This Management's Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the unaudited condensed consolidated financial statements and notes thereto set forth in Item 1 of this report and the section entitled "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Company's Annual Report on Form 10-K for the year ended December 31, 2007.

When used in this Report, the words "expects," "anticipates," "intends," "estimates," "plans," "believes," and similar expressions are intended to identify forward-looking statements. These are statements that relate to future periods and include statements about the features, benefits and performance of our current and future products, services and technology, plans for future products and services and for enhancements of existing products and services, our expectations regarding future operating results, including backlog, revenues, sources of revenues and expenses, net losses, fluctuations in future operating results, our estimates regarding the adequacy of our capital resources, our capital requirements and our needs for additional financing, planned capital expenditures, use of our working capital, our critical accounting policies and estimates, our internal control over financial reporting, our patent applications and licensed technology, our efforts to protect intellectual property, expectations regarding dividends, our ability to attract customers, establish license agreements and obtain orders, the impact of economic and industry conditions on our customers, customer demand, our growth strategy, our marketing efforts, our business development efforts, future acquisitions or investments, our focus on larger orders with major customers, our employee matters, our competitive position, our foreign currency risk strategy, and the impact of recent accounting pronouncements. Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected. These risks and uncertainties include, but are not limited to, the possibility that orders could be modified, cancelled or not renewed, our ability to negotiate and obtain customer agreements and orders, lengthening sales cycles, the concentration of sales to large customers and our reliance on a limited number of customers for a substantial portion of revenues, dependence upon and trends in capital spending budgets in the semiconductor industry and fluctuations in general economic conditions, our ability to rapidly develop new technology and introduce new products, our ability to safeguard our intellectual property and the risks set forth below under Part II, Item 1A, "Risk Factors." These forward-looking statements speak only as of the date hereof. The Company expressly disclaims any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change in the Company's expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based.

In this report, all references to "LogicVision," "we," "us," "our" or the "Company" mean LogicVision, Inc. and its subsidiaries, except where it is made clear that the term means only the parent company.

LogicVision and the LogicVision logo are our registered trademarks. We may also refer to trademarks of other corporations and organizations in this document.

Critical Accounting Policies and Estimates

LogicVision's financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States ("GAAP"). Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. These estimates and assumptions are affected by management's application of accounting policies. Critical accounting policies for LogicVision include revenue recognition, allowance for doubtful accounts, valuation of investments, inventory, goodwill impairment, valuation of long-lived intangible assets, accounting for stock-based compensation, and accounting for income taxes, which are discussed in more detail under the caption "Critical Accounting Policies and Estimates" in the Company's Annual Report on Form 10-K for the year ended December 31, 2007.

Stock-based compensation expense recognized under SFAS 123(R) for the nine months ended September 30, 2008 and 2007 was $430,000 and $847,000, respectively, which consisted of stock-based compensation expense related to employee stock options and the employee stock purchase plan.

Stock-based compensation expense for the nine months ended September 30, 2008 includes compensation expense recognized as a result of the consummation of the Company's stock option exchange offer on March 8, 2007, in accordance with SFAS
123(R); compensation cost associated with the incremental fair value of these option awards was calculated at approximately $579,000 using the Black-Scholes valuation option pricing model. To this total was added the remaining unamortized fair value of any exchanged options originally granted of $21,000 to arrive at a total fair value of $600,000 to be amortized to expense over the vesting period of these newly exchanged options. Of this amount, $548,000 was recognized as compensation expense for the year ended December 31, 2007. The remaining amount was fully recognized as compensation expense for the quarter ended March 31, 2008.

Compensation expense for all share-based payment awards is recognized using the multiple-option approach. As stock-based compensation expense recognized in the consolidated statements of operations for the three and nine months ended September 30, 2008 and 2007 is based on awards ultimately expected to vest, it has been reduced for estimated forfeitures. SFAS 123(R) requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates.

The Company's determination of fair value of share-based payment awards on the date of grant using the Black-Scholes option-pricing model is affected by the Company's stock price as well as assumptions regarding a number of complex and subjective variables. These variables include, but are not limited to, the Company's expected stock price volatility over the term of the awards, and actual and projected employee stock option exercise behaviors. Expected volatilities are based on the historical volatility of the Company's common stock. The expected term of the options granted represents the period of time that options are expected to be outstanding, based on historical information. The Company uses historical data to estimate option exercise and employee terminations. The risk-free interest rate is based on the U.S. Treasury zero-coupon issues with remaining terms similar to the expected term of the Company's equity awards. The Company does not anticipate paying any cash dividends in the foreseeable future and therefore used an expected dividend yield of zero.

Results of Operations

Orders and backlog

We received new orders of $1.3 million in the third quarter of 2008, compared to $7.1 million in the second quarter of 2008, $10.5 million in the first quarter of 2008 and $5.0 million in the third quarter of 2007. These new orders are for periods ranging from one to three years. Receipt of new orders may fluctuate due to the lengthy sales cycles and our dependence on relatively few customers for large orders. One of the orders received in the second quarter of 2008 represented over 40% of the total of the new orders received in the second quarter. This order covered a period of one and one-half years and was a renewal from an existing customer. One of the orders received in the first quarter of 2008 represented over 75% of the total of the new orders received in the first quarter. This order covered a three-year period and was also from an existing customer.

Our one-year backlog (that portion of our total backlog which is expected to become recognized as revenue during the next four calendar quarters) was $10.4 million at September 30, 2008, compared with $10.5 million at June 30, 2008, $10.1 million at March 31, 2008 and $9.1 million at September 30, 2007. Backlog is comprised of deferred revenues (orders which have been billed but for which revenue has not yet been recognized) plus orders which have been accepted but have not yet been billed and for which no revenue has been recognized. A portion of the orders which have been accepted but have not yet been billed provide customers with cancellation rights; customers may also renew contracts before their expiration or modify that portion of their orders which is cancelable. Therefore, our backlog at any particular date is not necessarily indicative of revenues to be recognized during any succeeding period.

The table below sets forth the fluctuations in revenues, cost of revenues and gross profit data for the three and nine months ended September 30, 2008 and 2007 (in thousands, except percentage data):

                                              Three Months Ended                                   Nine Months Ended
                                                 September 30,                   %                   September 30,                   %
                                           2008                2007           Change           2008                2007           Change
    Revenues:
        License                         $     1,582         $     1,465           8 %       $     4,374         $     4,027           9 %
        Service                               1,598               1,566           2 %             4,803               4,717           2 %
           Total revenues                     3,180               3,031           5 %             9,177               8,744           5 %

    Cost of revenues:
        License                                 167                 229         -27 %               513                 685         -25 %
        Service                                 673                 611          10 %             1,985               1,686          18 %
           Total cost of revenues               840                 840           0 %             2,498               2,371           5 %

    Gross profit                        $     2,340         $     2,191           7 %       $     6,679         $     6,373           5 %

Percentage of total revenues:
    Revenues:
        License                                  50 %                48 %                            48 %                46 %
        Service                                  50 %                52 %                            52 %                54 %
           Total revenues                       100 %               100 %                           100 %               100 %

    Cost of revenues:
        License                                   5 %                 8 %                             5 %                 8 %
        Service                                  21 %                20 %                            22 %                19 %
           Total cost of revenues                26 %                28 %                            27 %                27 %

    Gross profit                                 74 %                72 %                            73 %                73 %

Total revenues were higher for the three and nine months ended September 30, 2008 compared to the same periods in fiscal 2007, primarily due to an increase in new orders over the past three quarters. In accordance with our revenue recognition policy, we allocate a portion of total revenues between licenses and maintenance (services) using the estimated fair value of the maintenance, which is based on maintenance renewals sold separately for similar products.

Total cost of revenues was unchanged in the three months ended September 30, 2008 compared to the same period in fiscal 2007. Total cost of revenues was higher for the nine months ended of September 30, 2008 compared to the same period in fiscal 2007, primarily due to higher cost of service revenues resulting from increased post-sales support by our application engineering group. We are providing dedicated engineering support to more customers in 2008 than 2007.

The table below sets forth the fluctuations in revenues by product line and geographic region for the three and nine months ended September 30, 2008 and 2007 (in thousands, except percentage data):

   Revenue by product line:

                                  Three Months Ended                               Nine Months Ended
                                     September 30,                 %                 September 30,                 %
                                2008              2007          Change          2008              2007          Change
ETCreate                      $    2,429        $    2,451        -1 %        $    7,017        $    6,810          3 %
Silicon Insight                      460               428         7 %             1,422             1,091         30 %
YieldInsight and Others              291               152        91 %               738               843        -12 %
    Total revenues            $    3,180        $    3,031         5 %        $    9,177        $    8,744          5 %

Revenue by geographic region:

                        Three Months Ended                               Nine Months Ended
                           September 30,                 %                 September 30,                 %
                      2008              2007          Change          2008              2007          Change
United States       $    2,189        $    2,314        -5 %        $    6,513        $    6,776        -4 %
Japan                      547               451        21 %             1,620             1,301        25 %
Others                     444               266        67 %             1,044               667        57 %
                    $    3,180        $    3,031         5 %        $    9,177        $    8,744         5 %

Product line:

ETCreate™ consists of embedded test intellectual property and corresponding design automation software that provides embedded test solutions for different components of an ASIC or SOC design. ETCreate revenues were about the same for the three months ended September 30, 2008 compared with the same period in fiscal 2007. ETCreate revenues increased for the nine months ended September 30, 2008 compared to the same period in fiscal 2007, primarily due to higher sales of memory and logic tools.

Silicon Insight™ consists of hardware and software products for use with third party test platforms. Silicon Insight enables faster time-to-market and lower test costs through the support of interactive or test program controlled at-speed testing, datalogging, and debug of silicon designed with LogicVision's embedded test IP. Silicon Insight revenues increased for the three and nine months ended September 30, 2008 compared to the same period in fiscal 2007 primarily due to greater customer acceptance of these tools and the introduction of a new desktop PC version.

The YieldInsight™ (formerly SiVision) product sub-family consists of parametric analysis and visualization software that uses semiconductor manufacturing process and test data to help assess parametric yields and identify parametric yield limiters. Other revenues included herein represent revenues from training and consulting activities. Revenues from YieldInsight and Others increased for the three months ended September 30, 2008 compared to the same period in fiscal 2007 due to higher consulting and training services provided to customers. These revenues decreased for the nine months ended September 30, 2008 compared to the same period in fiscal 2007 due to less consulting service provided to customers.

Geographic region:

Revenue in the United States was lower for the three months ended September 30, 2008 compared to the same period in fiscal 2007 primarily due to less renewal orders received in the third quarter. These revenues decreased for the nine months ended September 30, 2008 compared to the same period in fiscal 2007, primarily due to an order in which upfront revenue was recognized in the second quarter of 2007. Revenue in Japan increased in the three and nine months ended September 30, 2008 compared to the same period in fiscal 2007 primarily due to greater customer adoption by certain multi-national Japanese customers. Revenue in other countries increased in the three and nine months ended September 30, 2008 compared to the same periods in fiscal 2007 primarily due to greater customer adoption in Europe.

   Operating Expenses:

   The table below sets forth operating expense data for the three and nine
months ended September 30, 2008 and 2007 (in thousands, except percentage data):

                                               Three Months Ended                                   Nine Months Ended
                                                  September 30,                   %                   September 30,                   %
                                            2008                2007           Change           2008                2007           Change
    Operating expenses:
        Research and development         $       736         $       920         -20 %       $     2,545         $     2,802         -9 %
        Sales and marketing                    1,252               1,175           7 %             4,297               4,023          7 %
        General and administrative               868                 896          -3 %             2,678               2,885         -7 %

        Total operating expenses         $     2,856         $     2,991          -5 %       $     9,520         $     9,710         -2 %

Percentage of total revenues:
    Operating expenses:
        Research and development                  23 %                30 %                            28 %                32 %
        Sales and marketing                       39 %                39 %                            47 %                46 %
        General and administrative                27 %                30 %                            29 %                33 %

        Total operating expenses                  89 %                99 %                           104 %               111 %

Research and development expenses decreased in the three and nine months ended September 30, 2008 compared to the same period in fiscal 2007, primarily due to lower stock based compensation expense as the options granted during the stock option repricing in March 2007 are now fully amortized, and receipt of a research and development tax credit from Canada.

Sales and marketing expenses increased in the three months ended September 30, 2008 compared to the same period in fiscal 2007, primarily due to higher salary expenses that resulted from an increase in the number of our employees. The expenses increased in the nine months ended September 30, 2008 compared to the same period in fiscal 2007, primarily due to salary expenses from an increase in head count, and commission expenses from new orders booked or invoiced during the periods affecting 2008 although revenue recognition from those transactions was deferred to future periods.

General and administrative expenses decreased in the three and nine months ended September 30, 2008, compared to the same period in fiscal 2007, primarily due to lower stock based compensation expense as the options granted during the stock option repricing in March 2007 are now fully amortized.

   Other Items:

   The table below sets forth other data for the three and nine months ended
September 30, 2008 and 2007 (in thousands, except percentage data):

                                             Three Months Ended                             Nine Months Ended
                                               September 30,                 %                September 30,                 %
                                           2008             2007          Change          2008             2007          Change
    Interest and other income, net       $     17         $     112         -85 %       $     93         $     284         -67 %

    Income tax provision (benefit)       $      -         $       -          NM         $     14         $     (42 )       133 %

Percentage of total revenues:
    Interest and other income, net              1 %               4 %                          1 %               3 %

    Income tax provision (benefit)              0 %               0 %                          0 %               0 %

Interest and other income, net decreased in the three and nine months ended September 30, 2008 compared to the same period in fiscal 2007, primarily due to lower interest rates earned on our investments and lower average cash balances.

Income tax provision (benefit). Our net operating losses are generated domestically, and amounts attributed to our foreign operations have been insignificant for all periods presented. Our income tax provisions are primarily related to state and foreign taxes. No benefit for income taxes has been recorded due to the uncertainty of the realization of deferred tax assets. From inception through December 31, 2007, we incurred net losses for federal and state tax purposes. As of December 31, 2007, we had federal and California net operating loss carryforwards of approximately $87.8 million and $27.2 million available to reduce future federal and California taxable income, respectively. These federal and California carryforwards will begin to expire in 2008 if not utilized. The extent to which these carryforwards can be used to offset future taxable income may be limited under Section 382 of the Internal Revenue Code and applicable state tax law.

Provision for income taxes in the nine months ended September 30, 2008 increased compared to the same period in fiscal 2007, primarily due to a reduction in the accrual of foreign taxes owed in the nine month period ended September 30, 2007.

Liquidity and Capital Resources

At September 30, 2008, we had cash and cash equivalents and short-term investments of $7.5 million and working capital of $0.3 million. Excluding deferred revenue, our working capital was $7.7 million.

Net cash used in operating activities was $0.4 million and net cash provided by operating activities was $0.2 million in the first nine months of 2008 and 2007, respectively. Net cash used in operating activities for the nine months ended September 30, 2008 was primarily due to a net loss of $2.8 million, an increase in accounts receivable of $0.6 million, and a decrease in accrued liabilities of $0.4 million; partially offset by an increase in deferred revenue of $2.0 million, a decrease in prepaid assets of $0.7 million, and non-cash charges from stock-based compensation and depreciation and amortization of $0.7 million. Net cash provided by operating activities for the nine months ended September 30, 2007 was primarily due to an increase in deferred revenue of $1.4 million, an increase in accrued liabilities of $0.2 million, a decrease in prepaid and other long-term assets of $0.4 million and non-cash charges relating to depreciation and amortization and stock-based compensation of $1.3 million, partially offset by a net loss of $3.0 million and an increase in accounts receivable of $0.1 million.

Net cash provided by investing activities was $0.7 million and $1.4 million in the first nine months of 2008 and 2007, respectively. Net cash provided by investing activities in the first nine months of 2008 was primarily due to the proceeds from maturities of marketable securities of $2.6 million, partially offset by the purchase of marketable securities of $1.7 million and fixed assets of $0.3 million. Net cash provided by investing activities in the first nine months of 2007 was primarily due to the proceeds from maturities of marketable securities of $3.3 million, partially offset by purchase of marketable securities of $1.9 million.

We have a loan agreement with a bank under which we may borrow, on a revolving basis, up to $1.0 million at an interest rate equal to prime rate, which was equal to an annual rate of 5.0% at September 30, 2008. The agreement is unsecured and is not collateralized by our assets. Under the agreement, we must comply with certain operating and reporting covenants and we are not permitted to pay dividends, or make material investments or dispositions without the prior written consent of the bank. If we fail to comply with the covenants under the agreement, the bank can declare any outstanding amounts immediately due and payable and cease advancing money or extending credit to or for us. The agreement expires on February 28, 2009. At September 30, 2008 there were no outstanding borrowings under the agreement, and we were in compliance with the covenants under the agreement.

We intend to continue to invest in the development of new products and enhancements to our existing products. Our future liquidity and capital requirements will depend upon numerous factors, including the costs and timing of product development efforts and the success of these development efforts, the costs and timing of sales and marketing activities, the extent to which our existing and new products gain market acceptance, competing technological and market developments, the costs involved in maintaining and enforcing patent claims and other intellectual property rights, the level and timing of license and service revenues, available borrowings under line of credit arrangements and other factors. In addition, we may utilize cash resources to fund acquisitions of, or investments in, complementary businesses, technologies or product lines. From time to time, we may be required to raise additional funds through public or private financing, strategic relationships or other arrangements. There can be no assurance that such funding, if needed, will be available on terms attractive to us, or at all. Furthermore, any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. Strategic arrangements, if necessary to raise additional funds, may require us to relinquish our rights to certain of our technologies or products. Our failure to raise capital when needed could have a material adverse effect on our business, operating results and financial condition.

. . .