Integrated Silicon Solution (ISSI)

Stock-Based Compensation

The Company accounts for stock-based compensation arrangements in accordance with the provisions of SFAS No. 123 (revised 2004), “Share-Based Payment” (SFAS 123R). Under SFAS 123R, compensation is measured at the grant date, based on the fair value of the award. The Company amortizes the compensation costs on a straight-line basis over the requisite service period of the option, which is generally the option vesting term of four years. The Company estimates the fair value of stock options using the Black-Scholes valuation model. The Black-Scholes valuation model requires the Company to estimate key assumptions such as expected term, volatility and forfeiture rates to determine the fair value of a stock option. The estimate of these key assumptions are based on historical information and judgment regarding market factors and trends.

Stock-Based Compensation

Effective October 1, 2005, the Company accounts for stock-based compensation arrangements in accordance with the provisions of SFAS No. 123 (revised 2004), “Share-Based Payment” (SFAS 123R). Prior to the adoption of SFAS 123R, the Company recognized stock-based compensation expense in accordance with Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25). Under APB 25, when the exercise price of the Company’s employee stock options was equal to the market price of the underlying stock on the date of the grant, no compensation expense was recognized. Under SFAS 123R, compensation is measured at the grant date, based on the fair value of the award. The Company amortizes the compensation costs on a straight-line basis over the requisite service period of the option, which is generally the option vesting term of four years. The Company estimates the fair value of stock options using the Black-Scholes valuation model. The Black-Scholes valuation model requires the Company to estimate key assumptions such as expected term, volatility and forfeiture rates to determine the fair value of a stock option. The estimate of these key assumptions is based on historical information and judgment regarding market factors and trends.

6. Stock-based Compensation

The Company has stock option plans under which options to purchase shares of the Company’s common stock may be granted to employees and directors. At June 30, 2006, the total number of shares subject to options outstanding under all plans was 5,979,000. At June 30, 2006, 2,809,000 shares were available for grant under all plans. Options generally vest ratably over a four-year period with a 6-month or 1-year cliff vest and then vesting ratably over the remaining period. Options granted prior to September 30, 2005 expire ten years after the date of grant; options granted after October 1, 2005 expire seven years after the date of the grant.

As approved by the Board of Directors, effective February 1, 2006, future offering periods under the Company’s employee stock purchase plan (ESPP) will have a duration of six months and the purchase price will be equal to 85% of the fair value of the Company’s common stock on the purchase date. Previously, the Company’s ESPP permitted eligible employees to purchase common stock through payroll deductions at a price equal to 85% of the lesser of the fair value of the Company’s common stock as of the first day of the 24-month offering period or the last day of each six-month purchase period. The offering periods under the ESPP commence on approximately February 1 and August 1 of each year. At June 30, 2006, 1,177,000 shares were available for issuance under the ESPP.

Note 12.    Stock-Based Compensation

The Company has stock option plans under which options to purchase shares of the Company’s common stock may be granted to employees and directors. At September 30, 2006, the total number of shares subject to options outstanding under all plans was 5,998,000. At September 30, 2006, 2,787,000 shares were available for grant under all plans. Options generally vest ratably over a four-year period with a 6-month or 1-year cliff vest and then vesting ratably over the remaining period. Options granted prior to October 1, 2005 expire ten years after the date of grant; options granted after October 1, 2005 expire seven years after the date of the grant.

As approved by the Board of Directors, effective February 1, 2006, future offering periods under the Company’s employee stock purchase plan (ESPP) will have a duration of six months and the purchase price will be equal to 85% of the fair value of the Company’s common stock on the purchase date. Previously, the Company’s ESPP permitted eligible employees to purchase common stock through payroll deductions at a price equal to 85% of the lesser of the fair value of the Company’s common stock as of the first day of the 24-month offering period or the last day of each six-month purchase period. The offering periods under the ESPP commence on approximately February 1 and August 1 of each year. At September, 30, 2006, 1,072,000 shares were available for issuance under the ESPP.

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INTEGRATED SILICON SOLUTION, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

5. Stock-based Compensation

The Company has stock option plans under which options to purchase shares of the Company’s common stock may be granted to employees and directors. At March 31, 2006, the total number of shares subject to options outstanding under all plans was 6,012,000. At March 31, 2006, 2,831,000 shares were available for grant under all plans. Options generally vest ratably over a four-year period with a 6-month or 1-year cliff vest and then vesting ratably over the remaining period. Options granted prior to September 30, 2005 expire ten years after the date of grant; options granted after October 1, 2005 expire seven years after the date of the grant.

As approved by the Board of Directors, effective February 1, 2006, future offering periods under the Company’s employee stock purchase plan (ESPP) will have a duration of six months and the purchase price will be equal to 85% of the fair value of the Company’s common stock on the purchase date. Previously, the Company’s ESPP permitted eligible employees to purchase common stock through payroll deductions at a price equal to 85% of the lesser of the fair value of the Company’s common stock as of the first day of the 24-month offering period or the last day of each six-month purchase period. The offering periods under the ESPP commence on approximately February 1 and August 1 of each year. At March 31, 2006, 1,177,000 shares were available for issuance under the ESPP.

4. Stock-based Compensation

The Company has stock option plans under which options to purchase shares of the Company’s common stock may be granted to employees and directors. At December 31, 2005, the total number of shares subject to options outstanding under all plans was 6,468,000. At December 31, 2005, 2,347,000 shares were available for grant under all plans. Options generally vest ratably over a four-year period with a 6-month or 1-year cliff vest and then vesting ratably over the remaining period. Options granted prior to September 30, 2005 expire ten years after the date of grant; options granted after October 1, 2005 expire seven years after the date of the grant.

The Company’s employee stock purchase plan (ESPP) permits eligible employees to purchase common stock through payroll deductions at a price equal to 85% of the lesser of the fair value of the Company’s common stock as of the first day of the 24-month offering period or the last day of each six-month purchase period. The offering periods under the ESPP commence on approximately February 1 and August 1 of each year. At December 31, 2005, 1,286,000 shares were available for issuance under the ESPP. As approved by the Board of Directors, effective February 1, 2006, future offering periods under the ESPP will have a duration of six months and the purchase price will be equal to 85% of the fair value of the Company’s Stock on the purchase date.

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INTEGRATED SILICON SOLUTION, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

Beginning in fiscal 2006, the Company accounts for stock-based compensation arrangements in accordance with the provisions of FASB No. 123(R) “Share-Based Payment” (“SFAS 123R”). Under SFAS 123R, compensation cost is calculated on the date of grant using the fair value of the option as determined using the Black-Scholes method. The compensation cost is then amortized ratably over the vesting period of the individual option grants. The Black-Scholes valuation calculation requires the Company to estimate key assumptions such as expected term, volatility and interest rates to determine the stock options fair value. The estimate of these key assumptions is based on the Company’s historical stock price volatility, employees’ historical exercise patterns and judgment regarding market factors and trends.

Prior to October 1, 2005, the Company accounted for stock options under the recognition and measurement provisions of APB Opinion No. 25 (APB 25), “Accounting for Stock Issued to Employees,” and related Interpretations, as permitted by FASB Statement No. 123 (SFAS 123), “Accounting for Stock-Based Compensation.”

2. Stock-based Compensation

The Company applies the intrinsic-value method prescribed in APB Opinion No. 25, “Accounting for Stock issued to Employees,” in accounting for employee stock options. Accordingly compensation expense is generally recognized only when options are granted with an exercise price less than fair value on the date of grant. Any resulting compensation expense would be recognized ratably over the associated service period, which is generally the option vesting term.

The Company has determined pro forma net income (loss) and net income (loss) per share information as if the fair value method described in SFAS No. 123, “Accounting for Stock Based Compensation,” had been applied to its employee stock-based compensation. The proforma effect on net income (loss) and net income (loss) per share is as follows for the three and nine month periods ending June 30, 2005 and 2004 (in thousands, except per share data):

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INTEGRATED SILICON SOLUTION, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

2. Stock-based Compensation

The Company applies the intrinsic-value method prescribed in APB Opinion No. 25, “Accounting for Stock issued to Employees,” in accounting for employee stock options. Accordingly compensation expense is generally recognized only when options are granted with an exercise price less than fair value on the date of grant. Any resulting compensation expense would be recognized ratably over the associated service period, which is generally the option vesting term.

The Company has determined pro forma net income (loss) and net income (loss) per share information as if the fair value method described in SFAS No. 123, “Accounting for Stock Based Compensation,” had been applied to its employee stock-based compensation. The proforma effect on net income (loss) and net income (loss) per share is as follows for the three and six month periods ending March 31, 2005 and 2004 (in thousands, except per share data):

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INTEGRATED SILICON SOLUTION, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

2. Stock-based Compensation

The Company applies the intrinsic-value method prescribed in APB Opinion No. 25, “Accounting for Stock issued to Employees,” in accounting for employee stock options. Accordingly compensation expense is generally recognized only when options are granted with an exercise price less than fair value on the date of grant. Any resulting compensation expense would be recognized ratably over the associated service period, which is generally the option vesting term.

The Company has determined pro forma net loss and net loss per share information as if the fair value method described in SFAS No. 123, “Accounting for Stock Based Compensation,” had been applied to its employee stock-based compensation. The proforma effect on net income (loss) and net income (loss) per share is as follows for the three month periods ending December 31, 2004 and 2003 (in thousands, except per share data):

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INTEGRATED SILICON SOLUTION, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)