facilitate connectivity between products, across networks and to real-world signals, such as sound, vibration and pressure. These complementary devices include sensors, radio frequency semiconductors, power management and other analog and mixed-signal integrated circuits. Through the combination of our embedded processors and complementary products, we are further able to offer our customers platform-level products, which incorporate both semiconductors and software. We believe that the ability to offer platform-level products will become increasingly important to long-term success in many markets within the semiconductor industry.

Our Business Groups. We operate our business through our three primary segments: the Transportation and Standard Products Group (TSPG), the Networking and Computing Systems Group (NCSG) and the Wireless and Mobile Solutions Group (WMSG). TSPG provides products for the automotive electronics, industrial and other markets. NCSG supplies products to the wired and wireless infrastructure and computing markets. WMSG provides products for wireless mobile devices. In addition to these three segments, we have an Other business segment that includes all of our other operations, including our Metrowerks software business.

Revenues and Expenses. Our revenues are derived from the sale of our embedded processing and connectivity products and the licensing of our intellectual property. Our business segments include both product and intellectual property revenues associated with the activities of each of the respective segments.

We currently manufacture a substantial portion of our products internally at our seven wafer fabrication facilities and two assembly and test facilities. We track our inventory and cost of sales by using standard costs that are reviewed at least once a year and are valued at the lower of cost or market value. For the purposes of segment reporting, cost of sales for each segment reflects standard costs, adjustments to inventory balances and valuation and an allocation of manufacturing variances incurred on a plant-by-plant basis. The primary user of each wafer fabrication facility is allocated the capacity and inefficiency variances for the facility. The exceptions to this are (1) our MOS-13 wafer fabrication facility, for which manufacturing variances are divided among all our business segments based upon usage, and (2) start-up facilities such as the Crolles facility which are allocated to the Other segment. Assembly and final test costs are allocated to the business segments on an actual cost basis.

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Our gross margin is greatly influenced by our utilization. Utilization refers only to our wafer fabrication facilities and is based on the capacity of the installed equipment. As our utilization rate increases, there is significant operating leverage in our business as our fixed manufacturing costs are spread over increased output.

Direct expenses incurred by a segment are included in that segment’s results. Shared research and development, sales and marketing, and general and administrative costs are allocated to each segment based upon the specific activities being performed for each segment, where possible. Remaining costs are charged using a specifically identifiable methodology or other reasonable basis of allocation. Certain corporate expenses are in the Other segment.

Our Challenges That Lie Ahead. Going forward, our business will be highly dependent on demand for electronic content in automobiles, networking and wireless infrastructure equipment, cellular handsets and other electronic devices. In addition, we operate in an industry that is highly cyclical and subject to constant and rapid technological change, product obsolescence, price erosion, evolving standards, short product life-cycles and wide fluctuations in product supply and demand. Through our efforts to reduce and streamline our cost structure, we believe that we are better equipped to respond to changes in market conditions and improve our financial performance.

Due to environmental concerns, the need for lead-free solutions in electronic components and systems is receiving increasing attention within the semiconductor industry. Many companies, including our Company, are taking steps to become compliant with the Restriction of Hazardous Substances Directive, the European legislation that will restrict the use of lead and some flame retardants in electronic components effective as of July 2006. Our compliance with the Restriction on Hazardous Substances Directive and any other requirements for lead-free products could cause us to incur substantial additional costs by potentially requiring us to devote more resources to research and development efforts, requiring us to change certain of our manufacturing or supply chain management processes or causing us to use more costly materials or to have obsolete inventory.

First Quarter Highlights

First quarter 2005 net sales were $1.4 billion, increasing by 3% from the first quarter of 2004. The rise in net sales was primarily due to an 8% volume increase, driven by the wireless and transportation markets. Gross margins rose to 40.2% in the first quarter of 2005 compared to 36.3% in the first quarter of 2004 primarily due to further cost reduction savings.

In the first quarter of 2005, 27% of our net sales were made directly to Motorola and to contract manufacturers that produce products for Motorola, compared to 26% in the first quarter of 2004. This compares to 25% in the first quarter of 2005 and 20% in the first quarter of 2004 for sales made directly to Motorola.

The first quarter of 2005 included $5 million of separation expenses related to the separation from Motorola versus $9 million in the first quarter of 2004. The Company anticipates incurring approximately $5 million in Separation expenses in the second quarter of 2005.

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Results of Operations

(in millions, except per share data)

Three Months Ended April 1, 2005 Compared to Three Months Ended April 3, 2004

Net Sales

Our net sales were $1.4 billion in both the three months ended April 1, 2005 and the three months ended April 3, 2004. Our orders were $1.4 billion in the three months ended April 1, 2005, down 12% from $1.6 million in the three months ended April 3, 2004. Net sales were up 3% due primarily to an 8% volume increase, principally driven by increased demand in the wireless market, largely offset by a 5% decrease in pricing due to product mix. Our orders are down due to lower required inventory replenishment levels by our NCSG customers, a slow adoption rate of 3G phones and a market reduction in lead times, which began in the middle of 2004.

Intellectual property revenue represented approximately 3% of net sales in the three months ended April 1, 2005 and 2% of net sales in the three months ended April 3, 2004.

Gross Margin

Our gross margin increased to $580 million, or 40.2% of net sales, in the three months ended April 1, 2005 compared to a gross margin of $507 million, or 36.3% of net sales, in the three months ended April 3, 2004. The increase in gross margin was primarily due to a reduction in manufacturing costs resulting from improved yield and factory efficiencies experienced in the first quarter of 2005. Our utilization rate in the three months ended April 1, 2005 was flat to the first quarter of 2004. In addition, cost reductions of $6 million in the first quarter of 2005 resulted from the Reorganization of business activity announced in the fourth quarter of 2004. We also recorded net charges of $3 million in Cost of sales in the three months ended April 1, 2005, which were associated with the restructuring plan announced on October 19, 2004.

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Selling, General and Administrative

Our selling, general and administrative expenses were $191 million, or 13.2% of net sales, in the three months ended April 1, 2005, compared to $140 million, or 10.0% of net sales, in the three months ended April 3, 2004. The increase in selling, general and administrative expenses was due primarily to the fact that the first quarter of 2004 selling, general and administrative expenses included a $54 million reversal of a provision originally accrued for the potential obligation to reimburse the Chinese government for various exemptions previously received on VAT and duty on imported materials. We had approximately $4 million in cost reductions during the first quarter of 2005 resulting from the Reorganization of business activity announced in the fourth quarter of 2004.

Research and Development

Our research and development expenses, including our ongoing joint development efforts at the wafer fabrication facility in Crolles, France, totaled $264 million, or 18.3% of net sales, in the three months ended April 1, 2005, compared with $250 million, or 17.9% of net sales, in the three months ended April 3, 2004. The increase was due to increased investment in research and development in the first quarter of 2005 versus the prior year. In addition, there were $4 million in cost reductions in the first quarter of 2005 resulting from the Reorganization of business activity announced in the fourth quarter of 2004.

Reorganization of Businesses

The reorganization of business programs initiated prior to 2004 were finalized, fully expensed and paid by the end of the third quarter of 2004.

A new reorganization of business program was announced on October 19, 2004 to streamline operations and reduce selling, general and administrative expenses. As a result, we recorded net charges of $13 million; of which $3 million was included in cost of sales and $10 million was recorded under Reorganization of businesses in the accompanying statements of operations related to employee separation costs. These actions are expected to generate $65 million in annualized net cost savings, $28 million of which is expected to be in Cost of sales and $37 million in Selling, general and administrative and Research and development expenses.

Separation Expenses

Separation expenses were $5 million in the three months ended April 1, 2005 compared to $9 million in the three months ended April 3, 2004. These incremental, non-recurring costs were directly related to the Contribution and subsequent separation from Motorola and include transaction taxes, professional fees, information technology and other services. We expect to incur approximately $5 million in Separation expenses in the second quarter of 2005.

Net Interest Expense

Our net interest expense was $6 million in the three months ended April 1, 2005 compared to $21 million in the three months ended April 3, 2004. Net interest expense in the three months ended April 1, 2005 included interest expense of $20 million, which was partially offset by interest income of $14 million. Net interest expense in the three months ended April 3, 2004 included interest expense of $22 million, which was partially offset by interest income of $1 million. Our interest expense represented the amount allocated from Motorola until the second quarter of 2004. This allocation was based on the relative historical percentage of our net assets included in Motorola’s consolidated financial statements, excluding debt.

Gains on Sales of Investments and Businesses

There were no gains on sales of investments and businesses in the three months ended April 1, 2005, compared to $41 million in the three months ended April 3, 2004. The net gain in the three months ended April 3, 2004 was primarily related to the sale of our SMIC stock.

Other

Other expenses totaled $10 million and $3 million in the three months ended April 1, 2005 and April 3, 2004, respectively, and were primarily due to equity losses in income of non-consolidated investments and other than temporary impairment of investments held in private companies accounted for as cost basis investments which increased during the first quarter of 2005 versus the prior year.

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Income Taxes

Our effective tax rate was 10% for the three months ended April 1, 2005, representing a $9 million net tax expense, compared to a 20% effective tax rate in the three months ended April 3, 2004, representing a $26 million net tax expense. The decline in the estimated annual effective tax rate is a result of the changing mix of profitability in the domestic and international entities. In addition, tax expense on our domestic profits is offset against the Company’s deferred tax valuation allowance, thereby lowering the worldwide estimated annual effective tax rate. Our estimated annual effective tax rate is less than the statutory rate of 35% primarily due to (1) no tax expense being recorded on our domestic earnings due to the utilization of deferred tax assets, which are subject to a full valuation allowance and (2) the mix of earnings and losses by taxing jurisdiction and foreign tax rate differentials.

Segment Information

Our orders, net sales, and operating results for our primary segments for the three months ended April 1, 2005 and April 3, 2004 are presented below. Order information as of any particular date may not be an accurate indicator of future results, as orders are subject to revision or cancellation to reflect changes in customer needs.

Transportation and Standard Products Group

TSPG designs, manufactures and markets key components of embedded control systems, which include processors (microcontrollers, embedded microprocessors and digital signal processors), sensors and analog and mixed-signal integrated circuits. TSPG’s largest market segment is the automobile electronics market, which represented approximately 70% of its sales in the three months ended April 1, 2005. In the three months ended April 1, 2005, TSPG net sales represented 45.8% of our net sales compared to 45.7% in the three months ended April 3, 2004.

In the first quarter of 2005, TSPG net sales were $661 million, up 4% from $638 million in the first quarter of 2004. TSPG orders for the first quarter of 2005 were $647 million, down 4% from $675 million in the first quarter of 2004. The increase in net sales was driven by strong performance from our 16-bit microcontrollers, sensor products and consumer applications. The decrease in orders is primarily due to a reduction in lead times from our customers as they book closer to ship dates. This customer practice began in the middle of 2004.

TSPG generated operating earnings of $80 million in the first quarter of 2005, compared to operating earnings of $41 million in the first quarter of 2004. The increase was primarily due to higher net sales and factory cost improvement.

Networking and Computing Systems Group

NCSG designs, manufactures and markets embedded processors and related connectivity products for the wired and wireless networking and computing markets. NCSG offers semiconductors that facilitate the transmission, switching and processing of data and voice signals within communications systems. In the first quarter of 2005, NCSG net sales represented 24.2% of our net sales, compared to 27.9% in the first quarter of 2004.

In the first quarter of 2005, NCSG net sales were $349 million, down 10% from $389 million in the first quarter of 2004. NCSG orders in the first quarter of 2005 were $387 million, down 17% from $468 million in the first quarter of 2004. The decrease in net sales is primarily due to the first quarter of 2004 experiencing significantly higher demand in the wireless

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infrastructure and networking markets, which did not occur to the same level during the first quarter of 2005. The decrease in orders is due to the lower required inventory replenishment levels required by our customers as compared with the first quarter of 2004.

NCSG generated operating earnings of $71 million in the first quarter of 2005, compared to operating earnings of $86 million in the first quarter of 2004. The decrease in operating earnings was primarily due to the stronger level of net sales during the first quarter of 2004.

Wireless and Mobile Solutions Group

WMSG designs, manufactures and markets semiconductors for wireless mobile devices, such as cellular phones, smartphones, personal data assistants, two-way messaging devices, global positioning systems, mobile gaming devices and wireless consumer electronics. In the first quarter of 2005, approximately 74% of WMSG Segment net sales were to Motorola on an end customer basis. This percentage sales figure includes sales made directly to Motorola and sales made to contract manufacturers that produce products for Motorola. In the first quarter of 2005, WMSG net sales represented 28.6% of our net sales, compared to 25.4% in the first quarter of 2004.

In the first quarter of 2005, WMSG net sales were $412 million, up 16% from $354 million in the first quarter of 2004. WMSG orders in the first quarter of 2005 were $330 million, down 19% from $405 million in the first quarter of 2004. The increase in net sales is due primarily to strength in sales in GSM and EDGE platform sales to Motorola, Inc. in the first quarter of 2005. The decrease in orders is due to a change in product mix driven by a slow adoption rate of 3G phones.

WMSG generated operating earnings of $15 million in the first quarter of 2005, compared to incurring an operating loss of $72 million in the first quarter of 2004. The increase was primarily due to increased sales and lower manufacturing costs.

Other

Other includes our Metrowerks business, sales of wafers to other semiconductor companies, other miscellaneous businesses and any factories in production start-up, including our 300 mm facility in Crolles, France. Other also includes any business reorganization charges and miscellaneous income or expense not identified to any of our business segments. Other net sales represented 1.4% of our net sales in the first quarter of 2005, compared to 1.1% in the first quarter of 2004.

In the first quarter of 2005, Other net sales were $20 million, up 33% from $15 million in the first quarter of 2004. Other orders in the first quarter of 2005 were $17 million, down 6% from $18 million in the first quarter of 2004. The increase in net sales was primarily due to the increase in sales of wafers.

Other incurred an operating loss of $56 million in the first quarter of 2005, compared to generating operating earnings of $60 million in the first quarter of 2004. The decrease was primarily related to a $54 million reversal in the first quarter of 2004 of a provision originally accrued for the potential obligation to reimburse the Chinese government for various exemptions previously received on VAT and duty on imported materials. In addition, we incurred increased start-up expenses related to our 300 mm facility in Crolles, France and $18 million in restructuring charges and separation expenses during the first quarter of 2005 versus Reorganization of business and Separation expenses of $1 million (net of reversals) in the first quarter of 2004.

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Reorganization of Businesses

Beginning in 2000 and continuing through 2004, we implemented a series of plans to reduce our workforce, discontinue product lines, exit businesses and consolidate manufacturing and administrative operations in an effort to reduce costs and simplify our product portfolio. Exit costs primarily consist of facility closure costs. Employee separation costs consist primarily of ongoing termination benefits, principally severance payments. At each reporting date, we evaluate our accruals for exit costs and employee separation costs to ensure that the accruals are still appropriate. In certain circumstances, accruals are no longer required because of efficiencies in carrying out the plans or because employees previously identified for separation resigned unexpectedly and did not receive severance or were redeployed due to circumstances not foreseen when the original plans were initiated. We reverse accruals to income when it is determined they are no longer required.

All reorganization of business programs initiated prior to 2004 were finalized, fully expensed and paid by the end of the third quarter of 2004 as further described below. On October 19, 2004, we announced further plans to streamline our operations and reduce Selling, general and administrative expenses.

Three Months Ended April 1, 2005

2004 Initiated Reorganization of Business Program

In the fourth quarter of 2004, we announced plans to further reduce costs through an employee separation program. As a result, during the first quarter of 2005, we recorded net charges of $13 million; of which $3 million was included in Cost of sales and $10 million was recorded under Reorganization of businesses in the accompanying statements of operations. The following table displays a roll-forward of the accruals established for these employee separation costs from January 1, 2005 to April 1, 2005.