Edgar Filing: SEAGATE TECHNOLOGY

Form 10-Q

UNITED STATES

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 December 29, 2006

¨	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 001-31560

SEAGATE TECHNOLOGY

(Exact name of registrant as specified in its charter)

Cayman Islands

98-0355609

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification Number)

P.O. Box 309GT

Ugland House, South Church Street

George Town, Grand Cayman

Cayman Islands

(Address of Principal Executive Offices)

Telephone: (345) 949-8066

(Registrant’s Telephone Number, Including Area Code)

Securities registered pursuant to Section 12(b) of the Act: Common shares, par value $0.00001

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

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 a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act (Check one):

Large accelerated filer: x Accelerated filer: ¨ Non-accelerated filer: ¨

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

As of January 26, 2007, 547,751,071 shares of the registrant’s common shares, par value $0.00001 per share, were issued and outstanding.

INDE X

SEAGATE TECHNOLOGY


		PAGE NO.
PART I	FINANCIAL INFORMATION

Item 1.	Financial Statements

	Condensed Consolidated Balance Sheets — December 29, 2006 (unaudited) and June 30, 2006	3

	Condensed Consolidated Statements of Operations — Three and Six Months ended December 29, 2006 and December 30, 2005 (unaudited)	4

	Condensed Consolidated Statements of Cash Flows — Six Months ended December 29, 2006 and December 30, 2005 (unaudited)	5

	Condensed Consolidated Statement of Shareholders’ Equity — Six Months ended December 29, 2006 (unaudited)	6

	Notes to Condensed Consolidated Financial Statements (unaudited)	7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	43

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	62

Item 4.	Controls and Procedures	63

PART II	OTHER INFORMATION

Item 1.	Legal Proceedings	64

Item 1A.	Risk Factors	69

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	88

Item 4.	Submission of Matters to a Vote of Security Holders	90

Item 6.	Exhibits	91

	SIGNATURES	97

PART I

FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

SEAGATE TECHNOLOGY

CONDENSED CONSOLIDATED BALANCE SHEETS

(In millions)

(Unaudited)


	December 29, 2006		June 30, 2006 (a)
ASSETS
Cash and cash equivalents	$	1,096	$	910
Short-term investments		464		823
Accounts receivable, net		1,251		1,445
Inventories		771		891
Other current assets		410		264

Total Current Assets		3,992		4,333

Property, equipment and leasehold improvements, net		2,240		2,106
Goodwill		2,317		2,475
Other intangible assets		231		307
Other assets, net		498		323

Total Assets	$	9,278	$	9,544

LIABILITIES
Accounts payable	$	1,425	$	1,692
Accrued employee compensation		188		385
Accrued restructuring		52		210
Accrued expenses, other		744		648
Accrued income taxes		76		72
Current portion of long-term debt		330		330

Total Current Liabilities		2,815		3,337
Accrued restructuring		21		23
Other non-current liabilities		327		332
Long-term debt, less current portion		1,738		640

Total Liabilities		4,901		4,332

Commitments and contingencies
SHAREHOLDERS’ EQUITY
Common shares and additional paid-in capital		3,030		2,858
Deferred stock compensation		—		(1	)
Accumulated other comprehensive loss		5		(7	)
Retained earnings		1,342		2,362

Total Shareholders’ Equity		4,377		5,212

Total Liabilities and Shareholders’ Equity	$	9,278	$	9,544

(a)	The information in this column was derived from the Company’s audited consolidated balance sheet as of June 30, 2006.

See notes to condensed consolidated financial statements.

SEAGATE TECHNOLOGY

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In millions, except per share data)

(Unaudited)


	For the Three Months Ended						For the Six Months Ended
	December 29, 2006			December 30, 2005			December 29, 2006			December 30, 2005
Revenue	$	2,996		$	2,300		$	5,788		$	4,388

Cost of revenue		2,450			1,709			4,800			3,262
Product development		226			199			470			378
Marketing and administrative		141			108			320			195
Amortization of intangibles		12			—			23			—
Restructuring, net		1			—			(3	)		4

Total operating expenses		2,830			2,016			5,610			3,839

Income from operations		166			284			178			549

Interest income		25			14			44			29
Interest expense		(55	)		(11	)		(74	)		(24	)
Other, net		9			4			11			9

Other income (expense), net		(21	)		7			(19	)		14

Income before income taxes		145			291			159			563
Provision for income taxes		5			4			—			4

Net income	$	140		$	287		$	159		$	559

Net income per share:
Basic	$	0.25		$	0.60		$	0.28		$	1.16
Diluted		0.23			0.57			0.27			1.10
Number of shares used in per share calculations:
Basic		571			482			573			480
Diluted		598			507			600			506

Dividends declared per share	$	0.10		$	0.08		$	0.18		$	0.16

See notes to condensed consolidated financial statements.

SEAGATE TECHNOLOGY

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In millions)

(Unaudited)


	For the Six Months Ended
	December 29, 2006			December 30, 2005
OPERATING ACTIVITIES
Net income	$	159		$	559
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		414			286
Stock-based compensation		69			36
Allowance for doubtful accounts receivable		42			—
Redemption charges on 8% Senior Notes		19			—
Excess tax benefits from exercise of stock options		—			(14	)
Other non-cash operating activities, net		1			4
Changes in operating assets and liabilities:
Accounts receivable		156			3
Inventories		129			(74	)
Accounts payable		(267	)		(51	)
Accrued expenses, employee compensation and warranty		(340	)		45
Accrued income taxes		14			9
Other assets and liabilities		(95	)		(35	)

Net cash provided by operating activities		301			768

INVESTING ACTIVITIES
Acquisition of property, equipment and leasehold improvements		(466	)		(353	)
Proceeds from sales of fixed assets		28			—
Purchases of short-term investments		(322	)		(1,911	)
Maturities and sales of short-term investments		687			2,015
Acquisitions, net of cash and cash equivalents acquired		—			(28	)
Other investing activities, net		(29	)		(105	)

Net cash used in investing activities		(102	)		(382	)

FINANCING ACTIVITIES
Net proceeds from issuance of long-term debt		1,477			—
Redemption of 8% Senior Notes		(400	)		(340	)
Redemption premium on 8% Senior Notes		(16	)		—
Proceeds from exercise of employee stock options and employee stock purchase plan		104			38
Dividends to shareholders		(104	)		(76	)
Excess tax benefits from exercise of stock options		—			14
Repurchases of common shares and payments made under prepaid forward agreements		(1,075	)		—
Other financing activities, net		1			—

Net cash used in financing activities		(13	)		(364	)

Increase in cash and cash equivalents		186			22
Cash and cash equivalents at the beginning of the period		910			746

Cash and cash equivalents at the end of the period	$	1,096		$	768

Supplemental Disclosure of Cash Flow Information
Cash paid for interest	$	24		$	22
Cash paid for income taxes, net of refunds		3			10

See notes to condensed consolidated financial statements.

SEAGATE TECHNOLOGY

CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY

Six Months Ended December 29, 2006

(In millions)

(Unaudited)


	Number of Common Shares		Par Value of Shares		Additional Paid-in Capital		Deferred Stock Compensation			Accumulated Other Comprehensive Income (Loss)			Retained Earnings			Total
Balance at June 30, 2006	576		$	—	$	2,858	$	(1	)	$	(7	)	$	2,362		$	5,212
Comprehensive income, net of tax:
Unrealized gain on marketable securities											6						6
Unrealized gain on cash flow hedges, net											6						6
Net income														159			159

Comprehensive income																	171
Issuance of common shares related to exercise of employee stock options	7					76											76
Issuance of common shares related to employee stock purchase plan	2					28											28
Repurchases of common shares	(5	)												(125	)		(125	)
Payments made under prepaid forward agreements (see Note 9)														(950	)		(950	)
Shares received under prepaid forward agreements (see Note 9)	(25	)															—
Dividends to shareholders														(104	)		(104	)
Stock-based compensation						68		1									69

Balance at December 29, 2006	555		$	—	$	3,030	$	—		$	5		$	1,342		$	4,377

See notes to condensed consolidated financial statements.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. Summary of Significant Accounting Policies

Nature of Operations—Seagate, or the Company, designs, manufactures and markets rigid disc drives. Rigid disc drives, which are commonly referred to as disc drives, are used as the primary medium for storing electronic information in systems ranging from desktop and notebook computers and consumer electronics devices to data centers delivering information over corporate networks and the Internet. The Company produces a broad range of disc drive products addressing enterprise applications, where its products are primarily used in enterprise servers, mainframes and workstations; desktop applications, where its products are used in desktop computers; mobile computing applications, where its products are used in notebook computers; and consumer electronics applications, where its products are used in digital video recorders, digital music players and gaming devices. The Company sells its disc drives primarily to major original equipment manufacturers, or OEMs, distributors and retailers.

Basis of Presentation and Consolidation—The condensed consolidated financial statements include the accounts of the Company and all its wholly-owned subsidiaries, after elimination of intercompany transactions and balances. On May 19, 2006, the Company acquired all of the outstanding common stock, stock options and nonvested stock of Maxtor Corporation (“Maxtor”). Maxtor is a wholly-owned subsidiary of the Company and the condensed consolidated financial statements include the results of operations of Maxtor subsequent to May 19, 2006. The condensed consolidated financial statements have been prepared by the Company and have not been audited. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted. The condensed consolidated financial statements reflect, in the opinion of management, all material adjustments necessary to summarize fairly the consolidated financial position, results of operations, cash flows and shareholders’ equity for the periods presented. Such adjustments are of a normal recurring nature. The Company’s consolidated financial statements for the fiscal year ended June 30, 2006 are included in its Annual Report on Form 10-K as filed with the United States Securities and Exchange Commission (“SEC”) on September 11, 2006. The Company believes that the disclosures included in the unaudited condensed consolidated financial statements, when read in conjunction with its consolidated financial statements as of June 30, 2006 and the notes thereto, are adequate to make the information presented not misleading.

The results of operations for the three and six months ended December 29, 2006 are not necessarily indicative of the results that may be expected for the fiscal year ending June 29, 2007.

The Company operates and reports financial results on a fiscal year of 52 or 53 weeks ending on the Friday closest to June 30. The quarters ended December 29, 2006 and December 30, 2005 were 13 weeks. Fiscal year 2007 will be comprised of 52 weeks and will end on June 29, 2007.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

1. Summary of Significant Accounting Policies (continued)

Critical Accounting Policies and Use of Estimates—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 amounts reported in the financial statements and accompanying notes. Actual results could differ materially from those estimates.

The Company establishes certain distributor and original equipment manufacture, or OEM sales programs aimed at increasing customer demand. These programs are typically related to a distributor’s level of sales, order size, advertising or point of sale activity or an OEM’s level of sale activity or agreed upon rebate programs. The Company provides for these obligations at the time that revenue is recorded based on estimated requirements. These contra-revenue estimates are based on various factors, including estimated future price erosion, distributor sell-through levels, program participation, customer claim submittals and sales returns. During periods in which the Company’s distributors’ inventories of its products are at higher than historical levels, the Company’s contra-revenue estimates are subject to a greater degree of subjectivity and the potential for actual results to vary is accordingly higher. Currently, the Company’s distributors’ inventories are within the historical range. Significant actual variations in any of the factors upon which the Company bases its contra-revenue estimates could have a material effect on the Company’s operating results. In addition, the Company’s failure to accurately predict the level of future sales returns by its distribution customers could have a material impact on the Company’s financial condition and results of operations.

The Company’s warranty provision considers estimated product failure rates, trends, estimated repair or replacement costs and estimated costs for customer compensatory claims related to product quality issues, if any. The Company uses a statistical model to help with its estimates and the Company exercises considerable judgment in determining the underlying estimates. Should actual experience in any future period differ significantly from its estimates, or should the rate of future product technological advancements fail to keep pace with the past, the Company’s future results of operations could be materially affected. The Company’s judgment is subject to a greater degree of subjectivity with respect to newly introduced products and legacy Maxtor-designed products because of limited experience with those products upon which to base its warranty estimates. The Company continually introduces new products and has recently begun a shift to disc drive products that utilize perpendicular recording technology. The actual results with regard to warranty expenditures could have a material adverse effect on the Company if the actual rate of unit failure, the cost to repair a unit, or the actual cost required to satisfy customer compensatory claims are greater than that which the Company has used in estimating the warranty expense accrual. The Company also exercises judgment in estimating its ability to sell certain repaired disc drives. To the extent such sales fall below the Company’s forecast, warranty cost will be adversely impacted.

The Company’s recording of deferred tax assets each period depends primarily on the Company’s ability to generate current and future taxable income in the United States. Each period, the Company evaluates the need for a valuation allowance for the deferred tax assets and adjusts the valuation allowance so that net deferred tax assets are recorded only to the extent the Company concludes it is more likely than not that these deferred tax assets will be realized. With the acquisition of Maxtor on May 19, 2006, the realizability of U.S. deferred tax assets was determined on a consolidated return basis. As a result, Maxtor’s deferred tax assets that were determined to be realizable were recorded as a reduction of goodwill and Seagate deferred tax assets that were determined to be no longer realizable were written off with a charge to income tax expense at the date of acquisition.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

1. Summary of Significant Accounting Policies (continued)

In accordance with the provisions of Financial Accounting Standards Board (“FASB”) Statement (“SFAS”) No. 141, Business Combinations (“SFAS No. 141”), the purchase price of an acquired company is allocated between tangible and intangible assets acquired and liabilities assumed from the acquired business based on their estimated fair values, with the residual of the purchase price recorded as goodwill. The Company engages third-party appraisal firms to assist management in determining the fair values of certain assets acquired and liabilities assumed. Such valuations require management to make significant judgments, estimates and assumptions, especially with respect to intangible assets. Management makes estimates of fair value based upon assumptions it believes to be reasonable. These estimates are based on historical experience and information obtained from the management of the acquired companies, and are inherently uncertain. Critical estimates in valuing certain of the intangible assets include but are not limited to: future expected cash flows from existing technology, customer relationships, trade names, and other intangible assets; the acquired company’s brand awareness and market position, as well as assumptions about the period of time the acquired brand will continue to be used in the combined company’s product portfolio; and discount rates. Unanticipated events and circumstances may occur which may affect the accuracy or validity of such assumptions, estimates or actual results.

The Company is required to periodically evaluate the carrying values of intangible assets for impairment. If any of the Company’s intangible assets are determined to be impaired, the Company may have to write down the impaired asset and its earnings would be adversely impacted in the period that occurs.

At December 29, 2006, the Company’s goodwill totaled approximately $2.3 billion and its identifiable intangible assets totaled $231 million. In accordance with the provisions of SFAS No. 142, Goodwill and Other Intangible Assets (“SFAS 142”), the Company assesses the impairment of goodwill at least annually, or more often if warranted by events or changes in circumstances indicating that the carrying value may exceed its fair value. This assessment may require the projection and discounting of cash flows, an analysis of the Company’s market capitalization and the estimation of the fair values of tangible and intangible assets and liabilities. Estimates of cash flow are based upon, among other things, certain assumptions about expected future operating performance; judgment is also exercised in determining an appropriate discount rate. The Company’s estimates of discounted cash flows may differ from actual cash flows due to, among other things, economic conditions, changes to the business model, or changes in operating performance. Significant differences between these estimates and actual cash flows could materially affect the Company’s future financial results.

The Company also has other key accounting policies and accounting estimates relating to uncollectible customer accounts, valuation of inventory and valuation of share-based payments. The Company believes that these other accounting policies and other accounting estimates either do not generally require it to make estimates and judgments that are as difficult or as subjective, or it is less likely that they would have a material impact on its reported results of operations for a given period.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

1. Summary of Significant Accounting Policies (continued)

Net Income Per Share

In accordance with SFAS No. 128, Earnings per Share, the following table sets forth the computation of basic and diluted net income per share for the three and six months ended December 29, 2006 and December 30, 2005:


	For the Three Months Ended				For the Six Months Ended
	December 29, 2006		December 30, 2005		December 29, 2006		December 30, 2005
	(In millions, except per share data)
Basic net income per share
Net Income	$	140	$	287	$	159	$	559

Weighted-average number of common shares outstanding during the period		571		482		573		480

Basic net income per share	$	0.25	$	0.60	$	0.28	$	1.16

Diluted net income per share
Net income	$	140	$	287	$	159	$	559

Weighted-average number of common shares outstanding during the period		571		482		573		480
Shares issuable from assumed exercise of options and unvested nonvested shares using the treasury stock method		27		25		27		26

Total shares for purpose of calculating diluted net income per share		598		507		600		506

Diluted net income per share	$	0.23	$	0.57	$	0.27	$	1.10

The following potential common shares were excluded from the computation of diluted net income per share, as their effect would have been anti-dilutive:


	For the Three Months Ended		For the Six Months Ended
	December 29, 2006	December 30, 2005	December 29, 2006	December 30, 2005
	(In millions)
Stock options	19.1	28.6	18.1	24.2
Nonvested shares	1.9	—	0.9	—
2.375% convertible senior notes	5.0	—	4.4	—
6.8% convertible senior notes	4.1	—	4.1	—

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

2. Balance Sheet Information


	December 29, 2006			June 30, 2006
	(in millions)
Accounts Receivable:

Accounts receivable	$	1,323		$	1,482
Allowance for doubtful accounts		(72	)		(37	)

	$	1,251		$	1,445

Inventories:

Components	$	193		$	209
Work-in-process		90			126
Finished goods		488			556

	$	771		$	891

Property, equipment and leasehold improvements, net:

Property, equipment and leasehold improvements	$	4,747		$	4,286
Accumulated depreciation and amortization		(2,507	)		(2,180	)

	$	2,240		$	2,106

Accrued Warranty:

Short-term accrued warranty included in Accrued expenses, other on the balance sheet	$	260		$	249
Long-term accrued warranty included in Other non- current liabilities on the balance sheet		197			196

	$	457		$	445

Allowance for Doubtful Accounts

During the three months ended December 29, 2006, the Company terminated its distributor relationships with eSys Technologies Pte. Ltd. and its affiliated entities (“eSys”) and the Company ceased shipments of its products to eSys. eSys was the largest distributor of Seagate products (including Maxtor products) for the fiscal year ended June 30, 2006 and for the three months ended September 29, 2006, representing approximately 5% and 6% of the Company’s revenues for those respective periods.

In early October 2006, the Company initiated an audit of eSys’ point of sale records pursuant to the Company’s contractual rights to confirm the accuracy and completeness of eSys’ claims for program credits under the Company’s distributor sales incentive programs. Discussions with eSys surrounding the timing, scope of work, and selection of third party auditors continued until early November, when eSys officials informed the Company they would deny the Company’s third party auditors access to eSys’ records to perform the requested audit notwithstanding the Company’s contractual rights to do so. eSys officials also indicated to the Company that an audit would likely reveal irregularities in eSys’ compliance with the terms of the Company’s incentive programs and other unspecified irregularities. In addition, eSys had failed to make full current payments on its obligations to the Company. Accordingly, on November 6, 2006, the Company notified eSys that it was terminating the Company’s commercial distributor relationships with eSys.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

2. Balance Sheet Information (continued)

Although eSys officials have indicated that eSys intends to pay all amounts owed to the Company, the Company recorded an additional $40 million of allowance for doubtful accounts in the three months ended September 29, 2006, after consideration of existing allowances. The Company recorded this additional allowance due to the inherent uncertainties following the termination of the distribution relationships, eSys’ continuing delinquency in payments and failure to pay amounts when promised, and eSys’ failure to comply with the terms of its commercial agreements with the Company. The Company is pursuing collection of all amounts owed by eSys as promptly as possible. Any amounts recovered on these receivables will be recorded in the period received.

While the Company terminated its distributor relationships with eSys, the Company has and will continue to aggressively pursue its contractual audit rights as well as any claims that may be assertable against eSys as a result of material breaches of the distribution agreements and any intentionally wrongful conduct that may have occurred. Specifically, the Company has commenced legal proceedings against eSys and its CEO under a distribution agreement and a personal guarantee to recover all amounts owed to the Company for purchased products.

Long-Term Debt and Credit Facilities

In September 2006, Seagate Technology HDD Holdings (“HDD”), the Company’s wholly-owned direct subsidiary, issued senior notes totaling $1.5 billion comprised of $300 million aggregate principal amount of Floating Rate Senior Notes due October 2009 (the “2009 Notes”), $600 million aggregate principal amount of 6.375% Senior Notes due October 2011 (the “2011 Notes”) and $600 million aggregate principal amount of 6.8% Senior Notes due October 2016 (the “2016 Notes”). The Company has guaranteed these notes on a full and unconditional basis (see Note 12). These notes are unsecured and rank equally in right of payment with all of HDD’s other existing and future senior unsecured indebtedness and senior to any present and future subordinated indebtedness of HDD.

$300 Million Aggregate Principal Amount of Floating Rate Senior Notes due October 2009. The 2009 Notes bear interest at a floating rate equal to three-month LIBOR plus 0.84% per year, payable quarterly on January 1, April 1, July 1 and October 1 of each year commencing January 1, 2007. The 2009 Notes will mature on October 1, 2009. The Company may not redeem the 2009 Notes prior to maturity.

$600 Million Aggregate Principal Amount of Fixed Rate Senior Notes due October 2011. The 2011 Notes bear interest at the rate of 6.375% per year, payable semi-annually on April 1 and October 1 of each year. The 2011 Notes are redeemable at the option of the Company in whole or in part, on not less than 30 nor more than 60 days’ notice at a “make-whole” premium redemption price. The “make-whole” redemption price will be equal to the greater of (1) 100% of the principal amount of the notes being redeemed, or (2) the sum of the present values of the remaining scheduled payments of principal and interest on the 2011 Notes being redeemed, discounted at the redemption date on a semi-annual basis at a rate equal to the sum of the applicable Treasury rate plus 50 basis points.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

2. Balance Sheet Information (continued)

$600 Million Aggregate Principal Amount of Fixed Rate Senior Notes due October 2016. The 2016 Notes bear interest at the rate of 6.8% per year, payable semi-annually on April 1 and October 1 of each year. The 2016 Notes are redeemable at the option of the Company in whole or in part, on not less than 30 nor more than 60 days’ notice at a “make-whole” premium redemption price. The “make-whole” redemption price will be equal to the greater of (1) 100% of the principal amount of the notes being redeemed, or (2) the sum of the present values of the remaining scheduled payments of principal and interest on the 2016 Notes being redeemed, discounted at the redemption date on a semi-annual basis at a rate equal to the sum of the applicable Treasury rate plus 50 basis points.

$400 Million Aggregate Principal Amount of 8% Senior Notes due May 2009. In October 2006, the Company redeemed its 8% Senior Notes due May 2009 (the “8% Notes”) at a redemption price of $1,040 per $1,000 principal amount of Notes for a total amount paid of $416 million. The redemption premium of $16 million as well as approximately $3 million of unamortized issuance costs were recorded as interest expense in the Company’s condensed consolidated statement of operations for the three and six months ended December 29, 2006.

Revolving Credit Facility. HDD has a senior unsecured $500 million revolving credit facility that matures in September 2011. The $500 million revolving facility, which was entered into in September 2006, replaced the then-existing $100 million revolving credit facility.

The credit agreement that governs the Company’s revolving credit facility contains covenants that must be satisfied in order to remain in compliance with the agreement. The credit agreement contains three financial ratios: (1) minimum cash, cash equivalents and marketable securities; (2) a fixed charge coverage ratio; and (3) a net leverage ratio. As of December 29, 2006, the Company is in compliance with all covenants.

The $500 million revolving credit facility is available for cash borrowings and for the issuance of letters of credit up to a sub-limit of $100 million. Although no borrowings have been drawn under this revolving credit facility to date, the Company had utilized $46 million for outstanding letters of credit and bankers’ guarantees as of December 29, 2006, leaving $454 million for additional borrowings. The credit agreement governing the revolving credit facility includes limitations on the ability of the Company to pay dividends, including a limit of $300 million in any four consecutive quarters.

As a result of its acquisition of Maxtor in May 2006, the Company assumed $135 million aggregate principal amount of 6.8% Convertible Senior Notes due April 2010, $326 million aggregate principal amount of 2.375% Convertible Senior Notes due August 2012, $55 million aggregate principal amount of 5.75% Subordinated Debentures due March 2012 and $60 million LIBOR based China Manufacturing Facility Loans.

Upon the closing of the Merger, the Company and Maxtor entered into a supplemental indenture whereby the Company agreed to guarantee the 2.375% Notes and the 6.8% Notes on a full and unconditional basis (see Note 12).

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

3. Income Taxes

The Company is a foreign holding company incorporated in the Cayman Islands with foreign and U.S. subsidiaries that operate in multiple taxing jurisdictions. As a result, its worldwide operating income either is subject to varying rates of tax or is exempt from tax due to tax holidays or tax incentive programs in China, Malaysia, Singapore, Switzerland and Thailand. These tax holidays or incentives are scheduled to expire in whole or in part at various dates through 2020.

The Company’s provision for income taxes recorded for the three and six months ended December 29, 2006 differs from the provision for income taxes that would be derived by applying a notional U.S. 35% rate to income before income taxes primarily due to the net effect of (i) the tax benefit related to the aforementioned tax holiday and tax incentive programs, (ii) an increase in the Company’s valuation allowance for U.S. deferred tax assets, and (iii) foreign tax benefits recorded during the period relating to reductions in previously accrued taxes and reductions in valuation allowances for certain foreign deferred tax assets. The Company’s provision for income taxes recorded for the three and six months ended December 30, 2005 differed from the provision for income taxes that would be derived by applying a notional U.S. 35% rate to income before income taxes primarily due to the net effect of (i) the tax benefit related to the aforementioned tax holiday and tax incentive programs, and (ii) a decrease in the Company’s valuation allowance recorded for U.S. and certain foreign deferred tax assets.

Based on the Company’s foreign ownership structure, participation in tax holiday and tax incentive programs in the Far East, and subject to potential future increases in its valuation allowance for U.S. and certain foreign deferred tax assets, the Company anticipates that its effective tax rate in future periods will generally be less than the U.S. federal statutory rate. Dividend distributions received from the Company’s U.S. subsidiaries may be subject to U.S. withholding taxes when and if distributed. Deferred tax liabilities have not been recorded on unremitted earnings of certain foreign subsidiaries, as these earnings will not be subject to tax in the Cayman Islands or U.S. federal income tax if remitted to the Company’s foreign parent holding company.

As of December 29, 2006, the Company has recorded net deferred tax assets of $228 million. The realization of $116 million of these deferred tax assets is primarily dependent on the Company’s ability to generate sufficient U.S. and certain foreign taxable income in fiscal years 2007 and 2008 and the first half of fiscal year 2009. Although realization is not assured, the Company’s management believes that it is more likely than not that these deferred tax assets will be realized. The amount of deferred tax assets considered realizable, however, may increase or decrease in subsequent quarters, when the Company reevaluates the underlying basis for its estimates of future U.S. and certain foreign taxable income.

During the quarter ended December 29, 2006, the Company recorded a $150 million reduction to goodwill originally recorded in connection with the Maxtor acquisition. The reduction in goodwill was required in accordance with SFAS No. 109, Accounting for Income Taxes (“SFAS No. 109”) as a result of the reversal during the quarter of $150 million of valuation allowance that had been previously recorded as of the date of acquisition against Maxtor related deferred tax assets for tax net operating loss carryovers. The valuation allowance was reduced by $150 million to reflect expected realization of acquired Maxtor net operating loss carry forwards due to increased forecasts of future U.S. taxable income and a $296 million gain for U.S. tax purposes from the inter company sale of certain intellectual property rights to a foreign subsidiary. Approximately $122 million of tax expense associated with the gain on the inter company sale of intangibles has been capitalized in accordance with Accounting Research Bulletin 51, Consolidated Financial Statements (“ARB 51”) and is being amortized to income tax expense over a sixty-month period which approximates the expected useful life of the intangibles sold in the inter company transaction.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

3. Income Taxes (continued)

As a result of the Maxtor acquisition, Maxtor underwent a change in ownership within the meaning of Section 382 of the Internal Revenue Code (IRC Sec. 382) on May 19, 2006. In general, IRC Sec. 382 places annual limitations on the use of certain tax attributes such as net operating losses and tax credit carryovers in existence at the ownership change date. The annual limitation for this change is $110 million. Certain amounts may be accelerated into the first five years following the acquisition pursuant to IRC Section 382 and published notices. On January 3, 2005, the Company underwent a change in ownership under IRC Sec. 382 due to the sale of common shares to the public by its then largest shareholder, New SAC. Based on an independent valuation as of January 3, 2005, the annual limitation for this change is $44.8 million. To the extent management believes it is more likely than not that the deferred tax assets associated with tax attributes subject to this IRC Sec. 382 limitation will not be realized, a valuation allowance has been provided.

The Internal Revenue Service is currently examining the Company’s federal income tax returns for fiscal years ending in 2001-2004. The timing of the settlement of these examinations is uncertain. The Company believes that adequate amounts of tax have been provided for any final assessment that may result.

4. Restructuring Costs

Ongoing Restructuring Activities

During the six months ended December 29, 2006, the Company reversed $4 million of restructuring accruals relating to the sale of a surplus building previously impaired in a prior restructuring and recorded restructuring accruals of approximately $1 million in connection with its ongoing restructuring activities.

Liabilities Recognized in Connection with Business Combinations

In connection with the Maxtor acquisition, the Company accrued certain exit costs (see Note 5).

5. Acquisitions

Maxtor Corporation

On December 20, 2005, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Maxtor Corporation, a Delaware corporation, and MD Merger Corporation, a Delaware corporation and direct wholly-owned subsidiary of Seagate, by which Seagate agreed to acquire Maxtor (the “Merger”), and whereby Maxtor would become a wholly owned subsidiary of Seagate. On May 19, 2006, the Company completed the acquisition of Maxtor in a stock-for-stock transaction. The acquisition was structured to qualify as a tax-free reorganization and the Company has accounted for the acquisition in accordance with SFAS 141. The combination of the two companies’ brands and the related product lines represent the most differentiated storage offering to customers and enhance the Company’s scale and capacity to better drive technology advances and accelerate delivery of a wide range of differentiated products and cost-effective solutions to a growing base of customers.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

5. Acquisitions (continued)

Under the terms of the Merger Agreement, each share of Maxtor common stock was exchanged for 0.37 of Company’s common shares. The Company issued approximately 96.9 million common shares to Maxtor’s shareholders, assumed and converted Maxtor options (based on the 0.37 exchange ratio) into options to purchase approximately 7.1 million of the Company’s common shares and assumed and converted all outstanding Maxtor nonvested stock into approximately 1.3 million of the Company’s nonvested shares. The purchase consideration comprising the fair value of the common shares, stock options and nonvested shares assumed and including transaction costs was approximately $2.0 billion.

Purchase Price Allocation

The application of purchase accounting under SFAS 141 requires that the total purchase price be allocated to the fair value of assets acquired and liabilities assumed based on their fair values at the acquisition date, with amounts exceeding the fair values being recorded as goodwill. The allocation process requires an analysis and valuation of acquired assets, including fixed assets, technologies, customer contracts and relationships, trade names and liabilities assumed, including contractual commitments and legal contingencies.

The Company has identified and recorded the assets, including specifically identifiable intangible assets, and liabilities assumed from Maxtor at their preliminary estimated fair values as at May 19, 2006, the date of acquisition and allocated the initial residual value of approximately $2.5 billion to goodwill. During the six months ended December 29, 2006, the Company recorded $158 million of net adjustments that decreased goodwill, including a $150 million reduction relating to the reversal of a corresponding amount of the valuation allowance previously recorded as of the acquisition date against certain deferred tax assets comprised of former Maxtor operating losses (see Note 3). During the six months ended December 29, 2006, the Company also adjusted the purchase price allocation and reduced goodwill when it increased the fair values allocated to certain owned facilities and equipment. These reductions in goodwill were partially offset by increased estimates for certain exit plan liabilities and pre-acquisition contingencies.

The fair values of acquired assets and liabilities may be further adjusted as the Company completes the evaluation of acquired assets and liabilities prior to the one-year anniversary date of the merger. Any changes in the values allocated to tangible and specifically identified intangible assets acquired and liabilities assumed during the allocation period may result in material adjustments to goodwill.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

5. Acquisitions (continued)

Recognition of Liabilities in Connection with Maxtor Acquisition

Under Emerging Issues Task Force (“EITF”) 95-3, Recognition of Liabilities in Connection with a Business Combination, the Company has accrued certain exit costs aggregating $261 million, of which $112 million relates to employee severance, $46 million relates to the planned exit of leased or owned excess facilities and $103 million relates to the cancellation or settlement of contractual obligations that will not provide any future economic benefit. The severance and associated benefits liability relates to the employment termination of approximately 5,100 Maxtor employees, primarily in the U.S. and Far East, of which approximately 4,700 employees had been terminated as of December 29, 2006. In the six months ended December 29, 2006, the Company paid $170 million of the accrued exit costs. The Company expects payments for severance and related benefits and for contractual settlements to be substantially completed by the end of fiscal year 2007, while the costs associated with the exit of certain facilities will continue to the end of fiscal year 2016.

The following table summarizes the Company’s exit activities in connection with the Maxtor acquisition:


	Severance and Benefits			Excess Facilities			Contract Cancellations			Total
	(in millions)
Accrued exit costs, May 19, 2006	$	117		$	43		$	91		$	251
Cash payments		(8	)		—			(10	)		(18	)

Accrued exit costs, June 30, 2006		109			43			81			233
Purchase accounting adjustments		(5	)		3			12			10
Cash payments		(82	)		(9	)		(79	)		(170	)

Accrued exit costs, December 29, 2006	$	22		$	37		$	14		$	73

Accrued exit costs are included in short-term and long-term Accrued Restructuring on the Condensed Consolidated Balance Sheet.

Stock-Based Compensation

The fair value of stock-based compensation related to the unearned stock options and nonvested shares assumed from Maxtor was approximately $69 million, net of forfeitures, of which, approximately $37 million has been amortized through the six months ended December 29, 2006. The remaining $32 million will be amortized on a straight-line basis over the remaining estimated service (vesting) periods of the underlying stock options or nonvested shares.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

5. Acquisitions (continued)

Pro Forma Financial Information

The unaudited financial information in the table below summarizes the combined results of operations of the Company and the results of Maxtor prior to the Merger, on a pro forma basis, as though the companies had been combined as of the beginning of the period presented. Pro forma financial information for our other acquisitions have not been presented, as the effects were not material to our historical consolidated financial statements either individually or in aggregate. The pro forma financial information for the period presented includes the business combination accounting effect on conforming Maxtor’s revenue recognition policy to the Company’s, adjustments related to the fair value of acquired inventory and fixed assets, amortization charges from acquired intangible assets, stock-based compensation charges for unvested stock options assumed and nonvested shares exchanged and related tax effects of these adjustments. The pro forma financial information is presented for informational purposes only and is not indicative of the results of operations that would have been achieved had the acquisition taken place at the beginning of the period presented, nor does it intend to be a projection of future results.

The unaudited pro forma financial information for the three and six months ended December 30, 2005 combines the Company’s historical results for the three and six months ended December 30, 2005 and, due to differences in our reporting periods, the historical results of Maxtor for the three and six months ended December 31, 2005.


(in millions, except for share data)	Three and Six Months Ended December 30, 2005
	(Unaudited)
Revenue	$	3,274	$	6,232
Net income	$	259	$	488
Basic net income per share	$	0.45	$	0.85
Diluted net income per share	$	0.43	$	0.81

Other Acquisitions

The Company acquired two other companies for cash in fiscal year 2006 for a purchase price of $15 million and $14 million, respectively, which resulted in residual values of approximately $12 million and $5 million, respectively, being recorded to goodwill after the allocation of fair value to tangible and intangible assets acquired and liabilities assumed. These acquisitions did not have a material impact on the Company’s results of operations.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

6. Goodwill and Other Intangible Assets

Goodwill

In accordance with SFAS 141, the Company allocated the excess of the cost of the acquired entities over the net amounts of assets acquired and liabilities assumed to goodwill. As at December 29, 2006, the composition of the amounts recorded to goodwill are as follows (in millions):


Balance as of June 30, 2006	$	2,475
Adjustment to goodwill acquired through Maxtor acquisition (see Note 5)		(158	)

Balance as of December 29, 2006	$	2,317

In accordance with the guidance in SFAS 142, goodwill is not amortized. Instead, it is tested for impairment on an annual basis or more frequently upon the occurrence of circumstances that indicate that goodwill may be impaired. The Company did not record any impairment of goodwill during the six months ended December 29, 2006 or the six months ended December 30, 2005.

Other Intangible Assets

Other intangible assets consist primarily of existing technology, customer relationships and trade names acquired in business combinations. Acquired intangibles are amortized on a straight-line basis over the respective estimated useful lives of the assets. Accumulated amortization of intangibles was $109 million and $33 million at December 29, 2006 and June 30, 2006, respectively. The carrying value of intangible assets at December 29, 2006 is set forth in the table below.


(in millions)	Gross Carrying Amount		Accumulated Amortization			Net Carrying Amount
Existing technology	$	150	$	(71	)	$	79
Customer relationships		140		(25	)		115
Trade names		33		(5	)		28
Patents and licenses		17		(8	)		9

Total acquired identifiable intangible assets	$	340	$	(109	)	$	231

In the six months ended December 29, 2006 and December 30, 2005, amortization expense for other intangible assets was $76 million and $3 million, respectively. Amortization of the existing technology intangible is charged to Cost of revenue while the amortization of the other intangible assets is included in Operating expenses in the Consolidated Statements of Operations.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

7. Stock-Based Compensation

Stock-Based Benefit Plans

Seagate Technology 2001 Share Option Plan—In December 2000, the Company’s board of directors adopted the Seagate Technology 2001 Share Option Plan (the “2001 Plan”). Under the terms of the 2001 Plan, eligible employees, directors, and consultants can be awarded options to purchase up to 100 million common shares of the Company under vesting terms to be determined at the date of grant. Options granted to exempt employees generally vest as follows: 25% of the shares will vest on the first anniversary of the vesting commencement date and the remaining 75% will vest proportionately each month over the next 36 months. Options granted to non-exempt employees vest on the first anniversary of the vesting commencement date. Except for certain options granted below deemed fair value shortly prior to the Company’s initial public offering in fiscal year 2003 (see Deferred Stock Compensation), all other options granted under the 2001 Plan were granted at fair market value. Options granted up through September 5, 2004 expire ten years from the date of grant and options granted subsequent to September 5, 2004 expire seven years from the date of grant. As of December 29, 2006, there were approximately 0.4 million common shares available for issuance under the 2001 Plan.

Seagate Technology 2004 Stock Compensation Plan—On August 5, 2004, the Company’s board of directors adopted the Seagate Technology 2004 Stock Compensation Plan (the “2004 Plan”), and on October 28, 2004, the Company’s shareholders approved the 2004 Plan. The purpose of the 2004 Plan is to promote the Company’s long-term growth and financial success by providing incentives to its employees, directors, and consultants through grants of share-based awards. On October 26, 2006, the Company’s shareholders approved an amendment to the 2004 Plan to increase the number of common shares available for issuance by 36 million. The provisions of the 2004 Plan, which allows for the grant of various types of equity-based awards up to 63.5 million shares, are also intended to provide greater flexibility to maintain the Company’s competitive ability to attract, retain and motivate participants for the benefit of the Company and its shareholders. Options granted to exempt employees generally vest as follows: 25% of the shares will vest on the first anniversary of the vesting commencement date and the remaining 75% will vest proportionately each month over the next 36 months. Options granted to non-exempt employees vest on the first anniversary of the vesting commencement date. As of December 29, 2006, there were approximately 39.0 million common shares available for issuance under the 2004 Plan.

Assumed Maxtor Stock Options—In connection with the Company’s acquisition of Maxtor, the Company assumed all outstanding options to purchase Maxtor common stock with a weighted-average exercise price of $16.10 on an as-converted basis. Each stock option assumed was converted into a stock option to purchase the Company’s common shares after applying the exchange ratio of 0.37 Company common shares for each share of Maxtor common stock. In total, the Company assumed and converted Maxtor stock options into stock options to purchase approximately 7.1 million of the Company’s common shares. In addition, the Company assumed and converted all outstanding Maxtor nonvested stock into approximately 1.3 million of the Company’s nonvested shares, based on the 0.37 exchange ratio. The assumed options and nonvested shares exchanged retained all applicable terms and vesting periods. As of December 29, 2006, approximately 3.9 million of the assumed stock options and 1.0 million of the exchanged nonvested shares were outstanding.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

7. Stock-Based Compensation (continued)

Maxtor Corporation 1996 Stock Plan—As a result of the acquisition of Maxtor, the Company assumed all outstanding stock options and nonvested stock under Maxtor’s Amended and Restated 1996 Stock Option Plan (the “1996 Plan”). Stock options under the 1996 Plan generally vest over a four-year period from the date of grant with 25% vesting at the first anniversary date of the vest date and 6.25% each quarter thereafter, expiring ten years from the date of grant. Nonvested shares generally vest over a three-year period from the date of grant with 1/3 vesting at the first anniversary date of the vest date and 1/3 each year thereafter, and are subject to forfeiture if employment is terminated prior to the time the shares become fully vested and non-forfeitable.

Maxtor Corporation 2005 Performance Incentive Plan—As a result of the acquisition of Maxtor, the Company assumed all outstanding stock options and nonvested stock under Maxtor’s 2005 Performance Incentive Plan (the “2005 Plan”). Stock options granted under the 2005 Plan generally vest over a four-year period with 25% vesting at the first anniversary date of the vest date and 6.25% each quarter thereafter, expiring ten years from the date of grant. Nonvested shares generally vest over a three-year period from the date of grant with 1/3 vesting at the first anniversary date of the vest date and 1/3 each year thereafter, and are subject to forfeiture if employment is terminated prior to the time the shares become fully vested and non-forfeitable.

Maxtor (Quantum HDD) Merger Plan—As a result of the acquisition of Maxtor, the Company assumed all outstanding options under Maxtor’s (Quantum HDD) Merger Plan. Options granted under this plan are completely vested and exercisable.

Stock Purchase Plan—The Company established an Employee Stock Purchase Plan (“ESPP”) in December 2002. At that time, a total of 20 million common shares had been authorized for issuance under the ESPP. On October 26, 2006, the Company’s shareholders approved an amendment to the ESPP to increase the number of common shares available for issuance by 10 million. This number of common shares authorized for issuance automatically increases annually on the first day of the Company’s fiscal year beginning in 2003 equal to the lesser of 2.5 million shares or 0.5% of the outstanding shares on the last day of the immediately preceding fiscal year, subject to approval by the Company’s board of directors. In no event shall the total number of shares issued under the ESPP exceed 75 million shares. The ESPP consists of a six-month offering period with a maximum issuance of 2.5 million shares per offering period. The ESPP permits eligible employees who have completed thirty days of employment prior to the commencement of any offering period to purchase common shares through payroll deductions generally at 85% of the fair market value of the common shares. On July 31, 2006, the Company issued approximately 1.7 million common shares under the ESPP, with a weighted-average purchase price of $16.45. As of December 29, 2006, there were approximately 14.2 million common shares available for issuance under the ESPP.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

7. Stock-Based Compensation (continued)

Determining Fair Value of Stock Options

The Company estimates the fair value of stock options granted using the Black-Scholes-Merton option-pricing formula and a single option award approach. This fair value is then amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period or the remaining service (vesting) period. The fair value of the Company’s stock options granted to employees for the three and six months ended December 29, 2006 and December 30, 2005 was estimated using the following weighted-average assumptions:


	For the Three Months Ended		For the Six Months Ended
	December 29, 2006	December 30, 2005	December 29, 2006	December 30, 2005
Option Plan Shares
Expected term (in years)	4.0	3.7	4.0	3.5 – 3.7
Volatility	39%	42%	39%	42 – 43%
Expected dividend	1.5 – 1.9%	1.6 – 2.3%	1.4 – 1.9%	1.6 – 2.3%
Risk-free interest rate	4.4	4.4%	4.4 – 4.7%	4.1 – 4.4%
Estimated annual forfeitures	4.5%	4.6%	4.5%	4.6 – 4.8%
Weighted-average fair value	$7.25	$5.11	$7.26	$4.82

ESPP Plan Shares
Expected term (in years)	0.5	0.5 – 1.0	0.5	0.5 – 1.0
Volatility	34%	41%	34%	41%
Expected dividend	1.4%	1.7%	1.4%	1.7%
Risk-free interest rate	5.0%	3.6 – 3.8%	5.0%	3.6 – 3.8%
Weighted-average fair value	$5.35	$5.33	$5.35	$5.33

Stock Compensation Expense

Stock Compensation Expense—The Company recorded approximately $31 million and $69 million of stock-based compensation during the three and six months ended December 29, 2006, respectively. Of the $69 million recorded in the six months ended December 29, 2006, $21 million related to assumed stock options and nonvested shares exchanged in the Maxtor acquisition (see Note 5). The Company recorded approximately $20 million and $36 million of stock-based compensation during the three and six months ended December 30, 2005, respectively. The Company has made an estimate of expected forfeitures and is recognizing compensation costs only for those equity awards expected to vest.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

8. Guarantees

Indemnifications to Officers and Directors

We have entered into indemnification agreement, a form of which is incorporated by reference in the exhibits of this report, with the members of our board of directors to indemnify them to the extent permitted by law against any and all liabilities, costs, expenses, amounts paid in settlement and damages incurred by the directors as a result of any lawsuit, or any judicial, administrative or investigative proceeding in which the directors are sued as a result of their service as members of our board of directors.

Intellectual Property Indemnification Obligations

The Company has entered into agreements with customers and suppliers that include limited intellectual property indemnification obligations that are customary in the industry. These guarantees generally require the Company to compensate the other party for certain damages and costs incurred as a result of third party intellectual property claims arising from these transactions. The nature of the intellectual property indemnification obligations prevents the Company from making a reasonable estimate of the maximum potential amount it could be required to pay to its customers and suppliers. Historically, the Company has not made any significant indemnification payments under such agreements and no amount has been accrued in the accompanying consolidated financial statements with respect to these indemnification obligations.

Product Warranty

The Company estimates probable product warranty costs at the time revenue is recognized. The Company generally warrants its products for a period of one to five years. The Company warrants all internal desktop and notebook disc drives shipped through the distribution and retail channels for a period of five years. The Company uses estimated repair or replacement costs and uses statistical modeling to estimate product return rates in order to determine its warranty obligation. In addition, estimated settlements for customer compensatory claims relating to product quality issues, if any, are accrued as warranty expense. Changes in the Company’s product warranty liability during the three and six months ended December 29, 2006 and December 30, 2005 were as follows:


	For the Three Months Ended						For the Six Months Ended
	December 29, 2006			December 30, 2005			December 29, 2006			December 30, 2005
	(in millions)
Balance, beginning of period	$	437		$	255		$	445		$	243
Warranties issued		55			35			112			67
Repairs and replacements		(71	)		(39	)		(144	)		(63	)
Changes in liability for pre-existing warranties, including expirations and customer compensatory claims		36			(1	)		44			3

Balance, end of period	$	457		$	250		$	457		$	250

The Company offers extended warranties on certain of its products. Deferred revenue related to extended warranties has not been material to date.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

9. Equity

Issuance of Common Shares

During the six months ended December 29, 2006, the Company issued approximately 7.5 million of its common shares from the exercise of stock options and approximately 1.7 million of its common shares related to the Company’s employee stock purchase plan.

Repurchases of Equity Securities

On August 8, 2006, the Company announced that it’s board of directors had authorized the use of up to $2.5 billion for the repurchase of the Company’s outstanding common shares over a two-year period. From the authorization of this repurchase program and through the six months ended December 29, 2006, the Company repurchased approximately 29.7 million shares, all of which were cancelled on the day received and are no longer outstanding. The Company repurchased these shares through a combination of open market purchases and prepaid forward agreements with large financial institutions, whereupon the Company prepaid financial institutions to deliver shares at future dates. The Company entered into these agreements in order to take advantage of repurchasing shares at a guaranteed discount to the Volume Weighted Average Price (“VWAP”) of its common shares. The Company only enters into such transactions when the discount that it receives is higher than the foregone return on its cash prepayment to the financial institution. There were no explicit commissions or fees on these prepaid forward agreements. Under the terms of these agreements, there is no requirement for the financial institution to return any portion of the prepayment to the Company. The parameters used to calculate the final number of shares deliverable are: the total notional amount of the contract and the average VWAP of the Company’s stock during the contract period less the agreed upon discount.

During the six months ended December 29, 2006, the Company repurchased 5.3 million shares through open market repurchases. In addition, the Company made payments totaling $950 million under prepaid forward agreements and took delivery of 24.4 million shares using prepaid forward agreements (including partial delivery under one of the prepaid forward agreements of 17.7 million shares). In January 2007, the Company received an additional 13.3 million shares under a prepaid forward agreement that was in place at December 29, 2006. Shares physically delivered to the Company are cancelled on the day received and are no longer outstanding.

As of December 29, 2006, the Company had approximately $1.4 billion remaining under the authorized $2.5 billion stock repurchase program. The Company did not repurchase any shares during the six months ended December 30, 2005.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

9. Equity (continued)

Share repurchases during the six months ended December 29, 2006 were as follows:


	Total Number of Shares Purchased	Average Price Paid per Share		Total Number of Shares Purchased Under Publicly Announced Plans or Programs	Dollar Value of Shares That May Yet Be Purchased Under the Plans or Programs
	(in millions)			(in millions)	(in millions)
July 2006	—	$	—	—	$	2,500
August 2006	—	$	—	—	$	2,500
September 2006	6.7	$	22.47	6.7	$	2,350
October 2006	—	$	—	—	$	2,350
November 2006	5.3	$	23.41	5.3	$	2,225
December 2006⁽¹⁾	17.7	$	25.82	17.7	$	1,768

Total	29.7	$	24.63	29.7	$	1,768

⁽¹⁾

The Company took delivery of 17.7 million shares in December 2006 under one of the prepaid forward agreements, which subsequently closed in January 2007 upon delivery of an additional 13.3 million shares. The average price paid per share was calculated based on the average price paid for the total 31 million shares delivered under this prepaid forward agreement.

10. Litigation

See Part II, Item 1, “Legal Proceedings.”

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

11. Recently Adopted Accounting Pronouncements

In February 2006, the FASB, issued SFAS No. 155, Accounting for Certain Hybrid Financial Instruments (“SFAS No. 155”), which amends SFAS No. 133 (“SFAS No. 133”), Accounting for Derivative Instruments and Hedging Activities, and SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (“SFAS No. 140”). SFAS No. 155 simplifies the accounting for certain derivatives embedded in other financial instruments by allowing them to be accounted for as a whole if the holder elects to account for the entire instrument on a fair value basis. SFAS No. 155 also clarifies and amends certain other provisions of SFAS No. 133 and SFAS No. 140. SFAS No. 155 is effective for all financial instruments acquired, issued, or subject to a remeasurement event occurring in fiscal years beginning after September 15, 2006. Earlier adoption is permitted, provided the company has not yet issued financial statements, including for interim periods, for that fiscal year. We do not expect the adoption of SFAS No. 155 to have a material impact on our consolidated financial position, results of operations, or cash flows.

In June 2006, the FASB issued FASB Interpretation No. (FIN) 48, Accounting for Uncertainty in Income Taxes — An Interpretation of FASB Statement No. 109 (“FIN 48”). This Interpretation clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109. This Interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This Interpretation is effective for fiscal years beginning after December 15, 2006 and will be adopted by the Company in the first quarter of fiscal year 2008. The Company is currently evaluating the effect that the adoption of FIN 48 will have on its consolidated results of operations and financial condition.

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (“SFAS No. 157”) which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. This Statement applies under other accounting pronouncements that require or permit fair value measurements, the Board having previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute. Accordingly, this Statement does not require any new fair value measurements. However, for some entities, the application of this Statement will change current practice. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company is currently evaluating the effect that the adoption of SFAS No. 157 will have on its consolidated results of operations and financial condition.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information

The Company has guaranteed HDD’s obligations under the 2009 Notes, the 2011 Notes and the 2016 Notes (the “Senior Notes”), on a full and unconditional basis, and prior to October 25, 2006 when the Company’s 8% Notes were redeemed, the Company had guaranteed HDD’s obligations under the 8% Notes. The following tables present parent guarantor, subsidiary issuer and combined non-guarantors condensed consolidating balance sheets of the Company and its subsidiaries at December 29, 2006 and June 30, 2006 and the condensed consolidating results of operations and consolidating cash flows for the three and six months ended December 29, 2006 and December 30, 2005. The information classifies the Company’s subsidiaries into Seagate Technology-parent company guarantor, HDD-subsidiary issuer, and the Combined Non-Guarantors based upon the classification of those subsidiaries. Under each of these instruments, dividends paid by HDD or its restricted subsidiaries would constitute restricted payments and loans between the Company and HDD or its restricted subsidiaries would constitute affiliate transactions.

From the date of acquisition (May 19, 2006) through June 30, 2006, Maxtor was a wholly-owned direct subsidiary of Seagate Technology. The accompanying condensed consolidating balance sheet as of June 30, 2006 reflects the corporate legal structure of Seagate Technology, HDD, and the Combined Non-Guarantors, as they existed at that time. On July 3, 2006, through a corporate organizational change and realignment, Maxtor became a wholly-owned indirect subsidiary of HDD and of Seagate Technology. As a result, beginning July 3, 2006, the investment in Maxtor is accounted for on an equity method basis in the financial information of HDD.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Balance Sheet

December 29, 2006

(In millions)


	Seagate Technology Parent Company Guarantor		HDD Subsidiary Issuer		Combined Non- Guarantors		Eliminations			Seagate Technology Consolidated
Cash and cash equivalents	$	40	$	271	$	785	$	—		$	1,096
Short-term investments		—		—		464		—			464
Accounts receivable, net		—		—		1,251		—			1,251
Intercompany receivable		—		22		—		(22	)		—
Inventories		—		—		771		—			771
Other current assets		—		—		410		—			410

Total Current Assets		40		293		3,681		(22	)		3,992

Property, equipment and leasehold improvements, net		—		—		2,240		—			2,240
Goodwill		—		—		2,317		—			2,317
Other intangible assets		—		—		231		—			231
Other assets, net		—		19		479		—			498
Equity investment in HDD		5,596		—		—		(5,596	)		—
Equity investments in Non-Guarantors		—		5,565		—		(5,565	)		—
Intercompany note receivable		—		1,243		503		(1,746	)		—

Total Assets	$	5,636	$	7,120	$	9,451	$	(12,929	)	$	9,278

Accounts payable	$	—	$	—	$	1,425	$	—		$	1,425
Intercompany payable		4		—		18		(22	)		—
Accrued employee compensation		—		—		188		—			188
Accrued expenses		—		28		768		—			796
Accrued income taxes		—		—		76		—			76
Current portion of long-term debt		—		—		330		—			330

Total Current Liabilities		4		28		2,805		(22	)		2,815

Other liabilities		12		—		336		—			348
Intercompany note payable		1,243		—		503		(1,746	)		—
Long-term debt, less current portion		—		1,496		242		—			1,738

Total Liabilities		1,259		1,524		3,886		(1,768	)		4,901

Shareholders’ Equity		4,377		5,596		5,565		(11,161	)		4,377

Total Liabilities and Shareholders’ Equity	$	5,636	$	7,120	$	9,451	$	(12,929	)	$	9,278

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Balance Sheet

June 30, 2006

(In millions)


	Seagate Technology Parent Company Guarantor		HDD Subsidiary Issuer		Combined Non- Guarantors		Eliminations			Seagate Technology Consolidated
Cash and cash equivalents	$	—	$	1	$	909	$	—		$	910
Short-term investments		—		—		823		—			823
Accounts receivable, net		—		—		1,445		—			1,445
Intercompany receivable		2		—		10		(12	)		—
Intercompany loan receivable		—		464		4		(468	)		—
Inventories		—		—		891		—			891
Other current assets		—		—		264		—			264

Total Current Assets		2		465		4,346		(480	)		4,333

Property, equipment and leasehold improvements, net		—		—		2,106		—			2,106
Other intangible assets		—		—		307		—			307
Other assets, net		—		4		395		(76	)		323
Goodwill		—		—		2,475		—			2,475
Equity investment in HDD		3,331		—		—		(3,331	)		—
Equity investments in Non-Guarantors		2,023		4,101		—		(6,124	)		—
Intercompany note receivable		—		—		835		(835	)		—

Total Assets	$	5,356	$	4,570	$	10,464	$	(10,846	)	$	9,544

Accounts payable	$	—	$	—	$	1,692	$	—		$	1,692
Intercompany payable		3		—		8		(11	)		—
Accrued employee compensation		—		—		385		—			385
Accrued expenses		1		4		853		—			858
Accrued income taxes		—		—		72		—			72
Intercompany loan payable		140		—		329		(469	)		—
Current portion of long-term debt		—		—		330		—			330

Total Current Liabilities		144		4		3,669		(480	)		3,337

Other liabilities		—		—		355		—			355
Intercompany note payable		—		835		76		(911	)		—
Long-term debt, less current portion		—		400		240		—			640

Total Liabilities		144		1,239		4,340		(1,391	)		4,332

Shareholders’ Equity		5,212		3,331		6,124		(9,455	)		5,212

Total Liabilities and Shareholders’ Equity	$	5,356	$	4,570	$	10,464	$	(10,846	)	$	9,544

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Operations

Three Months Ended December 29, 2006

(In millions)


	Seagate Technology Parent Company Guarantor			HDD Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Revenue	$	—		$	—		$	3,268		$	(272	)	$	2,996

Cost of revenue		—			—			2,722			(272	)		2,450
Product development		—			—			226			—			226
Marketing and administrative		1			—			140			—			141
Amortization of intangibles		—			—			12			—			12
Restructuring, net		—			—			1			—			1

Total operating expenses		1			—			3,101			(272	)		2,830

(Loss) income from operations		(1	)		—			167			—			166

Interest income		1			9			16			(1	)		25
Interest expense		—			(47	)		(9	)		1			(55	)
Equity in income of HDD		140			—			—			(140	)		—
Equity in income (loss) of Non-Guarantors		—			178			—			(178	)		—
Other, net		—			—			9			—			9

Other income (expense), net		141			140			16			(318	)		(21	)

Income before income taxes		140			140			183			(318	)		145
Provision for (benefit from) income taxes		—			—			5			—			5

Net income	$	140		$	140		$	178		$	(318	)	$	140

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Operations

Six Months Ended December 29, 2006

(In millions)


	Seagate Technology Parent Company Guarantor			HDD Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Revenue	$	—		$	—		$	6,651		$	(863	)	$	5,788

Cost of revenue		—			—			5,663			(863	)		4,800
Product development		—			—			470			—			470
Marketing and administrative		2			—			318			—			320
Amortization of intangibles		—			—			23			—			23
Restructuring, net		—			—			(3	)		—			(3	)

Total operating expenses		2			—			6,471			(863	)		5,610

(Loss) income from operations		(2	)		—			180			—			178

Interest income		1			17			50			(24	)		44
Interest expense		(2	)		(72	)		(24	)		24			(74	)
Equity in income of HDD		162			—			—			(162	)		—
Equity in income (loss) of Non-Guarantors		—			217			—			(217	)		—
Other, net		—			—			11			—			11

Other income (expense), net		161			162			37			(379	)		(19	)

Income before income taxes		159			162			217			(379	)		159
Provision for (benefit from) income taxes		—			—			—			—			—

Net income	$	159		$	162		$	217		$	(379	)	$	159

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Cash Flows

Six Months Ended December 29, 2006

(In millions)


	Seagate Technology Parent Company Guarantor			HDD Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Operating Activities
Net Income	$	159		$	162		$	217		$	(379	)	$	159
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization		—			—			414			—			414
Stock-based compensation		—			—			69			—			69
Allowance for doubtful accounts receivable		—			—			42			—			42
Redemption of 8% Senior Notes		—			19			—			—			19
Equity in (income) of HDD		(162	)		—			—			162			—
Equity in (income) of Non-Guarantors		—			(217	)		—			217			—
Other non-cash operating activities, net		—			(1	)		2			—			1
Changes in operating assets and liabilities, net		15			(1	)		(417	)		—			(403	)

Net cash provided by (used in) operating activities		12			(38	)		327			—			301

Investing Activities
Acquisition of property, equipment and leasehold improvements		—			—			(466	)		—			(466	)
Proceeds from sales of fixed assets		—			—			28			—			28
Purchase of short-term investments		—			(85	)		(237	)		—			(322	)
Maturities and sales of short-term investments		—			85			602			—			687
Other investing activities, net		—			—			(29	)		—			(29	)

Net cash used in investing activities		—			—			(102	)		—			(102	)

Financing Activities
Net proceeds from issuance of long-term debt		—			1,477			—			—			1,477
Redemption of 8% Senior Notes		—			(400	)		—			—			(400	)
Redemption premium on 8% Senior Notes		—			(16	)		—			—			(16	)
Loan from HDD to Parent		1,103			(1,103	)		—			—			—
Loan repayment to HDD from Non-Guarantor		—			329			(329	)		—			—
Loan repayment to Non-Guarantor from HDD		—			(839	)		839			—			—
Distribution from Non-Guarantor to HDD		—			859			(859	)		—			—
Proceeds from exercise of employee stock options and employee stock purchase plan		104			—			—			—			104
Dividends to shareholders		(104	)		—			—			—			(104	)
Repurchases of common shares and payments made under prepaid forward agreements		(1,075	)		—			—			—			(1,075	)
Other financing activities, net		—			1			—			—			1

Net cash provided by (used in) financing activities		28			308			(349	)		—			(13	)

Increase (decrease) in cash and cash equivalents		40			270			(124	)		—			186
Cash and cash equivalents at the beginning of the period		—			1			909			—			910

Cash and cash equivalents at the end of the period	$	40		$	271		$	785		$	—		$	1,096

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Operations

Three Months Ended December 30, 2005

(In millions)


	Seagate Technology Parent Company Guarantor		HDD Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Revenue	$	—	$	—		$	2,300		$	—		$	2,300

Cost of revenue		—		—			1,709			—			1,709
Product development		—		—			199			—			199
Marketing and administrative		—		—			108			—			108
Restructuring		—		—						—

Total operating expenses		—		—			2,016			—			2,016

Income from operations		—		—			284			—			284

Interest income		—		1			15			(2	)		14
Interest expense		—		(12	)		(1	)		2			(11	)
Equity in income of HDD		287		—			—			(287	)		—
Equity in income of Non-Guarantors		—		298			—			(298	)		—
Other, net		—		—			4			—			4

Other income (expense), net		287		287			18			(585	)		7

Income before income taxes		287		287			302			(585	)		291
Provision for (benefit from) income taxes		—		—			4			—			4

Net income	$	287	$	287		$	298		$	(585	)	$	287

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Operations

Six Months Ended December 30, 2005

(In millions)


	Seagate Technology Parent Company Guarantor		HDD Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Revenue	$	—	$	—		$	4,388		$	—		$	4,388

Cost of revenue		—		—			3,262			—			3,262
Product development		—		—			378			—			378
Marketing and administrative		—		—			195			—			195
Restructuring		—		—			4			—			4

Total operating expenses		—		—			3,839			—			3,839

Income from operations		—		—			549			—			549

Interest income		—		3			30			(4	)		29
Interest expense		—		(23	)		(5	)		4			(24	)
Equity in income of HDD		559		—			—			(559	)		—
Equity in income of Non-Guarantors		—		579			—			(579	)		—
Other, net		—		—			9			—			9

Other income (expense), net		559		559			34			(1,138	)		14

Income before income taxes		559		559			583			(1,138	)		563
Provision for (benefit from) income taxes		—		—			4			—			4

Net income	$	559	$	559		$	579		$	(1,138	)	$	559

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Cash Flows

Six Months Ended December 30, 2005

(In millions)


	Seagate Technology Parent Company Guarantor			HDD Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Operating Activities
Net Income	$	559		$	559		$	579		$	(1,138	)	$	559
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization		—			—			286			—			286
Stock-based compensation		—			—			36			—			36
Excess tax benefit from exercise of stock options		—			—			(14	)		—			(14	)
Equity in (income) of HDD		(559	)		—			—			559			—
Equity in (income) of Non-Guarantors		—			(579	)		—			579			—
Other non-cash operating activities, net		—			2			2			—			4
Changes in operating assets and liabilities, net		1			(2	)		(102	)		—			(103	)

Net cash provided by (used in) operating activities		1			(20	)		787			—			768

Investing Activities
Acquisition of property, equipment and leasehold Improvements		—			—			(353	)		—			(353	)
Purchase of short-term investments		—			—			(1,911	)		—			(1,911	)
Maturities and sales of short-term investments		—			—			2,015			—			2,015
Acquisitions, net of cash and cash equivalents acquired		—			—			(28	)		—			(28	)
Other investing activities, net		—			—			(105	)		—			(105	)

Net cash used in investing activities		—			—			(382	)		—			(382	)

Financing Activities
Proceeds from exercise of employee stock options and employee stock purchase plan		38			—			—			—			38
Repayment of long-term debt		—			(243	)		(97	)		—			(340	)
Loan to Non-Guarantor from HDD		—			(2	)		2			—			—
Loan repayment to HDD from Non-Guarantor		—			226			(226	)		—			—
Loan to HDD from Non-Guarantor		—			109			(109	)		—			—
Dividend paid to Parent from HDD		42			(42	)		—			—			—
Dividend paid to shareholders		(76	)		—			—			—			(76	)
Excess tax benefit from exercise of stock options		—			—			14			—			14

Net cash provided by (used in) financing activities		4			48			(416	)		—			(364	)

Increase (decrease) in cash and cash equivalents		5			28			(11	)		—			22

Cash and cash equivalents at the beginning of the period		9			—			737			—			746

Cash and cash equivalents at the end of the period	$	14		$	28		$	726		$	—		$	768

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

On May 19, 2006, in connection with the acquisition of Maxtor, the Company, Maxtor and the trustee under the indenture for the 2.375% Notes and 6.8% Notes entered into a supplemental indenture pursuant to which the notes became convertible into the Company’s common shares. In addition, the Company agreed to fully and unconditionally guarantee the 2.375% Notes and 6.8% Notes on a senior unsecured basis. The Company’s obligations under its guarantee rank in right of payment with all of its existing and future senior unsecured indebtedness. The indenture does not contain any financial covenants and does not restrict Maxtor from paying dividends, incurring additional indebtedness or issuing or repurchasing its other securities (see Note 5). The following tables present parent guarantor, subsidiary issuer and combined non-guarantors condensed consolidating balance sheets of the Company and its subsidiaries at December 29, 2006 and June 30, 2006, and the condensed consolidating results of operations and cash flows for the three and six months ended December 29, 2006. The information classifies the Company’s subsidiaries into Seagate Technology-parent company guarantor, Maxtor-subsidiary issuer and the Combined Non-Guarantors based on the classification of those subsidiaries under the terms of the 2.375% Notes and 6.8% Notes.

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Balance Sheet

December 29, 2006

(In millions)


	Seagate Technology Parent Company Guarantor		Maxtor Subsidiary Issuer			Combined Non- Guarantors		Eliminations			Seagate Technology Consolidated
Cash and cash equivalents	$	40	$	(3	)	$	1,059	$	—		$	1,096
Short-term investments		—		—			464		—			464
Accounts receivable, net		—		22			1,229		—			1,251
Intercompany receivable		—		—			136		(136	)		—
Inventories		—		35			736		—			771
Other current assets		—		78			332		—			410

Total Current Assets		40		132			3,956		(136	)		3,992

Property, equipment and leasehold improvements, net		—		57			2,183		—			2,240
Goodwill		—		806			1,511		—			2,317
Other intangible assets		—		71			160		—			231
Other assets, net		—		164			334		—			498
Equity investment in Maxtor		—		—			1,693		(1,693	)		—
Equity investments in Non-Guarantors		5,596		1,838			3,872		(11,306	)		—
Intercompany note receivable		—		—			1,746		(1,746	)		—

Total Assets	$	5,636	$	3,068		$	15,455	$	(14,881	)	$	9,278

Accounts payable	$	—	$	2		$	1,423	$	—		$	1,425
Intercompany payable		4		132			—		(136	)		—
Accrued employee compensation		—		5			183		—			188
Accrued expenses		—		122			674		—			796
Accrued income taxes		—		15			61		—			76
Current portion of long-term debt		—		330			—		—			330

Total Current Liabilities		4		606			2,341		(136	)		2,815

Other liabilities		12		85			251		—			348
Intercompany note payable		1,243		503			—		(1,746	)		—
Long-term debt, less current portion		—		181			1,557		—			1,738

Total Liabilities		1,259		1,375			4,149		(1,882	)		4,901

Shareholders’ Equity		4,377		1,693			11,306		(12,999	)		4,377

Total Liabilities and Shareholders’ Equity	$	5,636	$	3,068		$	15,455	$	(14,881	)	$	9,278

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Balance Sheet

June 30, 2006

(In millions)


	Seagate Technology Parent Company Guarantor		Maxtor Subsidiary Issuer		Combined Non- Guarantors		Eliminations			Seagate Technology Consolidated
Cash and cash equivalents	$	—	$	29	$	881	$	—		$	910
Short-term investments		—		—		823		—			823
Accounts receivable, net		—		72		1,373		—			1,445
Intercompany receivable		2		—		116		(118	)		—
Intercompany loan receivable		—		—		468		(468	)		—
Inventories		—		91		800		—			891
Other current assets		—		59		205		—			264

Total Current Assets		2		251		4,666		(586	)		4,333

Property, equipment and leasehold improvements, net		—		63		2,043		—			2,106
Other intangible assets		—		95		212		—			307
Other assets, net		—		30		369		(76	)		323
Goodwill		—		873		1,602		—			2,475
Equity investment in Maxtor		2,023		—		—		(2,023	)		—
Equity investments in Non-Guarantors		3,331		2,101		4,101		(9,533	)		—
Intercompany note receivable		—		—		835		(835	)		—

Total Assets	$	5,356	$	3,413	$	13,828	$	(13,053	)	$	9,544

Accounts payable	$	—	$	65	$	1,627	$	—		$	1,692
Intercompany payable		3		114		—		(117	)		—
Accrued employee compensation		—		58		327		—			385
Accrued expenses		1		137		720		—			858
Accrued income taxes		—		15		57		—			72
Intercompany loan payable		140		324		5		(469	)		—
Current portion of long-term debt		—		330		—		—			330

Total Current Liabilities		144		1,043		2,736		(586	)		3,337

Other liabilities		—		91		264		—			355
Intercompany note payable		—		76		835		(911	)		—
Long-term debt, less current portion		—		180		460		—			640

Total Liabilities		144		1,390		4,295		(1,497	)		4,332

Shareholders’ Equity		5,212		2,023		9,533		(11,556	)		5,212

Total Liabilities and Shareholders’ Equity	$	5,356	$	3,413	$	13,828	$	(13,053	)	$	9,544

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Operations

Three Months Ended December 29, 2006

(In millions)


	Seagate Technology Parent Company Guarantor			Maxtor Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Revenue	$	—		$	121		$	3,147		$	(272	)	$	2,996

Cost of revenue		—			147			2,575			(272	)		2,450
Product development		—			(10	)		236			—			226
Marketing and administrative		1			(4	)		144			—			141
Amortization of intangibles		—			4			8			—			12
Restructuring, net		—			—			1			—			1

Total operating expenses		1			137			2,964			(272	)		2,830

(Loss) income from operations		(1	)		(16	)		183			—			166
Interest income		1			1			24			(1	)		25
Interest expense		—			(15	)		(41	)		1			(55	)
Equity in loss of Maxtor		—			—			(133	)		133			—
Equity in income (loss) of Non-Guarantors		140			(96	)		311			(355	)		—
Other, net		—			(7	)		16			—			9

Other income (expense), net		141			(117	)		177			(222	)		(21	)

Income (loss) before income taxes		140			(133	)		360			(222	)		145
Provision for (benefit from) income taxes		—			—			5			—			5

Net income (loss)	$	140		$	(133	)	$	355		$	(222	)	$	140

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Operations

Six Months Ended December 29, 2006

(In millions)


	Seagate Technology Parent Company Guarantor			Maxtor Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Revenue	$	—		$	261		$	6,390		$	(863	)	$	5,788

Cost of revenue		—			350			5,313			(863	)		4,800
Product development		—			8			462			—			470
Marketing and administrative		2			22			296			—			320
Amortization of intangibles		—			7			16			—			23
Restructuring, net		—			—			(3	)		—			(3	)

Total operating expenses		2			387			6,084			(863	)		5,610

(Loss) income from operations		(2	)		(126	)		306			—			178
Interest income		1			1			66			(24	)		44
Interest expense		(2	)		(32	)		(64	)		24			(74	)
Equity in loss of Maxtor		—			—			(350	)		350			—
Equity in income (loss) of Non-Guarantors		162			(193	)		567			(536	)		—
Other, net		—			—			11			—			11

Other income (expense), net		161			(224	)		230			(186	)		(19	)

Income (loss) before income taxes		159			(350	)		536			(186	)		159
Provision for (benefit from) income taxes		—			—			—			—			—

Net income (loss)	$	159		$	(350	)	$	536		$	(186	)	$	159

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

12. Condensed Consolidating Financial Information (continued)

Consolidating Statement of Cash Flows

Six Months Ended December 29, 2006

(In millions)


	Seagate Technology Parent Company Guarantor			Maxtor Subsidiary Issuer			Combined Non- Guarantors			Eliminations			Seagate Technology Consolidated
Operating Activities
Net Income (Loss)	$	159		$	(350	)	$	536		$	(186	)	$	159

Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Depreciation and amortization		—			27			387			—			414
Stock-based compensation		—			19			50			—			69
Allowance for doubtful accounts receivable		—						42			—			42
Redemption of 8% Senior Notes		—						19			—			19
Equity in (income) loss of Maxtor		—			—			157			(157	)		—
Equity in (income) loss of Non-Guarantors		(162	)		193			(374	)		343			—
Other non-cash operating activities, net		—			—			1			—			1
Changes in operating assets and liabilities, net		15			(21	)		(397	)		—			(403	)

Net cash provided by (used in) operating activities		12			(132	)		421			—			301

Investing Activities
Acquisition of property, equipment and leasehold Improvements		—			(3	)		(463	)		—			(466	)
Proceeds from sales of fixed assets		—			—			28			—			28
Purchase of short-term investments		—			—			(322	)		—			(322	)
Maturities and sales of short-term investments		—			—			687			—			687
Other investing activities, net		—			—			(29	)		—			(29	)

Net cash used in investing activities		—			(3	)		(99	)		—			(102	)

Financing Activities
Net proceeds form issuance of long-term debt		—			—			1,477			—			1,477
Redemption of 8% Senior Notes		—			—			(400	)		—			(400	)
Redemption premium on 8% Senior Notes		—			—			(16	)		—			(16	)
Loan from Non-Guarantor to Parent		1,103			—			(1,103	)		—			—
Loan from Non-Guarantor to Maxtor		—			427			(427	)		—			—
Loan repayment to Non-Guarantor from Maxtor		—			(324	)		324			—			—
Distribution from Non-Guarantor to HDD		—			—			(859	)		859			—
Distribution to HDD from Non-Guarantor		—			—			859			(859	)		—
Proceeds from exercise of employee stock options and employee stock purchase plan		104			—			—			—			104
Dividends to shareholders		(104	)		—			—			—			(104	)
Repurchases of common shares and payments made under prepaid forward agreements		(1,075	)		—			—			—			(1,075	)
Other financing activities, net		—			—			1			—			1

Net cash provided by (used in) financing activities		28			103			(144	)		—			(13	)

Increase (decrease) in cash and cash equivalents		40			(32	)		178			—			186

Cash and cash equivalents at the beginning of the period		—			29			881			—			910

Cash and cash equivalents at the end of the period	$	40		$	(3	)	$	1,059		$	—		$	1,096

SEAGATE TECHNOLOGY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Unaudited)

13. Subsequent Events

On January 26, 2007, the Company completed its acquisition of Evault, Inc., a privately held leading provider of online backup services in an all cash transaction valued at approximately $185 million.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following is a discussion of the financial condition and results of operations for our fiscal quarter ended December 29, 2006. Unless the context indicates otherwise, as used herein, the terms “we,” “us,” “Seagate” and “our” refer to Seagate Technology, an exempted company incorporated with limited liability under the laws of the Cayman Islands, and its subsidiaries.

You should read this discussion in conjunction with the financial information and related notes included elsewhere in this quarterly report. Except as noted, reference to any fiscal year means the twelve-month period ending on the Friday closest to June 30 of that year.

Our Company

We are the leader in the design, manufacture and marketing of rigid disc drives. Rigid disc drives, which are commonly referred to as disc drives or hard drives, are used as the primary medium for storing electronic information in systems ranging from desktop and notebook computers, and consumer electronics devices to data centers delivering information over corporate networks and the Internet. We produce a broad range of disc drive products addressing enterprise applications, where our products are used in enterprise servers, mainframes and workstations; desktop applications, where our products are used in desktop computers; mobile computing applications, where our products are used in notebook computers; and consumer electronics applications, where our products are used in a wide variety of devices such as digital video recorders (DVR), digital music players and gaming devices.

We sell our disc drives primarily to major original equipment manufacturers, or OEMs, and also market to distributors under our globally recognized brand names. For the fiscal quarters ended December 29, 2006, September 29, 2006 and December 30, 2005, approximately 63%, 64% and 71%, respectively, of our disc drive revenue was from sales to OEMs, of which Hewlett-Packard was the only customer exceeding 10% of our disc drive revenue in these respective periods. We have longstanding relationships with many of our OEM customers. We also have key relationships with major distributors, who sell our disc drive products to small OEMs, dealers, system integrators and retailers throughout most of the world. Shipments to distributors were approximately 31%, 32% and 26% of our disc drive revenue in the December 2006, September 2006 and December 2005 quarters, respectively. Retail sales in the December 2006 quarter, as a percentage of our disc drive revenue was 6%, compared to 4% and 3% in the September 2006 and December 2005 quarters, respectively. For the December 2006, September 2006 and December 2005 quarters, approximately 29%, 32% and 29%, respectively, of our disc drive revenue came from customers located in North America, approximately 30%, 23% and 30%, respectively, came from customers located in Europe and approximately 41%, 45% and 41%, respectively, came from customers located in the Far East. Substantially all of our revenue is denominated in U.S. dollars.

On May 19, 2006, we acquired Maxtor Corporation (“Maxtor”) in a stock-for-stock transaction. We expect the acquisition of Maxtor to build on our foundation as the leading global hard disc drive company, leveraging the strength of our significant operating scale to drive product innovation and maximize operational efficiencies. We believe the combined company is well-positioned to accelerate delivery of a diverse set of compelling and cost-effective solutions to the growing customer base for data storage products.

The acquisition provides us with enhanced scale, greater capacity and an increased customer base which we expect will allow us to eventually achieve significant cost synergies from leveraging our research and development platform, reducing product and supply chain costs, as well as scaling our sales, marketing and administrative infrastructure. We also acquired a final assembly and test manufacturing facility in Suzhou, China, significantly increasing our China-based manufacturing presence, as well as the retail and branded sales operations of Maxtor and the right to use the Maxtor brand and other related trade names. The acquisition has also provided us access to talented personnel in the branded solution, product development, and other key functional areas.

Overview

Industry Overview. Our industry is characterized by several trends that have a material impact on our strategic planning, financial condition and results of operations.

First, we believe that the industry is continuing to experience several growth trends relative to overall demand, including:

•

broad, global expansion of the creation, aggregation, distribution and consumption of all types of digital content driven by a continued proliferation of applications in the consumer electronics market that either directly utilize disc drives for media-rich digital content in applications such as video storage, music and photographic applications or indirectly drive the demand for additional storage to store, host or back up related media content. We estimate that in the December 2006 quarter, industry shipments of disc drives to consumer electronics applications grew approximately 21% from the December 2005 quarter. We believe technological advances have supported this trend in storage capacity per square inch, cost per gigabyte, power and ruggedness. The combination of these technological advances has enabled entirely new and emerging applications. These emerging applications include digital video cameras, personal digital assistants, automotive systems, global positioning navigation systems, home entertainment systems, cell phones, personal media players, and other converged hand-held devices. With respect to some of these emerging applications, disc drive products smaller than our 1.8-inch form factor disc drives compete with other technologies, such as flash. We believe that disc drives are well suited in applications requiring higher capacity. There continues to be new opportunities for disc drives in existing and new applications; and

•

a continued growth in consumer and commercial client computing systems including enterprise storage applications, with the most significant industry growth taking place in the mobile computing market. We believe that this growth in the mobile computing market is a result of consumers shifting from desktop computers to notebook computers, a trend that we believe may be accelerating. We estimate that in the December 2006 quarter, industry shipments of disc drives to mobile compute applications grew approximately 32% from the December 2005 quarter and 11% from the September 2006 quarter. We believe that the factors contributing to industry growth in enterprise storage applications included non-mission critical applications across multiple interfaces as well as the adoption of 2.5-inch small form factor drives for enterprise class applications as a result of enterprise customers demand for lower power consuming, heat reducing and smaller form factor solutions that maintain enterprise-class performance.

We believe that for some of the fastest growing applications described above, the demand is focused on higher capacity disc drive products.

Second, our industry has been characterized by continuous price erosion. Such price erosion is more pronounced during periods of:

•

industry consolidation in which competitors aggressively use discounted price to gain market share;

•

few new product introductions when multiple competitors have comparable product offerings; and

•

temporary imbalances between industry supply and demand.

In particular in the June 2006 quarter, the industry experienced pronounced price erosion where market share gains became the primary focus of a number of our competitors. This aggressive pricing environment continued and accelerated towards the end of the September 2006 quarter, particularly in the low end OEM desktop and notebook markets. The desktop market experienced a less aggressive pricing environment for much of the December 2006 quarter, while the mobile market continued to be very competitive with higher than expected price declines.

Third, while the industry has been recently constrained by the availability of media supply, we believe there is now adequate media capacity in place to meet industry demand. This easing of the recent strains on industry key component capacity may be increasing the potential for excess industry supply and accelerated price erosion. This dynamic may also increase the rate of industry cost reductions.

Fourth, our industry has been characterized by significant advances in technology, which have contributed to rapid product life cycles, the importance of being first to market with new products and the difficulty in recovering research and development expenses. Also, there is a continued need to successfully execute product transitions and new product introductions, as factors such as quality, reliability and manufacturing yields become of increasing competitive importance.

To address the growing demand for higher capacity products, the industry is undergoing a transition to perpendicular recording technology, which is necessary to achieve continued growth in areal density. Perpendicular recording technology poses various technological challenges, including a complex integration of the recording head, the disc, recording channel, drive software and firmware as a system, and involves the use of certain precious metals, such as ruthenium and platinum, which are in limited supply and increasingly expensive. At this time it is unclear what impact this transition to perpendicular recording technology will have on the industry.

Finally, to the extent that our industry builds product based on expectations of demand that do not materialize, the distribution channel may experience an oversupply of products that could lead to increased price erosion. The industry, excluding Seagate, exited the December 2006 quarter with what we believe to be less than five weeks of distribution inventory in the desktop channel.

Seagate Overview. We are the leader in the disc drive industry with products that address the consumer electronics, mobile computing, enterprise and desktop storage markets. We maintain a highly integrated approach to our business by designing and manufacturing a significant portion of the components we view as critical to our products, such as read/write heads and recording media. We believe that our control of these key technologies, combined with our platform design and manufacturing, enable us to achieve product performance, time-to-market leadership and manufacturing flexibility, which allows us to respond to customers and market opportunities. Our technology ownership, combined with our integrated design and manufacturing approach, have allowed us to effectively leverage our leadership in traditional computing markets into new, higher-growth markets with only incremental product development and manufacturing costs.

Our fiscal quarter ended June 30, 2006 included Maxtor’s operating losses from May 19, 2006 through June 30, 2006 as well as purchase accounting and integration related charges, while the September and December 2006 quarters included Maxtor’s operating losses and purchase accounting and integration related charges for the entire quarter. We have substantially completed the restructuring and integration activities which are expected to result in approximately $500 million of cash expenditures, of which approximately $310 million has been paid through the end of the December 2006 quarter.

In addition to the anticipated cash expenditures, we have incurred and expect significant additional non-cash charges, including those associated with the amortization of intangible assets and stock-based compensation, which we currently estimate to total $385 million (approximately $177 million of which is expected to be incurred in fiscal year 2007).

We have substantially completed the Maxtor customer and product transition, replacing Maxtor designed disc drive products with Seagate designed disc drive products. These product transitions, which have allowed us to rationalize our capacity and further lower our cost structure, were completed in mid-December with the final manufacture of Maxtor designed products. By completing the transition of Maxtor customers to Seagate designed products during the December 2006 quarter, we achieved our goals of retaining a substantial portion of the market share held by Maxtor prior to its acquisition by us. The completion of this transition is a key factor in our expected improvement in gross margins and profitability beginning in the March 2007 quarter.

In addition, work force reductions are substantially complete. As of the end of the December 2006 quarter, there were approximately 200,000 units of Maxtor designed products in finished goods, which we expect will be consumed in the March 2007 quarter.

During the September 2006 quarter, we launched a dual-brand strategy in the retail and distribution channels and in January 2007, we unveiled our new dual-brand positioning in the retail channel. Our dual-brand strategy seeks to leverage the value of the Maxtor brand to consumers globally and to broaden our reach into and coverage of these channels, as well as optimize the impact of our marketing investments.

We expect the traditionally slower second half of fiscal year 2007 will reflect the positive impact of our improved profitability, cost structure and gross margins through:

•

continued improvement of manufacturing utilization rates from completion of the Maxtor product transition and substantial completion of the integration activities;

•

successful customer qualifications and increased shipments of new, lower cost products across various markets to optimize product mix and product refreshes; and

•

additional market access with our new 1.8-inch drive, which is currently in qualification at major OEM’s.

Revenue in the December 2006 quarter of approximately $3.0 billion was driven by the continued growth in digital content and the resulting increase in demand for storage; customer acceptance of our new products by a growing set of customers; growth in the mobile and consumer electronics markets and seasonal demand increases in the desktop and branded solutions markets; a better than expected pricing environment for desktop products during the December 2006 quarter.

•

Consumer – In the December 2006 quarter, we shipped a total of 7.1 million disc drives in the consumer electronics (CE) market, an increase of 9% from the immediately preceding quarter and an increase of 101% from the year-ago quarter. Growth was driven largely by continued increases in the DVR applications market, a strong gaming market and increases in our share of these markets, in part through retention of Maxtor market share, as compared to the year-ago quarter. Shipments of Maxtor designed CE products during the December 2006 quarter were 0.9 million units.

•

Mobile – In the December 2006 quarter, we believe the overall mobile compute market grew 32% from the year-ago quarter, driving Seagate shipments of 4.4 million units, an increase of 5% from the immediately preceding quarter and 52% from the year-ago quarter. We believe our share of the mobile compute market during the December 2006 quarter increased compared to the year-ago quarter.

•

Enterprise – Seagate maintained its leadership position in the enterprise market, shipping 4.1 million units during the December 2006 quarter, flat as compared to the immediately preceding quarter and an increase of 17% over the year-ago quarter. Increases in unit shipments was driven by positive trends in both the adoption of small form factor products as well as high-capacity products for Internet infrastructure applications, as well as the impact of the shipment of 0.5 million units of Maxtor designed enterprise products during the December 2006 quarter.

•

Desktop – In the December 2006 quarter, we maintained our market leadership position with shipments of 25.7 million units, an increase of 6% from the immediately preceding quarter and an increase of 36% from the year-ago quarter. Shipments of Maxtor designed desktop products during the December 2006 quarter were 1.2 million units. During the December 2006 quarter, we experienced a better than expected pricing environment for desktop products as compared to the September 2006 quarter. In the global distribution channel, demand for desktop products remained strong for both Seagate and Maxtor brands and we exited the December 2006 quarter with distribution channel inventory for desktop products at less than 5 weeks.

In the December 2006 quarter, we terminated our distributor relationships with eSys Technologies Pte. Ltd. and its related affiliate entities (“eSys”) and we ceased shipments of our products to eSys. eSys was the largest distributor of Seagate products (including Maxtor products) for the fiscal year ended June 30, 2006 and for the September 2006 quarter, representing approximately 5% and 6% of our revenues for those respective periods.

In early October 2006, we initiated an audit of eSys’ point of sale records pursuant to our contractual rights to confirm the accuracy and completeness of eSys’ claims for program credits under our distributor sales incentive programs. Discussions with eSys surrounding the timing, scope of work, and selection of third party auditors continued until early November, when eSys officials informed us they would deny our third party auditors access to eSys’ records to perform the requested audit notwithstanding our contractual rights to do so. eSys officials also indicated to us that an audit would likely reveal irregularities in eSys’ compliance with the terms of our incentive programs and other unspecified irregularities. In addition, eSys has failed to make full current payments on its obligations to us. Accordingly, on November 6, 2006, we notified eSys we were terminating our commercial distributor relationships with eSys.

Although eSys officials have indicated that eSys intends to pay all amounts owed to us, we recorded an additional $40 million of allowance for doubtful accounts in the September 2006 quarter, after consideration of existing allowances. We recorded this additional allowance due to the inherent uncertainties following the termination of the distribution relationships, eSys’ continued delinquency in payments and failure to pay amounts when promised, and eSys’ failure to comply with the terms of its commercial agreements with us. We are pursuing collection of all amounts owed by eSys as promptly as possible. Any amounts recovered on these receivables will be recorded in the period received.

While we have terminated our distributor relationships with eSys, we have and will continue to aggressively pursue our contractual audit rights as well as any claims that may be assertable against eSys as a result of material breaches of the distribution agreements and any intentionally wrongful conduct that may have occurred. Specifically, we have commenced legal proceedings against eSys and its CEO under a distribution agreement and a personal guarantee to recover all amounts owed to us for purchased products.

Historically, we have exhibited seasonally higher unit demand during the first half of each fiscal year. However, because of the dramatic rates of growth exhibited by the consumer electronics applications in the March and June 2005 quarters followed by a period of component constraints during the September and December 2005 quarters which impacted our production capacity, we did not experience either a traditional seasonal decrease in sales of our products in the third and fourth quarter of fiscal year 2005 or a comparative seasonal increase in sales of our products in the first half of fiscal year 2006. The lack of seasonality in calendar year 2005 was atypical in the disc drive industry as evidenced by the modest seasonal decline we experienced in the March 2006 quarter. We saw a return to traditional seasonality in the June and September 2006 quarters, particularly with respect to disc drives for desktop and mobile applications. For the March 2007 quarter, we expect to see our overall mobile and enterprise demand to be flat with the December 2006 quarter, we expect seasonal demand that is slightly down in the desktop market and we expect our consumer electronics demand to be flat to slightly down as seasonality in certain applications is expected to produce less demand.

We believe Seagate is leading the transition to perpendicular recording technology. We are currently shipping perpendicular technology based products for all four major markets, and during the December 2006 quarter, we shipped 10 million drives that used perpendicular recording technology compared to 3.7 million shipped in the September 2006 quarter. Our products based on perpendicular technology require increased quantities of precious metals like platinum and ruthenium. These precious metals and scarce alloys have recently become increasingly expensive and at times difficult to acquire. We believe we have adequate supply plans in place to support our expected perpendicular product ramp requirements and while the price of ruthenium in particular has increased recently, we are taking actions to mitigate the impact going forward. These actions include alternative designs, improvements in material utilization, and optimizing our supply chain.

For fiscal year 2007, we expect up to $1.15 billion in capital investment will be required to support our continued growth.

Results of Operations

The condensed consolidated results for the quarter and six months ended December 29, 2006 include Maxtor’s full period results. In accordance with U.S. generally accepted accounting principles, operating results for Maxtor prior to our acquisition, including for the quarter and six months ended December 30, 2005, are not included in our operating results and are therefore not discussed.

We list in the tables below the historical condensed consolidated statements of operations in dollars and as a percentage of revenue for the periods indicated.


	For the Three Months Ended						For the Six Months Ended
(dollars in millions)	December 29, 2006			December 30, 2005			December 29, 2006			December 30, 2005
Revenue	$	2,996		$	2,300		$	5,788		$	4,388
Cost of revenue		2,450			1,709			4,800			3,262

Gross margin		546			591			988			1,126

Product development		226			199			470			378
Marketing and administrative		141			108			320			195
Amortization of intangibles		12			—			23			—
Restructuring, net		1			—			(3	)		4

Income from operations		166			284			178			549
Other income, net		(21	)		7			(19	)		14

Income before income taxes		145			291			159			563
Provision for income taxes		5			4			—			4

Net income	$	140		$	287		$	159		$	559


	For the Three Months Ended						For the Six Months Ended
	December 29, 2006			December 30, 2005			December 29, 2006			December 30, 2005
Revenue		100	%		100	%		100	%		100	%
Cost of revenue		82			74			83			74

Gross margin		18			26			17			26

Product development		7			9			8			9