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The Company expects to experience decreases in its gross margin percentage in future periods, as compared to levels achieved during the first half of 2011, largely due to a higher mix of new and innovative products that have higher cost structures and deliver greater value to customers, and expected and potential future component cost and other cost increases.

The foregoing statements regarding the Company’s expected gross margin percentage are forward-looking and could differ from anticipated levels because of several factors including, but not limited to certain of those set forth below in Part II, Item 1A, “Risk Factors” under the subheading “Future operating results depend upon the Company’s ability to obtain key components including but not limited to microprocessors, NAND flash memory, DRAM and LCDs at favorable prices and in sufficient quantities,” which is incorporated herein by reference. In general, gross margins and margins on individual products will remain under downward pressure due to a variety of factors, including continued industry wide global product pricing pressures, increased competition, compressed product life cycles, product transitions and potential and expected increases in the cost of key components including but not limited to microprocessors, NAND flash memory, DRAM and LCDs, as well as potential increases in the costs of outside manufacturing services and a potential shift in the Company’s sales mix towards products with lower gross margins. In response to these competitive pressures, the Company expects it will continue to take product pricing actions, which would adversely affect gross margins. Gross margins could also be affected by the Company’s ability to manage product quality and warranty costs effectively and to stimulate demand for certain of its products. Due to the Company’s significant international operations, financial results can be significantly affected in the short-term by fluctuations in exchange rates.

Operating Expenses

Operating expenses for the three- and six-month periods ended March 26, 2011 and March 27, 2010, were as follows (in millions, except for percentages):

Research and development

Percentage of net sales Selling, general and administrative

Percentage of net sales

$

581

$

426

$

1,156

$

824

2%

3%

2%

3%

$

1,763

$

1,220

$

3,659

$

2,508

March 26, 2011

March 27, 2010

March 26, 2011

March 27, 2010

7%

9%

7%

9%

Three Months Ended

Six Months Ended

Research and Development Expense (“R&D”)

R&D expense increased $155 million or 36% to $581 million during second quarter of 2011 compared to the same period of 2010, and increased $332 million or 40% to $1.2 billion during the first six months of 2011 compared to the same period in 2010. These increases were due primarily to an increase in headcount and related expenses to support expanded R&D activities.

Although total R&D expense increased 36% and 40% during the second quarter and first six months of 2011, compared to the same periods in 2010, respectively, it declined as a percentage of net sales, due to the 83% and 76% year-over-year growth in the Company’s net sales during the second quarter and first six months of 2011, respectively. The Company continues to believe that focused investments in R&D are critical to its future growth and competitive position in the marketplace and are directly related to timely development of new and enhanced products that are central to the Company’s core business strategy. As such, the Company expects to make further investments in R&D to remain competitive.

Selling, General and Administrative Expense (“SG&A”)

SG&A expense increased $543 million or 45% to $1.8 billion during second quarter of 2011 compared to the same period of 2010, and increased $1.2 billion or 46% to $3.7 billion during the first six months of 2011 compared to the same period in 2010. These increases were due primarily to the Company’s continued expansion of its Retail segment, higher spending on marketing and advertising programs, and increased variable costs associated with the overall growth of the Company’s net sales.

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