NOTICE OF ANNUAL MEETING OF SHAREHOLDERS

TO BE HELD ON MAY 23, 2006

      The 2006 Annual Meeting of the Shareholders of Pixelworks, Inc. will be held on Tuesday, May 23, 2006 at 12:30 p.m. Pacific Daylight Time at our principal executive offices, 8100 SW Nyberg Road, Tualatin, Oregon, to conduct the following items of business:

      Shareholders who owned shares of our stock at the close of business on Friday, March 24, 2006 are entitled to receive notice of, attend and vote at the meeting.

      Your vote is important. Whether or not you plan to attend the meeting, please vote as soon as possible. For specific voting instructions, please refer to the information provided with your proxy card and in this proxy statement. You may attend the meeting in person even if you send in your proxy. Retention of the proxy is not necessary for admission to or identification at the meeting.

Tualatin, Oregon

April 13, 2006

PIXELWORKS, INC.

8100 SW Nyberg Road

Tualatin, Oregon 97062

PROXY STATEMENT

2006 ANNUAL MEETING OF SHAREHOLDERS

TO BE HELD MAY 23, 2006

THE MEETING

Purpose, Date, Time and Place Information

      The enclosed proxy is solicited on behalf of the Board of Directors of Pixelworks, Inc. (“Pixelworks” or “Company”), an Oregon corporation. This proxy is for use at Pixelworks’ 2006 Annual Meeting of Shareholders (the “Annual Meeting”) or any postponement or adjournment of that meeting. The Annual Meeting will be held at 12:30 p.m. Pacific Daylight Time, on Tuesday, May 23, 2006, at our principal executive offices, 8100 SW Nyberg Road, Tualatin, Oregon, for the purposes set forth in the accompanying Notice of Annual Meeting of Shareholders. This proxy statement and the proxy, which are accompanied by a copy of our 2005 Annual Report, are being first mailed or otherwise delivered to shareholders on or about April 20, 2006. Shareholders who owned Pixelworks’ common stock at the close of business on March 24, 2006 are entitled to receive notice of, attend and vote at the Annual Meeting. On March 24, 2006, there were 47,531,259 shares of Pixelworks’ common stock issued and outstanding.

Voting and Revocability of Proxy

      If the enclosed form of proxy is properly executed and returned in time to be voted at the Annual Meeting, the shares represented by the proxy will be voted in accordance with the instructions marked on the proxy. In the absence of voting instructions, the shares will be voted:

      Pursuant to NASDAQ rules, a broker may not vote on the adoption of, or material amendment to, an equity compensation plan without instruction from the beneficial owner of the shares. With respect to the equity compensation plan proposal to be voted upon, abstentions and broker non-votes are counted for purposes of determining whether a quorum exists at the Annual Meeting, but are not counted and have no effect on the determination of whether a plurality exists for approval of the proposal.

      The Board of Directors does not know of any matters other than those described in the Notice of Annual Meeting of Shareholders that are to come before the Annual Meeting. If any other matters are properly brought before the Annual Meeting, the proxy will be voted upon such matters as determined by a majority of the Board of Directors.

      Any person giving a proxy in the form accompanying this Proxy Statement has the power to revoke it at any time before its exercise. The proxy may be revoked by filing with the Secretary of the Company an instrument of revocation or a duly executed proxy bearing a later date. The proxy may also be revoked by voting in person at the Annual Meeting. A shareholder who attends the Annual Meeting, however, is not required to revoke the proxy and vote in person. All valid, unrevoked proxies will be voted at the Annual Meeting in accordance with the instructions given.

      The presence, in person or by proxy, of a majority of the total number of outstanding shares of common stock entitled to vote at the Annual Meeting is necessary to constitute a quorum at the Annual Meeting.

Solicitation

      The cost of soliciting proxies will be borne by the Company. In addition to use of mail, proxies may be solicited by Directors, officers and employees of the Company, who will not be specially compensated for such activities. Such solicitations may be made personally or by mail, e-mail, facsimile, telephone or messenger. The Company will request persons, firms and companies holding shares in their names or in the name of their nominees, which are beneficially owned by others, to send proxy materials to and obtain proxies from such beneficial owners. The Company will reimburse these fiduciaries, custodians and brokerage houses for their reasonable expenses incurred in connection with that request.

VOTING SECURITIES AND PRINCIPAL HOLDERS THEREOF

Record Date

      The Board of Directors has fixed the close of business on March 24, 2006 as the record date for the determination of the shareholders entitled to receive notice of, attend and vote at the Annual Meeting. Accordingly, only the holders of record of shares of Common Stock at the close of business on March 24, 2006 will be entitled to vote at the Annual Meeting, with each share entitling its owner to one vote on all matters properly presented at the Annual Meeting. On the record date, there were approximately 228 shareholders of record and 48,095,726 shares of common stock then outstanding. The 48,095,726 shares of common stock outstanding includes 564,467 shares of common stock issuable upon the exchange of exchangeable shares of our Canadian subsidiary, Jaldi Semiconductor Corporation (“Jaldi”). These exchangeable shares, which were issued to former shareholders of Jaldi upon our acquisition of Jaldi, are intended to have characteristics essentially equivalent to our common stock, including the same voting rights as our common stock.

Beneficial Ownership

      The following table sets forth certain information regarding the beneficial ownership as of March 24, 2006 of the Common Stock by (i) each person known by the Company to own beneficially more than 5 percent of the Common Stock, (ii) each Director and each Director nominee of the Company, (iii) each executive officer of the Company named in the Summary Compensation Table and (iv) all executive officers and Directors as a group. Except as otherwise noted, the persons listed below have sole investment and voting power with respect to the Common Stock owned by them. Unless otherwise indicated, the address of each holder is 8100 SW Nyberg Road, Tualatin, Oregon 97062.

CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

      During 2005, Pixelworks was provided consulting services by Bruce Walicek, who is a Director, prior to his election to the Board of Directors in May 2005. Fees for Mr. Walicek’s consulting services totaled $37,500 in 2005.

INFORMATION ABOUT OUR BOARD OF DIRECTORS

Board of Director Meetings

      Regular meetings of our Board of Directors are generally held four times per year, and special meetings are scheduled as necessary. The Board held 13 meetings in 2005. No incumbent Director attended fewer than 75 percent of the aggregate of all meetings of the Board of Directors and the committees of which the Director was a member during the year. Our independent Directors meet separately in executive session without any members of management present on a regular basis. We have adopted a policy that requires a majority of Directors to attend the Annual Meeting. A majority of our Directors attended the 2005 Annual Meeting.

      The Board of Directors has adopted Corporate Governance Guidelines, which can be found on our website at www.pixelworks.com. Under our Corporate Governance Guidelines, Directors are expected to exercise their best judgment, to act in what they reasonably believe to be the best interests of the Company and its shareholders, including preparing for, attending and participating in meetings of the Board and committees of which the Director is a member.

Standing Committees of the Board

      Audit Committee. The Audit Committee has the authority and power to act on behalf of the Board of Directors with respect to the appointment of our independent registered public accounting firm and with respect to authorizing all audit and other services performed for us by our independent registered public accounting firm. The Board has adopted a written charter for the Audit Committee. A copy of the Charter of the Audit Committee is attached to this proxy statement as Exhibit A. The Audit Committee, among other matters, reviews and discusses with management and the Company’s independent registered public accounting firm the Company’s audited financial statements, and the effectiveness of the accounting and financial controls of the Company. See “Audit Committee Report” below. The Audit Committee consists of C. Scott Gibson (chairman), Mark Christensen, and Frank Gill, all of whom are independent Directors as defined by the applicable rules of the Securities and Exchange Commission (the “SEC”) and NASDAQ. The Audit Committee met seven times in 2005.

      Compensation Committee. The Compensation Committee has the authority and power to act on behalf of the Board of Directors with respect to all matters relating to the employment of senior officers by the Company, including approval of compensation, benefits, incentives and employment contracts. See “Compensation Committee Report on Executive Compensation” below. The Compensation Committee also administers the Company’s stock plans, senior management bonus plans and other incentive programs. The Board has adopted a written charter for the Compensation Committee. The Compensation Committee consists of Frank Gill (chairman), C. Scott Gibson, and Mark Christensen, all of whom are independent Directors as defined by the applicable rules of NASDAQ. The Compensation Committee met four times in 2005.

      Corporate Governance and Nominating Committee. The Corporate Governance and Nominating Committee identifies individuals qualified to become members of the Board of Directors, recommends to the Board the slate of Directors to be nominated by the Board at the annual meeting of shareholders and recommends any Director to fill a vacancy on the Board. The Board has adopted a written charter for the Corporate Governance and Nominating Committee.

      The Corporate Governance and Nominating Committee will consider recommendations for nominees for Directorships submitted by shareholders. Shareholders desiring the Corporate Governance and Nominating

Committee to consider their recommendations for nominees should submit their recommendations, together with appropriate biographical information and qualifications, in writing to the Corporate Governance and Nominating Committee, care of the Secretary of the Corporation at our principal executive offices.

      The Corporate Governance and Nominating Committee also recommends Directors to be appointed to committees of the Board (other than the Corporate Governance and Nominating Committee itself). The Corporate Governance and Nominating Committee consists of Mark Christensen (chairman), C. Scott Gibson, and Frank Gill, all of whom are independent Directors as defined by the applicable rules of NASDAQ. The Corporate Governance and Nominating Committee met four times in 2005.

      The charters of the Board committees, as well as the Company’s Corporate Governance Guidelines, can be found on our website at www.pixelworks.com.

Qualifications of Directors

      When identifying Director nominees, the Corporate Governance and Nominating Committee will consider the following:

      At a minimum, candidates must possess experience with businesses or organizations of comparable or greater size than the Company. The Committee restates for purposes of its own board search the Company’s emphatic commitment to nondiscrimination on the basis of age, gender, ethnic background, religious affiliation or other personal characteristics unrelated to the Company’s purpose and mission. Because the Board values diversity, qualifications and skills that are complementary to existing Board members are highly desirable.

Director Nomination Process

      Our Director nomination process for new Board members is as follows:

Director Compensation

      During 2005, newly-elected members of our Board, who were not officers of the Company, received an option grant upon election of 40,000 shares and incumbent directors received a grant of 10,000 shares upon annual re-election. Options were granted with exercise prices equal to the fair market value of our common stock on the date of grant. Additionally, non-employee Directors received cash compensation as follows:

      On February 8, 2006, the Company’s Board of Directors approved an increase in the quarterly retainer fee paid to non-employee Board members from $5,000 per quarter to $6,250 per quarter. This change was effective January 1, 2006.

Communications with the Board

      Shareholders or other interested parties can contact any Director or committee of the Board by writing to them at:

      Communication received will be distributed to the full Board at the next regularly scheduled Board meeting, or sooner, if deemed necessary. Communication that is unduly hostile, threatening, illegal or similarly inappropriate, will be discarded and appropriate legal action will be taken.

INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Principal Accounting Firm

      The Audit Committee has appointed KPMG LLP, independent registered public accounting firm, as the Company’s auditor for the year ending December 31, 2006. Our shareholders are being asked to ratify this appointment, see Proposal No. 2. KPMG LLP served as the Company’s auditor for the year ended December 31, 2005. Representatives of KPMG LLP will be at the Annual Meeting and will be available to respond to appropriate questions. They do not plan to make a statement but will have the opportunity to make a statement if they wish.

Audit Committee Pre-Approval Policies and Procedures

      The Audit Committee pre-approves any engagement under which our independent registered public accounting firm provides audit services to the Company. The authority to pre-approve services may be

delegated to one designated member of the committee. If a designated member does pre-approve services, the approval is reported to the full committee at its next regularly scheduled meeting.

      During fiscal years 2005 and 2004, the Audit Committee pre-approved 100% of the audit and non-audit services provided by KPMG LLP.

Principal Accountant Fees and Services

      Fees paid to KPMG LLP during 2005 and 2004 were comprised of the following:

Audit Committee Report

      The following Report of the Audit Committee does not constitute soliciting material and should not be deemed filed or incorporated by reference into any other Company filing under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent the Company specifically incorporates this Report by reference therein.

      Composition and Meetings. The Audit Committee (“the Committee”) is comprised of three non-employee members of the Board of Directors (“the Board”) named below. After reviewing the qualifications of the members of the Committee and any relationships they may have with the Company that might affect their independence from the Company, the Board has determined that each member of the Committee meets the independence and financial experience requirements under both SEC and NASDAQ rules. In addition, the Board has determined that C. Scott Gibson is an “audit committee financial expert” as defined by SEC rules. The Committee met a total of seven times during 2005. The Committee met in executive session with the independent registered public accounting firm (KPMG LLP) three times, and in executive session with management three times.

      Responsibilities. The Committee operates under a written charter that has been adopted by the Board. The charter is reviewed at least annually for changes, as appropriate. The Committee is responsible for providing independent, objective oversight of the Company’s accounting functions and internal controls. The Committee has the responsibility to select, evaluate and, where appropriate, replace the independent registered public accounting firm, and is directly responsible for the oversight of the work of the independent registered public accounting firm.

      The Committee’s charter clarifies that it is not the duty of the Committee to plan or conduct audits or to determine that the Company’s financial statements are complete and accurate in accordance with U.S. generally accepted accounting principles (“GAAP”). Management is responsible for the Company’s

financial reporting processes including its system of internal controls, and for the preparation of the consolidated financial statements in accordance with GAAP. The independent registered public accounting firm is responsible for expressing an opinion on those consolidated financial statements.

      In performing the duties described below, the Committee has relied, without independent verification, on management’s representation that the consolidated financial statements have been prepared with integrity and objectivity and in conformity with GAAP, and on the representations of KPMG LLP included in their report on the Company’s consolidated financial statements.

      The full text of the Committee’s charter, which describes the Committee’s duties in detail, is available on our website at www.pixelworks.com and is attached to this proxy statement as Exhibit A.

      Review with Management and Independent Registered Public Accounting Firm. During the year ended December 31, 2005, the Committee fulfilled its duties and responsibilities as outlined in the charter. Specifically, among other actions, in preparation for the filing of our Annual Report on Form 10-K for the year ended December 31, 2005 (the “Form 10-K”), the Committee:

      Based on the reviews and discussions referred to in paragraphs 1 through 4 above, and subject to the limitations of the Committee’s responsibilities referred to above and in the Committee charter, the undersigned Committee members recommended to the Board that Pixelworks’ audited consolidated financial statements for the year ended December 31, 2005 be included in Form 10-K.

      Appointment of Independent Registered Public Accounting Firm. For the year ended December 31, 2005, the Committee appointed KPMG LLP to serve as auditors of the Company. Shareholders ratified this appointment at the Annual Meeting of Shareholders on May 24, 2005. The Committee recommends to shareholders that they ratify the appointment of KPMG LLP as Pixelworks’ independent registered public accounting firm for the year ending December 31, 2006.

INFORMATION ABOUT OUR EXECUTIVE OFFICERS

      The following table sets forth, as of March 24, 2006, information as to the executive officers of the Company.

      ALLEN H. ALLEY co-founded Pixelworks and has served as President, Chief Executive Officer and Chairman since the Company’s inception. From 1992 to 1996, Mr. Alley served as the Vice President, Corporate Development, Engineering and Product Marketing for InFocus Corporation, a leading electronic display company. While at InFocus, Mr. Alley was also the co-CEO of a joint venture with Motorola, Inc. called Motif. From 1986 to 1992, Mr. Alley was a General Partner of Battery Ventures, a venture capital investment firm. From 1983 to 1986, Mr. Alley was the Director of Mechanical Computer Aided Engineering of Computervision Corporation, a computer-aided design software developer. From 1979 to 1983, Mr. Alley was a Lead Mechanical Engineer at Boeing Commercial Airplane Division. From 1976 to 1979, Mr. Alley served as a Product Design Engineer for the Ford Motor Company. Mr. Alley serves on the Board of Directors of Applied Films, Inc. (NASDAQ: AFCO). Additionally, Mr. Alley serves on the Oregon Innovation Council, the Oregon Business Plan Steering Committee and the Oregon Nanoscience and Microtechnologies Institute Advisory Board. Mr. Alley holds a B.S. in Mechanical Engineering from Purdue University.

      HANS H. OLSEN joined Pixelworks in July 1998 as Vice President, Operations. Mr. Olsen has served as Executive Vice President and Chief Operating Officer since January 2001. From 1997 to 1998, Mr. Olsen held the positions of Vice President, Graphics Marketing and Vice President, North American Sales at Trident Microsystems, a graphics controller semiconductor company. From 1996 to 1997, Mr. Olsen served as Vice President Marketing at Paradigm Technology, Inc. which acquired IChips Corporation, a personal computer chipset and embedded memory technology provider, that he founded and was CEO of from 1993 to 1996. From 1982 to 1993, Mr. Olsen held the position of CEO of Electronic Designs, Inc., a semiconductor

memory company he co-founded. From 1976 to 1982, Mr. Olsen held engineering and management positions at Christian Rovsing A/ S in Copenhagen, Denmark. Mr. Olsen holds a B.S.E.E. from Copenhagen Technical University and a M.S.E.E. from the University of Copenhagen.

      MICHAEL D. YONKER joined Pixelworks in February 2006 as Vice President, Chief Financial Officer, Treasurer and Secretary. From 2002 to 2005, Mr. Yonker served as the Executive Vice President and Chief Financial Officer at InFocus Corporation, a leading electronic display company. From 1998 to 2002, he was the Chief Financial Officer of Wieden and Kennedy, a leading advertising agency. From 1993 until 1998, Mr. Yonker served as Vice President, Information Services, Chief Financial Officer, Treasurer and Secretary of InFocus. From 1980 to 1993, Mr. Yonker worked at Arthur Andersen LLP and attained the position of Partner in Charge of Northwest Manufacturing Industry specializing in process improvement, total quality and performance measurement systems for the manufacturing industry. From 1999 to 2002, he served as a member of Pixelworks’ Board of Directors. Mr. Yonker graduated from Linfield College in 1980 with a B.S. degree in Accounting and Finance.

      JODIE F. T. BRADY joined Pixelworks in January 1999 as Finance Manager and served in various senior-level accounting and finance management positions. In January 2006, Ms. Brady was promoted to Vice President, Finance. In 1998, Ms. Brady served as a Research Analyst for Black & Co., a Portland-based financial services firm. From 1997 to 1998, Ms. Brady was a Senior Financial Analyst for Nike, Inc., a world leading sports apparel company. Ms Brady worked at InFocus Corporation, a leading electronic display company, as a Financial Analyst from 1994 to 1997. Ms. Brady holds a B.A. in Business Administration from Pacific University.

      GANG (MARK) CUI joined Pixelworks in January 2002 as Chief Representative, China Operations as a result of the Company’s acquisition of nDSP Corporation. In October of 2003, Mr. Cui was promoted to Senior Director and General Manager, China. In July of 2004, Mr. Cui was promoted to Vice President and General Manager, China. While at nDSP Corporation, Mr. Cui held the position of General Manager. Prior to joining nDSP Corporation, Mr. Cui served as Senior Marketing Consultant at Ogivy & Mather Marketing Consultants in Beijing. From 1983 to 1997, Mr. Cui held various positions in the consumer electronics and international trading industries, including Marketing Director of a US-China joint venture in consumer electronics, Manager of Shipping for an international trading company, and a Technician in the Air Force. Mr. Cui holds a B.S. in Mechanics from the University of Airforce Engineering and an M.B.A. from the University of Hull, UK.

      JOHN Y. LAU joined Pixelworks in January 1999 as Foundry Manager. Mr. Lau was promoted to Vice President, Operations in January 2001. From 1991 to 1999, Mr. Lau held various management positions in process and product engineering at Matsushita Semiconductor of America with his last position being Wafer Fab Production Manager. From 1989 to 1991, Mr. Lau held the position of Engineering Manager for the BICMOS product line at National Semiconductor. From 1979 to 1989, Mr. Lau held various engineering and engineering management positions at Texas Instruments. Mr. Lau holds a B.S.E.E. from the University of Arkansas and an M.S.E.E. from Texas Technical University.

      BRETT A. MONELLO joined Pixelworks in November 2004 as Vice President, Business Development. In January 2006, Mr. Monello took the position of Vice President, Video and Image Processing. From 2003 to 2004, Mr. Monello was the CEO of NaturalPoint, Inc., an optical motion-tracking systems developer. From 1999 to 2003, Mr. Monello served as the Senior Vice President of Operations, Vice President of Engineering, and Vice President of Marketing and Sales for Mobilian Corporation, a fabless semiconductor company which he founded and which was later acquired by Intel. From 1991 to 1999, Mr. Monello held various management positions at Silicon Graphics Computer Systems, including Director of Services Marketing and Director of Corporate Quality. From 1986 to 1989, Mr. Monello held various positions with TA Associates, a venture capital firm. Mr. Monello holds a B.A. from Stanford and an M.B.A. from Harvard Business School.

      RICHARD TOBIAS joined Pixelworks in May 2005 as Chief Technology Officer and Vice President, Engineering. From 2001 to 2005, Mr. Tobias held the positions of Vice President of the ASIC and Foundry Business Unit and Vice President of Engineering in the System LSI Group at Toshiba America Electronic

Components, Inc. From 2000 to 2001, Mr. Tobias served as Vice President of Engineering of the Systems Group at QuickSilver Technology, Inc., which acquired White Eagle Systems Technology, Inc., a DSP and embedded system turn-key design company that he founded. From 1990 to 2000, he was President and COO of White Eagle Systems Technology, Inc. From 1989 to 1990, he was Chief Engineer at AcuVoice, Inc. From 1986 to 1989, he held various engineering positions with Stanford Telecommunications, Inc., Data General and Advanced Micro Devices. Mr. Tobias holds a B.S.E.E. from the University of Minnesota and an M.S. in Mathematics from Stanford University.

      HONGMIN (BOB) ZHANG joined Pixelworks in January 2002 as Vice President, Technology as a result of the Company’s acquisition of nDSP Corporation. From 1998 to 2001, Mr. Zhang held the position of Chief Technical Officer of nDSP, which he co-founded in 1997. From 1993 to 1997, Mr. Zhang served as President of Aptronix Inc., a pioneer in fuzzy logic, and from 1989 to 1993 he served as Chief Technical Officer. From 1988 to 1989, Mr. Zhang held the position of Vice President of Research and Development at Apt Instruments, Ltd., which was renamed Aptronix Inc. From 1986 to 1988, Mr. Zhang held the position of Chief Scientist at Machine Intelligence Corp. in Beijing and served as an Editorial Board Member of the Journal of Fuzzy Systems and Mathematics. From 1985 to 1986, Mr. Zhang held the position of Research Scientist at the Air Force Institute of Engineering in Xian. Mr. Zhang registered 12 international patents on fuzzy logic and expert systems technologies and holds a Ph.D in Mathematics from Beijing Normal University, China.

Summary Executive Compensation Table

      The following table sets forth all compensation paid to, earned by or awarded by the Company, with respect to the last three fiscal years to the Chief Executive Officer, four other most highly compensated executive officers at December 31, 2005 whose annual compensation exceeded $100,000, and one additional officer who would have qualified as one of the four most highly compensated executive officers had he been employed as of December 31, 2005 (collectively, the “Named Executive Officers”).

Executive Officer Stock Option Grants in Last Fiscal Year

      The following table sets forth information concerning the award of stock options to the Named Executive Officers during the year ended December 31, 2005:

Executive Officer Option Exercises and Year-End Option Values

      The following table indicates for each of the Named Executive Officers: (i) stock options exercised during the year ended December 31, 2005, including the value realized on the date of exercise, (ii) the number of securities underlying vested (exercisable) stock options and the number of shares underlying unvested (unexercisable) stock options as of December 31, 2005 and (iii) the value of vested and unvested “in-the-money” options as of December 31, 2005.

Pixelworks Change of Control Resolutions

      The Board of Directors adopted resolutions on March 22, 2002, approving a change of control and severance program for executive officers and Directors. Under the terms of the resolutions, upon a change of control, we will accelerate the vesting schedule of the options held by the executive officer or Director that would have vested during the next twelve months according to the vesting schedule associated with such options. In addition, upon a change of control, and the termination of an executive officer, or a substantial change in the executive officer’s responsibilities within 3 months prior to or 12 months following the change of control, the terminated officer will be entitled to severance payments equal to six months of his base salary as in effect on the date of such termination and continuation of medical insurance benefits for a period of six months from the date of termination.

Bouchard Employment Agreement

      In December 1999 we entered into an employment agreement with Jeffrey B. Bouchard, Vice President, Finance and Chief Financial Officer. In consideration for his services, we agreed to pay Mr. Bouchard an annual salary of $140,000, plus the Company’s standard employee benefits. In addition, we granted Mr. Bouchard options for 225,000 shares of common stock pursuant to the Company’s 1997 Stock Incentive Plan. The agreement provided that if we terminated Mr. Bouchard’s employment without cause (which is defined as termination for other than committing a criminal, fraudulent or grossly negligent act, misappropriation of our assets or willful failure to perform his duties) then he would be entitled to severance pay of three months salary. The agreement also provided that if we sold all of our assets or were merged into another company which was not under the control of our shareholders, then pursuant to Mr. Bouchard’s stock options, he would be entitled to his options which had already vested as well as an automatic vesting of the options he would have been entitled to receive over the twelve months following a merger or sale. As a condition of his employment, Mr. Bouchard entered into our standard employee nondisclosure agreement pursuant to which he may not divulge any of our proprietary information other than as permitted as part of his employment with us.

      Effective February 10, 2006, Mr. Bouchard resigned, at which time his employment agreement was terminated.

Compensation Committee Report on Executive Compensation

      The following Report of the Compensation Committee does not constitute soliciting material and should not be deemed filed or incorporated by reference into any other Company filing under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent the Company specifically incorporates this Report by reference therein.

      Composition and Meetings. The Compensation Committee (“the Committee”) is comprised of three non-employee members of the Board of Directors (“the Board”). Consistent with the listing requirements of the NASDAQ Stock Market, all three members of the Committee are independent from the Company. The Committee met four times during 2005.

      Responsibilities. The Committee is responsible for assisting the Board in fulfilling its responsibilities with respect to compensation of our executive officers and oversight of our incentive and stock-based compensation plans. The Committee reviews the performance of executive officers, sets salary and bonus levels, and awards stock options to our executive officers. The Committee consults with independent compensation consultants and uses outside survey data to assist in determining executive compensation. The Committee has the authority to determine the scope of any consultant’s services and compensation, and retains the right to terminate a consultant’s contract at any time.

      The Committee operates under a written charter that has been adopted by the Board, which is available on our website at www.pixelworks.com.

      Compensation Philosophy. The objectives of the Committee are to correlate executive compensation with our business objectives and performance, and to enable us to attract, retain and reward executive officers that contribute to our long-term success.

      Executive compensation is based on several general principles, which are summarized below:

      Compensation Components. The primary components of our executive officer compensation program are base salaries, bonuses and stock options.

      Base Salaries. Base salaries for executive officers are established after a review of salaries for similar positions requiring similar qualifications within the industry. In determining executive officer salaries, the Committee considers recommendations from management and the executive’s experience, job responsibilities and performance. No specific weight is attached to any of these factors in establishing base salaries.

      Bonuses. For 2005, the Committee established a 2005 Senior Management Bonus Plan under which executive officers were granted bonuses. Bonus amounts were based on attainment of planned levels of revenue, pro forma operating income, and attainment of specified operational goals. Each of the goals was weighted as follows:

      The target bonus for the Chief Executive Officer and the Chief Operating Officer was equal to 100% of annual salary, and the target bonus for vice presidents was equal to 50% of annual salary. If goals were not attained, bonuses were reduced proportionally. Additionally, the Committee had the authority to increase or decrease individual bonuses based on qualitative factors.

      The actual bonus amount paid to each executive under the 2005 Senior Management Bonus Plan represented 12.5% of the potential bonus that could have been achieved if target revenue, pro forma operating income, and operational goals had been achieved. Bonuses were paid during the first quarter of 2006.

      In February 2006, the Committee established a 2006 Senior Management Bonus Plan. The Committee establishes challenging performance objectives and metrics. This makes the opportunity to earn higher levels of compensation a significant challenge to the executive officers. Bonus amounts will be based on attainment of planned levels of revenue, non-GAAP income (loss) before income taxes, and operational goals. Each of the goals is weighted as follows:

      The target bonus for the Chief Executive Officer and the Chief Operating Officer is equal to 100% of annual salary, and the target bonus for vice presidents is equal to 50% of annual salary.

      The revenue and non-GAAP income (loss) before income taxes goals have both a floor and a cap. Below the pre-determined performance levels, the floor, the bonus payout is zero. The maximum bonus, based on overachievement of the pre-determined performance levels, is capped at 300%. The payout scale is linear with no accelerator.

      The bonus based on operational goals is reduced proportionally if goals are not achieved. There is no accelerator for the operational goals.

      The Committee may increase or decrease individual bonuses based on qualitative factors and bonuses will be paid during the first quarter of 2007.

      Stock Options. The long-term, performance-based compensation of executive officers takes the form of stock option awards under the Company’s 1997 Stock Incentive Plan (the “1997 Plan”). These awards are designed to align a significant portion of an executive officer’s compensation with the long-term interests of shareholders. The Committee believes that equity ownership provides significant motivation to executive officers to maximize value for our shareholders since stock options are granted with exercise prices equal to the current market price of the Company’s stock and will only have value if our stock price increases over the exercise price. The Committee determines the size and frequency of option grants based upon the relative position and responsibilities of each executive officer, expected contributions of each executive officer to the Company, and previous option grants to such executive officer.

      In 2005, the Committee determined that each of our executive officers should receive option grants. Out of a total of 2,560,030 options granted to employees under our 1997 Stock Incentive Plan and our 2001 Non-qualified Plan in 2005, executive officers received grants for 739,167 shares, or approximately 29% of the total options granted to employees under the plans. Grants to executive officers hired during 2005 vest 25% on the first anniversary of the date of grant, with 2.083% every month thereafter for a total of thirty-six additional months. Merit grants to continuing executive officers vest monthly over a period of four years, with 10% becoming exercisable in the first year, 20% becoming exercisable in the second year, 30% becoming exercisable in the third year, and 40% becoming exercisable in the fourth year.

      Compensation of Chief Executive Officer. The Committee set Mr. Alley’s compensation for the year ended December 31, 2005. The same criteria the Committee used to set compensation for other executive officers was used to establish Mr. Alley’s compensation. In addition, the Committee considered compensation of other executives of Mr. Alley’s level of experience and recognized his individual performance and importance to the Company’s performance. In March 2005, the Committee established Mr. Alley’s 2005 base salary at $306,800. In addition to his base salary, Mr. Alley was eligible to participate in the 2005 Senior Management Bonus Plan and was paid a bonus of $38,350 in the first quarter of 2006 under this plan. Mr. Alley was granted an option to acquire 100,000 shares of common stock on March 4, 2005 at an exercise price of $9.48 per share, which was the fair market value of the stock on the date of grant. The option has a ten-year term and vests over a four-year period with 10% vesting between March 2005 and March 2006, 20%

vesting between March 2006 and March 2007, 30% vesting between March 2007 and March 2008, and 40% vesting between March 2008 and March 2009.

      In February 2006, the Committee approved Mr. Alley’s 2006 base salary of $306,800. In determining Mr. Alley’s 2006 salary, the Committee reviewed the base salary, bonus and other compensation of Chief Executive Officers at seventeen comparable companies. Mr. Alley’s 2006 salary approximates the average salary of the Chief Executive Officers at the seventeen comparable companies.

      Under the 2006 Senior Management Bonus Plan Mr. Alley can achieve a maximum bonus of $715,151, or 233.1% of his 2006 base salary, if overachievement of the pre-determined performance levels for certain goals is attained. His bonus may also be $0 if the pre-determined performance levels are not achieved.

      On February 15, 2006, Mr. Alley was granted an option to acquire 50,000 shares of common stock at an exercise price of $5.02 per share, which was the fair market value of the stock on the date of the grant. This option has a ten-year term and vests over a four-year period with 10% vesting between February 2006 and February 2007, 20% vesting between February 2007 and February 2008, 30% vesting between February 2008 and February 2009, and 40% vesting between February 2009 and February 2010.

      The Committee will continue to monitor Mr. Alley’s compensation level in light of his performance and the compensation levels of executives at comparable companies.

      Tax Deductibility of Executive Compensation. The cash compensation to be paid to the Company’s executive officers for fiscal 2006 is not expected to exceed the per officer $1.0 million tax deductibility limit of such compensation under the Internal Revenue Code. All of the stock options granted to our executive officers qualify under Section 162(m) as performance-based compensation and, therefore, will not be subject to the $1.0 million limitation.

EQUITY COMPENSATION PLAN INFORMATION

      The following table provides information as of December 31, 2005 with respect to the shares of the Company’s common stock that may be issued under the Company’s existing equity compensation plans:

PERFORMANCE GRAPH

      Set forth below is a graph that compares the cumulative total shareholder return on our common stock with the cumulative total return on the NASDAQ Composite U.S. Index and the NASDAQ Electronics Components Index over the five-year period ended December 31, 2005. In accordance with guidelines of the SEC, the shareholder return for each entity in the peer group index have been weighted on the basis of market capitalization.

COMPARISON OF MONTHLY CUMULATIVE TOTAL RETURN

AMONG PIXELWORKS, INC.,

THE NASDAQ STOCK MARKET (U.S.) INDEX AND

THE NASDAQ ELECTRONICS COMPONENTS INDEX

ELECTION OF DIRECTORS

(Proposal No. 1)

      The Directors of the Company are elected at the Annual Meeting to serve until their successors are elected and qualified. Unless otherwise instructed, proxy holders will vote the proxies they receive for the nominees named below. If any of the nominees for Director at the Annual Meeting becomes unavailable for election for any reason, the proxy holders will have discretionary authority to vote pursuant to the proxy for a substitute or substitutes.

      Our articles of incorporation, as amended, provide that if the number of Directors is fixed at eight or more, the Directors will be divided into three classes and, after a transitional period, will serve for terms of three years, with one class being elected by the shareholders each year. Pursuant to the Company’s Bylaws, the Board of Directors increased the size of the Board to seven.

      If a quorum is present, the Company’s bylaws provide that Directors are elected by a plurality of the votes cast by the shares entitled to vote. Abstentions and broker non-votes are counted for purposes of determining

whether a quorum exists at the Annual Meeting, but are not counted and have no effect on the determination of whether a plurality exists with respect to a given nominee.

      The following table briefly describes the Company’s nominees for Directors.

      ALLEN H. ALLEY Information concerning the principal occupation of Mr. Alley is set forth under “Information About Our Executive Officers.”

      MARK CHRISTENSEN has served as a Director of Pixelworks since May 2005. From 1982 to 2005, Mr. Christensen was employed at Intel Corporation in a variety of engineering, management, Director and vice president positions, with his last position being Corporate Vice President and Director of Communications Sectors for Intel Capital. In that position, Mr. Christensen was responsible for managing Intel Capital’s investments in Mobile devices and Communications Infrastructure. In 2005, Mr. Christensen founded Global Capital Management, LLC, a consulting company for technology startup companies. Mr. Christensen is a charter member of Oregon State University’s Academy of Distinguished Engineers and has been awarded their Council of Outstanding Early Career Engineers Award. Mr. Christensen holds a B.S. in Industrial Engineering from Oregon State University and an M.B.A. from the University of Oregon.

      JAMES R. FIEBIGER has served as a Director of Pixelworks since April 2006, when the Board increased its size from five to seven members. Dr. Fiebiger is a veteran of the semiconductor industry and currently serves as a member of the Board of Directors of four publicly traded companies, including: Mentor Graphics Corporation, a leading provider of electronic hardware and software design solutions; Actel Corporation, a fabless semiconductor company producing field programmable gate arrays; QLogic Corporation, a leading provider of storage and communications equipment; and Power Integrations Inc., a fabless semiconductor company supplying high-voltage analog integrated circuits used in power conversion. Dr. Fiebiger has been a consultant to the semiconductor industry since 2004. From 1999 to 2004, he was Chairman and Chief Executive Officer of Lovoltech, a start-up fabless semiconductor company specializing in low-voltage devices. Dr. Fiebiger served as Vice Chairman, of GateField Corporation, a fabless semiconductor company, from 1999 until the company was sold to Actel Corporation in 2000. From 1996 to 1999, he held the position of President and Chief Executive Officer with GateField. From 1993 until 1996, he was Managing Director and Chairman of Thunderbird Technologies Inc., a semiconductor technology licensing company. From 1987 to 1993, he was President and Chief Operating Officer of VLSI, now Phillips Semiconductors, Inc. Dr. Fiebiger has also held executive positions with leading semiconductor manufacturers including United Technologies, Motorola and Texas Instruments. He received a B.S., M.S. and Ph.D. degrees from the University of California at Berkeley.

      C. SCOTT GIBSON has served as a Director of Pixelworks since May 2002. From January 1983 through February 1992, Mr. Gibson co-founded and served as President of Sequent Computer Systems, Inc., a computer systems company. Prior to co-founding Sequent, Mr. Gibson served as General Manager, Memory Components Operation, at Intel. Since March 1992, Mr. Gibson has been an angel investor and a Director for high technology companies. Mr. Gibson is Chairman of the Board of Radisys, Corporation (NASDAQ: RSYS), and serves on the Boards of TriQuint Semiconductor, Inc. (NASDAQ: TQNT), Northwest Natural Company (NYSE: NWN) and Electroglas, Inc. (NASDAQ: EGLS). Additionally, Mr. Gibson serves as Vice Chair of the Board of Oregon Health and Science University’s Governing Board, Trustee of the Franklin W. Olin College of Engineering, and on the Boards of Oregon Health and Science University Foundation

and the Oregon Community Foundation. Mr. Gibson holds a B.S.E.E. and an M.B.A. from the University of Illinois.

      FRANK GILL has served as a Director of Pixelworks since December 1998. From 1975 to 1998, Mr. Gill was employed at Intel Corporation in a variety of sales, marketing, product development and manufacturing positions. In 1988, he served as Senior Vice President in charge of worldwide sales and marketing operations and became General Manager of the Intel Systems Group in 1990 and the Internet and Communications Group in 1995. Mr. Gill retired from Intel in 1998 as Executive Vice President. Mr. Gill serves as Director of Tektronix, Inc. (NYSE: TEK) and Logitech International S.A. (NASDAQ: LOGI). Mr. Gill holds a B.S.E.E. degree from the University of California at Davis.

      DANIEL J. HENEGHAN has served as a Director of Pixelworks since April 2006, when the Board increased its size from five to seven members. Mr. Heneghan most recently served as Vice President and Chief Financial Officer at Intersil Corporation, a world leader in the design and manufacture of high performance analog solutions, from 1999 to 2005. From 1980 to 1999, Mr. Heneghan worked in various management positions in finance, information technology, purchasing and operations for Harris Corporation, an international communications and information technology company serving government and commercial markets, including the position of Vice President and Controller of the Harris Semiconductor Corporation which he held from 1996 until leaving the company. Since February 2006, Mr. Heneghan has served on the Board of Directors of NTELOS Holdings Corp. (NASDAQ: NTLS). He is a graduate of Quincy University with a Bachelor of Science degree in accounting, as well as a CPA. Mr. Heneghan also earned an MBA from St. Louis University.

      BRUCE WALICEK has served as a Director of Pixelworks since May 2005. Since 2003, Mr. Walicek has been employed by Worldview Technology Partners, a leading venture capital firm focused on building leading U.S. technology companies. From 1996 to 2003, Mr. Walicek was employed by Deutsche Bank Alex Brown. As part of their Global Investment Banking Group, he led their Semiconductor Investment Banking effort and was involved in raising over $3 billion for companies ranging from venture backed startups to large multinational firms. Prior to Mr. Walicek’s investment banking experience, he was a Senior Equity Research Analyst covering the Semiconductor and EDA industries. Before entering the financial services industry in the mid 1990s, Mr. Walicek held a number of management positions over a 16 year career in the semiconductor industry at firms such as Texas Instruments, VLSI Technology, and Cirrus Logic. Mr. Walicek holds a B.S. in Mathematics with highest honors from Texas State University and an M.B.A. in finance from Santa Clara University. From 2003 through Mr. Walicek’s election to the Company’s Board of Directors in May 2005, Mr. Walicek served as a Corporate Business Development consultant to Pixelworks.

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS SHAREHOLDERS VOTE FOR

THE ELECTION OF ITS NOMINEES FOR DIRECTOR.

APPROVAL OF THE

2006 STOCK INCENTIVE PLAN

(Proposal No. 2)

      In 2006, the Compensation Committee recommended, and the full Board of Directors (the “Board”) adopted the 2006 Stock Incentive Plan (the “2006 Plan”). The Company is asking its shareholders to approve the 2006 Plan. The 2006 Plan will not become effective until and unless it is approved by the shareholders.

      The Board believes that continuing to attract, motivate and retain highly qualified employees, directors and consultants contributes to our growth and success. The Company’s long-term success is enhanced by a compensation program which includes long-term incentives relating to stock ownership because such incentives encourage recipients to more closely align their interests with those of the shareholders by relating compensation to increases in shareholder value. The Board also believes that the 2006 Plan gives the Company the flexibility to attract and retain the employee, director and consultant talent necessary for the Company’s continued success by expanding the types of incentive compensation awards that may be granted

to participants beyond those currently available under the Company’s equity incentive plans and making other changes necessary to comply with recent changes in deferred compensation tax law.

      The 2006 Plan is intended to replace the Company’s, and its wholly-owned subsidiaries’, company-wide stock incentive plans(1) including the Company’s 1997 Stock Incentive Plan, as amended, the Company’s 2001 Nonqualified Stock Option Plan and the Equator Technologies, Inc. 1996 Stock Incentive Plan, as amended (taken together, the existing company-wide stock option plans shall be referred to as the “Existing Plans”). If the 2006 Plan is approved by the shareholders, it will replace the Existing Plans and the Board’s authority to make further grants under the Existing Plans will terminate, although previously granted awards under the Existing Plans will remain outstanding according to the their terms.

      The 2006 Plan is similar to the 1997 Plan, which was previously approved and amended by the shareholders, except that the 2006 Plan includes the following:

      Under the 2006 Plan, 4,000,000 shares of our common stock are initially reserved for issuance and no options or SARs have been issued. As of March 24, 2006, 3,281,339 remain available for issuance under the 1997 Plan, 644,027 remain available for issuance under the 2001 Plan and 48,369 remain available for issuance under the Equator Plan. If the shareholders approve the 2006 Plan, it would become effective on May 23, 2006 (the “Effective Date”). On and after the Effective Date, the Company shall not issue any additional options under the Existing Plans even if there are options that remain available for issuance under them or become issuable or reissuable after the Effective Date of the 2006 Plan.

Interest of Certain Persons in Matter to be Acted Upon

      Our officers will be eligible to participate in the 2006 Plan and will have a substantial direct interest in the approval of the amendment to the 2006 Plan.

Summary of the 2006 Plan

      A summary of the principal provisions of the 2006 Plan is set forth below and is qualified in its entirety by reference to the 2006 Plan. A copy of the 2006 Plan is attached to this Proxy Statement as Exhibit B.

      Eligibility. All of our employees, directors and consultants are eligible to participate in the 2006 Plan. As of March 31, 2006, we have approximately 470 full-time employees and 6 non-employee directors.

      Administration. The 2006 Plan is required to be administered by the Board or a committee appointed by the Board. The 2006 Plan will be administered by the compensation committee of the Board, which is

      1 The Company’s wholly-owned subsidiary, Equator Technologies, Inc. (“Equator”), entered into several stand-alone option plans with its executives prior to the Company’s acquisition of Equator in 2005. Such stand-alone option plans were one-time agreements and no other Equator employee was eligible for participation thereunder.

composed of members that are “disinterested persons” within the meaning of Rule 16b-3 under the Securities Exchange Act of 1934, as amended (“Rule 16b-3”). All questions of interpretation or application of the 2006 Plan are determined in the sole discretion of the Board or the compensation committee, whose decisions are final, conclusive and binding upon all participants. Members of the Board are permitted to participate in the 2006 Plan.

      Subject to the provisions of the 2006 Plan, the compensation committee has the authority to construe and interpret the 2006 Plan, to prescribe, adopt, amend and rescind rules and regulations relating to the administration of the 2006 Plan and to make all other determinations necessary or advisable for its administration. Subject to the limitations of the 2006 Plan, the Compensation Committee also selects from among the eligible persons those individuals who will receive options, whether an optionee will receive SARs, Incentive Stock Options or Nonqualified Stock Options, or all of them, and the amount, price, restrictions and all other terms and provisions of such SARs or options (which need not be identical).

      Shares Subject to the 2006 Plan. The cumulative aggregate number of shares of our common stock to be issued under the 2006 Plan will not exceed 4,000,000, subject to adjustment as described below. Any shares that were subject to an option that expired or became unexercisable without having been exercised in full remain eligible for issuance under the 2006 Plan.

      No employee may receive options under the 2006 Plan for more than 300,000 options or SARs cumulatively in one fiscal year, except that up to an additional 300,000 options or SARs may be granted in connection with a person’s initial employment with the Company.

      Types of Awards. Under the 2006 Plan we can grant stock options and stock-settled SARs. However, only employees may receive Incentive Stock Options. The 2006 Plan also allows us to sell shares of common stock to our employees and consultants.

      Exercise or Purchase Price. The exercise price of each Incentive Stock Option, Non-qualified Stock Option and/or SAR granted under the 2006 Plan will be determined by the Compensation Committee, but will be not less than 100% of the “Fair Market Value” (as defined in the 2006 Plan) of our common stock on the date of grant (or 110% of Fair Market Value in the case of an Incentive Stock Option granted to an employee who at the time owns more than 10% of the total combined voting power of all classes of our capital stock of the Company). Whether an option granted under the 2006 Plan is intended to be an Incentive Stock Option or a Nonqualified Stock Option will be determined by the Compensation Committee at the time the Compensation Committee acts to grant the option and will be set forth in the related stock option agreement.

      “Fair Market Value” for purposes of the 2006 Plan means the closing price of a share of common stock on a national exchange on which shares of common stock are then trading, if any, on the last market trading

day on or before the grant date. If there is no listing or trading of common stock either on a national exchange or over-the-counter, the price will be determined by the Compensation Committee in its discretion. On March 24, 2006, the Fair Market Value was $5.02 per share based on the closing bid price of the common stock as reported on NASDAQ.

      In the discretion of the compensation committee, the exercise price of any option or SAR granted under the 2006 Plan and the sale price of any shares sold under the 2006 Plan will be payable in full in cash, by check or by the optionee’s promissory note (subject to any limitations of applicable law) delivered at the time of exercise. In the discretion of the Compensation Committee and upon receipt of all regulatory approvals, an optionee may be permitted to deliver as payment in whole or in part of the exercise price certificates for our common stock or other property deemed appropriate by the Compensation Committee. So-called cashless exercises as permitted under applicable rules and regulations of the Securities and Exchange Commission and the Federal Reserve Board also will be permitted in the discretion of the Compensation Committee.

      Irrespective of the manner of payment of the exercise price of an option or the purchase price for shares, the delivery of shares pursuant to the exercise or purchase will be conditioned upon payment by the optionee or purchaser of amounts sufficient to enable us to pay all applicable federal, state and local withholding taxes.

      Exercise Period. Each stock option or SAR agreement issued by the Compensation Committee will state the date on which the option or SAR subject to such agreement expires and becomes unexercisable. In no event will an Incentive Stock Option granted under the 2006 Plan be exercisable more than ten years from the grant date. A stock option or SAR agreement may also set forth the length of the option or SAR exercise period following a termination of employment which period shall not exceed three months after termination of employment for an Incentive Stock Option. An option or SAR will remain exercisable for twelve months following the date of the recipient’s death or disability; provided, however, that in no event will any option or SAR granted under the 2006 Plan be exercisable after the expiration date of such option or SAR set forth in the applicable stock option or SAR agreement.

      Transferability of Option or SAR. An option or SAR granted under the 2006 Plan will be nontransferable by the recipient other than by will or the laws of descent and distribution and will be exercisable during the recipient’s lifetime only by the recipient or by his or her guardian or legal representative. More particularly, an option or SAR may not be assigned, transferred (except as provided in the preceding sentence), pledged or hypothecated (whether by operation of law or otherwise), and will not be subject to execution, attachment or similar process.

      Conditions to Issuance of Stock Certificates; Legends. In order to enforce any restrictions imposed upon common stock issued upon exercise of any option or SAR granted under or any shares sold pursuant to the 2006 Plan, the Compensation Committee may cause a legend or legends to be placed on any share certificates representing such common stock.

      Adjustments upon Changes in Capitalization, Merger and Consolidation. If our outstanding shares of common stock are changed into or exchanged for cash or a different number or kind of shares or securities of Pixelworks or of another corporation through reorganization, recapitalization, reclassification, stock split-up, reverse stock split, stock dividend, stock consolidation, stock combination, stock reclassification or similar transaction, an appropriate adjustment will be made by the Compensation Committee in the number and kind of shares as to which options may be granted, as well as in the price per share of the common stock covered by each outstanding option. In the event we sell all or substantially all of our assets or merge with or into another company, the Compensation Committee may (a) arrange to have the surviving or successor entity grant replacement options with appropriate adjustments in the number and kind of securities and option prices; or (b) upon 30 days’ written notice, shorten the period during which options are exercisable (provided they remain exercisable for at least 30 days after the notice is given). No fractional shares of common stock will be issued on account of any of the foregoing adjustments.

      If we are dissolved or liquidated, each outstanding option or SAR will terminate immediately prior to the consummation of the dissolution or liquidation unless the Compensation Committee, in its sole discretion, declares that all options or SARs terminate as of a fixed date and accelerates the vesting schedule of all outstanding options or SARs.

      Amendment and Termination. The Board may at any time suspend, amend or terminate the 2006 Plan and may, with the consent of an option or SAR holder, make such modifications to the terms and conditions of such recipient’s option or SAR as it deems advisable; provided, however, that the Company must obtain shareholder approval of any amendment to the extent necessary to comply with Rule 16b-3 or with Section 422 of the Internal Revenue Code or with rules promulgated by Nasdaq. The amendment, suspension or termination of the 2006 Plan will not, however, without the consent of the optionee to be affected, alter or impair any rights or obligations under any option or SAR.

      Privileges of Stock Ownership. A participant in the 2006 Plan will not be entitled to the privilege of stock ownership as to any shares of common stock unless and until they are actually issued to the participant.

      Termination. Unless earlier terminated by the Board or the Compensation Committee, the 2006 Plan will terminate automatically as of the close of business on the day preceding the tenth anniversary date of its adoption by the Board. The termination of the 2006 Plan will not affect the validity of any stock option agreement outstanding at the date of such termination. However, if the shareholders approve an increase in the number of shares available for issuance under the 2006 Plan, the increased number of shares may be issued for up to ten (10) years from the date of approval of such increase.

      Federal Income Tax Treatment. Under the Internal Revenue Code, neither the grant nor the exercise of Incentive Stock Options is a taxable event to the optionee (except to the extent an optionee may be subject to alternative minimum tax); rather, the optionee is subject to tax only upon the sale of the common stock acquired upon exercise of the Incentive Stock Option. Upon such a sale, the entire difference between the amount realized upon the sale and the exercise price of the option will be taxable to the optionee. Subject to certain holding period requirements, such difference will be taxed as a capital gain rather than as ordinary income.

      Recipients who receive Nonqualified Stock Options or SARs will be subject to taxation upon exercise of such options or SARs on the spread between the Fair Market Value of the common stock on the date of exercise and the exercise price of such options or SARs. This spread is treated as ordinary income to the recipient, and the Company is permitted to deduct as an employee expense a corresponding amount. Nonqualified Stock Options and SARs do not give rise to a tax preference item subject to the alternative minimum tax.

      THE FOREGOING IS ONLY A SUMMARY OF THE EFFECT OF FEDERAL INCOME TAXATION UPON PARTICIPANTS AND THE COMPANY WITH RESPECT TO THE GRANT AND EXERCISE OF AWARDS UNDER THE 2006 PLAN. IT DOES NOT PURPORT TO BE COMPLETE, AND DOES NOT DISCUSS THE TAX CONSEQUENCES OF A SERVICE PROVIDER’S DEATH OR THE PROVISIONS OF THE INCOME TAX LAWS OF ANY MUNICIPALITY, STATE OR FOREIGN COUNTRY IN WHICH THE SERVICE PROVIDER MAY RESIDE.

      New Plan Benefits. No awards have been granted under the 2006 Plan. Because future awards under the 2006 Plan are discretionary and not yet determined, benefits to be received by individual participants are not determinable at this time and we have therefore not included a table estimating future awards. Information concerning options awarded to the named executive officers under the Company’s Existing Plans is set forth under “Information About Our Executive Officers”.

      Other. Section 162(m) of the Code generally disallows a tax deduction to public companies for compensation over $1 million paid to the Chief Executive Officer and the four other most highly compensated executive officers in any taxable year of the Company. Qualifying performance-based compensation is not subject to the deduction limit if certain requirements are met. One requirement is shareholder approval of (i) the performance criteria upon which performance-based awards may be based, (ii) the annual per-participant limits on grants and (iii) the class of employees eligible to receive awards. In the case of

performance-based awards, other requirements generally are that objective performance goals and the amounts payable upon achievement of the goals be established by a committee of at least two outside directors and that no discretion be retained to increase the amount payable under the awards. In the case of stock options and SARs, other requirements are that the option or SAR be granted by a committee of at least two outside directors and the exercise price of the stock option or SAR not be less than the fair market value.

      Shareholder approval of the 2006 Plan will also constitute approval of the performance criteria upon which performance-based awards that are intended to be deductible by the Company under Section 162(m) of the Code may be made.

      The 2006 Plan is not a tax-qualified deferred compensation plan under 401(a) of the Code, and is not subject to the provisions of the Employee Retirement Income Security Act of 1974, as amended.

Shareholder Vote Required

      Approval of the 2006 Plan requires the affirmative vote of the holders of a majority of the shares of common stock present in person or represented by proxy at the Annual Meeting.

      The Company believes that its best interests will be served by the approval of the 2006 Plan. The 2006 Plan will enable the Company to be in a position to continue to grant long-term incentive awards to employees, directors and consultants, including those who, through promotions and development of the Company’s business, will be entrusted with new and more important responsibilities, while preserving, where appropriate, the tax deductibility of these awards.

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THE PROPOSAL

TO APPROVE THE 2006 STOCK INCENTIVE PLAN.

RATIFICATION OF THE APPOINTMENT OF

INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

(Proposal No. 3)

      The Audit Committee of the Board of Directors has appointed KPMG LLP, independent registered public accounting firm, as the auditors of the Company for the year ending December 31, 2006. Ratification of the selection of KPMG LLP is not required by law. However, as a matter of good corporate practice, our shareholders are being asked to approve this appointment. The affirmative vote of the holders of a majority of the votes cast at the 2006 Annual Meeting will be required to approve this appointment.

      In the event the shareholders fail to ratify the appointment, the Audit Committee will reconsider its selection. Even if the appointment is ratified, the Audit Committee, in its discretion, may direct the appointment of a different independent registered public accounting firm at any time during the fiscal year if the Audit Committee determines that such a change would be in the best interest of the Company and its shareholders.

      KPMG LLP has audited the Company’s financial statements since 1997. Representatives of KPMG LLP will be at the Annual Meeting and will be available to respond to appropriate questions. They do not plan to make a statement but will have the opportunity to make a statement if they wish.

      The Audit Committee pre-approves any engagement under which our independent registered public accounting firm provides audit or non-audit services to the Company. The authority to pre-approve services may be delegated to one designated member of the Audit Committee. If a designated member does pre-approve services, the approval is reported to the full committee at its next regularly scheduled meeting.

During 2005 and 2004, the Audit Committee pre-approved 100% of the audit and non-audit services provided by KPMG LLP.

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THE RATIFICATION OF THE APPOINTMENT OF KPMG LLP TO SERVE AS THE COMPANY’S INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM FOR THE FISCAL YEAR ENDING DECEMBER 31, 2006.

OTHER MATTERS

      As of the date of this Proxy Statement, the Board of Directors does not know of any other matters to be presented for action by the shareholders at the 2006 Annual Meeting. If, however, any other matters not now known are properly brought before the meeting, the persons named in the accompanying proxy will vote such proxy in accordance with the determination of a majority of the Board of Directors.

SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE

      Each Director, executive officer (and, for a specified period, certain former Directors and executive officers) and each holder of more than ten percent of a class of our equity securities is required to report to the SEC his pertinent position or relationship, as well as transactions in such securities, by certain specified dates. We believe that during 2005, all Section 16(a) filing requirements applicable to our executive officers and Directors have been complied with, except that Allen Alley, William D. Yavorsky and Hongmin Zhang each filed one Form 4 late to report one transaction.

DATE FOR SUBMISSION OF SHAREHOLDER PROPOSALS

      Pursuant to Rule 14a-8 under the Securities Exchange Act of 1934, some shareholder proposals may be eligible for inclusion in the Company’s 2007 Proxy Statement. Any such proposal must be received by the Company not later than December 11, 2006. Shareholders interested in submitting such a proposal are advised to contact knowledgeable counsel with regard to the detailed requirements of the applicable securities law. The submission of a shareholder proposal does not guarantee that it will be included in the Company’s Proxy Statement.

      Alternatively, under the Company’s bylaws, a proposal or nomination that a shareholder does not seek to include in the Company’s Proxy Statement pursuant to Rule 14a-8 may be delivered to the Secretary of the Company not less than 60 days or more than 90 days prior to the date of an Annual Meeting. In the event we provide notice or public disclosure of the date of the Annual Meeting less than 60 days prior to the date of the Annual Meeting, shareholders may submit a proposal or nomination not later than the 10th day following the day on which we gave notice of the Annual Meeting date.

      A shareholders’ submission must include certain specific information concerning the proposal or nominee, as the case may be, and information as to the shareholder’s ownership of common stock of the Company. Proposals or nominations not meeting these requirements will not be entertained at the Annual Meeting. If the shareholder does not also comply with the requirements of Rule 14a-4(c)(2) under the Securities Exchange Act of 1934, the Company may exercise discretionary voting authority under proxies it solicits to vote in accordance with its best judgment on any such proposal or nomination submitted by a shareholder.

ADDITIONAL INFORMATION

      A copy of the Company’s 2005 Annual Report accompanies this Proxy Statement. Our 2005 Annual Report includes a copy of our Annual Report on Form 10-K for the year ended December 31, 2005. The Company will provide, without charge, on the written request of any beneficial owner of shares of the Company’s Common Stock entitled to vote at the Annual Meeting, an additional copy of the Company’s Annual Report on Form 10-K as filed with the SEC for the year ended December 31, 2005. Written requests should be mailed to the Secretary, 8100 SW Nyberg Road, Tualatin, Oregon 97062.

Tualatin, Oregon

April 13, 2006

Exhibit A

PIXELWORKS, INC.

CHARTER OF THE AUDIT COMMITTEE

OF THE BOARD OF DIRECTORS

      The Audit Committee (“the Committee”) of Pixelworks, Inc. (“the Company”) is appointed by the Board of Directors (“the Board”) to assist the Board in fulfilling its responsibilities and duties to the Company’s shareholders and the investment community with respect to corporate accounting, financial reporting practices and quality and integrity of financial reports. In meeting its responsibilities, the Committee shall maintain open avenues of communication with the independent auditors, Company management and the Board.

      This Charter delegates certain responsibilities of the Board to the Committee. It does not assign executive responsibilities. In fulfilling its duties under this charter, the Committee shall be held to the standards of any member of the Board under applicable Oregon law (ORS 60.357 (1) through (3)) and is entitled to the protection of ORS 60.357 (4) in doing so. These statutory sections are attached to this Charter for easy reference. For example, it is the responsibility of the Company’s management, not that of the audit committee, to prepare the financial statements. It is the auditors’ responsibility to plan and conduct audits in accordance with generally accepted auditing standards and to issue an opinion about whether the financial statements are presented fairly, in all material respects, in accordance with generally accepted accounting principles.

A. COMMITTEE SIZE AND MEMBERSHIP

      The Committee shall be comprised of three or more directors. Members shall be appointed by the Board based on the recommendations of the Corporate Governance and Nominating Committee, and may be removed by the Board at any time. Each member shall be an “independent director” as determined by the Board in accordance with Section 301 of the Sarbanes-Oxley Act of 2002 (“the Act”), the rules and regulations of the Securities and Exchange Commission (“SEC”) and the NASDAQ stock market.

      All members of the Committee shall have a basic understanding of finance and accounting and be able to read and understand fundamental financial statements. Additionally, at least one member of the Committee shall be an “audit committee financial expert” as defined by Section 407 of the Act.

B. COMMITTEE CHAIR

      The Board may appoint one member to serve as Committee Chair to convene and chair all regular and special sessions of the Committee, to set agendas for Committee meetings, and to determine and communicate to management and the full Board the information needs of the Committee. If the Board fails to appoint a Committee Chair, the members of the Committee shall elect a Chair by majority vote of the full Committee.

      The Committee shall meet four times a year or more frequently as circumstances dictate. The Committee Chair shall prepare and/or approve an agenda in advance of each meeting. The Committee may require members of management to attend its meetings and to provide pertinent information as necessary. The Committee, or at least its Chair or a majority of the Committee, shall communicate with management and the independent auditors (a) quarterly to review the Company’s financial statements and significant findings based upon the timely review procedures performed, and (b) annually to review the results of the annual audit.

      In addition, at least twice per year, the Committee shall meet privately in executive session with management, the independent auditors and as a committee to discuss any matters that the Committee or each of these groups believes should be addressed.

      The Committee will cause to be kept adequate minutes of all of its proceedings and will either submit the minutes of each of its meetings to the Board, or report the matters raised at each of its meetings directly to the Board.

      In furtherance of its purpose, the Committee shall have the following specific duties and responsibilities:

A. MAINTAIN THE COMMITTEE CHARTER

      The Committee is responsible for reviewing and reassessing the adequacy of this Charter at least annually, and for recommending any proposed changes to the Board for approval. The Committee is also responsible for ensuring that this Charter is published as required by SEC regulations.

B. APPOINT AND MONITOR THE INDEPENDENT AUDITORS

      The independent auditors shall report directly to the Board and the Committee. The Committee has the responsibility to select, evaluate and, where appropriate, replace the independent auditor (or to nominate the independent auditor to be proposed for shareholder approval in any proxy statement).

      The Committee shall be directly responsible for the oversight of the work of the independent auditors (including resolution of disagreements between management and the auditors regarding financial reporting) for the purposes of preparing or issuing an audit report or related work. The Committee shall meet with the independent auditors prior to each annual audit to discuss the audit plan, including scope, staffing, locations, reliance upon management and general audit approach. However, it is not the Committee’s responsibility to prepare and certify the Company’s financial statements, to guarantee the independent auditors’ report, or to guarantee other disclosures by the Company.

      The Committee shall pre-approve all audit services and permitted non-audit services (including the fees and the terms thereof) to be performed for the Company by its independent auditors in accordance with the Company’s Policy for Audit and Non-Audit Services.

      At least annually, the Committee shall review with the independent auditors all matters required to be discussed under Statement of Auditing Standards No. 61 and any problems or difficulties the auditors may have encountered in the course of their work. This review should include:

      The Committee shall obtain from the independent auditors assurance that Section 10A(b) of the Exchange Act has not been implicated. Section 10A(b) relates to illegal acts that have come to the attention of the independent auditors during the course of their work.

      The Committee shall review and evaluate the experience and qualifications of the senior members of the independent auditor’s team on an annual basis. Also on an annual basis, the Committee shall review with the independent auditors the audit firm’s quality control procedures.

      The Committee shall monitor the independence of the auditors. To that end, the Committee is responsible for obtaining from the independent auditors a formal written statement delineating all relationships between the auditor and the Company. The statement shall be consistent with Independence Standards Board Standard 1. It is the Committee’s responsibility to actively engage the auditors in a dialogue with respect to any disclosed relationships or services that may impact the objectivity and independence of the auditors.

      The Committee shall ensure rotation of audit partners as required by applicable laws and regulations. As considered necessary, the Committee shall also consider whether, in order to assure continuing auditor independence, it is appropriate to adopt a policy of rotating the independent audit firm on a regular basis.

C. REVIEW FINANCIAL STATEMENTS AND DISCLOSURE MATTERS

      The Committee shall review the annual and quarterly financial statements with management and the independent auditors prior to distribution or filing. The review shall include discussion of:

      (a) Critical accounting policies and practices used in preparation of the financial statements;

      (b) Significant financial reporting issues and judgments made in connection with the preparation of the financial statements including significant changes in selection or application of accounting principles;

      (c) Alternative treatments of financial information within generally accepted accounting principles that have been discussed with management, the ramifications of using alternative treatments, and the treatment preferred by the independent auditors;

      (d) The independent auditors’ judgments about the quality and appropriateness of the Company’s accounting principles applied in its financial reporting;

      (e) All discussions between the independent auditors’ team and the firm’s national office;

      (f) Any unadjusted differences identified by the independent auditors that were not booked by management in the financial statements;

      (g) Any other major issues regarding accounting or auditing principles and practices;

      (h) The adequacy of internal controls that could significantly affect the Company’s financial statements;

      (i) The Company’s disclosures under “Management’s Discussion and Analysis of Financial Condition and Results of Operation”;

      (j) The effect of regulatory and accounting initiatives on the financial statements;

      (k) The effect of pro-forma figures on the financial statements;

      (l) Any financial information or earnings guidance provided to analysts or rating agencies; and

      (m) Any correspondence with regulators or governmental agencies, and any employee complaints or published reports that raise material issues regarding the Company’s financial statements or accounting policies.

D. CODE OF BUSINESS CONDUCT AND ETHICS

      The Committee is responsible for reviewing and reassessing the adequacy of the Company’s Code of Business Conduct and Ethics and for recommending changes as deemed appropriate.

E. ESTABLISH PROCEDURES TO ADDRESS COMPLAINTS

      In accordance with Section 301 of the Act, the Committee shall establish a process that allows employees to submit, in a confidential and anonymous manner, concerns they may have regarding questionable accounting or auditing practices. The Committee will also establish and implement procedures for the receipt, retention and treatment of concerns received regarding accounting, internal controls or auditing matters.

F. RISK MANAGEMENT

      The Committee shall provide oversight and review at least annually of the Company’s risk management policies, including its investment policies.

G. REVIEW RELATED PARTY TRANSACTIONS

      The Committee shall review all related party transactions for potential conflict of interest situations on an ongoing basis. The Committee must approve all such transactions. Related party transactions are those that are required to be disclosed by SEC Regulation S-K Item 404.

H. REVIEW LEGAL COMPLIANCE

      On at least an annual basis, the Committee shall review with the Company’s counsel any legal matters that could have a significant impact on the Company’s financial statements, the Company’s compliance with applicable laws and regulations, and any inquiries received from regulators or governmental agencies.

I. INFORMATION TECHNOLOGY POLICIES

      At least annually, the Committee shall review the Company’s Corporate Information Technology (IT) Policy and assess the need for changes in light of any risks identified.

J. CURRENCY MATTERS

      On at least an annual basis, the Committee shall review risks related to currency fluctuations and any hedging activities entered into by the Company to mitigate those risks.

K. PREPARE PROXY REPORT

      The Committee shall produce an annual report for inclusion in the Company’s annual proxy statement in compliance with applicable Securities and Exchange Commission rules and regulations and relevant NASDAQ guidance.

L. SELF EVALUATION

      The Committee shall conduct an annual performance evaluation of itself.

M. ADDITIONAL RESPONSIBILITIES

      In addition to the powers and responsibilities expressly delegated to the Committee in this Charter, the Committee may exercise any other powers and carry out any other responsibilities delegated to it by the Board from time to time.

      To the extent that it deems necessary or appropriate, the Committee shall have the authority to retain independent legal, accounting or other advisors at the expense of the Company.

Oregon Law: ORS 60.357

      60.357 General standards for directors. (1) A director shall discharge the duties of a director, including the duties as a member of a committee, in good faith, with the care an ordinarily prudent person in a like position would exercise under similar circumstances and in a manner the director reasonably believes to be in the best interests of the corporation.

      (2) In discharging the duties of a director, a director is entitled to rely on information, opinions, reports or statements including financial statements and other financial data, if prepared or presented by:

      (a) One or more officers or employees of the corporation whom the director reasonably believes to be reliable and competent in the matters presented;

      (b) Legal counsel, public accountants or other persons as to matters the director reasonably believes are within the person’s professional or expert competence; or

      (c) A committee of the board of directors of which the director is not a member if the director reasonably believes the committee merits confidence.

      (3) A director is not acting in good faith if the director has knowledge concerning the matter in question that makes reliance otherwise permitted by subsection (2) of this section unwarranted.

      (4) A director is not liable for any action taken as a director, or any failure to take any action, if the director performed the duties of the director’s office in compliance with this section.

Exhibit B

PIXELWORKS, INC.

2006 Stock Incentive Plan

      1. Purposes of the Plan. The purposes of this Stock Incentive Plan are to attract, retain and reward individuals who can and do contribute to the Company’s success by providing Employees and Consultants an opportunity to share in the equity of the Company and to more closely align their interests with the Company and its shareholders.

      2. Definitions. As used herein, the following definitions shall apply:

      3. Stock Subject to the Plan.

      4. Administration of the Plan.

      5. Eligibility.

      6. Term of Plan. The Plan shall become effective upon the earlier to occur of its adoption by the Board or its approval by the shareholders of the Company as described in Section 17 of the Plan. It shall continue in effect for a term of ten (10) years, unless sooner terminated under Section 13 of the Plan. However, if the Company’s shareholders approve an increase in the number of Shares available for issuance under section 3.1, such approval shall be deemed the adoption of a new plan with respect to the increased number of Shares, which may be issued for a term of ten (10) years following the date of such shareholder approval.

      7. Term of Options and SARs. The term of each Option and SAR shall be stated in the Notice of Grant; provided, however, that in the case of an Incentive Stock Option, the term shall be ten (10) years from the date of grant or such shorter term as may be provided in the Notice of Grant. However, in the case of an

Incentive Stock Option granted to a Grantee who, on the date the Incentive Stock Option is granted, owns stock representing more than ten percent (10%) of the voting power of all classes of stock of the Company or any Parent or Subsidiary, the term of the Incentive Stock Option shall be five (5) years from the date of grant thereof or such shorter term as may be provided in the Notice of Grant.

      8. Exercise/Purchase Price and Consideration.

      9. Exercise of Option or SAR.

      10. Nontransferability of Options and SARs. Except as otherwise specifically provided in the Option or SAR Agreement, an Option or SAR may not be sold, pledged, assigned, hypothecated, transferred or disposed of in any manner other than by will, or by the laws of descent and distribution, and may be exercised during the lifetime of the Grantee only by the Grantee or, if incapacitated, by his or her legal guardian or legal representative.

      11. Adjustments Upon Changes in Capitalization or Merger.

      12. Time of Granting Options or SARs. The date of grant of an Option or SAR shall, for all purposes, be the date on which the Administrator makes the determination granting such Option or SAR. Notice of the determination shall be given to each Grantee within a reasonable time after the date of such grant.

      13. Amendment and Termination of the Plan.

      14. Conditions Upon Issuance of Shares. Shares shall not be issued pursuant to the exercise of an Option, SAR or a Sale unless the exercise of such Option, SAR or consummation of the Sale and the issuance and delivery of such Shares pursuant thereto shall comply with all relevant provisions of law, including, without limitation, the Securities Act of 1933, as amended, applicable state securities laws, the Exchange Act, the rules and regulations promulgated thereunder, and the requirements of any stock exchange (including NASDAQ) upon which the Shares may then be listed, and shall be further subject to the approval of counsel for the Company with respect to such compliance.

      15. Reservation of Shares. The Company, during the term of this Plan, will at all times reserve and keep available such number of Shares as shall be sufficient to satisfy the requirements of the Plan.

      16. Liability of Company.

      17. Shareholder Approval. Continuance of the Plan shall be subject to approval by the shareholders of the Company within twelve (12) months before or after the date the Plan is adopted. Such shareholder approval shall be obtained in the manner and to the degree required under applicable federal and state law.

      18. Market Standoff.

PLAN ADOPTION AND AMENDMENT/ ADJUSTMENTS

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